Business Combinations

Sterling Financial Corporation

As of the close of business on April 18, 2014, the Company completed its merger with Sterling Financial Corporation, a Washington corporation ("Sterling"). The results of Sterling's operations are included in the Company's financial results beginning April 19, 2014 and the combined company's banking operations are operating under the Umpqua Bank name and brand.

The structure of the transaction was as follows:


•	Sterling merged with and into the Company (the "Merger" or the "Sterling merger") with the Company as the surviving corporation in the Merger;


•	Immediately following the Merger, Sterling's wholly owned banking subsidiary, Sterling Savings Bank merged with and into the Bank (the "Bank Merger"), with the Bank as the surviving bank in the Bank Merger;


•	Holders of shares of common stock of Sterling had the right to receive 1.671 shares of the Company's common stock and $2.18 in cash for each share of Sterling common stock;


•	Each outstanding warrant issued by Sterling converted into a warrant exercisable for 1.671 shares of the Company's common stock and $2.18 in cash for each warrant when exercised;


•	Each outstanding option to purchase a share of Sterling common stock converted into an option to purchase 1.7896 shares of Company's common stock, subject to vesting conditions; and


•	Each outstanding restricted stock unit in respect of Sterling common stock converted into a restricted stock unit in respect of 1.7896 shares the Company common stock, subject to vesting conditions.

A summary of the consideration paid, the assets acquired and liabilities assumed in the Merger are presented below:



(in thousands)
	Sterling
	April 18, 2014
Fair value of consideration to Sterling shareholders:
Cash paid			$	136,200
Liability recorded for warrants' cash payment per share			6,453
Fair value of common shares issued			1,939,497
Fair value of warrants, common stock options, and restricted stock exchanged			50,317
Total consideration			2,132,467
Fair value of assets acquired:
Cash and cash equivalents	$	253,067
Investment securities	1,378,300
Loans held for sale	215,208
Non-covered loans and leases	7,122,989
Premises and equipment	124,881
Residential mortgage servicing rights	62,770
Other intangible assets	54,562
Non-covered other real estate owned	8,140
Bank owned life insurance	193,246
Deferred tax asset	295,371
Accrued interest receivable	23,553
Other assets	147,338
Total assets acquired	9,879,425
Fair value of liabilities assumed:
Deposits	7,086,052
Securities sold under agreements to repurchase	584,746
Term debt	854,737
Junior subordinated debentures	156,171
Other liabilities	80,679
Total liabilities assumed	$	8,762,385
Net assets acquired			1,117,040
Preliminary goodwill			$	1,015,427

Amounts recorded are preliminary estimates of fair value. The primary reason for the Merger was to continue the Company's growth strategy, including expanding our geographic footprint in markets throughout the West Coast. All of the goodwill recorded has been attributed to the Community Banking segment and reporting unit. None of the goodwill will be deductible for income tax purposes.

Subsequent to acquisition, the Company repaid securities sold under agreements to repurchase acquired of $500.0 million, funded through the sale of acquired investment securities in the second quarter of 2014. On June 20, 2014, the Company completed the required divestiture of six stores acquired in the Merger to another financial institution. The divestiture of the six stores included $211.5 million of deposits and $88.3 million of loans. The assets were sold at a discount of $7.0 million, which was recorded by Sterling prior to the merger.

As of April 18, 2014, the unpaid principal balance on purchased non-impaired loans was $7.0 billion. The fair value of the purchased non-impaired loans was $6.7 billion, resulting in a discount of $230.5 million being recorded on these loans.

The following table presents the acquired purchased impaired loans as of the acquisition date:



(in thousands)	Purchase impaired
Contractually required principal payments	$	604,136
Nonaccretable difference	(95,614		)
Cash flows expected to be collected	508,522
Accretable yield	(110,757		)
Fair value of purchased non-covered impaired loans	$	397,765

The operations of Sterling are included in our operating results beginning on April 19, 2014, and contributed the following net interest income, provision for loan losses, non-interest income and expense, income tax benefit, and net income for the three and six months ended June 30, 2014.



(in thousands)	Sterling Stand-alone
	Three Months Ended			Six Months Ended
	June 30, 2014			June 30, 2014
Net interest income	$	101,254		$	101,254
Provision for loan losses	7,735			7,735
Non-interest income	22,302			22,302
Non-interest expense, excluding merger expense	65,132			65,132
Merger expense	57,531			57,531
Income tax benefit	1,101			1,101
Net loss	$	(5,741	)	$	(5,741	)

The following table provides a breakout of Merger related expense for the three and six months ended June 30, 2014.



(in thousands)
	Three Months Ended		Six Months Ended
	June 30, 2014		June 30, 2014
Personnel	$	15,075	$	15,488
Legal and professional	8,752		13,924
Charitable contributions	10,000		10,000
Investment banking fees	9,573		9,573
Contract termination	8,853		8,853
Communication	1,839		2,011
Other	3,439		3,665
Total Merger related expense	$	57,531	$	63,514

The following table presents unaudited pro forma results of operations for the three and six months ended June 30, 2014 and 2013, as if the Sterling merger had occurred on January 1, 2013. The pro forma results have been prepared for comparative purposes only and are not necessarily indicative of the results that would have been obtained had the acquisition actually occurred on January 1, 2013. The pro forma results include the impact of certain purchase accounting adjustments including accretion of loan discount, intangible assets amortization and deposit and borrowing premium accretion. These purchase accounting adjustments increased pro forma net income by $2.8 million and $20.4 million for the three months ended June 30, 2014 and 2013, respectively, and $23.4 million and $42.5 million for the six months ended June 30, 2014 and 2013, respectively.



(in thousands, except per share data)
	Pro Forma
	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2014			2013			2014			2013
Net interest income	$	234,503		$	214,107		$	458,792		$	427,140		^{(1), (2)}
Provision for non-covered loan and lease losses	15,399			2,993			20,799			9,981
Recapture of provision for covered loan losses	(703		)	(3,072		)	(132		)	(2,840		)
Non-interest income	48,785			71,567			94,107			138,718			^{(3), (4), (5)}
Non-interest expense	175,480			241,906			349,705			419,915			^{(6), (7)}
Income before provision for income taxes	93,112			43,847			182,527			138,802
Provision for income taxes	36,637			12,822			68,905			45,039
Net income	56,475			31,025			113,622			93,763
Dividends and undistributed earnings allocated to participating securities	83			197			196			380
Net earnings available to common shareholders	$	56,392		$	30,828		$	113,426		$	93,383
Earnings per share:
Basic	$	0.26		$	0.14		$	0.52		$	0.43
Diluted	$	0.26		$	0.14		$	0.52		$	0.43
Average shares outstanding:
Basic	216,960			216,040			216,700			215,992
Diluted	220,531			218,476			219,748			218,424

(1) Includes $5.1 million and $33.6 million of incremental loan discount accretion for the three months ended June 30, 2014 and 2013, respectively and $31.9 million and $69.8 million for the six months ended June 30, 2014 and 2013, respectively.

(2) Includes a reduction of interest expense of $1.0 million and $5.6 million related to deposit and borrowing premiums amortization for the three months ended June 30, 2014 and 2013, respectively and $5.9 million and $11.4 million for the six months ended June 30, 2014 and 2013, respectively.

(3) Includes a reduction of service charges on deposit of $288,000 and $1.4 million as a result of passing the $10 billion asset threshold for the three months ended June 30, 2014 and 2013, respectively and $1.7 million and $2.9 million for the six months ended June 30, 2014 and 2013, respectively.

(4) Includes a loss on junior subordinated debentures carried at fair value of $190,000 and $966,000 for the three months ended June 30, 2014 and 2013, respectively and $837,000 and $1.9 million for six months ended June 30, 2014 and 2013, respectively.

(5) The six months ended June 30, 2014 includes the reversal of the $7.0 million loss on the sale of the six stores.

(6) Includes $347,000 and $2.0 million of incremental core deposit intangible amortization for the three months ended June 30, 2014 and 2013, respectively and $2.1 million and $4.1 million for the six months ended June 30, 2014 and 2013, respectively.

(7) The three and six months ended June 30, 2014 were adjusted to exclude $70.7 million and $79.4 million of merger expenses, respectively, the three and six months ended June 2013 were adjusted to include these charges.

Financial Pacific Holding Corp.

On July 1, 2013, the Bank acquired Financial Pacific Holding Corp. ("FPHC") based in Federal Way, Washington, and its subsidiary, Financial Pacific Leasing, Inc. ("FinPac Leasing"), and its subsidiaries, Financial Pacific Funding, Inc. ("FPF"), Financial Pacific Funding II, Inc. ("FPF II") and Financial Pacific Funding III, Inc. ("FPF III"). As part of the same transaction, the Company acquired two related entities, FPC Leasing Corporation ("FPC") and Financial Pacific Reinsurance Co., Ltd. ("FPR"). FPHC, FinPac Leasing, FPF, FPF II, FPF III, FPC and FPR are collectively referred to herein as "FinPac." FinPac provides business-essential commercial equipment leases to various industries throughout the United States and Canada. It originates leases through its brokers, lessors, and direct marketing programs. The results of FinPac's operations are included in the consolidated financial statements as of July 1, 2013.

The aggregate consideration for the FinPac purchase was $158.0 million. Of that amount, $156.1 million was distributed in cash, and $1.9 million was exchanged for restricted shares of the Company stock. The restricted shares were issued from the Company's 2013 Incentive Plan pursuant to employment agreements between the Company's and certain executives of FinPac, vest over a period of either two or three years, and will be recognized over that time period within the salaries and employee benefits line item on the Consolidated Statements of Income. The structure of the transaction was as follows:

•

The Bank acquired all of the outstanding stock of FPHC, a shell holding company, which is the sole shareholder of FinPac Leasing, the primary operating subsidiary of FinPac that engages in equipment leasing and financing activities. FinPac Leasing is also the sole shareholder of FPF, FPF II and FPF III, which are bankruptcy-remote entities that formerly served as lien holder for certain leases. FPF, FPF II and FPF III have no assets or current business activities and are in the process of dissolution. Upon the dissolution of FPHC, the Bank will hold all of the outstanding stock of FinPac Leasing.

•

The Company acquired all of the outstanding stock of FPC, a Canadian leasing subsidiary, and FPR, a corporation organized in the Turks & Caicos Islands that reinsures a portion of the liability risk of each insurance policy that is issued by a third party insurance company on leased equipment when the lessee fails to meet its contractual obligations under the lease or financing agreement to obtain insurance on the leased equipment.

A summary of consideration paid, the assets acquired and liabilities assumed at their fair values in the acquisition of FinPac are presented below.



(in thousands)
	FinPac
	July 1, 2013
Fair value of consideration:
Cash			$	156,110
Fair value of assets acquired:
Cash and equivalents	$	6,452
Non-covered loans and leases, net	264,336
Premises and equipment	491
Other assets	8,015
Total assets acquired	279,294
Fair value of liabilities assumed:
Term debt	211,204
Other liabilities	8,757
Total liabilities assumed	$	219,961
Net assets acquired			59,333
Goodwill			$	96,777

The acquisition provides diversification, and a scalable platform that is consistent with expansion initiatives that the Bank has completed over the last three years, including growth in the business banking, agricultural lending and home builder lending groups. The transaction leverages excess capital of the Company and deploys excess liquidity into significantly higher yielding assets, provides growth and diversification, and is anticipated to increase profitability. There is no tax deductible goodwill or other intangibles.

The operations of FinPac are included in our operating results from July 1, 2013, and added revenue of $15.9 million, non-interest expense of $3.7 million , and net income of $3.9 million net of tax, for the three months ended June 30, 2014. For the six months ended June 30, 2014, FinPac added revenue of $31.5 million, non-interest expense of $7.6 million, and net income of $8.2 million, net of tax. FinPac's results of operations prior to the acquisition are not included in our operating results. There are no FinPac merger related expenses for the three and six months ended June 30, 2014. FinPac merger related expenses were $654,000 and $796,000 for the three and six months ended June 30, 2013.

Non-covered leases acquired from FinPac are presented below as of acquisition date:



(in thousands)	FinPac
	July 1, 2013
Contractually required payments	$	350,403
Purchase adjustment for credit	$	(20,520	)
Balance of non-covered impaired leases, net	$	264,336

The following table presents unaudited pro forma results of operations for the three and six months ended June 30, 2013 as if the acquisition of FinPac had occurred on January 1, 2013. The proforma results have been prepared for comparative purposes only and are not necessarily indicative of the results that would have been obtained had the acquisition actually occurred on January 1, 2013. The pro forma results include the impact of certain purchase accounting adjustments which reduced pro forma earnings available to common shareholders by $820,000 and $1.5 million for the three and six months ended June 30, 2013, respectively.



(in thousands, except per share data)	Pro Forma
	Three Months Ended			Six Months Ended
	June 30, 2013			June 30, 2013
Net interest income	$	105,297		$	210,809
Provision for non-covered loan and lease losses	3,688			13,253
Recapture of provision for covered loan losses	(3,072		)	(2,840		)
Non-interest income	35,019			69,824
Non-interest expense	92,403			181,794
Income before provision for income taxes	47,297			88,426
Provision for income taxes	16,910			31,094
Net income	30,387			57,332
Dividends and undistributed earnings allocated to participating securities	228			439
Net earnings available to common shareholders	$	30,159		$	56,893
Earnings per share:
Basic	$	0.27		$	0.51
Diluted	$	0.27		$	0.51
Average shares outstanding:
Basic	111,954			111,946
Diluted	112,145			112,133