1 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 March 31, 2001 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, 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: 406/255-5390 ------------- 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 Registrant had 7,873,455 shares of common stock outstanding on March 31, 2001. 1
2 FIRST INTERSTATE BANCSYSTEM, INC. AND SUBSIDIARIES Quarterly Report on Form 10-Q <TABLE> <CAPTION> Index Page ----- ---- <S> <C> <C> PART I. FINANCIAL INFORMATION Item 1 - Financial Statements Consolidated Balance Sheets March 31, 2001 and December 31, 2000 (unaudited) 3 Consolidated Statements of Income Three months ended March 31, 2001 and 2000 (unaudited) 4 Consolidated Statements of Stockholders' Equity and Comprehensive Income Three months ended March 31, 2001 and 2000 (unaudited) 5 Consolidated Statements of Cash Flows Three months ended March 31, 2001 and 2000 (unaudited) 6 Notes to Unaudited Consolidated Financial Statements 7 Item 2 - Management's Discussion and Analysis of Financial Condition And Results of Operations 11 Item 3 - Quantitative and Qualitative Disclosures about Market Risk 16 PART II. OTHER INFORMATION Item 1 - Legal Proceedings 17 Item 2 - Changes in Securities 17 Item 3 - Defaults on Senior Securities 17 Item 4 - Submission of Matters to a Vote of Security Holders 17 Item 5 - Other Information 17 Item 6 - Exhibits and Reports on Form 8-K 17 SIGNATURES 18 </TABLE> 2
3 FIRST INTERSTATE BANCSYSTEM, INC. AND SUBSIDIARIES Consolidated Balance Sheets (Dollars in thousands, except share and per share data) (Unaudited) <TABLE> <CAPTION> Assets March 31, December 31, ------ 2001 2000 ---------- ------------ <S> <C> <C> Cash and due from banks $ 141,743 166,964 Federal funds sold 95,895 1,510 Interest bearing deposits in banks 2,028 771 Investment securities: Available-for-sale 473,148 397,981 Held-to-maturity 95,802 228,826 ---------- ---------- Total investment securities 568,950 626,807 Loans 1,996,470 1,972,323 Less allowance for loan losses 33,212 32,820 ---------- ---------- Net loans 1,963,258 1,939,503 Premises and equipment, net 92,259 91,075 Accrued interest receivable 27,570 28,442 Goodwill and core deposit intangible, net of accumulated amortization of $18,092 at March 31, 2001 and $17,163 at December 31, 2000 41,552 42,481 Other real estate owned, net 2,949 3,028 Deferred tax asset 5,794 7,282 Other assets 25,408 25,399 ---------- ---------- Total assets $2,967,406 2,933,262 ========== ========== Liabilities and Stockholders' Equity ------------------------------------ Deposits: Non-interest bearing $ 442,579 441,563 Interest bearing 1,980,481 1,923,662 ---------- ---------- Total deposits 2,423,060 2,365,225 Federal funds purchased 850 19,535 Securities sold under repurchase agreements 222,667 229,078 Accrued interest payable 17,561 19,026 Accounts payable and accrued expenses 16,235 14,274 Other borrowed funds 2,313 11,138 Long-term debt 39,901 37,000 ---------- ---------- Total liabilities 2,722,587 2,965,276 Mandatorily redeemable preferred securities of subsidiary trust 40,000 40,000 Stockholders' equity: Nonvoting noncumulative preferred stock without par value; authorized 100,000 shares; no shares issued or outstanding as of March 31, 2001 or December 31, 2000 -- -- Common stock without par value; authorized 20,000,000 shares; issued and outstanding 7,873,455 shares as of March 31, 2001 and 7,899,168 shares as of December 31, 2000 6,124 7,101 Retained earnings 194,613 190,410 Accumulated other comprehensive income, net 4,082 475 ---------- ---------- Total stockholders' equity 204,819 197,986 ---------- ---------- Total liabilities and stockholders' equity $2,967,406 2,933,262 ========== ========== </TABLE> See accompanying notes to unaudited consolidated financial statements. 3
4 FIRST INTERSTATE BANCSYSTEM, INC. AND SUBSIDIARIES Consolidated Statements of Income (Dollars in thousands, except per share data) (Unaudited) <TABLE> <CAPTION> For the three months ended March 31, -------------------- 2001 2000 ---- ---- <S> <C> <C> Interest income: Interest and fees on loans $ 46,915 40,598 Interest and dividends on investment securities: Taxable 7,961 7,929 Exempt from Federal taxes 896 883 Interest on deposits in banks 12 22 Interest on Federal funds sold 454 176 -------- -------- Total interest income 56,238 49,608 -------- -------- Interest expense: Interest on deposits 22,289 18,024 Interest on Federal funds purchased 33 451 Interest on securities sold under repurchase agreements 2,517 2,350 Interest on other borrowed funds 136 362 Interest on long-term debt 824 507 Interest on mandatorily redeemable preferred securities of subsidiary trust 882 882 -------- -------- Total interest expense 26,681 22,576 -------- -------- Net interest income 29,557 27,032 Provision for loan losses 1,203 1,245 -------- -------- Net interest income after provision for loan losses 28,354 25,787 Non-interest income: Income from fiduciary activities 1,167 1,184 Service charges on deposit accounts 3,455 2,861 Technology services 2,345 2,495 Other service charges, commissions and fees 1,775 1,487 Investment securities gains, net 55 -- Other real estate income (expense), net (47) 60 Other income 1,134 851 -------- -------- Total non-interest income 9,884 8,938 -------- -------- Non-interest expense: Salaries, wages and employee benefits 15,240 12,646 Occupancy, net 2,328 1,934 Furniture and equipment 2,848 2,645 FDIC insurance 110 108 Goodwill and core deposit intangible amortization 929 764 Other expenses 6,882 5,712 -------- -------- Total non-interest expense 28,337 23,809 -------- -------- Income before income taxes 9,901 10,916 Income tax expense 3,489 3,897 -------- -------- Net income $ 6,412 7,019 ======== ======== Basic earnings per common share $ 0.81 0.88 ======== ======== Diluted earnings per common share $ 0.80 0.87 ======== ======== Dividends per common share $ 0.28 0.26 ======== ======== </TABLE> See accompanying notes to unaudited consolidated financial statements. 4
5 FIRST INTERSTATE BANCSYSTEM, INC. AND SUBSIDIARIES Consolidated Statements of Stockholders' Equity and Comprehensive Income (Dollars in thousands, except share and per share data) (Unaudited) <TABLE> <CAPTION> Accumulated other Total Common Retained comprehensive stockholders' stock earnings income (loss) equity --------------------------------------------------- <S> <C> <C> <C> <C> Balance at December 31, 2000 $ 7,101 190,410 475 197,986 Comprehensive income: Net income - 6,412 - 6,412 Unrealized gains on available-for-sale investment securities, net of reclassification adjustment - - 4,176 4,176 Unrealized losses on held-to-maturity investment securities transferred to available-for-sale - - (569) (569) -------- Total comprehensive income 10,019 -------- Common stock transactions: 29,613 shares retired (1,126) - - (1,126) 3,900 shares issued 149 - - 149 Cash dividends declared: Common ($0.28 per share) - (2,209) - (2,209) ------------------------------------------------ Balance at March 31, 2001 $ 6,124 194,613 4,082 204,819 ================================================ Balance at December 31, 1999 $ 10,831 168,837 (6,030) 173,638 Comprehensive income: Net income - 7,019 - 7,019 Unrealized losses on available-for-sale investment securities, net of reclassification adjustment - - (1,283) (1,283) -------- Total comprehensive income 5,736 -------- Common stock transactions: 49,916 shares retired (1,996) - - (1,996) 4,512 shares issue 181 - - 181 Cash dividends declared: Common ($0.26 per share) - (2,074) - (2,074) ------------------------------------------------ Balance at March 31, 2000 $ 9,016 173,782 (7,313) 175,485 ================================================ </TABLE> See accompanying notes to unaudited consolidated financial statements. 5
6 FIRST INTERSTATE BANCSYSTEM, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows (Dollars in thousands) (Unaudited) <TABLE> <CAPTION> For the three months ended March 31, 2001 2000 --------- --------- <S> <C> <C> Cash flows from operating activities: Net income $ 6,412 $ 7,019 Adjustments to reconcile net income to net cash provided by operating activities: Equity in undistributed earnings of joint venture (74) -- Provision for loan losses 1,203 1,245 Depreciation and amortization 3,367 2,902 Net premium amortization (discount accretion) on investment securities (34) 199 Investment securities gains, net (55) -- Gain on sale of loans (537) (403) Gain on sale of other real estate owned (6) (62) Gain on sale of property and equipment (194) (1) Impairment losses on mortgage servicing rights 126 -- Net decrease in debt issuance costs 24 24 Write-down of bank premise 85 -- Deferred income taxes (685) (44) Increase (decrease) in interest receivable 872 (477) Decrease in other assets 15 420 Increase (decrease) in accrued interest payable (1,465) 729 Increase in accounts payable and accrued expenses 1,970 1,211 --------- --------- Net cash provided by operating activities 11,024 12,762 --------- --------- Cash flows from investing activities: Purchases of investment securities: Held-to-maturity (500) (1,050) Available-for-sale (43,491) (11,953) Proceeds from maturities and paydowns of investment securities: Held-to-maturity 29,549 6,163 Available-for-sale 78,168 6,357 Extensions of credit to customers, net of repayments (25,208) (66,861) Recoveries of loans charged-off 575 750 Proceeds from sales of other real estate 472 123 Capital expenditures, net (3,588) (3,281) Capital contributions to joint ventures (200) -- --------- --------- Net cash provided by (used in) investing activities 35,777 (69,752) --------- --------- Cash flows from financing activities: Net increase in deposits 57,835 23,827 Net increase (decrease) in Federal funds and repurchase agreements (25,096) 39,120 Net increase (decrease) in other borrowed funds (8,825) 743 Borrowings of long-term debt 5,850 -- Repayments of long-term debt (2,949) (157) Proceeds from issuance of common stock 140 135 Payments to retire common stock (1,126) (1,996) Dividends paid on common stock (2,209) (2,074) --------- --------- Net cash provided by financing activities 23,620 59,598 --------- --------- Net increase in cash and cash equivalents 70,421 2,608 Cash and cash equivalents at beginning of period 169,245 162,306 --------- --------- Cash and cash equivalents at end of period 239,666 164,914 ========= ========= Supplemental disclosure of cash flow information: Cash paid during the period for interest 28,146 21,847 Cash paid during the period for income taxes 4,025 3,730 </TABLE> See accompanying notes to unaudited consolidated financial statements. 6
7 FIRST INTERSTATE BANCSYSTEM, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Dollars in thousands, except share and 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 financial position at March 31, 2001 and December 31, 2000, and the results of operations and cash flows for each of the periods ended March 31, 2001 and 2000 in conformity with accounting principles generally accepted in the United States of America. The balance sheet information at December 31, 2000 is derived from audited consolidated financial statements, however, certain reclassifications have been made to conform to the March 31, 2001 presentation. In June 1998, the Financial Accounting Standards Board (the "FASB") issued Statement of Financial Accounting Standard ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities." This statement establishes accounting and reporting standards for derivative instruments including certain derivative instruments embedded in other contracts and for hedging activities. In June 2000, FASB issued SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities - an amendment of FASB Statement No. 133," addressing a limited number of implementation issues in applying SFAS No. 133. SFAS Nos. 133 and 138 are effective for all fiscal quarters of fiscal years beginning after June 15, 2000. The adoption on January 1, 2001 did not have a material effect on the consolidated financial statements, results of operations or liquidity of the Company. As of March 31, 2001, the Company was not engaged in hedging activities nor did it hold any derivative instruments which required adjustments to carrying values under SFAS Nos. 133 or 138. Upon adoption of SFAS No. 133, the Company transferred held-to-maturity investment securities with amortized costs and market values of $104,011 and $103,442, respectively, into the available-for-sale investment category. Net unrealized holding losses of $569 on the transferred securities are reported in accumulated other comprehensive income. In September 2000, the FASB issued SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities - a replacement of FASB Statement No. 125." SFAS No. 140 revises accounting standards for securitizations and transfers of financial assets and collateral and requires certain disclosures, but carries forward most of SFAS No. 125's provisions without change. SFAS No. 140 is effective for recognition and reclassification of collateral and disclosures relating to securitization transactions and collateral for fiscal years ended after December 15, 2000. Adoption of these provisions did not have a material effect on the consolidated financial statements, results of operations or liquidity of the Company. SFAS No. 140 is effective for transfers and servicing of financial assets and extinguishments of liabilities occurring after March 31, 2001. Management expects that adoption of these provisions will not have a material effect on the consolidated financial statements, results of operations or liquidity of the Company. (2) Computation of Earnings per Share Basic earnings per common share (EPS) is calculated by dividing net income by the weighted average number of common shares outstanding during the period presented. Diluted earnings per common share is calculated by dividing net income by the weighted average number of common shares and potential common shares outstanding during the period. The following table sets forth the computation of basic and diluted earnings per share for the three month periods ended March 31, 2001 and 2000. 7
8 FIRST INTERSTATE BANCSYSTEM, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Dollars in thousands, except share and per share data) <TABLE> <CAPTION> For the three months ended March 31, 2001 2000 ---------- ---------- <S> <C> <C> Net income basic and diluted $ 6,412 7,019 ========== ========== Average outstanding shares - basic 7,878,364 7,960,660 Add: effect of dilutive stock options 105,276 131,881 ---------- ---------- Average outstanding shares - diluted 7,983,640 8,092,541 ========== ========== Basic earning per share $ 0.81 0.88 ========== ========== Diluted earnings per share $ 0.80 0.87 ========== ========== </TABLE> (3) Cash Dividends On April 13, 2001, the Company declared and paid a cash dividend on first quarter earnings of $0.25 per share to stockholders of record on that date. It has been the Company's practice to pay quarterly dividends based upon earnings. The April 2001 dividend represents 30% of the Company's net income for the quarter ended March 31, 2001 exclusive of compensation expense related to outstanding stock options. (4) Commitments and Contingencies In the normal course of business, the Company is involved in various claims and litigation. In the opinion of management, following consultation with legal counsel, the ultimate liability or disposition thereof will not have a material adverse effect on the consolidated financial condition, results of operations or liquidity. The Parent Company and the Billings office of First Interstate Bank, Montana ("FIB Montana") are the anchor tenants in a building owned by a partnership in which FIB Montana is one of the two partners, and has a 50% partnership interest. The investment in the partnership is accounted for using the equity method. At March 31, 2001 the partnership had indebtedness of $8,745 which is full recourse to 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. 8
9 FIRST INTERSTATE BANCSYSTEM, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Dollars in thousands, except share and per share data) 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. (5) Comprehensive Income - Reclassification Adjustments The reconciliation of unrealized holding gains (losses) arising during the period to the net change in unrealized gain (loss) follows: <TABLE> <CAPTION> Three Months Ended March 31, 2001 2000 ------------- ----------- <S> <C> <C> Disclosure of reclassification amount: Unrealized holding losses on held-to-maturity investment securities transferred to available-for-sale in connection with adoption of SFAS No. 133, net of income tax benefit of $364 in 2001 $ (569) -- Unrealized and realized holding gains (losses) arising during the period, net of income tax expense of $2,670 in 2001 and income tax benefit of $820 in 2000 4,210 (1,283) Less reclassification adjustment for gains included in net income, net of income tax of $21 in 2001 (34) -- ------------ ----------- Net change in unrealized gain (loss) on available-for-sale investment securities $ 3,607 (1,283) ============ =========== </TABLE> (6) Noncash Investing and Financing Activities The Company transferred loans and real property of $212 and $175, respectively to other real estate owned during the three month period ended March 31, 2001. In conjunction with the exercise of stock options, the Company transferred $9 and $46 from accrued liabilities to common stock during the three month periods ended March 31, 2001 and 2000, respectively. (7) Segment Information The Company has two distinct lines of business, community banking and technology services. Support services provided by the Company's holding company, non-bank subsidiaries, operations department and mortgage servicing branch are included in Other Support Services. Expenses for centrally provided services are allocated to the reporting segments based primarily upon estimated usage of services. The Community Banking reporting segment encompasses consumer and commercial banking services offered to individual and business customers. Services provided primarily include the acceptance of deposits, extensions of credit and fee-based trust and brokerage services. 9
10 FIRST INTERSTATE BANCSYSTEM, INC. AND SUBSIDIARIES Notes to Unaudited Consolidated Financial Statements (Dollars in thousands, except share and per share data) The Technology Services reporting segment encompasses technology services provided to affiliated and non-affiliated financial institutions including ATM processing support, item proof and capture services ("IP services"), wide area network services and system support of general ledger, investment security, loan and deposit systems. Other Support Services include operational, financial, administrative and treasury services provided to affiliates and mortgage servicing provided to affiliated and non-affiliated financial institutions. On January 1, 2001, the Company transferred IP services from Other Support Services to the Technology Services reporting segment. Because expenses associated with IP services provided prior to 2001 cannot be distinguished from the expenses of other support services provided, the 2000 amounts reported below have not been reclassified to reflect the transfer. Increases in Technology Services revenues from other operating segments and non-interest expenses for the three months ended March 31, 2001 as compared to the same period in the prior year are primarily due to the transfer of IP services. Selected segment information for the three month periods ended March 31, 2001 and 2000 follows: <TABLE> <CAPTION> Three Months Ended March 31, 2001 ------------------------------------------------------------------------------- Other Community Technology Support Elimination Consolidated Banking Services Services Entries Total ------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> Net interest income (expense) $ 30,849 38 (1,330) -- 29,557 Provision for loan losses 1,203 -- -- -- 1,203 ---------- ----------- ----------- ---------- ---------- Net interest income after provision 29,646 38 (1,330) -- 28,354 Non-interest income: External sources 6,143 2,345 1,396 9,884 Other operating segments -- 3,242 966 (4,208) -- Non-interest expense 22,695 4,284 5,566 (4,208) 28,337 ---------- ----------- ----------- ---------- ---------- Income before income taxes 13,094 1,341 (4,534) -- 9,901 Income tax expense (benefit) 4,435 532 (1,478) -- 3,489 ---------- ----------- ----------- ---------- ---------- Net income $ 8,659 809 (3,056) -- 6,412 ========== =========== ============ ========== ========== Depreciation and amortization expense $ 1,170 3 2,194 -- 3,367 ========== =========== =========== =========== ========== </TABLE> <TABLE> <CAPTION> Three Months Ended March 31, 2000 ------------------------------------------------------------------------------- Other Community Technology Support Elimination Consolidated Banking Services Services Entries Total ------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> Net interest income (expense) $ 28,242 4 (1,214) -- 27,032 Provision for loan losses 1,245 -- -- -- 1,245 ---------- ----------- ----------- ----------- ----------- Net interest income after provision 26,997 4 (1,214) -- 25,787 Non-interest income: External sources 5,359 2,117 1,462 8,938 Other operating segments -- 1,669 897 (2,566) -- Non-interest expense 19,592 2,662 4,121 (2,566) 23,809 ---------- ----------- ----------- ----------- ----------- Income before income taxes 12,764 1,128 (2,976) -- 10,916 Income tax expense (benefit) 4,451 446 (1,000) -- 3,897 ---------- ----------- ----------- ----------- ----------- Net income $ 8,313 682 (1,976) -- 7,019 ========== =========== =========== =========== =========== Depreciation and amortization expense $ 1,011 2 1,889 -- 2,902 ========== =========== =========== =========== =========== </TABLE> 10
11 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion focuses on significant factors affecting the financial condition and results of operations of First Interstate BancSystem, Inc. and subsidiaries ("the Company") during the three month period ended March 31, 2001, with comparisons to 2000 as applicable. All earnings per share figures are presented on a diluted basis. FORWARD LOOKING STATEMENTS Certain statements contained in this review are "forward looking statements" that involve risk and uncertainties. The Company wishes to caution readers that the following factors, among others, may cause the actual results, performance or achievements of the Company to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Such factors include general economic and business conditions in those areas in which the Company operates, credit quality, demographic changes, competition, fluctuations in interest rates, changes in business strategy or development plans and changes in governmental regulations. ASSET LIABILITY MANAGEMENT Interest Rate Sensitivity. The primary objective of the Company's asset liability management process is to optimize net interest income while prudently managing balance sheet risks by understanding the levels of risk accompanying its decisions and monitoring and managing these risks. The ability to optimize net interest margin is largely dependent on the achievement of an interest rate spread that can be managed during periods of fluctuating interest rates. Interest sensitivity is a measure of the extent to which net interest income will be affected by market interest rates over a period of time. Management monitors the sensitivity of net interest margin by utilizing income simulation models and traditional interest rate gap analysis. Liquidity. The objective of liquidity management is to maintain the Company's ability to meet the day-to-day cash flow requirements of its customers who either wish to withdraw funds or require funds to meet their credit needs. The Company manages its liquidity position to meet the needs of its customers, while maintaining an appropriate balance between assets and liabilities to meet the return on investment objectives of its stockholders. The Company monitors the sources and uses of funds on a daily basis to maintain an acceptable liquidity position, principally through deposit receipts and check payments; loan originations, extensions, and repayments; and management of investment securities. The Company's current liquidity position is also supported by the management of its investment portfolio, which provides a structured flow of maturing and reinvestable funds that could be converted to cash, should the need arise. Maturing balances in the Company's loan portfolio also provide options for cash flow management. The ability to redeploy these funds is an important source of immediate to long-term liquidity. Additional sources of liquidity include customer deposits, Federal funds lines, borrowings and access to capital markets. As a holding company, First Interstate BancSystem, Inc. ("FIBS") is a corporation separate and apart from its subsidiaries, and therefore, provides for its own liquidity. A large portion of FIBS's revenues are dividends received from its banking subsidiaries. In general, each banking subsidiary is limited, without the prior consent of its state and federal regulators, to paying dividends that do not exceed the current year net profits together with retained earnings from the two preceding calendar years. In addition, state or federal regulators may impose regulatory dividend limitations or prohibitions in certain circumstances. The banking subsidiaries are not subject to dividend limitations other than general limitations. 11
12 Capital Adequacy. The objective of capital adequacy is to provide adequate capitalization to assure depositor, investor and regulatory confidence. The intent is to provide sufficient capital funds to support growth and to absorb fluctuations in income so that operations can continue in periods of uncertainty while at the same time ensuring investable funds are available to foster expansion. OVERVIEW The Company reported net income of $6.4 million, or $0.80 per share for the three months ended March 31, 2001, as compared to $7.0 million, or $0.87 per share recorded in the same period in 2000. This decrease in net income is primarily due to the short-term adverse impact of thirteen new branches opened or acquired since January 1, 2000. EARNING ASSETS Earning assets of $2,663 million at March 31, 2001 increased $62 million, or 2.3%, from $2,601 million at December 31, 2000 primarily due to increases in Federal funds sold and internally generated loan growth. Loans. Total loans increased $24 million, or 1.2%, to $1,996 million as of March 31, 2001 from $1,972 million as of December 31, 2000. All major categories of loans except agricultural loans increased from December 31, 2000 with the most significant growth occurring in real estate loans. Investment Securities. The Company's investment portfolio is managed to attempt to obtain the highest yield while meeting the Company's risk tolerance and liquidity needs and to satisfy pledging requirements for deposits of state and political subdivisions and securities sold under repurchase agreements. Investment securities decreased $58 million, or 9.3%, to $569 million as of March 31, 2001 from $627 million as of December 31, 2000. Proceeds from maturities, calls and principal paydowns during the first quarter of 2001 were deployed to fund increases in short-term cash equivalent investments and to reduce other borrowed funds. Cash and Cash Equivalents. Cash and cash equivalents include cash on hand, amounts due from banks, Federal funds sold for one day periods and interest bearing deposits in banks with original maturities of less than three months. Cash and cash equivalents increased $71 million, or 42.0%, to $240 million as of March 31, 2001 from $169 million as of December 31, 2000. Excess funds generated by deposit growth and maturities and paydowns on investment securities were temporarily invested in short-term cash equivalent investments. Income from Earning Assets. Interest income increased $6.6 million, or 13.3%, to $56.2 million for the three months ended March 31, 2001 from $49.6 million for the same period in 2000 due primarily to continued strong loan demand combined with increases in loan yields and loan fees. On a fully taxable equivalent basis, average earning assets for the three month period ended March 31, 2001 of $2,605 million yielded 8.76% while average earning assets of $2,350 million for the three months ended March 31, 2000 yielded 8.49%. New branches opened or acquired since January 2000 contributed $2.3 million of interest income during the first quarter 2001 on average earning assets of $98.5 million. FUNDING SOURCES The Company utilizes traditional funding sources to support its earning asset portfolio including deposits, borrowings, Federal funds purchased and repurchase agreements. Deposits. Total deposits increased $58 million, or 2.5%, to $2,423 million as of March 31, 2001 from $2,365 million as of December 31, 2000 primarily due to internal growth. Increases in deposits were used primarily to fund loan growth and to reduce other borrowed funds. 12
13 Other Funding Sources. In addition to deposits, the Company also uses short-term borrowings from the Federal Home Loan Bank of Seattle, repurchase agreements with commercial depositors, long-term borrowings and, on a seasonal basis, Federal funds purchased. Because the Company's funding requirements were primarily met through deposit growth and liquidation of investment securities, other funding sources decreased $31 million, or 10.4%, to $266 million as of March 31, 2001 from $297 million as of December 31, 2000. Cost of Funding Sources. Interest expense for the three months ended March 31, 2001 of $26.7 million increased $4.1 million, or 18.1%, from $22.6 million for the same period in 2000. This increase is primarily due to higher volumes of interest-bearing liabilities, shifts in the mix of interest-bearing liabilities toward higher yielding time deposits and increases in interest rates paid. Average interest-bearing liabilities and trust preferred securities of $2,262 million during the three months ended March 31, 2001 cost 4.78% while average interest-bearing liabilities and trust preferred securities of $2,041 million during the three months ended March 31, 2000 cost 4.45%. New branches opened or acquired since January 2000 recorded interest expense of $1.1 million on average interest-bearing liabilities of $88.8 million. NET INTEREST INCOME The most significant impact on the Company's net interest income between periods is derived from the interaction of changes in the volume of and rates earned or paid on interest earning assets and interest bearing liabilities. Net interest income on a fully-taxable equivalent ("FTE") basis of $30.3 million for the quarter ended March 31, 2001 increased $2.6 million, or 9.4%, from $27.7 million for the same period in the prior year. The net interest margin ratio remained stable at 4.72% for the three months ended March 31, 2001 as compared to 4.74% for the same period in 2000. PROVISION FOR LOAN LOSS Provision for Loan Losses. The provision for loan losses creates an allowance for loan losses inherent in the portfolio. The loan loss provision each period is dependent on many factors, including loan growth, net charge-offs, changes in the composition of the loan portfolio, delinquencies, management's assessment of the quality of the loan portfolio, the value of underlying collateral on problem loans and general economic conditions in the Company's markets. The Company performs a quarterly assessment of risks inherent in its loan portfolio, as well as a detailed review of each asset determined to have identified weaknesses. Based on this analysis, which includes reviewing historical loss trends, current economic conditions, industry concentrations and specific reviews of assets classified with identified weaknesses, the Company makes provision for loan losses. Fluctuations in the provision for loan losses result from management's assessment of the adequacy of the allowance for loan losses. Ultimate loan losses may vary from current estimates. The provision for loan losses decreased $42 thousand, or 3.4%, during the three months ended March 31, 2001 as compared to the same period in the prior year. Non-Performing Loans. Non-performing loans include loans past due 90 days or more and still accruing interest, non-accrual loans and restructured loans. Non-performing loans decreased $4 million, or 12.1%, to $29 million as of March 31, 2001 as compared to $33 million as of March 31, 2000 primarily due to loan paydowns by one commercial borrower. At March 31, 2001, the ratio of non-performing loans to total loans was 1.45%. Non-performing loans as of December 31, 2000 totaled $27 million, or 1.37% of total loans. NON-INTEREST INCOME The Company's principal sources of non-interest income include service charges on deposit accounts; technology services revenues; other service charges, commissions and fees; and, income from fiduciary activities, comprised principally of fees earned on trust assets. Non-interest income increased $1.0 million, or 11.2%, to $9.9 million for the three months ended March 31, 2001 from $8.9 million for the same period in 2000. Increases in non-interest income were a function of changes in each of the principal categories, as discussed below. 13
14 Service Charges on Deposit Accounts. Service charges on deposit accounts increased $594 thousand, or 20.7%, to $3.5 million for the three months ended March 31, 2001 from $2.9 million for the same period in 2000. New branches opened or acquired since January 2000 contributed $200 thousand of the increase. The remaining increase is primarily due to overdraft fees. Technology Services Revenues. Technology services revenues decreased $150 thousand, or 8.0%, to $2.3 million for the quarter ended March 31, 2001 from $2.5 million for the same period in 2000. Increases in core data processing revenues were offset by decreases in IP service revenues. In addition, ATM rates were reduced an average of 18% during the third quarter of 2000 due to competitive pressure in the Company's market areas resulting in a $91 thousand decrease in ATM fee income for the three months ended March 31, 2001 as compared to the same period in the prior year. Other Service Charges, Commissions and Fees. Other service charges, commissions and fees increased $288 thousand, or 20.0%, to $1.8 million for the quarter ended March 31, 2001 as compared to $1.5 million for the same period in the prior year primarily due to loan servicing income resulting from the acquisition of loan servicing rights in late December 2000. Other Real Estate Income/Expense. Variations in net other real estate (OREO) income/expense during the periods resulted principally from fluctuations in gains and losses on sales of OREO. The Company incurred net OREO expense of $47 thousand for the three month period ended March 31, 2001 as compared to net OREO income of $60 thousand during the same period in 2000. Other Income. Other income, primarily brokerage fees, check printing income and gains on the sale of fixed assets, increased $283 thousand to $1.1 million for the three months ended March 31, 2001 from $851 thousand for the same period in the prior year primarily due to gains on sales of fixed assets. OTHER OPERATING EXPENSE Other operating expenses increased $4.5 million, or 18.9%, to $28.3 million for the quarter ended March 31, 2001 from $23.8 million for the same period in 2000. Significant components of this increase are discussed below: Salaries, Wages and Employee Benefits Expenses. Salaries, wages and employee benefits expenses increased $2.6 million, or 20.6%, to $15.2 million for the three months ended March 31, 2001 as compared to $12.6 million for the same period in the prior year. Increases of approximately $880 thousand are directly attributable to new branches opened or acquired since January 2000. In addition, approximately $382 thousand of the increase is due to remeasurement of compensation expense related to outstanding stock options. The remaining increase is primarily due to increases in administrative staffing levels to support the Company's expanding number of branches, increases in group health insurance premiums and inflationary wage increases. Occupancy. Occupancy expense increased $394 thousand, or 21.1%, to $2.3 million for the three months ended March 31, 2001 compared to $1.9 million for the same period in 2000. Approximately $196 thousand of this increase is directly attributable to new branches opened or acquired since January 2000. The remaining increase is primarily due to increased depreciation and maintenance costs associated with the remodel and upgrade of existing facilities. Furniture and Equipment. Furniture and equipment expenses increased $203 thousand, or 7.7% to $2.8 million for the three months ended March 31, 2001 from $2.6 million for the same period in 2000. Approximately $91 thousand of this increase is directly attributable to new branches opened or acquired since January 2000. The remaining increase is largely due to depreciation expense associated with the Company's continuing investment in technology and other costs of upgrading computer hardware and software, principally associated with check-imagining technology. 14
15 Goodwill and Core Deposit Intangible Amortization Expense. Goodwill and core deposit intangible amortization expense increased $165 thousand, or 21.6%, to $929 thousand for the three months ended March 31, 2001 from $764 thousand for the same period in the prior year due to the acquisition of two banking offices during the third quarter of 2000. Other Expenses. Other expenses include advertising and public relation costs, legal, audit and other professional fees; office supply, postage, freight, telephone and travel expenses; other losses; and mortgage servicing intangible amortization. Other expenses increased $1.2 million, or 21.1%, to $6.9 million for the quarter ended March 31, 2001 from $5.7 million for the same period in 2000. Approximately $320 thousand of this increase is directly attributable to new branches opened or acquired since January 2000. In addition, during the first quarter of 2001, the Company recorded impairment on its capitalized mortgage servicing rights of $126 thousand, wrote down the value of bank premises $85 thousand and recorded unrealized holding losses of $96 thousand on insurance company demutualization stocks. The remaining increase is primarily due to increases in mortgage servicing intangible amortization expense related to growth in the Company's loan servicing portfolio and increases in postage expense. SEGMENT RESULTS The following paragraphs contain a discussion of the financial performance of each of the Company's reportable segments for the three months ended March 31, 2001 and 2000. Community Banking. Community banking encompasses consumer and commercial banking services offered to individual and business customers. The Community Banking reporting segment's net income increased $346 thousand, or 3.6%, to $8.7 million for the three month period ended March 31, 2001 as compared to $8.3 million for the same period in the prior year primarily due to increases in net interest income; loan and overdraft fees; and, gains on sales of fixed assets. These increases were partially offset by the write-down of bank premises and net losses incurred by the thirteen new branches opened or acquired since January 2000. Technology Services. The Technology Services reporting segment encompasses technology services provided to the Company's banking subsidiaries and to non-affiliated financial institutions. Technology services' net income increased $127 thousand, or 18.6%, to $809 thousand for the three month period ended March 31, 2001 from $682 thousand for the same period in the prior year. On January 1, 2001, the Company transferred item proof and capture services ("IP services") from Other Support Services to the Technology Services reporting segment. Because expenses associated with IP services prior to 2001 cannot be distinguished from the expenses of other support services provided, the 2000 amounts reported have not been reclassified to reflect the transfer. Technology Services revenues from other operating segments and non-interest expense each increased $1.6 million during the three months ended March 31, 2001 as compared to the same period in the prior year due primarily to revenues and expenses associated with IP services. Revenues from external sources increased $228,000 during the three months ended March 31, 2001 as compared to the same period in 2000 primarily due to core data processing revenues. Other Support Services. Other Support Services consist primarily of the Company's operational, financial, administrative, treasury and mortgage servicing centers. Net losses generated by Other Support Services of $3.1 million for the three months ended March 31, 2001 increased $1.1 million, or 55.0%, from $2.0 million for the same period in the prior year primarily due to compensation expense related to the remeasurement of outstanding stock options, increases in administrative staffing levels to support the Company's expanding number of branches, increased goodwill and core deposit intangible amortization expense resulting from an acquisition in third quarter of 2000, impairment recorded on mortgage servicing rights and unrealized holding losses on insurance company demutualization stocks recorded during the first quarter of 2001. 15
16 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As of March 31, 2001, there have been no material changes in the quantitative and qualitative information about market risk provided pursuant to Item 305 of Regulation S-K as presented in the Company's December 31, 2000 Form 10-K. 16
17 PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS There have been no material changes in legal proceedings from December 31, 2000. ITEM 2. CHANGES IN SECURITIES None. ITEM 3. DEFAULTS UPON SENIOR INDEBTEDNESS None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. ITEM 5. OTHER INFORMATION Not applicable or required. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits. None (b) A report on Form 8-K dated April 5, 2001 was filed by the Company providing notification of pending restatement of previously filed financial statements and notification of late filing of the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000. 17
18 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, INC. Date May 9, 2001 /s/ THOMAS W. SCOTT ------------------------- ----------------------------------- Thomas W. Scott Chief Executive Officer Date May 9, 2001 /s/ TERRILL R. MOORE ------------------------- ----------------------------------- Terrill R. Moore Senior Vice President and Chief Financial Officer 18