NOTE 3—BUSINESS COMBINATIONS

Beck Alloys

On November 1, 2016, Real Alloy, acquired certain assets of Beck Aluminum Alloys Ltd. (“Beck Alloys”) and 49% of the voting interests of Beck Aluminum International, LLC (“Beck Trading”) from Beck Alloys, Beck Aluminum Corporation and GSB Beck Holdings, Inc. (collectively, the “Beck Sellers”), under an asset and securities purchase agreement (the “Beck Purchase Agreement”). Upon closing, we paid $23.6 million in cash to the Beck Sellers and accounted for the transaction as a business combination (the “Beck Acquisition”), with the purchase price allocated based on the estimated fair values of the assets acquired and liabilities assumed. The purchase price allocation presented below is preliminary, pending final valuation of property, plant and equipment and the equity method investment. We incurred acquisition costs and expenses associated with the Beck Acquisition totaling approximately $1.0 million during the year ended December 31, 2016, which are classified as nonoperating expenses in the consolidated statements of operations.

The following tables provide summary information about the purchase consideration and identifiable assets acquired.

(In millions)
Consideration paid at closing	$	23.6
Purchase price allocation:
Inventories	$	10.6
Property, plant and equipment		6.8
Equity method investment		6.1
Prepaid expenses, supplies and other current assets		0.1
Estimated fair value of assets acquired	$	23.6

Inventories include the estimated fair value of finished goods, work in process and raw materials. The estimated fair value of finished goods was based on analyses of future selling prices and the profit associated with the manufacturing effort. The estimated fair value of work in process considered costs to complete to finished goods and was based on analyses of future selling prices and the profit associated with the manufacturing effort. The estimated fair value of raw materials was based on replacement cost. The $10.6 million of estimated fair value of inventories includes $0.3 million in fair value adjustments, all of which was amortized as noncash charges in cost of sales during the year ended December 31, 2016. See Note 6—Inventories for additional information about inventories as of December 31, 2016.

Property, plant and equipment includes land, site improvements, buildings and building improvements, and machinery, equipment, furniture and fixtures. The estimated fair value of property, plant and equipment was based on appraisals and replacement cost analyses. See Note 7—Property, Plant and Equipment, Net for additional information about property, plant and equipment as of December 31, 2016.

The fair value of property, plant and equipment acquired was estimated as follows:

(In millions)	Estimated Fair Value
Land and improvements	$	0.7
Buildings and improvements		2.6
Machinery, equipment, furniture and fixtures		3.5
Property, plant and equipment acquired	$	6.8

The fair value of prepaid expenses, supplies and other current assets includes inventory supplies and is based on replacement cost.

The fair value of the equity method investment is based on a discounted cash flow model with various assumptions about growth rates and margins, as well as the cash distribution waterfall, under which Real Alloy receives the first $6.0 million of distributions, thereafter distributions will be based on equity ownership percentages.

The operating results related to the assets acquired from Beck Alloys are included in the Company’s consolidated financial statements from the acquisition date. For the period from the acquisition date to December 31, 2016, the Beck Alloy assets provided revenues of $10.5 million and loss from continuing operations before income taxes of $1.1 million. Additionally, we recognized $1.1 million of loss from equity method investment for the period from November 1, 2016, the closing date, to December 31, 2016.

The following selected unaudited pro forma results of operations of the Company for the years ended December 31, 2016 and 2015 give effect to this business combination as though the transaction occurred on January 1, 2015:

	Year Ended December 31,
(In millions)	2016			2015
Total revenues:
As reported	$	1,249.7		$	1,145.6
Pro forma		1,326.7			1,285.7
Loss from continuing operations before income taxes:
As reported	$	(103.2	)	$	(31.7	)
Pro forma		(112.6	)		(46.7	)

As of December 31, 2016, Real Alloy had trade accounts receivable and trade payables due from and to Beck Trading of $6.8 million and $0.5 million, respectively. Additionally, as part of the Beck Acquisition, Real Alloy and Beck Trading entered into a Sales Representative and Tolling Agreement whereby, for a defined group of customers, Real Alloy will serve as a sales representative for Beck Trading and will be paid a commission for sales generated. Beck Trading will also serve as a sale representative for Real Alloy, for a defined group of customers, and will be paid a commission for sales generated.

Real Alloy

On February 27, 2015, Real Industry, through its indirect wholly owned subsidiary, Real Alloy, acquired 100% of the voting interests of the Real Alloy Business from Aleris, under a purchase agreement (the “Real Alloy Purchase Agreement”). Upon closing, we paid $496.2 million to Aleris, and an additional $5.0 million of cash and the Redeemable Preferred Stock were placed into escrow to satisfy the indemnification obligations of Aleris under the Real Alloy Purchase Agreement, in which Aleris has agreed to indemnify Real Alloy and its affiliates for certain claims and losses. During the second quarter of 2015, we paid an additional $31.3 million of the purchase price representing the initial working capital adjustment under the Real Alloy Purchase Agreement. The final working capital adjustment totaled $2.4 million and was paid on September 3, 2015.

As part of the transaction, Real Alloy and Aleris entered into a transition services agreement (“TSA”), under which Aleris provides certain customary post-closing transition services to Real Alloy, including information technology services, treasury services, accounts payable, cash management and payroll, credit/collection services, environmental services, and human resource services for periods ranging from three to twenty-four months following the acquisition date. For the years ended December 31, 2016 and 2015, Real Alloy incurred $0.9 million and $7.4 million, respectively, of transition services expenses under the TSA.

We incurred acquisition and financing-related costs and expenses associated with the Real Alloy Acquisition totaling approximately $14.8 million during the year ended December 31, 2015, which are classified as nonoperating expenses in the consolidated statements of operations. Acquisition and financing-related costs and expenses associated with the Real Alloy Acquisition recognized in 2014 totaled $3.4 million.

The acquisition was accounted for as a business combination, with the purchase price allocated based on the estimated fair values of the assets acquired and liabilities assumed, with goodwill totaling $104.6 million. Goodwill was allocated to our reporting units, Real Alloy North America (“RANA”) and Real Alloy Europe (“RAEU”), as of the acquisition date on a relative fair value basis, with $95.4 million and $9.2 million allocated to RANA and RAEU, respectively.

The following tables provide summary information about the purchase consideration, identifiable assets acquired, liabilities assumed, and goodwill:

(In millions)
Purchase consideration:
Cash paid at closing	$	501.2
Fair value of Redeemable Preferred Stock issued		19.6
Initial working capital adjustment		31.3
Final working capital adjustment		2.4
Total purchase consideration	$	554.5

Purchase price allocation:
Assets:
Cash	$	10.2
Trade accounts receivable		150.1
Inventories		157.7
Property, plant and equipment		311.7
Deferred income taxes		0.7
Prepaid expenses, supplies, and other current assets		19.9
Identifiable intangible assets		17.0
Total assets		667.3
Liabilities:
Trade payables		112.4
Accrued liabilities		26.9
Accrued pension benefits		46.0
Environmental liabilities		12.1
Noncurrent asset retirement obligations		5.9
Deferred income taxes		7.5
Other		6.6
Total liabilities		217.4
Estimated fair value of net assets acquired	$	449.9

Total purchase consideration	$	554.5
Estimated fair value of net assets acquired		449.9
Goodwill	$	104.6

The estimated fair value of trade accounts receivable was based on the undiscounted receivables management expected to receive from the $150.4 million of total trade accounts receivable at the acquisition date. Due to the short-term nature of the receivables, the undiscounted receivables expected to be collected was estimated to approximate fair value.

Inventories include the estimated fair value of finished goods, work in process and raw materials. The estimated fair value of finished goods was based on analyses of future selling prices and the profit associated with the manufacturing effort. The estimated fair value of work in process considered costs to complete to finished goods and was based on analyses of future selling prices and the profit associated with the manufacturing effort. The estimated fair value of raw materials was based on replacement cost. The $157.7 million of estimated fair value of inventories includes $4.2 million in fair value adjustments, all of which was amortized as noncash charges in cost of sales during the year ended December 31, 2015.

Property, plant and equipment includes land, site improvements, buildings and building improvements, and machinery, equipment, furniture and fixtures. The estimated fair value of property, plant and equipment was based on appraisals and replacement cost analyses. The estimated fair value of construction in progress was based on replacement cost, which approximated carrying value.

The fair value of property, plant and equipment acquired was estimated as follows:

(In millions)	Estimated Fair Value
Land and improvements	$	62.9
Buildings and improvements		56.6
Machinery, equipment, furniture and fixtures		181.9
Construction work in progress		10.3
Property, plant and equipment	$	311.7

Identifiable intangible assets represent the estimated fair value of customer relationships. The valuation of intangible assets acquired was based on management’s estimates, available information, and reasonable and supportable assumptions and used an excess earnings approach. Significant assumptions included forecast revenues, customer retention rates and profit margins, a discount rate of 13.5% based on our overall cost of equity, adjusted for perceived business risks related to these customer relationships, and an estimated economic useful life of twenty years. Due to uncertainties related to the expected cash flows, the customer relationships are amortized on a straight-line basis over the weighted average life of the expected cash flows, or seven years.

The fair value of prepaid expenses, supplies and other assets includes a $6.4 million fair value adjustment related to inventory supplies, which under Real Alloy’s accounting policy had been expensed, but remained available for use as of the acquisition date. The estimated fair value of the supplies was based on replacement cost. Amortization of $0.8 million and $5.6 million of the fair value adjustment related to supplies was amortized as noncash charges in cost of sales during the years ended December 31, 2016 and 2015.

The fair value of trade payables and accrued liabilities were estimated to approximate carrying value due to the short-term nature of the liabilities, except for the toll liability, which was adjusted by $0.6 million as part of the inventory fair value adjustment, all of which was recognized in cost of sales in the year ended December 31, 2015.

Accrued pension benefits include defined benefit plans for German employees. The plans are based on final pay and service, but some senior officers are entitled to receive enhanced pension benefits. Benefit payments are financed, in part, by contributions to a relief fund that establishes a life insurance contract to secure future pension payments. Based on statutory pension contribution calculations proscribed under German law, the plans were substantially underfunded. The unfunded statutory accrued pension costs are covered under a pension insurance association under German law should Real Alloy, or its subsidiaries, be unable to fulfill their pension obligations.

The following assumptions were utilized to measure accrued pension benefits as of the acquisition date:

Discount rate	1.7	%
Rate of compensation increase	3.0	%
Pension increase	1.8	%
Turnover	2.0	%

Environmental liabilities represent estimated reserves for long-term environmental remediation costs that have been recognized based on the guidance in FASB ASC 450, Contingencies, and FASB ASC 410, Asset Retirement and Environmental Obligations. Real Alloy is subject to various environmental laws and regulations governing, among other things, the handling, disposal and remediation of hazardous substances and wastes, and employee safety. Short-term environmental remediation costs totaling $3.2 million are classified in accrued liabilities as of the acquisition date. Given the changing nature of environmental legal requirements, Real Alloy may be required to take environmental control measures at some of its facilities to meet future requirements.

The estimated fair value of the Redeemable Preferred Stock was determined based on a discounted cash flow using estimates of market rates and redemption probabilities.

Deferred income taxes represent the differences between the book and tax bases of the assets acquired, which as of the acquisition date totaled $0.7 million of deferred tax assets and $7.5 million of deferred tax liabilities in Germany, the United Kingdom, Norway, Canada and Mexico. As a result of an election under section 338(h)(10) of the Internal Revenue Code of 1986, as amended (the “Tax Code”), the tax bases of U.S. assets acquired and most liabilities assumed were adjusted to the acquisition date fair values. Approximately $66.3 million of the goodwill is expected to be deductible for U.S. income tax reporting purposes.

Other liabilities assumed include asset retirement obligations, which represent obligations associated with the retirement of tangible long-lived assets, which primarily relate to the requirement to cap three landfills, as well as costs related to the future removal of asbestos and underground storage tanks at various facilities. The estimated fair value was based upon the present value of the future cash flows expected to be required to satisfy the obligation using discount rates ranging from 6.7 % to 13.2%. Determining the fair value of asset retirement obligations requires judgment, including estimates of the credit adjusted interest rate and estimates of future cash flows. The present value of the obligations is accreted over the useful life of the associated assets.

Based on the estimated fair value of assets acquired and liabilities assumed, goodwill of $104.6 million was attributable to Real Alloy’s strong management team, assembled workforce and its defensible market share.

The operating results of Real Alloy are included in the Company’s consolidated financial statements from the acquisition date. For the period from the acquisition date to December 31, 2015, Real Alloy’s total revenues and loss from continuing operations before income taxes were $1,145.6 million and $23.3 million, respectively.

The following selected unaudited pro forma results of operations of the Company for the years ended December 31, 2015 and 2014, give effect to this business combination as though the transaction occurred on January 1, 2014:

	Year Ended December 31,
(In millions)		2015			2014
Total revenues:
As reported	$	1,145.6		$	2.1
Pro forma		1,382.6			1,523.4
Loss from continuing operations before income taxes:
As reported	$	(40.8	)	$	(8.5	)
Pro forma		(22.8	)		(53.6	)