NOTE B: ACQUISITIONS

Subsequent Event/ Pending Acquisition – Kinderhook Bank Corp.

On January 22, 2019, the Company announced that it had entered into a definitive agreement to acquire Kinderhook Bank Corp. (“Kinderhook”), parent company of The National Union Bank of Kinderhook headquartered in Kinderhook, New York (See Note V).

Subsequent Event – Wealth Resources Network, Inc.

On January 2, 2019, the Company, through its subsidiary, CISI, completed its acquisition of certain assets of Wealth Resources Network, Inc. (“Wealth Resources”), a financial services business headquartered in Liverpool, New York (See Note V).

On April 2, 2018, the Company, through its subsidiary, BPAS, acquired certain assets of HR Consultants (SA), LLC (“HR Consultants”), a provider of actuarial and benefit consulting services headquartered in Puerto Rico. The Company paid $0.3 million in cash to acquire the assets of HR Consultants and recorded intangible assets of $0.3 million in conjunction with the acquisition. The effects of the acquired assets have been included in the consolidated financial statements since that date.

On January 2, 2018, the Company, through its subsidiary, OneGroup, completed its acquisition of certain assets of Penna & Associates Agency, Inc. (“Penna”), an insurance agency headquartered in Johnson City, New York. The Company paid $0.8 million in cash to acquire the assets of Penna, and recorded goodwill in the amount of $0.3 million and a customer list intangible asset of $0.3 million in conjunction with the acquisition. The effects of the acquired assets have been included in the consolidated financial statements since that date.

On January 2, 2018, the Company, through its subsidiary, CISI, completed its acquisition of certain assets of Styles Bridges Associates (“Styles Bridges”), a financial services business headquartered in Canton, New York. The Company paid $0.7 million in cash to acquire a customer list from Styles Bridges, and recorded a $0.7 million customer list intangible asset in conjunction with the acquisition. The effects of the acquired assets have been included in the consolidated financial statements since that date.

On December 4, 2017, the Company, through its subsidiary, OneGroup, completed its acquisition of Gordon B. Roberts Agency, Inc. (“GBR”), an insurance agency headquartered in Oneonta, New York for $3.7 million in Company stock and cash, comprised of $1.35 million in cash and the issuance of 0.04 million shares of common stock. The transaction resulted in the acquisition of $0.6 million of assets, $0.6 million of other liabilities, goodwill in the amount of $2.1 million and other intangible assets of $1.6 million. The effects of the acquired assets and liabilities have been included in the consolidated financial statements since that date.

On November 17, 2017, the Company, through its subsidiary, CISI, completed its acquisition of certain assets of Northeast Capital Management, Inc. (“NECM”), a financial services business headquartered in Wilkes-Barre, Pennsylvania. The Company paid $1.2 million in cash to acquire a customer list from NECM, and recorded a $1.2 million customer list intangible asset in conjunction with the acquisition. The effects of the acquired assets have been included in the consolidated financial statements since that date.

On May 12, 2017, the Company completed its acquisition of Merchants Bancshares, Inc. (“Merchants”), parent company of Merchants Bank, headquartered in South Burlington, Vermont, for $345.2 million in Company stock and cash, comprised of $82.9 million in cash and the issuance of 4.68 million shares of common stock. The acquisition extends the Company’s footprint into the Vermont and Western Massachusetts markets with the addition of 31 branch locations in Vermont and one location in Massachusetts. This transaction resulted in the acquisition of $2.0 billion of assets, including $1.49 billion of loans and $370.6 million of investment securities, as well as $1.45 billion of deposits and $189.0 million in goodwill. The effects of the acquired assets and liabilities have been included in the consolidated financial statements since that date. Revenues of approximately $61.2 million and direct expenses, which may not include certain shared expenses, of approximately $30.8 million from Merchants were included in the consolidated income statement for the year ended December 31, 2018. Revenues of approximately $42.6 million and direct expenses, which may not include certain shared expenses, of approximately $19.9 million from Merchants were included in the consolidated income statement for the year ended December 31, 2017.

On March 1, 2017, the Company, through its subsidiary, OneGroup, completed its acquisition of certain assets of Dryfoos Insurance Agency, Inc. (“Dryfoos”), an insurance agency headquartered in Hazleton, Pennsylvania. The Company paid $3.0 million in cash to acquire the assets of Dryfoos, and recorded goodwill in the amount of $1.7 million and other intangible assets of $1.7 million in conjunction with the acquisition. The effects of the acquired assets and liabilities have been included in the consolidated financial statements since that date.

On February 3, 2017, the Company completed its acquisition of NRS and its subsidiary GTC, headquartered in Woburn, Massachusetts, for $148.6 million in Company stock and cash. NRS was a privately held corporation focused on providing institutional transfer agency, master recordkeeping services, custom target date fund administration, trust product administration and customized reporting services to institutional clients. Its wholly-owned subsidiary, GTC, is chartered in the State of Maine as a non-depository trust company and provides fiduciary services for collective investment trusts and other products. The acquisition of NRS and GTC, hereafter referred to collectively as NRS, strengthens and complements the Company’s existing employee benefit services businesses. Upon the completion of the merger, NRS became a wholly-owned subsidiary of BPAS and operates as Northeast Retirement Services, LLC, a Delaware limited liability company. This transaction resulted in the acquisition of $36.1 million in net tangible assets, principally cash and certificates of deposit, $60.2 million in customer list intangibles that will be amortized using the 150% declining balance method over 10 years, a $23.0 million deferred tax liability associated with the customer list intangible, and $75.3 million in goodwill. The effects of the acquired assets and liabilities have been included in the consolidated financial statements since that date. Revenues of $40.6 million and expenses of $24.6 million from NRS were included in the consolidated statement of income for the year ended December 31, 2018. Revenues of $31.5 million and expenses of $21.5 million from NRS were included in the consolidated statement of income for the year ended December 31, 2017.

On January 1, 2017, the Company, through its subsidiary, OneGroup, acquired certain assets of Benefits Advisory Service, Inc. (“BAS”), a benefits consulting group headquartered in Forest Hills, New York. The Company paid $1.2 million in cash to acquire the assets of BAS and recorded intangible assets of $1.2 million in conjunction with the acquisition. The effects of the acquired assets and liabilities have been included in the consolidated financial statements since that date.

On January 4, 2016, the Company, through its subsidiary, CBNA Insurance Agency, Inc. (“CBNA Insurance”), completed its acquisition of WJL Agencies Inc. doing business as The Clark Insurance Agencies (“WJL”), an insurance agency operating in Canton, New York. The Company paid $0.6 million in cash for the intangible assets of the company. Goodwill in the amount of $0.3 million and intangible assets in the amount of $0.3 million were recorded in conjunction with the acquisition. The effects of the acquired assets and liabilities have been included in the consolidated financial statements since that date. On August 19, 2016, the Company merged together its insurance subsidiaries and as of that date, the activities of CBNA Insurance were merged into OneGroup.

The assets and liabilities assumed in the acquisitions were recorded at their estimated fair values based on management’s best estimates using information available at the dates of the acquisition, and were subject to adjustment based on updated information not available at the time of acquisition. During the first quarter of 2018, the carrying amount of other liabilities associated with the NRS acquisition decreased by $1.2 million as a result of an adjustment to deferred taxes. Goodwill associated with the NRS acquisition decreased $1.2 million as a result of this adjustment. During the second quarter of 2018, the carrying amount of other liabilities associated with the GBR acquisition decreased by $0.09 million as a result of updated information not available at the time of acquisition. Goodwill associated with the GBR acquisition decreased $0.09 million as a result of this adjustment. During the fourth quarter of 2018, the carrying amount of other liabilities associated with the GBR acquisition increased $0.02 million as a result of updated information not available at the time of acquisition. Goodwill associated with the GBR acquisition increased $0.02 million as a result of this adjustment.

The above referenced acquisitions generally expanded the Company’s geographical presence in New York, Pennsylvania, Vermont, and Western Massachusetts and management expects that the Company will benefit from greater geographic diversity and the advantages of other synergistic business development opportunities.

The following table summarizes the estimated fair value of the assets acquired and liabilities assumed after considering the measurement period adjustments described above:

	2018			2017												2016
(000s omitted)	Other ⁽¹⁾			NRS			Merchants			Other ⁽²⁾			Total			WJL
Consideration paid :
Cash	$	1,753		$	70,073		$	82,898		$	6,775		$	159,746		$	575
Community Bank System, Inc. common stock		0			78,483			262,254			2,395			343,132			0
Total net consideration paid	$	1,753			148,556			345,152			9,170			502,878			575
Recognized amounts of identifiable assets acquired and liabilities assumed:
Cash and cash equivalents		16			11,063			40,730			339			52,132			0
Investment securities		0			20,294			370,648			0			390,942			0
Loans		0			0			1,488,157			0			1,488,157			0
Premises and equipment		10			411			16,608			27			17,046			0
Accrued interest receivable		0			72			4,773			0			4,845			0
Other assets		105			8,088			51,585			583			60,256			0
Core deposit intangibles		0			0			23,214			0			23,214			0
Other intangibles		1,343			60,200			2,857			5,626			68,683			288
Deposits		0			0			(1,448,406	)		0			(1,448,406	)		0
Other liabilities		(31	)		(26,828	)		(11,750	)		(1,155	)		(39,733	)		0
Short-term advances		0			0			(80,000	)		0			(80,000	)		0
Securities sold under agreement to repurchase, short-term		0			0			(278,076	)		0			(278,076	)		0
Long-term debt		0			0			(3,615	)		0			(3,615	)		0
Subordinated debt held by unconsolidated subsidiary trusts		0			0			(20,619	)		0			(20,619	)		0
Total identifiable assets, net		1,443			73,300			156,106			5,420			234,826			288
Goodwill	$	310		$	75,256		$	189,046		$	3,750		$	268,052		$	287

⁽¹⁾Includes amounts related to the Penna, Styles Bridges and HR Consultants acquisitions.

⁽²⁾Includes amounts related to the BAS, Dryfoos, NECM and GBR acquisitions.

Acquired loans that have evidence of deterioration in credit quality since origination and for which it is probable, at acquisition, that the Company will be unable to collect all contractually required payments were aggregated by comparable characteristics and recorded at fair value without a carryover of the related allowance for loan losses. Cash flows for each loan were determined using an estimate of credit losses and rate of prepayments. Projected monthly cash flows were then discounted to present value using a market-based discount rate. The excess of the undiscounted expected cash flows over the estimated fair value is referred to as the “accretable yield” and is recognized into interest income over the remaining lives of the acquired loans.

The following is a summary of the loans acquired from Merchants at the date of acquisition:

	Acquired			Acquired			Total
	Impaired			Non-impaired			Acquired
(000s omitted)	Loans			Loans			Loans
Contractually required principal and interest at acquisition	$	15,454		$	1,872,574		$	1,888,028
Contractual cash flows not expected to be collected		(5,385	)		(14,753	)		(20,138	)
Expected cash flows at acquisition		10,069			1,857,821			1,867,890
Interest component of expected cash flows		(793	)		(378,940	)		(379,733	)
Fair value of acquired loans	$	9,276		$	1,478,881		$	1,488,157

The fair value of checking, savings and money market deposit accounts acquired were assumed to approximate the carrying value as these accounts have no stated maturity and are payable on demand. Certificate of deposit accounts were valued at the present value of the certificates’ expected contractual payments discounted at market rates for similar certificates.

The core deposit intangibles and other intangibles related to the Penna, Styles Bridges, HR Consultants, Merchants, Dryfoos, BAS, NECM, GBR, and WJL acquisitions are being amortized using an accelerated method over their estimated useful life of eight years. The goodwill, which is not amortized for book purposes, was assigned to the Banking segment for the Merchants acquisition, the Employee Benefit Services segment for NRS, and All Other segments for the Penna, Dryfoos, BAS, GBR, and WJL acquisitions. Goodwill arising from the Merchants, NRS, and GBR acquisitions is not deductible for tax purposes. Goodwill arising from the Penna, Dryfoos, BAS, GBR, and WJL acquisitions is deductible for tax purposes.

Direct costs related to the acquisitions were expensed as incurred. Merger and acquisition integration-related (recoveries) expenses amount to $(0.8) million, $26.0 million and $1.7 million during 2018, 2017 and 2016, respectively, and have been separately stated in the consolidated statements of income.

Supplemental Pro Forma Financial Information

The following unaudited condensed pro forma information assumes the Merchants and NRS acquisitions had been completed as of January 1, 2016 for the year ended December 31, 2017 and December 31, 2016. The pro forma information does not include amounts related to BAS, Dryfoos, NECM and GBR as the amounts were immaterial. The table below has been prepared for comparative purposes only and is not necessarily indicative of the actual results that would have been attained had the acquisitions occurred as of the beginning of the year presented, nor is it indicative of the Company’s future results. Furthermore, the unaudited pro forma information does not reflect management’s estimate of any revenue-enhancing opportunities nor anticipated cost savings that may have occurred as a result of the integration and consolidation of the acquisitions.

The pro forma information set forth below reflects the historical results of Merchants and NRS combined with the Company’s consolidated statement of income with adjustments related to (a) certain purchase accounting fair value adjustments and (b) amortization of customer lists and core deposit intangibles. Acquisition expenses related to the Merchants and NRS transactions totaling $25.7 million for the year ended December 31, 2017 were included in the pro forma information as if they were incurred in 2016.

	Pro Forma (Unaudited) Year Ended December 31,
(000’s omitted)	2017		2016
Total revenue, net of interest expense	$	546,977	$	536,183
Net income		176,257		109,186