Preface xi
Acknowledgments xvii
Part I: Financial Services Industry: Its Markets, Regulations, and Governance 1
Chapter 1: Fundamentals of the Financial Markets and Institutions 3
Introduction 3
Financial Markets 3
Financial Information and Capital Markets 4
Financial Crisis and Financial Regulatory Reforms 5
Types and Roles of Financial Markets 15
Financial Services Firms 21
Conclusion 24
Notes 25
Chapter 2: Introduction to Financial Institutions 27
Introduction 27
Landscape of the Financial Services Industry 27
Structural Changes in the Financial Services Industry 28
Historical Perspective of American Banking 42
Current Trends in the Financial Services Banking Industry 43
Regulatory Reforms 46
Valuation Process 55
Conclusion 56
Notes 57
Chapter 3: Corporate Governance 61
Introduction 61
Corporate Governance Effectiveness 62
Global Regulatory Reforms 66
Sarbanes-Oxley Act of 2002 70
Dodd-Frank Act 74
Corporate Governance Functions 75
VI & Contents Board of Directors and Its Committees 78
Audit Committee Roles and Responsibilities 80
Executive Compensation 84
Conclusion 86
Notes 86
Part II: the Foundation: Financial Institutions, Valuations, Mergers, Acquisitions, and Regulatory and Accounting Environment 89
Chapter 4: Overview of the Valuation Process 91
Introduction 91
Valuation Services 92
Valuation Profession 94
Valuation of the Business 97
Attracting Valuation Clients 105
Accepting a Client 109
Pricing Valuation Services 111
Importance of the Engagement Letter 112
Planning an Appraisal Engagement 114
General Planning 118
Appraiser's Traits 121
Appraiser's Due Diligence Process 124
Risk Assessment 125
Conclusion 126
Notes 126
Chapter 5: Overview of Mergers and Acquisitions 127
Introduction 127
Historical Perspective of Mergers and Acquisitions 128
Recent Trends in Mergers and Acquisitions 130
Regulations of Bank Mergers 136
Players in Mergers and Acquisitions 142
Motives for Business Combinations 146
Determinants of Mergers and Acquisitions 148
Perceived Shortcomings of Mergers and Acquisitions 152
Studies on Mergers and Acquisitions 155
Leveraged Buyout 159
Post Mergers and Acquisitions Performance 160
Shareholder Wealth and Effect of Mergers and Acquisitions 161
Joint Ventures and Strategic Alliances 162
Ethics in Mergers and Acquisitions 163
Governance in Mergers and Acquisitions 164
Mergers and Acquisitions Process 165
Conclusion 181
Notes 183
Chapter 6: Regulatory Environment and Financial Reporting Process of Financial Institutions 187
Introduction 187
Consolidation 187
Regulatory Environment 192
Bank Supervision 198
Financial Modernization: The Gramm-Leach-Bliley Act 205
Financial Reporting Process of Financial Institutions 208
Statement of Financial Accounting Standards No. 115 212
Auditing Proper Classifications of Marketable Securities 214
Tax Consideration of Fair Value 215
Recent Development of Fair Value Accounting 218
Financial Reporting Requirements of Financial Institutions 222
Corporate Governance of Financial Institutions 228
Conclusion 237
Notes 238
Part III: Fundamentals of Valuations: Concepts, Standards, and Techniques 241
Chapter 7: Value and Valuation: A Conceptual Foundation 243
Asset-Liability Management 243
Investment Management 245
Lending Management 246
Liquidity Management 247
Nature of Value 249
Twelve Concepts of Value 250
Types of Property that Can Be Valued 260
Relationship among Different Types of Value 261
Principles of Valuation Theory 262
Pricing Value versus Reporting Value 263
Limitations of the Valuation Process 264
Conclusion 264
Notes 264
Chapter 8: Approaches to Measuring Value 267
Overview of the Valuation Process 267
Cost Approach to Valuation 268
Market Approach to Valuation 270
Income Approach to Valuation 273
Special Topics-Approches to Intangible Asset Valuation 291
Special Topics-Business Valuation 294
Valuation and Business Concentrations 300
Special Topics-Closely Held Stock 301
Special Topics-Valuing Widely Traded Companies 304
Conclusion 305
Notes 305
Chapter 9: Valuations for Tax and Accounting Purposes 307
Tax Aspects of Mergers and Acquisitions 307
Typical Tax-Oriented Valuations 310
Accounting Aspects of Mergers and Acquisitions 313
Typical Accounting-Oriented Valuations 319
Acquisition Method 320
Presentation, Disclosure, and Transition Requirements of Business Combinations 324
Convergence in Accounting Standards on Mergers and Acquisitions 327
Conclusion 328
Notes 329
Chapter 10: Intangible Asset Valuation 331
Nature and Types of Intangible Assets 331
Amortizable versus Nonamortizable Intangible Assets 334
Measuring the Useful Life of an Intangible Asset 336
Establishing Value of Intangible Assets 338
Amortization Methods 341
Supporting Intangible Asset Valuation and Amortization 341
Goodwill Impairment 342
Conclusion 343
Notes 344
Part IV: Assessment of Financial Institutions 345
Chapter 11: Financial Analysis of Banks and Bank Holding Companies 347
Types and Sources of Financial Data 347
Overview of Financial Statements 351
Composition of Bank Assets 355
Composition of Bank Liabilities 359
Off-Balance Sheet Items 361
Composition of Bank Capital 362
Regulatory Capital Components 364
Risk-Based Capital 367
Value-at-Risk Models 370
Composition of Bank Income 371
Composition of Bank Expenses 373
Balance Sheet Analysis Illustration 376
Income Statement and Profitability Analysis Illustration 381
Loan Risk Analysis Illustration 385
Liquidity and Investment Portfolio Analysis Illustration 389
Portfolio Equities Analysis (REALM Model) 390
Special Bank Holding Company Considerations 391
Liability Management 392
Conclusion 392
Notes 392
Chapter 12: Internal Characteristics Assessment 395
Objectives and Benefits of an Internal Characteristics Assessment 396
Ten P Factor Framework 396
Shareholder Value Creation 405
Conclusion 412
Notes 413
Chapter 13: External Environment Assessment 415
Impact of External Environment on Value 415
Political Analysis 416
Economic Analysis 416
Social Analysis 417
Technological Analysis 420
Other Analysis 421
Conclusion 423
Notes 423
Part V: Valuation of Mergers and Acquisitions 425
Chapter 14: Bank Merger and Acquisition Process 427
Strategy Phase 427
Negotiation and Investigation Phase 435
Finalization and Integration Phase 439
Other Considerations 443
Conclusion 446
Notes 446
Chapter 15: Valuing a Bank as a Business Enterprise 447
Business Enterprise versus a Collection of Assets 447
Concept of the Banking Franchise 448
Difference between Strategic and Tactical Valuations 449
Why the Cost Approach Is Not Used for Strategic Bank Valuations 450
Application of the Market Approach to Valuing a Bank 450
Application of the Income Approach to Valuing a Bank 454
Sensitivity of Value Estimate to Assumption Changes 461
Value-Creation Opportunities and the Acquisition Price 463
Valuation Methods for Mergers and Acquisitions 465
Sophisticated Valuation Techniques for Mergers and Acquisitions 470
Relation between Price and Value and Effect on Stockholders 475
Conclusion 478
Notes 478
Chapter 16: Valuation of Tangible Bank Assets 479
Tangible Physical Assets 480
Tangible Financial Assets 481
Tangible Assets in Bank Mergers and Acquisitions 486
X & Contents Intangible Assets in Bank Mergers and Acquisitions 486
Conclusion 487
Chapter 17: Core Deposits as a Special Type of Intangible Asset Valuation 489
Concept of Core Deposit Base as an Intangible Asset 489
Internal Revenue Service Position on Core Deposits 490
Important Core Deposit Tax Court Cases 490
Deposits to Be Included in Valuation 497
Alternative Approaches to Valuing a Core Deposit Base 497
Core Deposit Base Life Estimation 499
Application of the Cost Savings Approach 502
Application of the Future Income Approach 505
Systemically Important Financial Institutions 508
Conclusion 511
Notes 511
Chapter 18: Derivative Financial Instruments 513
Authoritative Guidelines on Derivatives 515
Derivative Markets 516
Derivatives Risk Management 518
Derivatives Risk Management Policy 519
Accounting for Derivatives 528
Tax Considerations of Derivatives 535
Audit of Derivative Transactions 535
Sources of Information on Derivatives 537
Derivatives Valuation Models 538
Derivatives under the Dodd-Frank Act of 2010 542
Conclusion 543
Notes 543
Chapter 19: Real-World Bank Valuation Complications 547
Banks Experiencing Recent Losses 548
Banks with Low Equity Capital 551
Banks with Uncertain Future Loan Loss Exposure 554
Preferred and Common Stock 556
Highly Leveraged Banks 557
Branch Acquisitions 557
European Banking Model 559
Initial Public Offering 561
Islamic Banking System 562
Emerging Issues in the Financial Services Industry 564
Conclusion 568
Notes 568
About the Author 569
Index 571
