Echo Global Logistics, Inc. - 10-Q filing on 2017-04-27

Fair Value Measurement

3 Months Ended

Mar. 31, 2017

The Company applies Accounting Standards Codification Topic 820, Fair Value Measurements and Disclosures ("ASC Topic 820"), for its financial assets and financial liabilities. The guidance requires disclosures about assets and liabilities measured at fair value. The Company's financial liabilities primarily relate to contingent earn-out payments due to sellers in connection with various acquisitions. The fair value of the due to seller liabilities at March 31, 2017 was $1.4 million. The potential earn-out payments and performance periods are defined in the individual purchase agreements for each acquisition. Earnings before interest, taxes, depreciation and amortization ("EBITDA") is the performance target defined and measured to determine the earn-out payment due, if any, after each defined measurement period.

The Company's financial assets relate to contingent payments that may be due from the seller of Command if certain employee retention criteria are met. The fair value of the due from seller contingent asset at March 31, 2017 was $0.4 million. The fair value of the due from seller contingent asset is determined based on the likelihood of the employee retention criteria being met.

ASC Topic 820 includes a fair value hierarchy that is intended to increase consistency and comparability in fair value measurements and related disclosures. The fair value hierarchy is based on observable or unobservable inputs to valuation techniques that are used to measure fair value. Observable inputs reflect assumptions market participants would use in pricing an asset or liability based on market data obtained from independent sources while unobservable inputs reflect a reporting entity's pricing based upon its own market assumptions. The fair value hierarchy consists of the following three levels:


•	Level 1: Inputs are quoted prices in active markets for identical assets or liabilities.


•	Level 2: Inputs are quoted prices for similar assets or liabilities in an active market, quoted prices for identical or similar assets or liabilities in markets that are not active, and inputs other than quoted prices that are observable and market-corroborated inputs, which are derived principally from or corroborated by observable market data.


•	Level 3: Inputs that are derived from valuation techniques in which one or more significant inputs or value drivers are unobservable.

The significant inputs used to derive the fair value of the amounts due to seller include financial forecasts of future operating results, the probability of reaching the forecast and an appropriate discount rate for each contingent liability. Probabilities are estimated by reviewing financial forecasts and assessing the likelihood of reaching the required performance measures based on factors specific to each acquisition as well as the Company’s historical experience with similar arrangements. If an acquisition reaches the required performance measure, the estimated probability would be increased to 100% and would still be classified as a contingent liability on the balance sheet. If the measure is not reached, the probability would be reduced to reflect the amount earned, if any, depending on the terms of the agreement. Discount rates used in determining the fair value of the contingent consideration due to seller ranged from 5% to 6%. Historical results of the respective acquisitions serve as the basis for the financial forecasts used in the valuation.

Quantitative factors are also considered in these forecasts, including acquisition synergies, growth and sales potential, and potential operational efficiencies gained. Changes to the significant inputs used in determining the fair value of the contingent consideration due to seller could result in a change in the fair value of the contingent consideration. However, the correlation and inverse relationship between higher projected financial results to the discount rate applied and probability of meeting the financial targets mitigates the effect of any changes to the unobservable inputs.

The following tables set forth the Company's financial assets and liabilities measured at fair value on a recurring basis and the basis of measurement at March 31, 2017 and December 31, 2016:



	Fair Value Measurements as of March 31, 2017
	Total			Level 1	Level 2	Level 3
Liabilities:
Contingent consideration due to seller	$	(1,430,000	)	—	—	$	(1,430,000	)
Assets:
Contingent consideration due from seller	$	434,800		—	—	$	434,800



	Fair Value Measurements as of December 31, 2016
	Total			Level 1	Level 2	Level 3
Liabilities:
Contingent consideration due to seller	$	(1,700,000	)	—	—	$	(1,700,000	)
Assets:
Contingent consideration due from seller	$	421,272		—	—	$	421,272

The following table provides a reconciliation of the beginning and ending balances for the liabilities measured at fair value using significant unobservable inputs (Level 3):



	Due to Seller Liability
Balance at December 31, 2016	$	(1,700,000	)
Change in contingent consideration due to seller	(105,000		)
Payment of contingent consideration due to seller	375,000
Balance at March 31, 2017	$	(1,430,000	)

The following table provides a reconciliation of the beginning and ending balances for the assets measured at fair value using significant unobservable inputs (Level 3):



	Due from Seller Asset
Balance at December 31, 2016	$	421,272
Change in contingent consideration due from seller	13,528
Balance at March 31, 2017	$	434,800

For the three months ended March 31, 2017 and 2016, the Company recognized an expense of $91,472 and a benefit of $152,382, respectively, in selling, general and administrative expense due to the change in fair value determined by a level three valuation technique. These changes in fair value resulted from using revised forecasts that took into account the most recent performance at each acquired business, the effect of the time value of money and the likelihood of the employee retention criteria being met.

During the three months ended March 31, 2017 and 2016, the Company made contingent earn-out payments of $375,000 and $2,086,243, respectively, to the sellers of businesses acquired by the Company. The Company did not receive any contingent payments from the seller of Command during the three months ended March 31, 2017 and 2016.