BUSINESS COMBINATIONS, ACQUISITIONS, AND DECONSOLIDATIONS

On April 10, 2014, the Company completed the acquisition of the assets and liabilities of Citizens used in the purchase of real estate and the construction and marketing of residential homes in North Carolina, South Carolina and Tennessee, pursuant to a purchase and sale agreement, dated March 25, 2014 between UCP, LLC and Citizens. Accordingly, the results of Citizens are included in the Company’s consolidated financial statements from the date of the acquisition. For the year ended December 31, 2014, the revenue and net income attributable to the assets acquired in the acquisition were $30.3 million and $1.4 million, respectively.

The acquisition was accounted for as a business combination with the acquired assets, assumed liabilities, and contingent consideration recorded by the Company at their estimated fair values. The assets that the Company acquired primarily included real estate and various other assets. The acquisition date fair value of the consideration transferred totaled $18.7 million, which consisted of the following (in thousands):



	Preliminary		Adjustment			Final
Cash	$	14,006				$	14,006
Contingent consideration	4,644		$	(742	)	3,902
Total consideration	$	18,650	$	(742	)	$	17,908

The contingent consideration arrangement requires the Company to pay up to a maximum of $6 million of additional consideration based upon achievement of various pre-tax net income performance milestones of the new business (“performance milestones”) over a five year period commencing on April 1, 2014. Payouts are to be made on an annual basis. The potential undiscounted amount of all future payments that the Company could be required to make under the contingent consideration arrangement is between zero and $6 million. The estimated fair value of the contingent consideration was estimated based on applying the income approach and a weighted probability of achievement of the performance milestones. The estimated fair value of the contingent consideration was calculated by using a Monte Carlo simulation model. The fair value of the contingent consideration was then estimated as the arithmetic average of all simulation paths. The model was based on forecast adjusted net income over the contingent consideration period.

The measurement is based on significant inputs that are not observable in the market, which are defined as Level 3 inputs. Key assumptions include: (1) forecasted adjusted net income over the contingent consideration period, (2) risk-adjusted discount rate reflecting the risk inherent in the forecasted adjusted net income, (3) risk-free interest rates, (4) volatility of adjusted net income, and (5) UCP’s credit spread. The risk adjusted discount rate for adjusted net income was 15.7% plus the applicable risk-free rate resulting in a combined discount rate ranging from 15.8% to 17% over the contingent consideration period. The volatility rate of 28.2% and a credit spread of 3.11% were applied to forecast adjusted net income over the contingent consideration period.

The following table summarizes the calculation of the preliminary estimated fair value of the assets and liabilities assumed at the acquisition date (in thousands):



	Preliminary		Adjustment			Final
Assets Acquired
Real estate	$	13,832				$	13,832
Other assets	1,433		$	(70	)	1,363
	15,265		(70		)	15,195
Less: Liabilities assumed	1,608		(98		)	1,510
Net assets acquired	13,657		28			13,685
Goodwill	4,993		(770		)	4,223
Consideration transferred	$	18,650	$	(742	)	$	17,908

The acquired assets and assumed liabilities were recorded by the Company at their estimated fair values, with certain limited exceptions. The Company determined the estimated fair values with the assistance of appraisals or valuations performed by independent third party specialists, discounted cash flow analysis, quoted market prices, where available, and estimates made by management. To the extent the consideration transferred exceeded the fair value of net assets acquired, such excess was assigned to goodwill.

The Company determined the fair value of real estate on a lot-by-lot basis primarily using a combination of market comparable land transactions, where available, and discounted cash flow models. These estimated cash flows are significantly impacted by estimates related to expected average home selling prices and sales incentives, expected sales paces and cancellation rates, expected land development and construction timelines, and anticipated land development, construction, and overhead costs. Such estimates must be made for each individual community and may vary significantly between communities.

The following table outlines the key assumptions used to determine the fair value of the real estate:



Real Estate: Methodology and Significant Input Assumptions

Method	Home comparable sales and discounted cash flow models
Home comparable range of base price per square foot	$77- $118 per square foot
Average discount rate applied	15%
Range of builder profit margin	18-24%
Builder profit margin applied	20%

As of the acquisition date, goodwill largely consisted of the expected economic value attributable to the assembled workforce of the acquired company as well as estimated economic value attributable to expected synergies resulting from the acquisition. The acquisition provides increased scale and presence in established markets with immediate revenue opportunities through an established backlog. Furthermore, the Company expects to achieve significant savings in corporate and divisional overhead costs as well as interest costs. Additional synergies are expected in the areas of purchasing leverage and integrating the best practices in operational effectiveness.

The Company has finalized its estimates of the fair values of the assets acquired, liabilities assumed, and the contingent consideration transferred, in the acquisition as of December 31, 2014. The Company revised the preliminary estimate of the probable amount of contingent consideration due to Citizens based on lower projections for various pretax performance milestones required to earn the contingent consideration through the end of the contingent consideration period. Accordingly, the Company reduced the contingent consideration liability that had recorded to the best estimate of liability as of December 31, 2014.

The Company also completed the assignment of goodwill to reporting units and has determined that the goodwill is expected to be deductible for tax purposes to the extent the contingent consideration is paid.

Transaction costs directly related to the acquisition totaled approximately $778,000 for the year December 31, 2014, which were expensed and included in the consolidated statements of operations and comprehensive income (loss) within operating and other costs. There were no acquisition-related costs incurred during the year ended December 31, 2013.

Three former employees of Citizens who are now employees of the Company have minority interests in land and general contracting operations that are either under option or contract with Citizens which were disclosed, and approved by the Company as part of the Citizens Acquisition. During the year ended December 31, 2014, the Company purchased approximately $7.9 million of land pursuant to these options or contracts.

Pro Forma Financial Information - unaudited

The pro forma financial information in the table below summarizes the results of operations for the Company as though the acquisition was completed as of the beginning of fiscal year 2013. The pro forma financial information for all periods presented includes additional amortization charges from acquired intangible assets. The unaudited pro forma results do not reflect any cost savings, operating synergies or revenue enhancements that the Company may achieve as a result of the acquisition, the costs to integrate the operations of the assets acquired, or the costs necessary to achieve these cost savings, operating synergies and revenue enhancements. Certain other adjustments, including those related to conforming accounting policies and adjusting acquired inventory to fair value, have not been reflected in the supplemental pro forma operating results due to the impracticability of estimating such impacts.

The pro forma financial information as presented below is for informational purposes only and is not indicative of the results of operations that would have been achieved if the acquisitions had taken place at the beginning of fiscal 2013, or indicative of the results that will be attained in the future (in thousands):



	Year Ended December 31,
	2014			2013
Total revenues and other income	$	365,523		$	382,131
Net loss	$	(52,217	)	$	(23,315	)
Net loss per common share – basic and diluted:	$	(2.29	)	$	(1.03	)

Pro forma net income or loss for the year ended December 31, 2014, were adjusted to exclude approximately $778,000 of acquisition-related costs incurred during the year ended December 31, 2014. The pro forma net income or loss for year ended December 31, 2013, were adjusted to include these acquisition-related costs.

Business Combination with Spigit

At December 31, 2012, the Company owned 27% of the voting stock in Spigit and accordingly, recorded its investment as an unconsolidated affiliate using the equity method of accounting. However, the Company had not recorded any losses reported by Spigit since 2011, as previous losses had reduced the carrying value of the Company’s investment in Spigit to zero at December 31, 2011.

On January 31, 2013, the Company acquired additional common stock and series F voting preferred stock in Spigit in an initial transaction by obtaining newly issued shares directly from Spigit for $5 million and converting outstanding loans. Subsequent to the initial transaction, the Company invested an additional $5 million. As a result of these transactions, the Company increased its voting ownership in Spigit from 27% at December 31, 2012 to 73% during 2013. In accordance with applicable accounting guidance, the initial acquisition was accounted for using the business combination method of accounting and as such, the results of Spigit were included in the Company’s consolidated statement of operations and comprehensive income or loss starting on the date of acquisition.

The major classes of assets to which the Company preliminarily allocated the purchase price were goodwill of $5.1 million and identifiable intangible assets of $11 million.

The consideration transferred and the estimated fair values of net assets acquired and liabilities assumed is as follows. The fair values were determined using a market approach which considers the price at which comparable assets have been or are being purchased. This approach relies on recent transactions in the marketplace involving similar assets (in thousands):



Consideration transferred:
Cash paid and other consideration	$	6,156
Net assets acquired:
Cash	$	5,174
Goodwill	5,101
Intangible assets	10,976
Other assets	6,009
Total assets	27,260
Debt	(8,038		)
Accounts payable and accrued liabilities	(13,066		)
Total liabilities	(21,104		)
Net assets acquired	$	6,156

Deconsolidation of Spigit and Investment in Mindjet:

On September 10, 2013, Spigit was merged with Mindjet, another privately held enterprise software developer. Under the terms of the agreement, the Company exchanged its common and preferred shares in Spigit for common and preferred shares of Mindjet based on an agreed-upon exchange ratio. As a result of the merger transaction, the Company no longer owns a direct financial interest in Spigit and the Company’s investment in Mindjet is not a controlling interest. Therefore the Company deconsolidated the assets and liabilities of Spigit, and simultaneously recorded its investment in Mindjet at fair value, on the date of the merger.

The fair value of the Company’s investment in Mindjet was $28.7 million on the date of the merger which resulted in a $21.2 million gain before income taxes on the deconsolidation of Spigit that is reported in other income in the consolidated statements of operations and comprehensive income or loss for the year ended December 31, 2013. The Company recorded a deferred tax expense of $4.1 million related to the taxable temporary difference attributable to its investment in Mindjet, which is not expected to reverse within a period that would allow it to be offset by existing deductible temporary differences. Consequently, the Company has recorded a net deferred tax liability which is included in other liabilities at December 31, 2013.

The calculation of the gain is as follows (in thousands):



Fair value of total investment in Mindjet	$	28,679
Less: carrying amount of the investment in Spigit	(7,498		)
Gain on deconsolidation	$	21,181

Concurrent with the closing of the transaction, the Company recorded $2.2 million in compensation expense which reflected the fair value of Mindjet common shares, from the Company’s allocation of Mindjet common shares under the terms of the merger, which were provided by Mindjet as compensation to certain members of Spigit management. Such expense were included in operating and other costs in the consolidated statements of operations and comprehensive income or loss for the year ended December 31, 2013. The resulting carrying value of the Company’s investment in Mindjet, including the Company’s share of their losses to date was $25.9 million, which is included in investments in the December 31, 2013 consolidated balance sheet.