An in Depth Look at Community Banks and Valuations

Transcription

1 Scott Deters An in Depth Look at Community Banks and Valuations Presented by Scott Deters, Kent Pummel and Doug Michel Doug Michel Kent Pummel 5

2 Today s Agenda Community Banks and Valuations - Four primary fair value adjustments to be discussed today: Fair value of loans receivables and related discounts Fair value of deposits Core deposit intangible asset Goodwill 6

3 A glance into the market No longer hypothetical buyer there are actual buyers in the market Fair value is largely based on research of previous, similar transactions What type of premiums are being paid in the market? Sources Factset Mergerstat Review; Pratt s Stats (must look at specifics to see total value paid); 10-K s or other filings from public companies, SNL Data 7

4 Purchase Price Accounting Issues Since measurements are to be at fair value, the business valuation professional should be a part of the purchase price accounting team 8

5 Purchase Price Accounting Issues Who are the professionals to be included in the purchase price accounting team? Investment banker or other primary transaction advisor External auditors Internal auditors, CFO and Controller All should be aware of the assumptions and reporting requirements for fair value calculations 9

6 Purchase Price Accounting Issues Assets acquired and liabilities assumed shall be recorded at their fair values as of the acquisition date 10

7 Purchase Price Accounting Issues Intangible assets should be identified and recognized at their fair values as of the acquisition date An intangible asset is identifiable if it meets two criteria: It is possible to separate the asset from the entity A contract or other specific legal event creates the asset 11

8 Purchase Price Accounting Issues Fair value defined in ASC glossary as: The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. 12

9 Purchase Price Accounting Issues Each of these assets are subject to subsequent measurement for impairment, and/ or amortization 13

10 What About Goodwill? Goodwill is the excess of purchase price paid over assets acquired less liabilities assumed Goodwill is subject to impairment testing on an annual basis. (For non-public companies, goodwill may be amortized over 10 years, with the net book value still subject to impairment testing) 14

11 Fair Value of Loans Receivable Two methods for Accounting for Acquired loans: #1 Follow ASC : Purchase of a loan or group of loans #2 Follow ASC : Loans acquired with Deteriorated Credit Quality 15

12 Fair Value of Loans Receivable ASC : Contractual Cash Flows - Results in entire discount or premium being accreted / amortized into income over the contractual term of the loans - No presumption of lost cash flow on the loans acquired - Provision may be needed if loans perform worse than anticipated in fair value model upon acquisition 16

13 Fair Value of Loans Receivable ASC : Expected Cash Flows 1. Must be evidence of credit deterioration since the loan s origination (hence PCI Purchased Credit Impaired) 2. Acquirer does not expect to collect all contractual cash flows for the loan Excess of contractual cash flows over expected cash flows = nonaccretable difference. Amount of expected cash flows that exceeds the initial investment in the loan = accretable yield. 17

14 Fair Value of Loans Receivable ASC : Expected Cash Flows Separating the cash flows on a PCI loan: Contractual payments $9,000 Expected Cash flows 8,000 Initial investment $6,500 in loan receivable (1,000) Nonaccretable difference (1,500) Accretable yield 18

15 Fair Value of Loans Receivable Subsequent Measurement Continue to estimate cash flows expected to be collected over the life of the loan and adjust amounts through accretable yield for improvements in cash flows If it is probable the acquirer is unable to collect all cash flows expected, due to changes in estimate after acquisition, the loan shall be measured for additional impairment 19

16 Fair Value of Loans Receivable Note: Most core processing systems do not handle the calculations required for ASC , and calculations are maintained off-line. As such, interest income recorded through the core system on a loans contractual basis must be reversed, and the calculated accretion booked through a manual entry. 20

17 Deposits Demand deposits and savings typically recorded at historical cost Time deposits recorded using discounted future cash flows Apply market rates to the time deposits as part of the analysis 21

18 Core Deposit Intangible Valued using net present value of future income stream from core deposits Future income stream is discounted back to purchase date 22

19 Core Deposit Intangible Net income stream includes: Income from net investible assets Service charge income Expenses used to calculate net income include: Deposit interest costs Servicing costs Income tax 23

20 Core Deposit Intangible Amortization of CDI and Subsequent Measurement: CDI is amortized over the estimated useful life of the deposit relationships Amortization methods vary, with straight-line being a default method if other methods cannot be determined for the recovery of the asset over the life of the deposit relationships 24

21 Other Considerations Mortgage servicing rights should be consistent with amounts recorded on balance sheet Non-compete agreements with key members of management (with and without analysis) Service marks or service names name recognition and customer loyalty associated with acquired bank 25

22 Business Valuations & Due Diligence What is the role of Valuators in the due diligence process? When should valuation professionals become involved? 26

23 Role of BV in Due Diligence Process Once adjustments have been identified, can determine value to the buyer Understand what they are buying and what creates value Determine what it could be worth then the negotiation process begins 27

24 Acquisition Related Costs ASC Acquisition related costs are costs incurred by the acquirer to effect a business combination. Generally, those costs are expenses of the acquirer in the period the costs are incurred and the services received. 28

25 Questions? Contact: Scott Deters Kent Pummel Doug Michel 29