Note 3 - Bank Acquisitions

12 Months Ended

Dec. 31, 2022

Notes to Financial Statements

Business Combination Disclosure [Text Block]

(3) Bank Acquisitions

Commonwealth Bancshares, Inc.

On March 7, 2022, Bancorp completed its acquisition of Commonwealth Bancshares, Inc. in a combined stock and cash transaction for total consideration of $168 million. Bancorp acquired 15 retail branches, including nine in Jefferson County, four in Shelby County, and two in Northern Kentucky.

Effective December 31, 2022, management finalized the fair values of the acquired assets and assumed liabilities in advance of the 12 month post-acquisition date, as allowed by GAAP.

The following table provides a summary of the fair value of the assets acquired and liabilities assumed by Bancorp as of the acquisition date, the previously reported preliminary fair value adjustments necessary to adjust those acquired assets and assumed liabilities to fair value, final provisional period adjustments to those previously reported preliminary values, and the final fair values of those assets and liabilities as recorded by Bancorp.

	As Recorded			Fair Value				Classification			Provisional Period		As Recorded
(in thousands)	By CB			Adjustments (1)				Adjustments (2)			Adjustments (1)		by Bancorp
Assets aquired:
Cash and due from banks	$	380,450		$	—			$	—		$	—	$	380,450
Mortgage loans held for sale		3,559			—				—			—		3,559
Available for sale debt securities		247,209			(416	)	a		(161,819	)		—		84,974
Held to maturity debt securities (2)		—			—		a		161,819			—		161,819
Federal Home Loan Bank stock, at cost		4,436			—				—			—		4,436
Loans		645,551			(13,147	)	b		—			—		632,404
Allowance for credits losses on loans		(16,102	)		6,152		c		—			—		(9,950	)
Net loans		629,449			(6,995	)			—			—		622,454
Premises and equipment, net		28,784			4,009		d		—			—		32,793
Accrued interest receivable		1,973			—				—			—		1,973
Goodwill		5,412			(5,412	)	e		—			—		—
Core deposit intangible		—			12,724		f		—			—		12,724
Customer list intangibles		—			14,360		g		—			—		14,360
Mortgage servicing rights		9,387			3,289		h		—			—		12,676
Deferred income taxes, net		—			(3,727	)	i		—			—		(3,727	)
Other assets		9,389			(1,065	)	j		—			—		8,324
Total assets acquired	$	1,320,048		$	16,767			$	-		$	-	$	1,336,815
Liabilities assumed:
Deposits:
Non-interest bearing	$	302,098		$	—			$	—		$	—	$	302,098
Interest bearing		818,334			371		k		—			—		818,705
Total deposits		1,120,432			371				—			—		1,120,803
SSUAR		66,220			—				—			—		66,220
Subordinated debentures		26,806			(794	)	l		—			—		26,012
Line of credit		3,200			—				—			—		3,200
Accrued interest payable		243			—				—			—		243
Other liabilities		17,822			1,296		m		—			—		19,118
Total liabilities assumed		1,234,723			873				—			—		1,235,596
Net assets acquired	$	85,325		$	15,894			$	-		$	-	$	101,219
Consideration for common stock													$	133,825
Cash consideration paid														30,994
Noncontrolling interest of acquired entity														3,094
Total consideration													$	167,913
Goodwill													$	66,694

(1) See the following page for explanations of individual fair value/provisional period adjustments.

(2) As of acquisition date, securities with a fair value of $162 million were classified by Bancorp as HTM.

Explanation of fair value/provisional period adjustments:

a. Adjustment to investment securities based on Bancorp’s evaluation of the acquired portfolio.

b. Adjustments to loans to reflect estimated fair value adjustments, including the following:

(in thousands)
Fair value adjustment - acquired non PCD loans	$	(9,216	)
Fair value adjustment - acquired PCD loans		(4,094	)
Eliminate unrecognized loan fees on acquired loans and fair value hedge		163
Net loan fair value adjustments	$	(13,147	)

c. The net adjustment to allowance for credit losses includes the following:

(in thousands)
Reversal of historical CB ACL for loans	$	(16,102	)
Estimate of lifetime credit losses for PCD loans		9,950
Net change in ACL for loans	$	(6,152	)

d. Adjustment to premises and equipment to reflect the estimated fair value of acquired premises and equipment and right of use assets.

e. Elimination of the historical CB goodwill.

f. Calculation of CDI related to the acquisition.

g. Calculation of CLI related to the acquisition.

h. Adjustment to reflect the estimated fair value of MSRs.

i. Adjustment to net DTAs associated with the effects of the purchase accounting adjustments.

j. Adjustment to other assets to reflect the estimated fair value of prepaid and other assets.

k. Adjustment to deposits to reflect the estimated fair value of time deposits in interest rates, which was based on an analysis of market interest rates and maturity dates at the time of acquisition.

l. Adjustment to reflect the estimated fair value of subordinated debentures for differences in interest rates, which was based primarily on an analysis of market interest rates and maturity dates at the time of acquisition.

m. Adjustment to other liabilities to establish the reserve for unfunded loan commitments under CECL, operating lease liabilities and various accrual adjustments.

Goodwill of approximately $67 million, which is the excess of the acquisition consideration over the fair value of net assets acquired, was recorded in the CB acquisition and is the result of expected operational synergies and other factors. This goodwill is attributable to the Company’s Commercial Banking and Wealth Management & Trust segments. Goodwill related to the CB acquisition is not deductible for tax purposes, as the transaction was structured as a stock sale. To the extent that management revises any of the above fair value adjustments as a result of its continuing evaluation, the amount of goodwill recorded in the CB acquisition will change.

Loans acquired that were not subject to guidance relating to PCD loans include loans with a fair value and gross contractual amounts receivable of $540 million and $549 million at the date of acquisition.

Total revenue, defined as net interest income and non-interest income, attributed to CB totaled approximately $38.6 million for the year ended December 31, 2022, respectively.

The following unaudited pro forma condensed combined financial information presents the results of operations of Bancorp, including the effects of the purchase accounting adjustments and acquisition expenses, had the CB acquisition taken place at the beginning of the period. Further, the pro forma condensed combined financial information presented below for the year ended December 31, 2021 also assumes that the KB acquisition, which actually occurred on May 31, 2021, took place at the beginning of the period.

(in thousands, except per share data) Years ended December 31,	2022		2021
Net interest income	$	238,416	$	218,376
Provision for credit losses (1)		5,828		(7,667	)
Non-interest income		92,089		123,530
Non-interest expense (2)		182,783		200,941
Income before taxes		141,894		148,632
Income tax expense		32,212		31,443
Net income		109,682		117,189
Less net income attributed to noncontrolling interest		337		362
Net income available to stockholders	$	109,345	$	116,827
Earnings per share
Basic	$	3.75	$	4.02
Diluted		3.72		3.99
Basic weighted average shares outstanding		29,122		29,037
Diluted weighted average shares outstanding		29,386		29,295

(1) - Excludes $4.4 million in merger related credit loss expense for the year ended December 31, 2022. Excludes $7.4 million in merger related credit loss expense for the year ended December 31, 2021.

(2) - Excludes $24.1 million in pre-tax merger expenses for the year ended December 31, 2022. Excludes $18.5 million in pre-tax merger expenses for the year ended December 31, 2021.

Kentucky Bancshares, Inc.

On May 31, 2021, Bancorp completed its acquisition of Kentucky Bancshares, Inc. in a combined stock and cash transaction for total consideration of $233 million. Bancorp acquired 19 branches in 11 communities throughout central and eastern Kentucky, including the Lexington, Kentucky metropolitan statistical area and contiguous counties, and also acquired a captive insurance subsidiary.

Effective March 31, 2022, management finalized the fair values of the acquired assets and assumed liabilities in advance of the 12 month post-acquisition date, as allowed by GAAP.

The following table provides a summary of the fair value of the assets acquired and liabilities assumed by Bancorp as of the acquisition date, the previously reported preliminary fair value adjustments necessary to adjust those acquired assets and assumed liabilities to fair value, final provisional period adjustments to those previously reported preliminary values, and the final fair values of those assets and liabilities as recorded by Bancorp.

	As Recorded			Fair Value				Provisional Period				As Recorded
(in thousands)	By KB			Adjustments (1)				Adjustments (1)				by Bancorp
Assets aquired:
Cash and due from banks	$	53,257		$	—			$	—			$	53,257
Mortgage loans held for sale		3,071			—				—				3,071
Available for sale debt securities		396,157			(295	)	a		—				395,862
Federal Home Loan Bank stock, at cost		7,072			—				—				7,072
Loans		755,932			(757	)	b		—				755,175
Allowance for credits losses on loans		(9,491	)		2,734		c		—				(6,757	)
Net loans		746,441			1,977				—				748,418
Premises and equipment, net		27,401			(6,361	)	d		—				21,040
Bank owned life insurance		18,909			—				—				18,909
Accrued interest receivable		4,939			—				—				4,939
Goodwill		14,001			(14,001	)	e		—				—
Core deposit intangible		—			3,404		f		999		f		4,403
Other real estate owned		674			(123	)	g		—				551
Mortgage servicing rights		1,628			34		h		—				1,662
Deferred income taxes, net		1,856			715		i		(230	)	i		2,341
Other assets		6,421			(1,866	)	j		(70	)	j		4,485
Total assets acquired	$	1,281,827		$	(16,516	)		$	699			$	1,266,010
Liabilities assumed:
Deposits:
Non-interest bearing	$	359,544		$	—			$	—			$	359,544
Interest bearing		678,528			1,146		k		—				679,674
Total deposits		1,038,072			1,146				—				1,039,218
Securities sold under agreements to repurchase		11,360			—				—				11,360
Federal Home Loan Bank advances		88,581			2,490		l		—				91,071
Accrued interest payable		505			—				—				505
Other liabilities		16,231			(2,004	)	m		—				14,227
Total liabilities assumed		1,154,749			1,632				—				1,156,381
Net assets acquired	$	127,078		$	(18,148	)		$	699			$	109,629
Consideration for common stock												$	204,670
Cash consideration paid													28,276
Total consideration												$	232,946
Goodwill												$	123,317

(1) See the following page for explanations of individual fair value/provisional period adjustments.

Explanation of fair value/provisional period adjustments:

a. Adjustment based on Bancorp’s evaluation of the acquired investment portfolio. Bancorp sold approximately $91 million in AFS debt securities shortly after acquisition.

b. Adjustments to loans to reflect estimated fair value adjustments, including the following:

(in thousands)
Fair value adjustment - acquired non PCD loans	$	228
Fair value adjustment - acquired PCD loans		(735	)
Eliminate unrecognized loan fees on acquired loans and fair value hedge		(250	)
Net loan fair value adjustments	$	(757	)

c. The net adjustment to allowance for credit losses includes the following:

(in thousands)
Reversal of historical KB ACL for loans	$	9,491
Estimate of lifetime credit losses for PCD loans		(6,757	)
Net change in ACL for loans	$	2,734

d. Adjustment to premises and equipment to reflect the estimated fair value of acquired premises and equipment and right of use assets.

e. Elimination of the historical KB goodwill.

f. Calculation of CDI related to the acquisition. During the third quarter of 2021, a provisional period adjustment of $999,000 was recorded based on revised inputs used in the CDI calculation.

g. Adjustment to reflect the estimated fair value of other real estate owned.

h. Adjustment to reflect the estimated fair value of MSRs.

i. Adjustment to net DTAs associated with the effects of the purchase accounting adjustments.

j. Adjustment to other assets to reflect the estimated fair value of prepaid and other assets. During the third quarter of 2021, a provisional period adjustment of $70,000 was recorded for the write off of miscellaneous mortgage servicing fees.

k. Adjustment to deposits to reflect the estimated fair value of time deposits in interest rates, which was based on an analysis of market interest rates and maturity dates at the time of acquisition.

l. Adjustment to reflect the estimated fair value of FHLB advances for differences in interest rates, which was based primarily on an analysis of current market interest rates and maturity dates. All KB FHLB advances were paid off immediately after acquisition.

m. Adjustment to other liabilities to establish the reserve for unfunded loan commitments under CECL, operating lease liabilities and various accrual adjustments.

Goodwill of approximately $123 million, which is the excess of the acquisition consideration over the fair value of net assets acquired, was recorded in the KB acquisition and is the result of expected operational synergies and other factors. This goodwill is all attributable to the Company’s Commercial Banking segment. Goodwill related to the KB acquisition is not deductible for tax purposes, as the transaction was structured as a stock sale.

Loans acquired that were not subject to guidance relating to PCD loans include loans with a fair value and gross contractual amounts receivable of $724 million and $723 million at the date of acquisition.

Total revenue, defined as net interest income and non-interest income, attributed to KB totaled approximately $27.0 million for the year ended December 31, 2021, respectively.

The following unaudited pro forma condensed combined financial information presents the results of operations of Bancorp, including the effects of the purchase accounting adjustments and acquisition expenses, had the KB acquisition taken place at the beginning of 2021:

(in thousands, except per share data) Years ended December 31,	2021
Net interest income	$	185,708
Provision for credit losses (1)		(7,967	)
Non-interest income		72,308
Non-interest expense (2)		140,508
Income before taxes		125,475
Income tax expense		26,406
Net income		99,069
Earnings per share
Basic	$	3.74
Diluted		3.70
Basic weighted average shares outstanding		26,522
Diluted weighted average shares outstanding		26,780

(1) - Excludes $7.4 million in merger related credit loss expense for the year ended December 31, 2021.

(2) -  Excludes $18.1 million in pre-tax merger expenses for the year ended December 31, 2021.