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First Interstate BancSystem Inc. preparing for "transformational" deal, CEO says

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First Interstate BancSystem Inc. preparing for "transformational" deal, CEO says

President and CEO Kevin Riley spoke with S&P Global Market Intelligenceabout the company's $34.2 million deal last month to acquire ,shortly before it announcedfirst-quarter net income of $20.1 million, or 45 cents per share. Riley spokeabout how the deal fits into the company's long-term strategy and helps preparefor a "transformational" deal, and why First Interstate has to thinkdifferently about its branch network than some other banks of its size.

Below is an edited transcriptof the conversation.

S&P Global MarketIntelligence: How did this deal for Flathead Bank develop? Obviously youoperate in the same markets — there must have been some familiarity already.

Kevin Riley: The major shareholder isreally a friend of [First Interstate]; he actually worked at here at one point.So we've been in contact with him and he's of retirement age and he always saidwhen First Interstate had time and he got close to retirement that he wouldlike to sell to First Interstate. We had a window of opportunity, so we had aconversation and he decided it's time for him to retire. We agreed on a fairprice and negotiated the deal. It wasn't an auction. [Flathead Bank of Bigfork]Larry Jochim runs a bank similar to ours; it's in our market and we knew itwould be an easy transition due to the fact that we're so close to him and hisownership.

So where does this leave youstrategically? Does it change the outlook for M&A as you close andintegrate this transaction?

Overthe last four to five months, there have been a number of deals that havecrossed our desk [requiring] a decision on whether we proceed, bid, etc. Acouple of them have already been announced, and we will bid on deals that makestrategic sense for us and pass on ones that don't. When I say strategic sense,it means we can get them at the right price and it's good for our shareholders,it's additive to the financial institution, and the culture has a good match toours so we can move forward. But we're not going to do deals for banks that aredifferent than we are just to grow. I've told people over and over: bigger isnot better, better is better. These things have to make sense for the companyand shareholders and employees, or we won't do them.

Onething we want to do at the company is to broaden our competency aroundcompleting acquisitions successfully. So we're going to do one or twoacquisitions per year and continue to grow our competency around effectivelyintegrating an acquisition and getting better and better at it. This is ourthird acquisition within the last two years and it's not something that isgoing to put us on the sidelines. First Interstate's last acquisition beforethese last three was in 2008, so there was a little period of time where therewere no deals and some of those skills got dusty. So we're honing these skillsto do deals effectively. Are we still looking at other acquisitions?Absolutely. This deal should be easy, and we are looking at other large andsmall acquisitions. You shouldn't be surprised if we announce another acquisitionthis year. The activity in this market is pretty robust.

Are you settingyourself up for a larger transformative deal? Or was this something you feltneeded to be added as another growth lever?

It'spreparing for one of those transformational deals. It's not onlycompetencies with regards to acquisitions, we're also building theinfrastructure at this company to go over the $10 billion level. We've beenputting the foundation in place for well over a year — all the compliance, thestress-testing, the model validation … really trying to enhance our regulatoryand compliance stature. We're doing it on all fronts so that if atransformational deal comes our way we'll be able to do it. We're in good steadwith our regulators; they meet with us and explain what their expectationswould be for us to cross over $10 billion so we're working with them so thatthe regulators are in our camp.

When kind of targets do youenvision for that transformational deal — are there metro areas you'd like togain some foothold? Or are you looking for a franchise that's more like you andwould take you farther out into the Rockies and some new smaller markets?

Forus, we grew up genetically one way. We're a small business, middle-marketlender — our average commercial loan is less than $300,000 and even though ourlegal lending limit is probably more than $90 million, our in-house limit is$15 million and then down to $10 million, and we have a few that might exceedthat but we're mostly a small business and commercial lender. You know whenbanks start to grow they often want to enter a metropolitan market, and in mycareer I've banked in bigger metro markets. First of all, if you enter a metromarket and you're not the big bank, or you don't have a premiere lending team,you really are a third or fourth tier lender and you end up with the loans thebigger players didn't want, and then you get credit issues. Second, you getlenders who start wanting to do $30 million, $40 million credit deals, and thenyou have to ask yourself if you've got the credit culture that can handlelarger loans — people that know how to approve them and how to underwrite them.And then lenders in other smaller markets want to start booking the same sizedeals, and it changes the dynamic of the company.

Wehave to keep true to what we are. We are a good rural banking operation. Weknow how to do it, we do it efficiently, and we make a lot of money. So we'llstick to what we're good at and you'll probably see us expand our geographymore … we're going to focus more on what we know how to do best.

You have a verygeographically large branch footprint across your markets — do you think aboutbranches differently than other banks because you operate in smaller markets?And how does that impact what you do with branches in this deal?

Ifyou just take a map and look at Flathead Bank and the branches we acquired, youcan see that many of the branches are very closely aligned — we have branchesthat are next door to each other. Which is not to say that we're only going tobe closing their branches; some of their branches are better than ours so we'llbe upgrading some of our facilities with their locations. We're really onlygaining two new markets with this acquisition; the rest we are already in andwe have adjacent locations, so there will certainly be consolidation in thosemarkets.

Whenit comes to branching and how a metropolitan-based bank views branches versushow a more geographically dispersed bank like us does, well it's different. Wehave a branch in Mile City, Mont., and that branch is a full-service branch —they do consumer lending, commercial lending, mortgages, wealth management — it'sa bank for that town. Now in some markets where we have multiple locations wemight have a centralized lending team and more retail locations, a hub-spokemethodology. Most of our markets are one or two branch-type markets, where ifyou close the branch you've effectively left the market. So we need to decideto be in the market or out of the market.