Business Combination

6 Months Ended

Jun. 30, 2020

Business Combination

Business Combination

NOTE 2:  Business Combination

On January 1, 2020, the Corporation completed its acquisition of Peoples.  Peoples shareholders received 0.5366 shares of the Corporation’s common stock and $27.00 in cash for each share of Peoples common stock, with cash paid in lieu of any fractional shares of the Corporation’s common stock.  In connection with the transaction, the Corporation paid aggregate cash consideration of $10.58 million and issued 209,871 shares of its common stock to the shareholders of Peoples.  

The Corporation accounted for the acquisition using the acquisition method of accounting in accordance with ASC 805, Business Combinations. Under the acquisition method of accounting, the assets acquired and liabilities assumed in the acquisition and the common stock of the Corporation issued as consideration were recorded at their respective acquisition date fair values. Determining the fair value of assets and liabilities, particularly related to the loan portfolio, is inherently subjective and involves significant judgment regarding the methods and assumptions used to estimate fair value.  During the measurement period, the acquirer shall adjust the amounts recognized at the acquisition date and may recognize additional assets or liabilities to reflect new information obtained from facts and circumstances that existed as of the acquisition date that, if known, would have affected the measurement of the amounts recognized as of that date.  Measurement period adjustments are recognized in the reporting period in which they are determined.  The measurement period may not exceed one year from the acquisition date.  

The following table presents as of January 1, 2020 the total consideration paid by the Corporation in connection with the acquisition of Peoples, the fair values of the assets acquired and liabilities assumed, and the resulting goodwill.

	Amounts
	Recognized as of
(Dollars in thousands)	January 1, 2020
Purchase price:
Cash paid	$	10,579
Common stock issued		11,612
Total purchase price	$	22,191
Identifiable assets acquired:
Cash and cash equivalents	$	29,680
Securities available for sale		17,169
Loans		124,195
Accrued interest receivable		430
Corporate premises and equipment		3,105
Other real estate owned		281
Core deposit intangible asset		1,711
Bank-owned life insurance		3,591
Investment in small business investment company		1,493
Other receivables		5,234
Other assets		3,658
Total identifiable assets acquired		190,547
Identifiable liabilities assumed:
Demand and savings deposits		94,798
Time deposits		77,018
Borrowings		4,245
Accrued interest payable		260
Salaries, benefits and deferred compensation		2,054
Other liabilities		747
Total identifiable liabilities assumed		179,122
Net identifiable assets assumed	$	11,425
Goodwill resulting from acquisition	$	10,766

In connection with the acquisition, the Corporation recorded approximately $10.77 million of goodwill and $1.71 million of other intangible assets related to the core deposits of Peoples.  The goodwill arising from the acquisition of Peoples is not deductible for income taxes.  The core deposit intangible asset (CDI) will be amortized over a period of 15 years using a declining balance method.

Loans acquired from Peoples had aggregate outstanding principal of $131.92 million and an estimated fair value of $124.20 million.  The discount between the outstanding principal balance and fair value represents expected credit losses and adjustments for market interest rates.  Under the acquisition method, the allowance for loan losses recorded in the books of Peoples in the amount of $2.87 million was not carried over into the books of the Corporation.  Loans that have evidence of deterioration in credit quality since origination are categorized as purchased credit impaired (PCI).  PCI loans acquired from Peoples included medical student loans with an outstanding principal balance of $4.28 million and a fair value of $635,000 at January 1, 2020, which were purchased by Peoples and the performance of which was previously backed by surety bonds.  The surety bonds were terminated in 2018 when the issuer of the bond was placed into liquidation by its insurance regulator, and replacement surety bond coverage has not been obtained.

Information about PCI loans acquired from Peoples as of January 1, 2020 is as follows:

(Dollars in thousands)	January 1, 2020
Contractual principal and interest due	$	20,310
Nonaccretable difference		(7,679)
Expected cash flows		12,631
Accretable yield		(3,372)
Purchase credit impaired loans - estimated fair value	$	9,259

Fair values of the major categories of assets acquired and liabilities assumed were determined as follows:

Loans:  The acquired loans were recorded at fair value at the acquisition date without carryover of People's allowance for loan losses. The fair value of the loans was determined using market participant assumptions in estimating the amount and timing of both principal and interest cash flows expected to be collected on the loans and then discounting those cash flows based on a discount rate that would be required by a market participant. In this regard, the acquired loans were segregated into pools based on loan type and credit risk. Loan type was determined based on collateral type, loan purpose and loan structure. Credit risk characteristics included risk rating groups (pass rated loans and adversely classified loans), updated loan-to-value ratios and lien position, and past loan performance. For valuation purposes, these pools were further disaggregated by maturity and pricing characteristics (e.g., fixed-rate, adjustable-rate, balloon maturities).

Core Deposit Intangible: The fair value of the CDI was determined based on a discounted cash flow analysis using a discount rate based on the estimated cost of equity capital for a market participant. To calculate cash flows, deposit account servicing costs (net of deposit fee income) and interest expense on deposits were compared to the cost of alternative funding sources available through the FHLB. The life of the deposit base and projected deposit attrition rates were determined using Peoples’ historical deposit data. The CDI was estimated at $1.71 million or 1.8% of non-maturity deposits.

Deposits:  The fair value adjustment of deposits represents a premium over the value of the contractual repayments of fixed-maturity deposits using prevailing market interest rates for similar term certificates of deposit. The resulting estimated fair value adjustment of certificates of deposit ranging in maturity from three months to five years is a $557,000 premium and is being amortized into income over a period of two years.

The following table presents certain unaudited pro forma information as if the acquisition had taken place on January 1, 2019. These results combine the historical results of Peoples and the Corporation for the period prior to the merger.  While certain adjustments were made for estimated effects resulting from the application of the acquisition method, including certain fair value adjustments, this pro forma information is not indicative of what would have occurred had the acquisition actually taken place on January 1, 2019. Pro forma adjustments for the three and six months ended June 30, 2019 include the net impact of accretion of loan discounts related to market interest rates, amortization of premiums on deposits and borrowings, amortization of intangible assets and related income taxes.  Unaudited pro forma net income for the three and six months ended June 30, 2019 include after tax merger related expenses of $28,000 recorded by Peoples, or $(0.01) per share.  Additionally, the Corporation expects to achieve further operational cost savings and other efficiencies as a result of the acquisition which are not reflected in the unaudited pro forma amounts below.

	Unaudited Pro Forma		Unaudited Pro Forma
	Three Months Ended		Six Months Ended
(Dollars in thousands, except per share amounts)	June 30, 2019		June 30, 2019
Total revenues (net interest income plus nonintererest income)	$	30,808	$	59,463
Net income	$	5,969	$	10,258
Net income per share, basic and diluted	$	1.63	$	2.78

The revenue and earnings amounts specific to Peoples since the acquisition date that are included in the consolidated results for 2020 are not readily determinable.  The disclosures of these amounts are impracticable due to the merging of certain processes and systems at the acquisition date.

Merger related expenses associated with the acquisition of Peoples were $439,000 ($347,000 after income taxes) for the three months ended June 30, 2020, $1.40 million ($1.13 million after income taxes) for the six months ended June 30, 2020 and $2.10 million ($1.78 million after income taxes) in the aggregate through June 30, 2020.  There were no merger related expenses during the three and six months ended June 30, 2019.  These costs included the integration of systems and operations and legal and consulting expenses, which have been expensed as incurred.  The Corporation believes that any further merger related expenses incurred in future periods will not be significant to the Corporation as a whole.