Business Combination

3 Months Ended

Mar. 31, 2019

3. Business Combination

On March 22, 2019, Fifth Third Bancorp completed its acquisition of MB Financial, Inc. in a stock and cash transaction valued at approximately $3.6 billion. MB Financial, Inc. was headquartered in Chicago, Illinois with reported assets of approximately $20 billion and 86 branches as of December 31, 2018 and is the holding company of MB Financial Bank, N.A. The acquisition resulted in a combined company with a larger Chicago market presence and core deposit funding base as well as building scale in a strategically important market.

Under the terms of the agreement, the Bancorp acquired 100% of the common stock of MB Financial, Inc. In exchange, common shareholders of MB Financial, Inc. received 1.45 shares of Fifth Third Bancorp common stock and $5.54 in cash for each share of MB Financial, Inc. common stock, for a total value per share of $42.49, based on the $25.48 closing price of Fifth Third Bancorp’s common stock on March 21, 2019. Upon closing of the transaction, MB Financial, Inc. became a subsidiary of the Bancorp. However, MB Financial, Inc.’s preferred stock with a fair value of $197 million remains outstanding and is recognized as a noncontrolling interest on the Condensed Consolidated Balance Sheets. Through its ownership of all of the common stock, the Bancorp controls 95% of the voting equity interests in MB Financial, Inc. with the remainder attributable to the preferred shareholders’ noncontrolling interest.

The acquisition of MB Financial, Inc. constituted a business combination and was accounted for under the acquisition method of accounting. Accordingly, the assets acquired, liabilities assumed and noncontrolling interest recognized were recorded at their estimated fair values as of the acquisition date. These fair value estimates are considered preliminary as of March 31, 2019 due to the timing of the close of the acquisition. Additionally, these fair value estimates, including loans and leases, intangible assets, deposits and goodwill, are subject to change for up to one year after the acquisition date as additional information becomes available.

The following table reflects consideration paid and the noncontrolling interest recognized for MB Financial, Inc.’s net assets and the amounts of acquired identifiable assets and liabilities assumed at their estimated fair value as of the acquisition date:

($ in millions)
Consideration paid
Cash payments			$	469
Fair value of common stock issued				3,121
Stock-based awards				38
Dividend receivable from MB Financial, Inc.				(20)
Total consideration paid			$	3,608

Fair value of noncontrolling interest in acquiree			$	197

Net Identifiable Assets Acquired, at Fair Value:
Assets
Cash and due from banks	$	1,679
Federal funds sold		35
Other short-term investments		53
Available-for-sale debt and other securities		832
Held-to-maturity securities		4
Equity securities		51
Loans and leases held for sale		12
Portfolio loans and leases		13,490
Bank premises and equipment		254
Operating lease equipment		403
Intangible assets		183
Servicing rights		263
Other assets		697
Total assets acquired	$	17,956
Liabilities
Deposits	$	14,489
Other short-term borrowings		348
Accrued taxes, interest and expenses		264
Other liabilities		180
Long-term debt		713
Total liabilities assumed	$	15,994

Net identifiable assets acquired				1,962
Goodwill			$	1,843

In connection with the acquisition, the Bancorp recognized approximately $1.8 billion of goodwill, of which $15 million relates to 15-year tax deductible goodwill from MB Financial, Inc.’s prior acquisitions. See Note 11 for further information on goodwill recognized and Note 12 for further information on intangible assets acquired in the acquisition of MB Financial, Inc.

The following is a description of the methods used to determine the estimated fair values of significant assets and liabilities presented above.

Cash and due from banks and other short-term investments

For financial instruments with a short-term or no stated maturity, prevailing market rates and limited credit risk, carrying amounts approximate fair value.

Available-for-sale debt and other securities, held-to-maturity securities and equity securities

Fair values for securities were based on quoted market prices, where available. If quoted market prices were not available, fair value estimates were based on observable inputs including quoted market prices for similar instruments, quoted market prices that are not in an active market or other inputs that are observable in the market. In the absence of observable inputs, fair value was estimated based on pricing models and/or DCF methodologies.

Loans and leases held for sale and portfolio loans and leases

Fair values for loans were based on a DCF methodology that considered factors including the type of loan and related collateral, fixed or variable interest rate, remaining term, credit quality ratings or scores, amortization status and current discount rates. Loans with similar characteristics were pooled together when applying various valuation techniques. The discount rates used for loans were based on an evaluation of current market rates for new originations of comparable loans and a market participant’s required rate of return to purchase similar assets, including adjustments for liquidity and credit quality when necessary. For PCI loans, the DCF methodology was based on the Bancorp’s estimate of contractual cash flows expected to be collected.

Bank premises and equipment

Fair values for bank premises and equipment were generally based on appraisals of the property values.

Operating lease equipment

Fair values for operating lease equipment were generally developed using the cost approach. The seller’s historical cost was adjusted by cost trend indices relevant to the asset type and vintage to arrive at a current reproduction cost. This reproduction cost was then adjusted for deterioration based on the age and typical life of each class of assets. Residual values were estimated based on analysis of the seller’s historical trends of residual value realization by asset class.

Intangible assets

The core deposit intangible asset represents the value of relationships with deposit customers. The fair value was estimated based on a DCF methodology that considered expected customer attrition rates, net maintenance cost of the deposit base, alternative cost of funds and the interest costs associated with customer deposits. The core deposit intangible is being amortized on an accelerated basis over its estimated useful life.

Servicing rights

Fair values for servicing rights were estimated using internal option-adjusted spread models with certain unobservable inputs, primarily prepayment speed assumptions, option-adjusted spread and weighted-average lives.

Other assets

Fair values for ROU assets associated with real estate operating leases were based on current market rental rates for similar properties in the same area, discounted at the Bancorp’s incremental borrowing rates as of the acquisition date. Estimates of current market rental rates were generally based on third-party market rent studies performed for each significant property.

Deposits

The fair values for time deposits were estimated using a DCF whereby the contractual remaining cash flows were discounted using market rates currently being offered for time deposits of similar maturities. For transactional deposits, carrying amounts approximate fair value.

Long-term debt

The fair values of long-term debt instruments were estimated based on quoted market prices for identical or similar instruments if available, or by using DCF analyses based on current incremental borrowing rates for similar types of instruments.

Merger-Related Expenses

Direct merger-related expenses related to the acquisition of MB Financial, Inc. were expensed as incurred by the Bancorp and amounted to $76 million for the three months ended March 31, 2019.

The following table provides a summary of merger-related expenses recorded in noninterest expense for the three months ended March 31, 2019:

		Merger-Related
($ in millions)		Expense
Salaries, wages and incentives	$	32
Employee benefits		3
Technology and communications		11
Other noninterest expense		30
Total	$	76

Pro Forma Information

Revenue and earnings related to MB Financial, Inc.’s operations included in Fifth Third Bancorp’s Condensed Consolidated Statement of Income from the acquisition date through March 31, 2019, were $16 million of net interest income, $12 million of noninterest income and $13 million of net income attributable to common shareholders, which excludes certain merger-related charges incurred by the Bancorp as part of the acquisition of MB Financial, Inc.

The following table presents unaudited pro forma information as if the acquisition of MB Financial, Inc. had occurred on January 1, 2018. This pro forma information combines the historical condensed consolidated results of operations of Fifth Third Bancorp and MB Financial, Inc. after giving effect to certain adjustments, including purchase accounting fair value adjustments, amortization of intangibles, stock-based compensation expense and acquisition costs, as well as the related income tax effects of those adjustments. The pro forma results also reflect reclassification adjustments to noninterest income and noninterest expense to conform MB Financial, Inc.’s presentation of operating lease income and the related depreciation expense with the Bancorp's presentation. Direct costs associated with the acquisition are included in pro forma earnings as of January 1, 2018.

The pro forma information does not necessarily reflect the results of operations that would have occurred had Fifth Third Bancorp acquired MB Financial, Inc. on January 1, 2018. Furthermore, cost savings and other business synergies related to the acquisition are also not reflected in the unaudited pro forma amounts for the three months ended March 31, 2019 and 2018.

		Unaudited Pro Forma Information
		For the three months ended March 31,
($ in millions)		2019	2018
Net interest income	$	1,242	1,181
Noninterest income		1,205	1,006
Net income attributable to common shareholders		891	655

Acquired Loans and Leases

Purchased loans are evaluated for evidence of credit deterioration at acquisition and recorded at their initial fair value. Generally, the fair value discount or premium on acquired loans and leases is amortized over the contractual life of the loan as an adjustment to yield. For loans acquired with evidence of credit impairment (PCI loans), the Bancorp determined at the acquisition date the excess of the loan’s contractually required payments over all cash flows expected to be collected as an amount that should not be accreted into interest income (nonaccretable difference). The remaining amount representing the difference in the expected cash flows of acquired loans and the initial investment in the acquired loans is accreted into interest income over the remaining life of the loan or pool of loans (accretable yield). This method of accounting for loans acquired with credit impairment does not apply to loans carried at fair value, residential mortgage loans held for sale and loans under revolving credit agreements. Refer to Note 1 of the Notes to Consolidated Financial Statements included in the Bancorp’s Annual Report on Form 10-K for the year ended December 31, 2018 for additional information on the accounting for PCI loans. The Bancorp has elected to account for loans acquired from MB Financial, Inc., which were not considered impaired but exhibited evidence of credit deterioration since origination, in the same manner as PCI loans.

The following table reflects the contractually required payments receivable, cash flows expected to be collected and estimated fair value of loans identified as PCI loans on the acquisition date of MB Financial, Inc. These fair value estimates are considered preliminary as of March 31, 2019 due to the timing of the close of the acquisition.

($ in millions)		March 22, 2019
Contractually required payments including interest	$	1,164
Less: Nonaccretable difference		109
Cash flows expected to be collected		1,055
Less: Accretable yield		232
Fair value of loans acquired	$	823

For the period from March 22, 2019 to March 31, 2019, accretion of the accretable yield and reclassifications to or from the nonaccretable difference were not material to the Bancorp.

At the MB Financial, Inc. acquisition date, contractual balances on the purchased non-PCI loans and leases totaled $12.9 billion, with a corresponding fair value of $12.7 billion.

Bank Merger and Conversion

As of March 31, 2019, MB Financial, Inc. is the holding company of MB Financial Bank, N.A. and a subsidiary of Fifth Third Bancorp. For further information on a subsequent event related to the bank merger and conversion, refer to Note 27.