UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 1996. OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transaction period from _______ to _______ COMMISSION FILE NUMBER 333-3250 First Interstate BancSystem of Montana, Inc. --------------------------------------------- (Exact name of registrant as specified in its charter) Montana 81-0331430 ------------------------------- --------------------- State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) PO Box 30918, 401 North 31st Street, Billings, MT 59116-0918 ------------------------------------------------- ----------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code 406/255-5300 ------------ N/A ----------------------------------------------------- (Former name, former address, and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days Yes /X/ No / / The number of shares of Registrant's common stock outstanding on October 15, 1996, was 1,980,858. The number of shares of Registrant's noncumulative preferred stock with a stated value of $1,000 per share issued on October 1, 1996 and outstanding on October 15, 1996 was 20,000. 1 (Total of 20 Pages)
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. Quarterly Report on Form 10-Q INDEX PAGE ----- ---- PART I. FINANCIAL INFORMATION Item 1 - Financial Statements Consolidated Balance Sheets September 30, 1996, and December 31, 1995 3 Consolidated Statements of Income Three months ended September 30, 1996 and 1995, and Nine months ended September 30, 1996 and 1995 4 Consolidated Statements of Cash Flows Nine months ended September 30, 1996 and 1995 5 Notes to Unaudited Consolidated Financial Statements 7 Item 2 - Managements' Discussion and Analysis of Financial Condition and Results of Operations 13 PART II. OTHER INFORMATION Item 1 - Legal Proceedings 18 Item 2 - Changes in Securities 18 Item 3 - Defaults upon Senior Securities 19 Item 4 - Submission of Matters to a Vote of Security Holders 19 Item 5 - Other Information 19 Item 6 - Exhibits and Reports on Form 8-K 19 SIGNATURES 20 2
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. AND SUBSIDIARIES Consolidated Balance Sheets (Dollars in thousands, except per share data) <TABLE> <CAPTION> September 30, December 31, ASSETS 1996 1995 ------------- ------------ (unaudited) <S> <C> <C> Cash and due from banks $ 91,620 98,622 Interest bearing deposits in banks 6,035 23,040 Federal funds sold 22,555 44,420 Investment securities: Available-for-sale 64,583 65,790 Held-to-maturity 171,407 192,947 ---------- --------- 235,990 258,737 Loans, net 948,091 870,378 Less allowance for loan losses (note 5) 15,916 15,171 ---------- --------- Net loans 932,175 855,207 Premises and equipment, net 33,937 32,540 Accrued interest receivable 16,146 14,344 Excess of purchase price over equity in net assets of subsidiaries less accumulated amortization of $5,240 at September 30, 1996 (unaudited) and $4,630 at December 31, 1995 9,615 10,221 Other real estate owned, net (note 6) 1,394 1,349 Deferred tax asset 5,921 4,432 Other assets 8,664 8,303 ---------- --------- $1,364,052 1,351,215 ---------- --------- ---------- --------- LIABILITIES AND STOCKHOLDERS' EQUITY Deposits: Noninterest bearing 217,196 230,136 Interest bearing 889,611 868,933 ---------- --------- Total deposits 1,106,807 1,099,069 Federal funds purchased -- 3,125 Securities sold under repurchase agreements 99,774 104,898 Accounts payable and accrued expenses 13,919 13,396 Other borrowed funds 10,790 5,494 Long-term debt 10,234 15,867 ---------- --------- Total liabilities 1,241,524 1,241,849 Commitments and contingencies (note 8) Stockholders' equity (note 4): Preferred stock without voting rights; authorized 100,000 shares; none issued at September 30, 1996 (unaudited) and December 31, 1995 -- -- Common stock without par value; authorized 5,000,000 shares; issued 1,981,191 shares at September 30, 1996 (unaudited) and 1,947,760 shares at December 31, 1995 9,172 6,692 Retained earnings 113,300 102,281 Unrealized gain on investment securities available-for-sale 56 393 ---------- --------- Total stockholders' equity 122,528 109,366 ---------- --------- $1,364,052 1,351,215 ---------- --------- ---------- --------- Book value per common share $61.85 56.15 ---------- --------- ---------- --------- </TABLE> See accompanying notes to unaudited consolidated financial statements. 3
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. AND SUBSIDIARIES Consolidated Statements of Income (Dollars in thousands, except per share data) (Unaudited) <TABLE> <CAPTION> For the three months For the nine months Ended September 30, Ended September 30, ----------------------- ----------------------- 1996 1995 1996 1995 ---------- --------- --------- --------- <S> <C> <C> <C> <C> Interest income: Interest and fees on loans $ 23,509 21,836 68,109 61,770 Interest and dividends on investment securities: Taxable 3,187 2,843 10,118 9,150 Exempt from Federal taxes 243 225 741 551 Interest on deposit with banks 43 18 268 52 Interest on Federal funds sold 239 585 839 1,196 ---------- --------- --------- --------- Total interest income 27,221 25,507 80,075 72,719 ---------- --------- --------- --------- Interest expense: Interest on deposits 9,794 9,536 29,250 26,010 Interest on Federal funds purchased 178 11 437 984 Interest on securities sold under repurchase agreements 1,049 931 3,155 2,418 Interest on other borrowed funds 88 89 229 223 Interest on long-term debt 246 376 835 823 ---------- --------- --------- --------- Total interest expense 11,355 10,943 33,906 30,458 ---------- --------- --------- --------- Net interest income 15,866 14,564 46,169 42,261 Provision for loan losses (note 5) 700 490 1,852 1,270 ---------- --------- --------- --------- Net interest income after provision for loan losses 15,166 14,074 44,317 40,991 Other operating income: Income from fiduciary activities 659 661 2,182 1,964 Service charges on deposit accounts 1,851 1,699 5,369 4,844 Data processing 1,781 1,650 5,603 4,540 Other service charges, commissions, and fees 732 788 2,025 2,111 Net investment securities gains (losses) -- 4 2 (6) Other income 318 210 900 646 ---------- --------- --------- --------- Total other operating income 5,341 5,012 16,081 14,099 ---------- --------- --------- --------- Other operating expenses: Salaries and wages 5,089 4,967 14,986 14,048 Employee benefits 1,272 1,078 3,935 3,557 Occupancy expense, net 1,019 1,007 3,059 2,893 Furniture and equipment expenses 1,532 1,347 4,283 3,910 Other real estate expense (income), net (3) (82) (162) (477) FDIC insurance 1 (40) 4 1,046 Other expenses 3,148 3,448 9,160 9,388 ---------- --------- --------- --------- Total other operating expenses 12,058 11,725 35,265 34,365 ---------- --------- --------- --------- Income before income taxes 8,449 7,361 25,133 20,725 Income tax expense 3,237 2,835 9,651 7,998 ---------- --------- --------- --------- Net income $ 5,212 4,526 15,482 12,727 ---------- --------- --------- --------- ---------- --------- --------- --------- Income per common share $2.63 2.30 7.89 6.48 ---------- --------- --------- --------- ---------- --------- --------- --------- Dividends paid per common share $ .76 .56 2.28 1.33 ---------- --------- --------- --------- ---------- --------- --------- --------- Weighted average common shares outstanding 1,988,085 1,959,714 1,970,445 1,962,632 ---------- --------- --------- --------- ---------- --------- --------- --------- </TABLE> See accompanying notes to unaudited consolidated financial statements. 4
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows (Dollars in thousands) (Unaudited) <TABLE> <CAPTION> For the nine months Ended September 30, -------------------- 1995 1996 -------- ------- <S> <C> <C> Cash flows from operating activities: Interest received $ 75,349 66,633 Service charges, commissions and fees received, and other income 16,764 14,550 Interest paid (34,546) (28,688) Cash paid to suppliers and employees (33,257) (29,558) Federal and state income taxes paid (8,913) (7,357) Other operating cash receipts 3,082 2,610 -------- ------- Net cash provided by operating activities 18,479 18,190 -------- ------- Cash flows from investing activities: Purchases of investment securities: Held-to-maturity (50,164) (34,360) Available-for-sale (11,509) -- -------- ------- (61,673) (34,360) Proceeds from maturities and pay downs of investment securities: Held-to-maturity 70,673 74,445 Available-for-sale 12,352 6,270 -------- ------- 83,025 80,715 Sales of investment securities: Held-to-maturity -- -- Available-for-sale -- -- -------- ------- -- -- Acquisitions of subsidiaries, excluding cash and cash equivalents -- (10,747) Decrease (increase) in interest bearing deposits in banks 17,005 10 Extensions of credit to customers, net of repayments (80,325) (46,305) Recoveries on loans charged-off 909 794 Proceeds from sale of other real estate owned 796 1,253 Capital expenditures, net (4,252) (4,415) -------- ------- Net cash used by investing activities (44,515) (13,055) -------- ------- Cash flows from financing activities: Net increase in deposits 7,738 35,494 Net increase (decrease) in federal funds and repurchase agreements (8,249) 6,778 Net increase in other borrowed funds 5,296 4,423 Proceeds from long-term borrowings 424 13,369 Repayment of long-term debt (6,057) (1,566) Proceeds from issuance of common stock 3,478 322 Payments to retire common stock (998) (930) Dividends paid on common stock (4,463) (2,602) -------- ------- Net cash provided (used) by financing activities (2,831) 55,288 -------- ------- Net increase (decrease) in cash and cash equivalents (28,867) 60,423 Cash and cash equivalents at beginning of period 143,042 84,657 -------- ------- Cash and cash equivalents at end of period $114,175 145,080 -------- ------- -------- ------- </TABLE> (Continued) 5
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows, Continued (Dollars in thousands) (Unaudited) <TABLE> <CAPTION> For the nine months Ended September 30, -------------------- 1995 1996 -------- ------- <S> <C> <C> Reconciliation of net income to net cash provided by operating activities: Net income $ 15,482 12,727 Adjustments to reconcile net income to net cash provided by operating activities: Provisions for loan and other real estate losses 1,831 1,229 Depreciation and amortization 3,464 3,196 Net premium amortization on investment securities 843 1,282 Losses (gains) on sale of investments (2) 6 Gain on sale of other real estate owned (229) (527) Loss (gains) on sales of property and equipment 4 (1) Provision for deferred income taxes (1,274) 372 Increase in interest receivable (1,802) (4,313) (Increase) decrease in other assets (361) 386 Increase in accounts payable and accrued expenses 523 3,833 -------- ------- Net cash provided by operating activities $ 18,479 $18,190 -------- ------- -------- ------- </TABLE> Noncash Investing and Financing Activities: The Company transferred loans of $569 and $232 to other real estate owned during the nine months ended September 30, 1996 and 1995 (unaudited), respectively. See accompanying notes to unaudited consolidated financial statements. 6
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Dollars in thousands, except per share data) (1) BASIS OF PRESENTATION In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (all of which are of a normal recurring nature) necessary to present fairly the consolidated financial position at September 30, 1996, and the results of consolidated operations for each of the three and nine month periods and cash flows for each of the nine month periods ended September 30, 1996 and 1995 in conformity with generally accepted accounting principles. The balance sheet information at December 31, 1995 is derived from audited consolidated financial statements. The 1995 consolidated financial statements have been reclassified to conform to the 1996 consolidated financial statement presentations. (2) CASH AND CASH EQUIVALENTS For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks and federal funds sold for one-day-periods. (3) COMPUTATION OF EARNING PER SHARE Earnings per common share are computed by dividing net income by the weighted average number of shares of common stock outstanding during the period presented. Stock options outstanding are considered common stock equivalents, and are included in computations of weighted average shares outstanding. (4) CASH DIVIDENDS On October 15, 1996, the Company declared and paid a cash dividend on third quarter earnings of $.79 per share to stockholders of record on that date. It has been the Company's practice to pay quarterly dividends based upon earnings. The October 1996 dividend represents 30% of the Company's net income for the quarter ended September 30, 1996. 7
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Dollars in thousands, except per share data) (5) ALLOWANCE FOR POSSIBLE LOAN LOSSES Transactions in the allowance for possible loan losses are summarized below: <TABLE> <CAPTION> For the three months For the nine months Ended September 30, Ended September 30, ------------------------ -------------------- 1996 1995 1996 1995 ------- ------ ------ ------ <S> <C> <C> <C> <C> Balance at beginning of period $15,406 15,124 15,171 13,726 Beginning allowance of acquired banks -- -- -- 917 Provision during the period 700 490 1,852 1,270 ------- ------ ------ ------ 16,106 15,614 17,023 15,913 Deduct: Loans charged off 451 630 2,017 1,465 Recoveries of loans previously charged off (261) (258) (910) (794) ------- ------ ------ ------ Net chargeoffs 190 372 1,107 671 ------- ------ ------ ------ Balance at end of period $15,916 15,242 15,916 15,242 ------- ------ ------ ------ ------- ------ ------ ------ </TABLE> (6) OTHER REAL ESTATE OWNED (OREO) Other real estate consists of the following: September 30, December 31, 1996 1995 ------------- ------------ Other real estate $1,905 1,903 Less allowance for OREO losses 511 554 ------ ----- $1,394 1,349 ------ ----- ------ ----- 8
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Dollars in thousands, except per share data) Transactions in the allowance for OREO losses were as follows: Three months ended Nine months ended September 30, September 30, ------------------ ----------------- 1996 1995 1996 1995 ---- ---- ---- ---- Balance at beginning of period $548 571 554 1,048 Provision (reversal) during the period (21) (1) (21) (41) Property writedowns -- (28) -- (449) Losses on disposition (16) -- (22) (16) ---- --- --- --- Balance at end of period $511 542 511 542 ---- --- --- --- ---- --- --- --- The changes in the balance of other real estate for the nine months ended September 30, 1996 and 1995 can be summarized as follows: Nine Months Ended September 30, 1996 1995 ------ ------ Balance at beginning of period $1,903 2,851 Add transfers from loans 569 232 Add cash improvements -- -- Cash proceeds from sales 796 1,253 Less gains on sales 229 527 ------ ----- Net basis of OREO sold (567) (726) Write-offs -- (449) ------ ----- Balances, end of period $1,905 1,908 ------ ----- ------ ----- (7) ACQUISITIONS In November 1995, the Company filed an application with the Office of Thrift Supervision for permission to form a de novo savings bank in Hamilton, Montana. The Company has received regulatory approval, and intends to initially capitalize the new institution at $2,000 from existing cash. Opening of the savings bank is currently expected to occur in the fourth quarter of 1996. 9
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Dollars in thousands, except per share data) On October 1, 1996, the Company completed the purchase of all of the outstanding stock of First Interstate Bank of Montana, N.A., which has offices in the Montana communities of Kalispell, Great Falls, and Cut Bank, and all of the outstanding stock of First Interstate Bank of Wyoming, N.A., which has offices in the Wyoming communities of Casper, Riverton, and Laramie. Total assets of the banks acquired were approximately $550,000. The banks were purchased from Wells Fargo & Company for a total cash purchase price of $72,000, subject to adjustment, up or down, to the extent the historical net book value of the banks acquired at closing, excluding net income tax assets and seller's "push down" purchase accounting adjustments are greater or less than $35,832. Such purchase price adjustment is to be computed and settled between the parties in the fourth quarter, 1996, and is expected to be less than $1,000. For accounting purposes, the acquisition will be accounted for as a purchase. Adjustments to the fair value of the net assets acquired will be "pushed down" to the respective banks acquired. Although the acquisition will be accomplished through the purchase of stock, the transaction will be treated as a purchase of assets and assumption of liabilities for income tax purposes. The purchase was funded through a combination of $20 million perpetual preferred stock, $20 million subordinated debentures and $31 million additional senior term debt. Additional financing and acquisition costs of approximately $2,129 were funded from working capital. (8) COMMITMENTS AND CONTINGENCIES In the normal course of business, the Company is named or threatened to be named as defendant in various lawsuits, some of which involve claims for substantial amounts of actual and/or punitive damages. With respect to each of these suits it is the opinion of management, following consultation with legal counsel, the suits are without merit or in the event the plaintiff prevails, the ultimate liability or disposition thereof will not have a material adverse effect on the consolidated financial condition or the results of operations. The Parent Company and each of its subsidiary banks have been franchisees of First Interstate Bancorp pursuant to a master franchise agreement that was initiated in 1983 for a thirty year primary term which required the payment of certain royalties. Wells Fargo & Company ("Wells") acquired First Interstate Bancorp, the Company's franchisor, effective April 1, 1996. Further, the names of First Interstate Bancorp's banking subsidiaries are being changed to Wells Fargo. On May 24, 1996, the Company and Wells entered into a trademark license agreement granting the Company and its subsidiaries an exclusive, nontransferable license to use the "First Interstate" name and logo in certain states, and the franchise agreement was terminated (see Note 7). 10
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Dollars in thousands, except per share data) During 1985, the Company entered into a partnership agreement with two outside parties for the purpose of acquiring certain land and constructing a building with an aggregate cost of approximately $20,000. The Company is a tenant in the building and owns a 50% undivided interest in the property. The remaining term debt of the partnership of $10,925 at September 30, 1996 is guaranteed by each of the partners. The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, in varying degrees, elements of credit and interest rate risk in excess of amounts recorded in the consolidated balance sheet. Standby letters of credit and financial guarantees written are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Most commitments extend for no more than two years. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Company holds various collateral supporting those commitments for which collateral is deemed necessary. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the commitment contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management's credit evaluation of the customer. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment, and income- producing commercial properties. (9) ACCOUNTING PRONOUNCEMENTS NOT YET ADOPTED In 1996, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 125 "Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities", which provides guidance on accounting for transfers and servicing of financial assets, recognition and measurement of servicing assets and liabilities, financial assets subject to prepayment, secured borrowings and collateral, and extinguishment of liabilities. 11
FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Dollars in thousands, except per share data) SFAS No. 125 generally requires that the Company recognize as separate assets the rights to service mortgage loans for others, whether the servicing rights are acquired through purchases or loan originations. Servicing rights are initially recorded at fair value based upon the present value of estimated future cash flows. Subsequently, the servicing rights are assessed for impairment, which is recognized in the statement of income in the period the impairment occurs. For purposes of performing the impairment evaluation, the related portfolio must be stratified on the basis of certain risk characteristics including loan type and note rate. SFAS No. 125 also specifies that financial assets subject to prepayment, including loans that can be contractually prepaid or otherwise settled in such a way that the holder would not recover substantially all of its recorded investment, be measured like debt securities available-for-sale or trading securities under SFAS No. 115, as amended by SFAS No. 125. The provisions of SFAS No. 125 apply to transactions occurring after December 31, 1996. The Company intends to adopt the provisions of SFAS No. 125 on January 1, 1997, and management expects adoption will not have a material effect on the financial position or results of operations of the Company. 12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in thousands) (1) MATERIAL CHANGES IN FINANCIAL CONDITION. COMPARISON OF BALANCE SHEET ITEMS AT SEPTEMBER 30, 1996 AND DECEMBER 31, 1995. GENERAL. During the nine month period ending September 30, 1996, total assets increased slightly from $1,351,215 at December 31, 1995 to $1,364,052 at September 30, 1996. As compared to the same date in 1995, total assets at September 30, 1996 have increased $73,541 or 5.7%, principally as a result of internal growth. CASH AND CASH EQUIVALENTS. Cash and cash equivalents at September 30, 1996, consisting of cash on hand, amounts due from banks and federal funds sold for one day periods, decreased $28,867 or 20.2% from December 31, 1995. In part, this decrease is associated with the seasonal fluctuations in customer demand deposits at the Company's banking subsidiaries. Federal funds sold balances decreased $21,865 or 49.2% from December 31, 1995 as excess funds were invested in higher yielding loans. INTEREST BEARING DEPOSITS IN BANKS. Interest bearing deposits in banks, of which $22,007 were deposits with the Federal Home Loan Bank of Seattle ("FHLB") at December 31, 1995, decreased to $6,035 at September 30, 1996 as funds previously on deposit with the FHLB have been withdrawn to provide additional liquidity to fund increases in other earning assets, principally loans. INVESTMENT SECURITIES. Investment securities decreased $22,747 or 8.8% from $258,737 at December 31, 1995 to $235,990 at September 30, 1996 as some of the proceeds from maturities and scheduled pay downs of investment securities were used to fund increases in loans. There were no trading securities held during the period, and no sales of investments held as available-for-sale. A slight increase in market interest rates in 1996 has resulted in lower market values of securities classified as available-for-sale. Net unrealized gains on investments available-for-sale, net of related deferred tax expense, were $56 at September 30, 1996, a net valuation decline of $337 from net unrealized gains of $393 at December 31, 1995. As a percentage of total securities available-for-sale at December 31, 1995, the net valuation decline is .5%. LOANS. Net loans increased $76,968 or 9.0% during the first nine months of 1996 from consolidated net loans of $855,207 at December 31, 1995 to $932,175 at September 30, 1996. The Company experienced increased loan volumes in all major categories of loans during the period, with the most significant increases in commercial and consumer which were up $42,124 and $22,100, respectively. Increases in loan demand are attributed to continued strong economic conditions in the communities served by the Company, as well as some seasonal increases, particularly in agricultural lending, following traditional pay downs in the fourth quarter. 13
LONG TERM DEBT AND OTHER BORROWED FUNDS. During the first nine months of 1996, the Company's long term indebtedness was reduced $5,633 or 35.5% from $15,867 at December 31, 1995 to $10,234 at September 30, 1996, $5,000 of which was the prepayment of a FHLB note due June 2, 1997 by the Company's Wyoming banking subsidiary. During the same period, other borrowed funds increased $3,814 or 69.4% from $5,494 to $9,308. The increase in other borrowed funds, principally interest bearing demand notes issued to the United States Treasury, is seasonal in nature and unrelated to the repayment of the FHLB note. (2) MATERIAL CHANGES IN RESULTS OF OPERATIONS. COMPARISON OF THE NINE MONTHS ENDED SEPTEMBER 30, 1996 AND SEPTEMBER 30, 1995. GENERAL. On May 19, 1995, the Company acquired all of the outstanding ownership of First Park County Bancshares, Inc. ("FPCBI") and its bank subsidiary First National Park Bank ("FNPB") with its two branch locations in Livingston and Gardiner, Montana. FPCBI was subsequently dissolved and FNPB was merged into the Company's existing Montana banking subsidiary. Accordingly, the results of operations for the nine months ended September 30, 1995 only include revenues and expenses for the Livingston and Gardiner branches for roughly half the 1995 period compared to inclusion for the entire nine month period in 1996. While comparisons of individual revenue sources and expenses may be affected by the acquisition, the additional net income related to the inclusion of Livingston and Gardiner branches for all of 1996 is largely offset by increased interest expense and reduced investment income at the Parent Company as the result of borrowings and the liquidation of short term investments to fund the acquisition, as well as the increased expense related to the amortization of goodwill. NET INCOME. Net income for the nine months ended September 30, 1996 and 1995 was $15,482 and $12,727, respectively, an increase of $2,755 or 21.6% in 1996. The increase was principally due to increases in net interest income and noninterest income, and the substantial reduction of FDIC premiums in 1996. NET INTEREST INCOME. Net interest income for the nine months ended September 30, 1996 and 1995 was $46,169 and $42,261, respectively, an increase in 1996 of $3,908 or 9.2%. The primary components of the increase in net interest income are growth in the overall volume of earning assets and a shift in the mix of earning assets towards higher yielding loans with related loan fee income. Average loans outstanding, the largest single component of average earning assets, were $913,482 for the first nine months of 1996, up $85,963 or 10.4% from average loans of $827,519 for the comparable period in 1995. While average loans increased, in part due to the additions of the Livingston and Gardiner branches in May 1995, the increase in average loans is primarily the result of internal growth. This higher level of loans will continue to provide support for the net interest margin. Customer loan fees, included in interest income for financial reporting purposes, were $3,768 for the nine months ended September 30, 1996, up $701 or 22.9% from $3,067 in the first nine months of 1995. Although partially the result of the acquisition of the Livingston and Gardiner branches in May 1995, the increase in loan fees is primarily the result of an increase in real estate loan fees which were $1,614 in 1996 as compared to $1,207 in 1995 (up $407 or 33.7%). New real estate loans and refinancing of existing loans declined in the first half of the 1995, but began to rise again in the third quarter of 1995 and through the first half of 1996 as real estate loan activity rebounded in the markets served by the Company. While increases in real estate loan fees leveled off in the third quarter of 1996, increases in loan volumes in other categories of loans also contributed to the increase in customer loan fees between periods. 14
Maintaining steady growth in net interest income is one of the Company's primary objectives and is monitored through the Company's asset/liability management process. The Company has historically achieved this objective, in part as a result of having systems, procedures, and products in place to manage and promote balance sheet growth, maintain a strong net interest margin and remain competitively priced. Management believes the Company, as in the past, is well positioned to maintain its solid growth in net interest income. PROVISION FOR LOAN LOSSES. The provision for loan losses was $1,852 and $1,270 for the nine months ended September 30, 1996 and 1995, respectively, an increase of $582 or 45.8%. This increase in loan loss provision is associated with the increased volumes of loans outstanding, as well as the increase in net chargeoffs that has occurred in 1996 which is an indicator of a slight deterioration in loan quality, principally consumer loans. Loan loss provisions are reflective of management's evaluation of the risks inherent in the loan portfolio and current economic conditions. While management has made modest increases in loan loss provisions as related to current levels of problem and classified credits in 1996, a significant shift in economic trends and/or increased volumes of problem credits or charge-offs would likely require increased loan loss provisions in the future. NON-INTEREST INCOME. Total non-interest income increased $1,982 or 14.1% from $14,099 to $16,081 for the nine months ended September 30, 1995 and 1996, respectively. Of this increase, approximately $200 is associated with addition of the Livingston and Gardiner branches in May 1995. Income from data processing services increased $1,063 or 23.4% from $4,540 to $5,603 for the first nine months of 1995 and 1996, respectively. Revenues from the Company's Trust division also contributed to the overall increase in noninterest income in the first nine months of 1996, up $218 or 11.1% from $1,964 to $2,182 for the nine month periods ending September 30, 1995 and 1996, respectively. The primary increase in data processing income was the result of increases in data processing customers and the resulting increase in transaction volumes. The Company's data processing division has continued to expand its serviced ATM network, which increased 59% during all of 1995, and has increased an additional 10% in the first nine months of 1996. Although it has not grown as rapidly as the ATM network, the customer base and related transaction volumes for regular data processing services have also increased from prior year levels. Expansion of both regular data processing services and the Company's serviced ATM network have continued through the first nine months of 1996, however, has begun to level off and future growth in data processing revenues is not assured. Increases in data processing revenues as the result of expansion of the data division's customer base have been partially offset by increases in operating expenses. On a pretax basis, data processing division revenues, net of its direct operating expenses for the first nine months of 1996 have increased $466 or 25.3% over the comparable period of 1995. Increases in revenues from fiduciary activities were the result of growth in the value of existing trust accounts upon which fees for services are based, growth in the Trust division's customer base and an increase in the Trust division's fee schedule. NON-INTEREST EXPENSES. Overall, non-interest expenses increased $900 (2.6%) from $34,365 for the nine months ended September 30, 1995 to $35,265 for the comparable period of 1996. Inflationary increases in expenses, as well as the increases in expenses associated with the additions of the Livingston and Gardiner branches, were largely offset by a substantial reduction of FDIC premiums between periods. 15
Other real estate expenses, net of gains on sales of properties held that are included with expenses for reporting purposes, netted to revenue of $477 for the first nine months of 1995 as compared to net revenue of $162 for the first nine months of 1996, a net increase in expense of $315 in 1996 due to diminished sales activity in 1996 as numbers of other real estate properties held have declined. FDIC insurance premiums were only $4 for the first nine months of 1996 compared to $1,046 for the first nine months of 1995 as the result of the substantial reductions in rates assessed on deposits by the FDIC in the last half of 1995. FDIC insurance costs for the full twelve months of 1995 were $1,127. The FDIC has announced increased rates which will increase annual costs, including costs of the two new banking subsidiaries acquired October 1, 1996, to approximately $250. Other changes in non-interest expenses, adjusted for the increases associated with the additions of the branches in Livingston and Gardiner, were principally the result of inflationary increases in costs and were not individually significant. MATERIAL CHANGES IN RESULTS OF OPERATIONS. COMPARISON OF THREE MONTHS ENDED SEPTEMBER 30, 1996 AND SEPTEMBER 30, 1995. NET INCOME. Net income for the three months ended September 30, 1996 and 1995 was $5,212 and $4,526, respectively, an increase of $686 or 15.2% in 1996. The increase was principally due to increases in net interest income and noninterest income. NET INTEREST INCOME. Net interest income for the three months ended September 30, 1996 and 1995 was $15,866 and $14,564, respectively, an increase of $1,302 or 8.9% in 1996. The increase is the result of an increase in total interest income of $1,714, offset by an increase in total interest expense of $412. The primary components of the increase in interest income between periods are growth in the overall volume of earning assets and a shift in the mix of earning assets as funds from maturing investment securities have been reinvested in higher yielding loans. Average loans outstanding of $944,439 for the quarter ended September 30, 1996 were up $78,607 or 9.1% from average loans of $865,832 for the quarter ended September 30, 1995, and up $24,880 or 2.7% from average loans in the second quarter of 1996. This significantly higher level of loans continues to provide support for the net interest margin. Customer loan fees, which are included in interest income for financial reporting purposes, were $1,204 for the three months ended September 30, 1996, $123 or 11.4% greater than loan fees of $1,081 recorded in the third quarter of 1995, but slightly less than the $1,262 in the second quarter of 1996. The increase in loan fees is principally due to increases in consumer and commercial loan fees which increased $75 (20.5%) and $40 (24.5%), respectively. Real estate loan fees were down slightly for the three months ended September 30, 1996 as compared to both the second quarter of 1996 and the third quarter of 1995 as the demand for new real estate loans and refinancing of existing loans has leveled off. PROVISION FOR LOAN LOSSES. The Company's provision for loan losses for the three months ended September 30, 1996 was $700, up from last quarter's provision of $661 and $210 more than recorded in the third quarter of 1995. The increased loan loss provision is reflective of management's decision to increase the allowance for possible loan losses in response to the large increase in outstanding loan volumes, current economic conditions and management's evaluation of the risks inherent in the loan portfolio. 16
NON-INTEREST INCOME. Total non-interest income increased $329 or 6.6% from $5,012 to $5,341 for the three months ended September 30, 1995 and 1996, respectively, and was up $146 or 2.8% from last quarter. Income from data processing services increased $131 or 7.9% from $1,650 in the third quarter of 1995 to $1,781 for the three months ended September 30, 1996, but were unchanged from the second quarter of 1996. The increase in data processing income between years is the result of an increase in data processing customers and the resulting increase in transaction volumes, particularly as related to unaffiliated ATM locations served by the Company's ATM network. Other income increased $108 or 51.4% from $210 for the three months ended September 30, 1995 to $318 for the third quarter of 1996. The increase in other income between periods is consistent with the year-to-date increase, and is primarily due to increased check printing income. NON-INTEREST EXPENSES. Non-interest expenses increased $333 or 2.8% from $11,725 for the quarter ended September 30, 1995 to $12,058 for the same period in 1996. Salaries and benefits were $6,361 and $6,045 for the three month periods ended September 30, 1996 and 1995, respectively, an increase of $316 or 5.2% in 1996. Salaries and benefits in the third quarter were up 1.1% from the previous quarter. Although principally inflationary in nature, notable increases between the third quarter periods were an increase of $37 or 22.6% in Company contributions to the employee savings and profit sharing plan and an increase of $45 or 10.0% in group insurance costs. Furniture and equipment expenses increased $187 or 13.7% from $1,347 for the three months ended September 30, 1995 to $1,532 for the three months ended September 30, 1996. The increase in furniture and equipment expenses was primarily the result of additional depreciation and maintenance expenses associated with data processing equipment upgrades in the Company's Data division that were placed in service during the second quarter of 1996. Total costs associated with the upgrade, most of which were capitalized, aggregated in excess of $3,000. Increased furniture and equipment expenses are also reflective of upgrades of micro computers and ATM machines throughout the Company in response to technological advances. Other real estate expense, recorded net of gains on sales for financial reporting purposes, represented an increase in expense of $79 as the Company recorded income of $3 in the third quarter of 1996 as compared to income of $82 in the third quarter of 1995. The Company recorded net other real estate income of $70 in the second quarter of 1996. As inventories of properties held in other real estate have been significantly reduced in the last four years from historically high levels, sales gains have diminished. Other variances in non-interest expenses for the third quarter of 1996 as compared to the third quarter of 1995 and the second quarter of 1996 were principally the result of inflationary increases in costs, and were not individually significant. 17
PART II. OTHER INFORMATION ITEM 1 LEGAL PROCEEDINGS None ITEM 2 CHANGES IN SECURITIES On October 1, 1996 the Company issued 20,000 shares of no par noncumulative 8.53% preferred stock with a stated value of $1,000 per share. In addition to preferences as to dividends and liquidation rights, the preferred stock purchase agreement provides that the Company cannot, without two thirds consent of the holders of the then outstanding preferred stock, issue any stock senior to this preferred issuance. Additionally, should the Company fail to pay six full quarterly dividends to holders of the preferred stock, the preferred shareholders shall be entitled to elect two directors to the Company's board of directors to serve thereon until such time as the Company has paid full dividends to preferred shareholders for four consecutive quarters. On October 1, 1996 the Company entered into a new senior debt agreement with its primary lender. The agreement provides for certain restrictive financial covenants including requirements that the Company, on a consolidated basis and measured quarterly, maintain a total risk based capital ratio of not less than 8.0%, a tier one risk based capital ratio of not less than 6.0%, a leverage ratio of not less than 4.5% and a non-performing loan ratio to tangible net worth of 25% or less. Also, the Company is required to maintain, on a consolidated basis and at all times, a ratio of net income plus depreciation expense and amortization expense related to acquisitions to current maturities of funded debt plus dividends (common and preferred) of not less than 1.5 to 1. The senior debt agreement also restricts the payment of common dividends by the Company to shareholders of no more than 33% of net income in any fiscal year so long as no events of default, as defined by the agreement, exist. No dividends shall be paid by the Company if there exists default, as defined by the agreement. In addition, each banking subsidiary is required to maintain a return on average assets of at least .75% and a non-performing loan to total loans plus other real estate owned of no more than 3.0%, each measured quarterly. The agreement also limits dividends of subsidiaries to no more than 100% of the net earnings of the respective subsidiary in a fiscal year, and requires the lender's consent prior to any subsidiary stock dividend, stock split or stock redemption. The senior debt agreement also prohibits the Company, without the Lender's consent, from entering into any transaction or series of transactions (including without limitation a sale, tender offer, merger or consolidation) the result of which being that the Company's principals and their related parties following such transaction would own less than 60% of the issued and outstanding shares of stock of the Company. 18
ITEM 3 DEFAULTS UPON SENIOR SECURITIES None ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS On September 19, 1996, a special meeting of the Company's shareholders was held for the purpose of amending its Restated Articles of Incorporation to allow for the issuance of noncumulative preferred stock. 1,502,538 shares or 75.8% of the then outstanding 1,981,489 shares were represented at the meeting in person or by proxy. 1,502,522 shares were voted in favor of the amendment and 16 shares were voted as opposed to the amendment. ITEM 5 OTHER INFORMATION Not applicable or not required ITEM 6 EXHIBITS AND REPORTS OF FORM 8-K (a) Exhibits. 3.1.1 Articles of Amendment to Restated Articles of Incorporation dated September 19, 1996. (Incorporated by reference to Company's Form 8-K dated October 1, 1996) 4.4 Preferred Stock Purchase Agreement dated September 26, 1996 between First Interstate BancSystem of Montana, Inc. and First Security Corporation. (Incorporated by reference to Company's Form 8-K dated October 1, 1996) 10.3 Loan Agreement dated October 1, 1996 between First Interstate BancSystem of Montana, Inc., as borrower, and First Security Bank, NA, Colorado National Bank, NA and Wells Fargo Bank, NA. (Incorporated by reference to Company's Form 8-K dated October 1, 1996) 10.13 Note Purchase Agreement dated August 30, 1996 between First Interstate BancSystem of Montana, Inc. and The Montana Board of Investments. (Incorporated by reference to Company's Form 8-K dated October 1, 1996) (b) A report on Form 8-K dated October 1, 1996 was filed by the Company describing the acquisitions of two banking subsidiaries of Wells Fargo & Company. 19
SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized: FIRST INTERSTATE BANCSYSTEM OF MONTANA, INC. Date November 5, 1996 /s/ WILLIAM H. RUEGAMER ----------------------------------- William H. Ruegamer Director, Executive Vice President and Chief Operating Officer Date November 5, 1996 /s/ TERRILL R. MOORE ------------------------------------ Terrill R. Moore Senior Vice President and Chief Financial Officer 20