Business Combination

On October 1, 2018, the Company completed the South Sound Acquisition. The primary reason for the acquisition was to expand the Company's presence along Washington State's economically important I-5 corridor.

Pursuant to the terms of the merger agreement, South Sound Bank shareholders received 0.746 of a share of the Company's common stock and $5.68825 in cash per share of South Sound Bank common stock. The Company issued 904,826 shares of its common stock (valued at $28,267,000 based on the Company's closing stock price on September 30, 2018 of $31.24 per share) and paid $6,903,000 in cash in the transaction for total consideration paid of $35,170,000.

The South Sound Acquisition constitutes a business combination as defined by GAAP, which establishes principles and requirements for how the acquirer in a business combination recognizes and measures in its financial statements the identifiable assets acquired and liabilities assumed. The Company was considered the acquirer in this transaction. Accordingly, the estimated fair values of the acquired assets, including the identifiable intangible assets, and the assumed liabilities in the South Sound Acquisition were measured and recorded as of October 1, 2018. The excess of the total consideration paid over the fair value of the net assets acquired was allocated to goodwill. The South Sound Acquisition resulted in $9,481,000 of goodwill. The goodwill arising from this transaction consists largely of the synergies and expected economies of scale from combining the operations of the Company and South Sound Bank. This goodwill is not deductible for tax purposes.

In most instances, determining the estimated fair values of the acquired assets and assumed liabilities requires the Company to estimate cash flows expected to result from those assets and liabilities and to discount those cash flows at the appropriate rate of interest. Differences may arise between contractually required payments and the expected cash flows at the acquisition date due to items such as estimated credit losses, prepayments or early withdrawal, and other factors. One of the most significant of those determinations relates to the valuation of acquired loans. For such loans, the excess of cash flows expected at acquisition over the estimated fair value is recognized as interest income over the remaining lives of the loans. In accordance with GAAP, there was no carry-over of South Sound Bank's previously established allowance for loan losses.

The following table summarizes the fair value of consideration paid, the estimated fair values of assets acquired and liabilities assumed as of the acquisition date, and the resulting goodwill relating to the transaction:



	At October 1, 2018
	Book Value		Fair Value Adjustment			Estimated Fair Value
	(Dollars in thousands)
Total acquisition consideration						$	35,170

Recognized amounts of identifiable assets acquired and liabilities assumed
Identifiable assets acquired:
Cash and cash equivalents	$	21,187	$	—		21,187
CDs held for investment	2,973		—			2,973
FHLB stock	205		—			205
Investment securities held to maturity	19,891		(189		)	19,702
Investment securities available for sale	5,022		—			5,022
Loans receivable	123,627		(2,083		)	121,544
Premises and equipment	3,225		112			3,337
OREO	25		—			25
Accrued interest receivable	554		—			554
BOLI	2,629		—			2,629
CDI	—		2,483			2,483
Servicing rights	285		(4		)	281
Other assets	1,087		(511		)	576
Total assets	180,710		(192		)	180,518

Liabilities assumed:
Deposits	151,378		160			151,538
Other liabilities and accrued expenses	3,291		—			3,291
Total liabilities assumed	154,669		160			154,829
Total identifiable net assets acquired	$	26,041	$	(352	)	25,689
Goodwill recognized						$	9,481

The acquired loan portfolio was valued using Level 3 inputs (see Note 21) and included the use of present value techniques, including cash flow estimates and incorporated assumptions that the Company believes marketplace participants would use in estimating fair values.

The operating results of the Company for the year ended September 30, 2019 include the operating results produced by the net assets acquired in the South Sound Acquisition since the October 1, 2018 acquisition date. The Company determined that the disclosure requirements related to the amounts of revenues and earnings from the net assets acquired in the South Sound

Acquisition since the October 1, 2018 acquisition date is impracticable. The financial activity and operating results of the net assets acquired in the South Sound Acquisition were commingled with the Company's financial activity and operating results as of the acquisition date.

For illustrative purposes only, the following table presents certain unaudited pro forma information for the years ended September 30, 2019 and 2018. This unaudited estimated pro forma information was calculated as if South Sound Bank had been acquired as of the beginning of the fiscal year ended September 30, 2018. The unaudited estimated pro forma information combines the historical results of South Sound Bank with the Company's consolidated historical results and includes certain adjustments reflecting the estimated impact of certain fair value adjustments for the respective periods. The pro forma information is not indicative of what would have occurred had the transaction occurred at the beginning of the fiscal year ended September 30, 2018. The unaudited pro forma information does not consider any changes to the provision for loan losses resulting from recording loans at fair value. Additionally, the Company expects to achieve further operating cost savings and other business synergies, including revenue growth as a result of the acquisition, which are not reflected in the pro forma amounts that follow. As a result, actual amounts would have differed from the unaudited pro forma information presented.



	Pro Forma for the Year Ended September 30,
	2019		2018
	(Dollars in thousands, except per share amounts)
Total revenues (net interest income plus non-interest income)	$	65,501	$	59,184
Net income	24,385		18,825
Basic net income per common share	2.93		2.28
Diluted net income per common share	2.88		2.23

During the year ended September 30, 2019, the Company incurred acquisition-related expenses of $462,000 related to the South Sound Acquisition, of which $317,000 is included in data processing and telecommunications and $145,000 is included in professional fees in the accompanying consolidated statements of income. During the year ended September 30, 2018, the Company incurred acquisition-related expenses of $616,000 related to the South Sound Acquisition, which are all included in professional fees in the accompanying consolidated statement of income. South Sound Bank incurred acquisition-related expenses of $1,598,000 for the fiscal year ended September 30, 2018 related to the South Sound Acquisition. The acquisition-related expenses incurred by the Company and South Sound Bank are not included in the unaudited pro forma information presented for the years ended September 30, 2019 and 2018.