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Note 10 - Fair Value Accounting
 12 Months Ended
Dec. 31, 2018
Notes to Financial Statements  
Fair Value Disclosures [Text Block]
Note
10.
Fair Value Accounting
 
Fair Value Measurements
 
The Company's valuation techniques are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company's market assumptions. These
two
types of inputs create the following fair value hierarchy:
 
•
Level
1
– Valuations based on quoted prices in active markets for identical assets and liabilities.
•
Level
2
– Valuations based on observable inputs in active markets for similar assets and liabilities, other than Level
1
prices, such as quoted interest or currency exchange rates for substantially the full term of the asset or liability.
•
Level
3
– Valuations based on significant unobservable inputs that are supported by little or
no
market activity, such as discounted cash flow methodologies based on internal cash flow forecasts.
 
The Company's assets and liabilities which are measured at fair value on a recurring basis, include (in thousands):
 
   
 
 
 
  
Fair Value Measurements at Reporting Date Using:
  
   
Fair Value
    
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
    
Significant Other Observable
Inputs (Level 2)
    
Significant
Unobservable
Inputs (Level 3)
  
Marketable securities, current:
  
 
 
 
  
 
 
 
  
 
 
 
  
 
 
 
December 31, 2018
   $
1
     $
1
     $
-
     $
-
  
December 31, 2017
   $
11,795
     $
1
     $
-
     $
11,794
  
 
Valuation Methods and Processes
 
When available, the Company determines the fair value of its marketable securities using market prices from industry-standard independent data providers. Market prices
may
be quoted prices in active markets for identical assets (Level
1
inputs) or pricing determined using inputs other than quoted prices that are observable either directly or indirectly (Level
2
inputs), such as yield curve, volatility factors, credit spreads, default rates, loss severity, current market and contractual prices for the underlying instruments or debt, broker and dealer quotes, as well as other relevant economic measures.
 
For periods prior to
June 30, 2018,
retained mortgage-backed securities were valued at each reporting date using significant unobservable inputs (Level
3
) by discounting the expected cash flows. An independent valuation specialist was engaged to assist management in estimating cash flows and values for the Company's mortgage securities. It is the Company's responsibility for the overall resulting valuation.
 
During
2018,
the Company engaged a broker to market and sell the interest-only and overcollateralization bonds. Through this broker and the subsequent sale of portions of these securities, the Company determined that a market of buyers exists for these securities. As a result, in the
second
quarter of
2018,
the Company reassessed the previous valuation methodology and changed the valuation methodology from a discounted cash flow approach to a market-based approach. The Company determined the market for these securities is
not
an active market with quotes available to participants, but is instead based on quotes of similar investments. As a result, these investments now qualify as Level
2
investments for reporting purposes.
 
The Company's marketable securities are classified as available-for-sale and are reported at their estimated fair value with unrealized gains and losses reported in accumulated other comprehensive income. To the extent that the cost basis of the Company's marketable securities exceeds the fair value and the unrealized loss is considered to be other than temporary, an impairment charge is recognized and the amount recorded in accumulated other comprehensive income or loss is reclassified to earnings as a realized loss. The specific identification method is used in computing realized gains or losses.
 
Mortgage securities - available-for-sale
.
Mortgage securities include investments that were retained during the Company's lending and securitization process, conducted prior to
2017.
For the retained mortgage securities, the Company maintains the right to receive excess interest and other cash flow generated through the mortgage loan securitization vehicle. The Company receives the difference between the interest on the mortgage loans and the interest paid to the securitization bondholders. The Company also owns overcollateralization ("OC") classes of various securitization trusts. These OC bonds represent the difference in the principal of the underlying mortgage loans compared to the bonds sold to
third
parties. This extra collateral serves as a cushion for losses that have and
may
occur in the underlying mortgage pool. The OC bonds
may
receive cash if and when it is determined that actual losses are less than expectations. The timing and amount of cash to be generated by the OC bonds is contingent upon the performance of the underlying mortgage loan collateral.
 
The independent loan servicer controls and manages the individual mortgage loans and therefore the Company has
no
control over the loan performance. Collectively, these mortgage securities are identified by the Company as "retained mortgage securities," in order to distinguish them from the Company's traditional agency mortgage-backed securities.
 
As discussed in Note
1,
the Company sold all but
33
non-performing mortgage securities in
2018.
The Company evaluated the market conditions and other factors existing at the time of the sale as compared to
December 31, 2017
and determined that conditions were substantially the same as of the sale date and
December 31, 2017.
Therefore, as of
December 31, 2017
the Company valued these securities at the price at which it was sold. However, the Company determined that it could
not
extrapolate that price to the other retained mortgage securities because the underlying assets and their performance are
not
substantially similar to that of the security that was sold. Therefore, the other mortgage securities have been valued as discussed below.
 
For periods prior to
June 30, 2018,
the critical assumptions used in estimating the value of the mortgage securities include market interest rates, rate and severity of default, prepayment speeds and how long the security will continue to provide cash flow. To determine the assumptions, the Company and its independent valuation specialist rely primarily on historical mortgage loan performance and appropriate general economic indicators. The Company continuously reviews the assumptions used and monitors the efforts of the independent valuation specialist. The significant unobservable inputs used in preparing the fair value estimates are:
 
   
December 31, 2017
  
Weighted average:
        
Loss severity
    
62.1
 %
Default rate
    
2.0
 %
Prepayment speed
    
13.5
 %
Servicer's optional redemption date
  
None
  
 
The following table provides a reconciliation of the beginning and ending balances for the Company's retained mortgage securities – available-for-sale which are measured at fair value on a recurring basis using significant unobservable inputs (Level
3
) (in thousands):
 
   
For the Years Ended December 31,
  
   
2018
    
2017
  
Balance, beginning of period
   $
11,794
     $
9,791
  
Increases (decreases) to mortgage securities – available-for-sale:
                
Accretion
    
151
      
-
  
Proceeds from paydowns of securities (A)
    
(93
 )    
(51
 )
Gains realized upon sale of mortgage securities
    
(2,931
 )    
-
  
Market value adjustment (B)
    
(1,801
 )    
2,054
  
Securities transferred from Level 3 to Level 2
    
(7,120
 )    
-
  
Net decrease to level 3 mortgage securities – available-for-sale
    
(11,794
 )    
2,003
  
Balance, end of period
   $
-
     $
11,794
  
 
(A)
Cash received on mortgage securities with
no
cost basis was
$
0.9
million and $
2.8
million
during
2018
and
2017
, respectively.
(B)
The market value decrease shown is based on the normal decline in the security values based on the reduction of the future cash flows over time.
 
The following table provides the estimated fair value of financial instruments presents amounts that have been determined using available market information and appropriate valuation methodologies. However, considerable judgment is required to interpret market data to develop the estimates of fair value. Accordingly, the estimates presented herein are
not
necessarily indicative of the amounts that could be realized in a current market exchange. The use of different market assumptions or estimation methodologies could have a material impact on the estimated fair value amounts. The fair value of short-term financial assets and liabilities, such as service fees receivable, accounts payable and accrued expenses are
not
included in the following table as their carrying value approximates their fair value.
 
The estimated fair values of the Company's financial instruments are as follows as of
December 31, 2018
and
2017
(in thousands): 
 
   
As of
December 31,
  
   
2018
    
2017
  
   
Carrying Value
    
Fair Value
    
Carrying Value
    
Fair Value
  
Financial assets:
  
 
 
 
  
 
 
 
  
 
 
 
  
 
 
 
Marketable securities
   $
1
     $
1
     $
11,795
     $
11,795
  
Financial liabilities:
  
 
 
 
  
 
 
 
  
 
 
 
  
 
 
 
Senior notes
   $
85,938
     $
24,659
     $
85,938
     $
23,018
  
 
For the items in the table above
not
measured at fair value in the consolidated balance sheets but for which the fair value is disclosed, the fair value has been estimated using Level
2
methodologies for the marketable securities, such as bids from buyers on the securities. The senior notes utilize Level
3
methodologies, based on significant unobservable inputs that are supported by little or
no
market activity, such as discounted cash flow calculations based on internal cash flow forecasts. The debt balance from the revolving credit agreement is recorded in the consolidated balance sheet at an amount which approximates its fair value.
No
liabilities have been transferred between levels during any period presented. As disclosed above, the value of the marketable securities transferred from a Level
3
methodology as of
December 31, 2017
to a Level
2
methodology for the
second
quarter of
2018.
 
Senior Notes -
The fair value is estimated by discounting future projected cash flows using a discount rate commensurate with the risks involved. The interest rate on the senior notes is
three
-month LIBOR plus 
3.5%
per annum until maturity in
March 2033.
The
three
-month LIBOR used in the analysis was projected using a forward interest rate curve.
 
Financial assets reported at fair value on a nonrecurring basis include the following (in thousands):
 
   
December 31, 2017
 
   
Fair Value
(Level 3)
    
Gains and
(Losses)
  
Goodwill
   $
8,205
     $
(4,500
 )
 
Activity during
2018
for Goodwill, the Company's only Level 3 asset, measured on a nonrecurring basis is included in the following table (in thousands):
 
Goodwill Activity:
  
 
 
 
Balance, December 31, 2016
   $
-
  
Goodwill recorded in connection with the HCS Acquisition
    
12,705
  
Impairment charge
    
(4,500
 )
Balance, December 31, 2017
   $
8,205
  
 
See Note
7
for additional information regarding the Company's Goodwill and Intangible Assets.