Note 10 - Acquisition

6 Months Ended

Jun. 30, 2020

Notes to Financial Statements

Mergers, Acquisitions and Dispositions Disclosures [Text Block]

NOTE 10. ACQUISITION

On January 31, 2019, we completed the acquisition of Merchants Holding Company (“Merchants”), to extend our presence in the Sacramento marketplace. Merchants, headquartered in Sacramento, California, was the parent company of Merchants National Bank of Sacramento (“Merchants Bank”), a 97-year-old bank with approximately $211.7 million in assets as of January 31, 2019. Merchants operated one full service branch and one limited service branch in the Sacramento metropolitan area. In May of 2019, we successfully converted all of Merchant’s computer records onto our core system.

We paid $15.3 million in cash and issued 1,834,142 shares of common stock to Merchants shareholders who held, in the aggregate, approximately 10% of our outstanding common stock on January 31, 2019. One former member of the Merchants board now serves on our board of directors. The acquisition, after fair value adjustments added $190.2 million in deposits, $107.4 million in investment securities and $85.3 million in loans to our Bank as of January 31, 2019.

The acquisition of Merchants constituted a business combination and has been accounted for using the acquisition method of accounting. The assets acquired and liabilities assumed, both tangible and intangible, were recorded at their fair values as of the acquisition date in accordance with ASC 805, Business Combinations. The Bank engaged third party specialists to assist in valuing certain assets, including investment securities, loans, real estate and the core deposit intangible that resulted from the acquisition. The acquisition was treated as a "reorganization" within the definition of section 368(a) of the Internal Revenue Code and is generally considered tax-free for U.S. federal income tax purposes.

The calculation of goodwill recorded during 2019 is detailed below.

(Amounts in thousands)	As Recorded by Merchants Holding Company			Fair Value And Other Acquisition Related Adjustments			As Recorded by the Company
Consideration paid:
Cash							$	15,300
Stock 1,834,142 shares at $10.69 per share								19,607
Total consideration							$	34,907
Assets acquired:
Cash and fed funds sold	$	12,425		$	—		$	12,425
Investment securities		107,931			(551	)		107,380
Loans, gross		87,570			(2,292	)		85,278
Allowance for loan and lease losses		(1,286	)		1,286			—
Interest receivable		688			—			688
Premises and equipment, net		378			1,856			2,234
Deferred tax assets, net		1,374			(1,352	)		22
Federal Home Loan Bank of San Francisco stock		1,454			—			1,454
Life insurance		755			—			755
Other assets		371			95			466
Core deposit intangible		—			4,353			4,353
Total assets acquired	$	211,660		$	3,395		$	215,055
Liabilities assumed:
Demand, money market and savings	$	152,213		$	—		$	152,213
Certificates of deposit		38,003			—			38,003
Total deposits		190,216			—			190,216
Other liabilities		916			22			938
Total liabilities assumed	$	191,132		$	22		$	191,154
Net identifiable assets acquired over liabilities assumed	$	20,528		$	3,373		$	23,901
Goodwill							$	11,006

Goodwill

As a result of the Merchants acquisition, we recorded goodwill totaling $11.0 million. Goodwill reflects the expected value of Merchants reputation in the community, stable customer base and expected synergies created through the combined operations with our Company and was calculated as the excess of the total purchase price paid over the fair value of the assets acquired, net of the fair values of liabilities assumed.

The following is a description of the methods used to determine the fair values of significant assets and liabilities whose fair values are different from their carrying amounts on Merchants' books at acquisition date presented above.

Investment Securities

Fair values for securities were obtained from an independent pricing service and were based on quoted market prices, where available. If quoted market prices were not available, fair value estimates were based on observable inputs including quoted market prices for similar instruments, quoted market prices that were not in an active market, other inputs that were observable in the market or a discounted cash flow model.

Loans

We engaged a third party to assist us in determining the fair values for the loans acquired from Merchants based upon the present values of the expected cash flows and market-derived discount rates. There were no loans acquired with evidence of deterioration of credit quality since origination for which we believe it is probable that we will be unable to collect all contractually required payments receivable. A fair value discount of $2.3 million was recorded for loans acquired in conjunction with our acquisition of Merchants and is being accreted over the life of the loans as a yield adjustment. We recorded $216 thousand and $190 thousand in accretion of the discount for these loans during the three months ended June 30, 2020 and 2019, respectively. We recorded $379 thousand and $238 thousand in accretion of the discount for these loans during the six months ended June 30, 2020 and 2019, respectively.

Premises and Equipment

We engaged an independent licensed appraiser to determine the fair value of the acquired branch located in Sacramento. The fair value of tangible personal property was not material.

Deferred Tax Assets

Deferred income tax assets were recorded to reflect the difference between the carrying values of the acquired assets and liabilities for financial reporting purposes and the basis for income tax purposes using the Company’s statutory federal and state income tax rates. During 2019, the final tax returns were completed for Merchants and the net deferred tax assets were adjusted to fair value.

Core Deposit Intangible

We engaged an independent third party to assist us in determining the core deposit intangible asset of $4.4 million associated with non-maturity deposits acquired from Merchants. The core deposit intangible represents the estimated future benefits of acquired deposits and is booked separately from the related deposits. The value of the core deposit intangible asset was determined using a discounted cash flow approach to arrive at the cost differential between the core deposits (non-maturity deposits such as transaction, savings and money market accounts) and alternative funding sources. It was calculated as the present value of the difference in cash flows between maintaining the core deposits (interest and net maintenance costs) and the cost of an equal amount of funds with a similar term from an alternative source. The core deposit intangible is being amortized on a straight-line basis over an estimated eight-year life, and is evaluated annually for impairment. No impairment loss was recognized in 2020 or 2019. Core deposit intangible amortization from this acquisition is not deductible for tax purposes. We recorded amortization of the core deposit intangible totaling $136 thousand during the three months ended June 30, 2020 and 2019. We recorded amortization of the core deposit intangible totaling $272 thousand and $227 during the six months ended June 30, 2020 and 2019, respectively. The future estimated amortization expense on the CDI from the Merchants acquisition at June 30, 2020 is as follows:

(Amounts in thousands)	2020		2021		2022		2023		2024		Thereafter		Total
Core deposit intangible amortization	$	272	$	544	$	544	$	544	$	544	$	1,134	$	3,582

Pro Forma Results of Operations

The following table presents pro forma information of the combined entity as if the acquisition occurred on January 1, 2019. The pro forma information does not necessarily reflect the results of operations that would have resulted had the acquisition been completed at the beginning of the periods presented, nor is it indicative of the results of operations in future periods. Furthermore, cost savings and other business synergies related to the acquisition are not reflected in the pro forma amounts.

	For the Three Months Ended		For the Six Months Ended
	June 30,		June 30,
(Amounts in thousands)	2019		2019
Pro forma revenue and earnings:
Net interest income	$	13,495	$	26,694
Net income (1)	$	3,644	$	5,913

⁽¹⁾ Net income includes acquisition-related costs of $376 thousand and $2.3 million of the three and six months ended June 30, 2019, respectively.

It is impracticable to separately provide information regarding the amount of revenue and earnings from Merchants included in our Consolidated Statement of Income because the operations of Merchants were substantially comingled with the operations of the Company as of the acquisition date.