Mergers & Acquisitions, Capital Markets & Bank Valuation Update ICBA Community Bank Day May 20, 2014 Presented by: Thomas R. Mecredy.

Mergers & Acquisitions, Capital Markets& Bank Valuation Update

ICBA Community Bank DayMay 20, 2014

Presented by: Thomas R. Mecredy

2

Current M&A Environment

Key Factors Driving Community Bank M&A Gap in trading multiples between the big and small banks Failed bank deals have run the course Improved asset quality – reduced credit marks Challenging operating environment (loan growth, NIM

pressure) Slow organic revenue growth (and outlook for growth) Compliance costs are increasing Increased capital requirements Regulatory fatigue

3

Current M&A Environment

Pricing has been steadily improving & more deals have been announced at attractive premiums

Activity is increasing and “interest” in M&A is high Buyers are maintaining financial discipline Better performing banks are considering sale Strategic mergers are a viable alternative to sale

4

Industry Performance - 2013

Under$1 Billion Over $1 Billion

ROAA (1) 0.73% 0.91%

ROAE (1) 6.70% 8.50%

Net Interest Margin 3.31% 3.47%

Efficiency Ratio 71.57% 65.10%

Net Charge-Offs 0.13% 0.21%

Nonperforming Assets/Total Assets 1.25% 1.33%

Loan Loss Provision Expense 0.08% 0.11%

Tier 1 Leverage Ratio 10.20% 9.75%

Loan Growth Rate 3.3% 6.3%

Deposit Growth Rate 1.1% 2.9%

Median for all commercial & savings banks(1) S-Corporation companies adjusted to C-Corporation statusSource: SNL Financial

5

Acquisition Multiples Remain at Depressed Levels, but Improving

Source: SNL Financial

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

0.0

5.0

10.0

15.0

20.0

25.0

30.0

0.00

0.50

1.00

1.50

2.00

2.50

3.00

3.50

Acquisition Multiples for Bank & Thrift Transactions

Median Price/Earnings Median Core Deposit Premium Median Price/Book Median Price/Tang. Book

  2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013Median Price/Book (x) 2.02 2.03 2.06 2.15 2.04 1.58 1.14 1.16 1.02 1.12 1.18Median Price/Tang. Book (x) 2.05 2.13 2.18 2.27 2.18 1.62 1.15 1.22 1.05 1.16 1.25Median Price/Earnings (x) 23.5 23.3 22.8 23.1 22.8 23.4 18.3 22.2 25.2 18.8 19.1Median Core Deposit Premium (%) 13.7 15.5 17.0 18.6 15.6 9.4 1.7 3.0 0.3 2.4 3.3

6

Bank & Thrift Deal Count by Pricing

< 100% 100-125% 125-150% 150-175% 175-200% > 200%0

5

10

15

20

25

30

35

40

45

50

36 3540

159

7

Transactions Announced in 2013

Price / Tangible Book Value

Source: SNL Financial

Current M&A Environment

Consolidation is expected to be more at the smaller asset-size companies for a number of reasons including: Regulatory costs Larger relative number

(over 6,000 private companies, 41% of which are Sub S)

< $100M

$100M-$500M

$500M-$1B

$1B-$10B

$10B-$100B

$100B-$1T

>$1T

2,056

3,185

641

539

72

23

4

7

U.S. Banking Companies by Assets

8

Eight Year Trend in Number of Banks (‘05 to ‘13)

Source: SNL Financial

-900

-800

-700

-600

-500

-400

-300

-200

-100

0

100

200

300

$50M to $150M-810

$150M to $500M-64

$500M to $5 Billion160

Change in Number of Banks

9

What Drives Value

After reviewing the top 10% of deal values (based on the price to tangible book value) each year over the previous 11 years and noted the following key factors: Size Geography Performance (ROAA) Metro vs. rural markets Asset quality Deposit mix and deposits per branch

10

Current M&A Environment – Buyer Considerations

Does your company have the necessary acquisition currency, capital capacity and/or access to capital to acquire a bank?

Does your company have the necessary risk management acumen and best practice processes to integrate an acquisition target?

Are you in good standing with the regulators? Does your company have the human and technological platform in

place? Are you prepared to manage the risk of market extension or out-of-

market transactions? Does the board and management team have the level of

engagement, stamina and vision to focus on growth through M&A?

11

Consult Regulators Early

“New normal” for regulatory approvals You need to know what the issues are as early as possible

and preferably before a specific transaction is contemplated

Let regulators know about your appetite for deals; they should welcome discussion of what they will expect

Let regulators know about a specific transaction before it is “fully baked” Early feedback allows efficient mid-course corrections and

avoids bad surprises and needless delays

12

Hidden Costs of M&A Employment contracts Stock options Executive salary continuation agreements (SERP) BOLI Director retirement agreements (DRP) Key employees (pay to stay, severance pay, change-of-control payments) 280G tax issues Data processing break-up fees Problem loan sales Professional fees Merger run-off / employee pirating Mark to market issues (FAS 141R)

13

EPS Dilution/Accretion Analysis Compare stand-alone EPS to pro forma EPS post-acquisition Conventional wisdom: If pro forma EPS equals or exceeds stand-

alone EPS, then the deal has acceptable financial returns. Reality: EPS accretion does not necessarily mean that a deal has

acceptable financial returns

Example: An all cash deal that is EPS neutral/modestly accretive If you are spending/investing capital in a deal, it is important to

earn a return commensurate with the amount invested and risk of the deal. Purchase accounting requirements complicate this analysis.

14

Historical Earnings & Tangible Book Value Impacts

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

(15.00)

(10.00)

(5.00)

0.00

5.00

10.00

15.00

1.30.3

2.3 1.5 0.7

8.1

4.2

7.99.7

7.4

(0.7)

(11.7)

(8.8)(6.9)

(3.8)(2.0)

(4.3)(6.0)

(6.9)(5.7)

Announced Earnings Accretion Over Time

Median EPS Accretion (%) Median TBV Dilution (%)

15

Seller Dynamics Value if sold today taking into account:

Price to earnings multiples Price to book and tangible book multiples Price to deposits Premium on core deposits Discounted cash flow / earnings analysis Merging with a peer bank (strategic merger)

Ability to pay analysis Sell now / sell later analysis Other factors impacting sale decision:

− Liquidity needs− Slower growth / declining earnings− Management / staffing− Regulatory burden− Economic indicators

16

The Sales Process

Level of marketing / use of an adviser: Single party negotiations Limited auction process Full scale auction process

Key question: Can we get the same pricing and avoid the auction or limited auction process?

17

Current M&A Environment – Who will be the Sellers?

Frequently a member of the family that founded the bank Family legacy over many generations

Often has spent most of their working career in this bank Bank represents a significant portion of their retirement funds

and estate Typically over 65 years old Many times health is an issue Proud of their accomplishments Important members of the community Current generation is not as committed as earlier generation

18

Typical Pricing Terms

Cash Transaction ExampleFixed Price plus Interim Earnings:

Interim earnings are typically from the date (quarter end) of original offer through closing

Interim earnings excludes (or prohibits) nonrecurring gains Carve-out for transaction related costs (professional fees, contract

termination fees, CIC/severance payments, etc.)Fixed Price with Minimum Equity Provision:

Minimum equity typically established as of the most recent quarter or month end prior to agreement

Minimum equity can be a price adjustment or a closing condition Carve-out for transaction related costs (professional fees, contract

termination fees, CIC/severance payments, etc.)

19

Strategic Mergers-Typical Characteristics

Typically an all stock exchange - sometimes involves a special dividend/cash payment to equate value

Ownership split is driven by relative value contribution with little to no premium paid to either party

Value creation comes from shared cost savings, synergies and other value enhancement of the combined company

Negotiation “one-off deal” – not a competitive bid process Equal or proportionate (to share ownership) representation

on the board and senior management team “Best practices” philosophy often followed with other areas

20

Strategic Mergers are Difficult to Accomplish

Financial issues: The exchange of equity at a price that is potentially not the

highest possible price All members of both boards have to be aligned with strategic

merits of combination If there is an obvious third party that can pay a significant

premium, the likelihood of success is limited Transaction is difficult to protect with customary deal

protections

21

Scarcity of Strategic Mergers

Total M&A Deals Since 2002 2,603

Strategic Mergers (1) 52

% of Total 2.0%

Mergers of Equals (2) 29

% of Total 1.1%

(1) As defined by SNL Financial.(2) Strategic mergers in which the relative assets of the parties is no more

than 60%/40%.

22

Strategic Mergers

Improves EPS accretion via cost and / or revenue savings

Improves geographic scope, product mix and / or management – fills strategic void

Builds critical mass and expands or preserves the franchise

Diversifies and adds granularity to loan portfolio and funding base

May fail to create business line and product scope Requires compromise on business and social issues, including: Business model CEO / CEO responsibilities Chairman / Chairman responsibilities Responsibilities of CFO and other senior management Board composition / representation Headquarters location Name of holding company Name of bank subsidiaries Sharing of cost savings Where to “cut the pie” No or low premiums can discourage shareholders, especially

if banks were acquirable One party ultimately loses voting control – for no / less

premium

Advantages Disadvantages

Branch Transaction Summary

23

Source: SNL Financial

2005 2006 2007 2008 2009 2010 2011 2012 2013

0

20

40

60

80

100

120

86

105

7165

79 78 8389

78

Number of Transactions

2005 2006 2007 2008 2009 2010 2011 2012 2013

0.00%1.00%2.00%3.00%4.00%5.00%6.00%7.00%8.00%9.00%

7.3% 7.0%7.8%

5.0%

3.3% 3.4%2.8%

2.2% 2.4%

Franchise Premium

2005 2006 2007 2008 2009 2010 2011 2012 2013

$0.0

$5.0

$10.0

$15.0

$20.0

$25.0

$3.0

$7.3

$3.3 $2.9

$12.2

$5.5

$20.7

$12.7

$8.7

Deposits Transferred ($ in Billions)

Northeast-57%

Mid-Atlantic-57%

Southeast-1521%

Midwest-2940%

Southwest-913%

West-1013%

Branch Transactions by Region 2013

24

Bank Equity Market Performance

2013 Review / 2014 Outlook Strong equity market performance in 2013 Banks over $1 billion were up 83% in 2013 and 122% since 2011 Banks under $1 billion were up 37% in 2013 and 60% since 2011 Banks over $1 billion trade at 69% price/tangible book premium and 17%

price/earnings premium to smaller banks Pricing differential supported by underlying financial performance Valuations are now approaching “intrinsic value” – but not overvalued More room for bank stocks to increase, but significant equity market gains

are behind us Valuation gap for “strong” and “weak” banks will increase Banks with strong performance and currencies will dominate M&A

25

Bank Equity Market Performance

2006 2007 2008 2009 2010 2011 2012 20130%

50%

100%

150%

200%

250%

300%

239%

180%

146%

120%131%

108%121%

155%155%

125%

88%75% 74% 67%

76%92%

Median Price / Tangible Book Value

> $1 Bill < $1 Bill

2006 2007 2008 2009 2010 2011 2012 20135.0

10.0

15.0

20.0

16.7

13.8

14.815.5 15.4

13.212.6

15.916.7

16.0

13.9 14.1 14.1

12.1 12.0

13.6

Median Price / LTM EPS

> $1 Bill < $1 Bill

Source: SNL Financial

26

Conclusion Asset quality concerns are near pre-cycle levels Growth/earnings growth is now driving pricing Still a buyer’s market in most areas of the U.S. Rising rates will again make deposits attractive Negotiated transactions are becoming favored, which allows sellers to pick

a buyer with the most upside/best currency Strategic mergers will continue, but will remain difficult Diminished importance of branch network EPS accretion and synergies are most important Challenges of scale for small banks and challenges of regulation for the

largest banks will create a “sweet spot” from a valuation standpoint Focus on tangible book value dilution and immediate EPS accretion and

earn-back period when pricing a deal

Thank You

27

Thomas R. MecredyVining Sparks Community Bank Advisory Group

[email protected]

Intended for institutional investors only. Although the information included in this report has been obtained from sources we believe to be reliable, we do not guarantee its accuracy. All opinions expressed in this report constitute the judgments as of the dates indicated and are subject to change without notice. This report is for informative purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any product. The accuracy of the financial projections is dependent on the occurrence of future events which cannot be assured; therefore, the actual results achieved during the projection period may vary from the projections. Member FINRA/SIPC.