Fair Value Measurements

6 Months Ended

Jun. 30, 2023

Fair Value Measurements [Abstract]

Fair Value Measurements

Note 14 – Fair Value Measurements

Accounting guidance under GAAP defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. This accounting guidance also establishes a fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.

The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities on a recurring basis and to determine fair value disclosures. Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis. These nonrecurring fair value adjustments typically involve application of lower of cost or market accounting or write-downs of individual assets.

Under fair value accounting guidance, assets and liabilities are grouped at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine their fair values. These hierarchy levels are:

Level 1 inputs – Unadjusted quoted prices in active markets for identical assets or liabilities that the entity has the ability to access at the measurement date.

Level 2 inputs – Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These might include quoted prices for similar assets or liabilities in active markets, and inputs other than quoted prices that are observable for the asset or liability, such as interest rates and yield curves that are observable at commonly quoted intervals.

Level 3 inputs – Unobservable inputs for determining the fair values of assets or liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets or liabilities.

Below is a discussion on the Company’s assets measured at fair value on a recurring basis.

Investment Securities Available for Sale

Fair value measurement for investment securities available for sale is based on quoted prices from an independent pricing service. The fair value measurements consider observable data that may include present value of future cash flows, prepayment assumptions, credit loss assumptions and other factors. The Company classifies its investments in U.S. Treasury securities, if any, as Level 1 in the fair value hierarchy, and it classifies its investments in U.S. Government agencies securities and mortgage-backed securities issued or guaranteed by U.S. Government sponsored entities as Level 2.

Equity Securities

Fair value measurement for equity securities is based on quoted market prices retrieved by the Company via on-line resources. Although these securities have readily available fair market values, the Company determined that they should be classified as Level 2 investments in the fair value hierarchy due to not being considered traded in a highly active market.

LHFS

Loans held for sale (LHFS) are carried at fair value, which is determined based on Mark to Trade (MTT) for allocated/committed loans or Mark to Market (MTM) analysis for unallocated/uncommitted loans based on third-party pricing models (Level 2).

LHFI, at fair value

Certain loans that have been transferred from LHFS to LHFI have and continue to be accounted for under the fair value option as described in Note 1. These loans are valued based on third-party pricing models using quoted prices for similar loans and adjusted for observable inputs related to the loans.

MSRs

The fair value of mortgage servicing rights (MSRs) is determined using a valuation model administered by a third party that calculates the present value of estimated future net servicing income (Level 3). The model incorporates assumptions that market participants use in estimating future net servicing income, including estimates of prepayment speeds, discount rate, default rates, cost to service (including delinquency and foreclosure costs), escrow account earnings, contractual servicing fee income, and other ancillary income such as late fees. Management reviews all significant assumptions on a quarterly basis. Mortgage loan prepayment speed, a key assumption in the model, is the annual rate at which borrowers are forecasted to repay their mortgage loan principal. The discount rate used to determine the present value of estimated future net servicing income, another key assumption in the model, is an estimate of the required rate of return investors in the market would require for an asset with similar risk. Both assumptions can, and generally will, change as market conditions and interest rates change.

The significant unobservable inputs used in the fair value measurement of the reporting entity’s residential MSRs are prepayment speeds, probability of default, rate of return, and cost of servicing. Significant increases/decreases in any of those inputs in isolation would have resulted in a significantly lower/higher fair value measurement. Generally, a change in the assumption used for prepayment speeds would have been accompanied by a directionally similar change in the markets, i.e. the 10-Year Treasury, and in the probability of default.

IRLCs

We utilize a third-party specialist model to estimate the fair value of our IRLCs, which are valued based upon mortgage securities (TBA) prices less estimated costs to process and settle the loan. Fair value is adjusted for the estimated probability of the loan closing with the borrower (Level 3).

(Dollars in thousands)	Fair Value		Valuation Technique	Unobservable Input	Range
June 30, 2023
MSRs (1)	$	5,466	Market Approach	Weighted average prepayment speed (PSA) (2)	111
IRLCs - asset	$	32	Market Approach	Range of pull through rate	86% - 100%
				Average pull through rate	98%

(Dollars in thousands)	Fair Value		Valuation Technique	Unobservable Input	Range
December 31, 2022
MSRs (1)	$	5,275	Market Approach	Weighted average prepayment speed (PSA) (2)	121
IRLCs - net asset	$	28	Market Approach	Range of pull through rate	78% - 100%
				Average pull through rate	92%

(1) The weighted average was calculated with reference to the principal balance of the underlying mortgages.

(2) PSA = Public Securities Association Standard Prepayment Model

The following table presents activity in MSRs for the three and six months ended June 30, 2023.

	For the Three Months Ended		For the Six Months Ended
(Dollars in thousands)	June 30, 2023		June 30, 2023
Beginning balance	$	5,310	$	5,275
Servicing rights resulting from sales of loans		114		231
Valuation adjustment		42		(40)
Ending balance	$	5,466	$	5,466

The following table presents activity in the IRLCs for the three and six months ended June 30, 2023.

	For the Three Months Ended		For the Six Months Ended
(Dollars in thousands)	June 30, 2023		June 30, 2023
Beginning balance	$	101	$	28
Valuation adjustment		(69)		4
Ending balance	$	32	$	32

Forward Contracts

To avoid interest rate risk, we hedge the open locked/closed position with TBA forward trades. On a regular basis, we allocate disbursed loans to mandatory commitments with government-sponsored enterprises (“GSE”) and private investors delivering the loans within 120 days of origination to maximize interest earnings. For a small percentage of our business, we enter into best efforts forward sales commitments with investors at the time we make an IRLC to a borrower. Once a loan has been closed and funded, the best efforts commitments convert to mandatory forward sales commitments. The mandatory commitments are derivatives, and we measure and report them at fair value. Fair value is based on the gain or

loss that would occur if we were to pair-off the transaction with the investor at the measurement date. This is a level 2 input. We have elected to measure and report best efforts commitments at fair value, when outstanding, using a valuation methodology similar to that used for mandatory commitments.

Market assumptions utilized in the fair value measurement of the reporting entity’s residential mortgage derivatives, inclusive of IRLCs, Closed Loan Inventory, TBA derivative trades, and Mandatory Forwards may be subject to investor overlays that may result in a significantly lower fair value measurement. Generally such overlays are announced with advanced notice in order to include the risk adjuster, however there are times when announcements are mandated resulting in a lower fair value measurement. Additionally market assumptions such as spec pool payups may result in a significantly higher fair value measurement at time of loan allocation to specific trades.

The following tables present the recorded amount of assets measured at fair value on a recurring basis at June 30, 2023 and December 31, 2022. No assets were transferred from one hierarchy level to another during the first six months of 2023 or 2022.

					Significant
					Other		Significant
			Quoted		Observable		Unobservable
			Prices		Inputs		Inputs
(Dollars in thousands)	Fair Value		(Level 1)		(Level 2)		(Level 3)
June 30, 2023
Assets:
Securities available for sale:
U.S. Government agencies	$	18,062	$	—	$	18,062	$	—
Mortgage-backed		58,179		—		58,179		—
Other debt securities		1,828		—		1,828		—
		78,069		—		78,069		—
Equity securities		1,245		—		1,245		—
TBA securities		117		—		117		—
LHFS		6,845		—		6,845		—
LHFI, at fair value		9,745		—		9,745		—
MSRs		5,466		—		—		5,466
IRLCs		32		—		—		32
Total assets at fair value	$	101,519	$	—	$	96,021	$	5,498
Liabilities:
TBA securities	$	19	$	—	$	19	$	—
Total liabilities at fair value	$	19	$	—	$	19	$	—

					Significant
					Other		Significant
			Quoted		Observable		Unobservable
			Prices		Inputs		Inputs
(Dollars in thousands)	Fair Value		(Level 1)		(Level 2)		(Level 3)
December 31, 2022
Assets:
Securities available for sale:
U.S. Government agencies	$	18,178	$	—	$	18,178	$	—
Mortgage-backed		63,519		—		63,519		—
Other debt securities		1,890		—		1,890		—
		83,587		—		83,587		—
Equity securities		1,233		—		1,233		—
TBA securities		41		—		41		—
LHFS		4,248		—		4,248		—
LHFI, at fair value		8,437		—		8,437		—
MSRs		5,275		—		—		5,275
IRLCs		35		—		—		35
Total assets at fair value	$	102,856	$	—	$	97,546	$	5,310
Liabilities:
IRLCs	$	7	$	—	$	—	$	7
TBA securities		6		—		6		—
Total liabilities at fair value	$	13	$	—	$	6	$	7

Below is a discussion on the Company’s assets measured at fair value on a nonrecurring basis.

Individually Evaluated Collateral-Dependent Loans

Loans for which repayment is substantially expected to be provided through the operation or sale of collateral are considered collateral dependent, and are valued based on the estimated fair value of the collateral, less estimated costs to sell at the reporting date, where applicable. Individually evaluated collateral-dependent loans are reviewed and evaluated on at least a quarterly basis for additional impairment and adjusted accordingly, based on the factors identified above. Accordingly, collateral dependent loans are classified within Level 3 of the fair value hierarchy.

Other Real Estate Owned (Foreclosed Assets)

Foreclosed assets are adjusted for fair value upon transfer of loans to foreclosed assets establishing a new cost basis. Subsequently, foreclosed assets are carried at the lower of carrying value or fair value. The estimated fair value for foreclosed assets included in Level 3 are determined by independent market based appraisals and other available market information, less costs to sell, that may be reduced further based on market expectations or an executed sales agreement. If the fair value of the collateral deteriorates subsequent to the initial recognition, the Company records the foreclosed asset as a non-recurring Level 3 adjustment. Valuation techniques are consistent with those techniques applied in prior periods.

The following tables set forth the Company’s financial and nonfinancial assets subject to fair value adjustments (impairment) on a nonrecurring basis at June 30, 2023 and December 31, 2022. Assets are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.

	Quantitative Information about Level 3 Fair Value Measurements
						Weighted
(Dollars in thousands)	Fair Value		Valuation Technique	Unobservable Input	Range	Average (1)
June 30, 2023
Nonrecurring measurements:
Individually evaluated collateral dependent loans	$	890	Appraisal of collateral	Liquidation expense	10%	10%
Other real estate owned	$	179	Appraisal of collateral	Appraisal adjustments	0% - 20%	(0%)

	Quantitative Information about Level 3 Fair Value Measurements
						Weighted
(Dollars in thousands)	Fair Value		Valuation Technique	Unobservable Input	Range	Average (1)
December 31, 2022
Nonrecurring measurements:
Other real estate owned	$	197	Appraisal of collateral	Appraisal adjustments	0% - 20%	(2%)

(1)Unobservable inputs were weighted by the relative fair value of the instruments.

The carrying amounts and estimated fair values of the Company’s financial instruments are presented in the following table. Fair values for June 30, 2023 and December 31, 2022 were estimated using an exit price notion.

	June 30, 2023				December 31, 2022
			Estimated				Estimated
	Carrying		Fair		Carrying		Fair
(Dollars in thousands)	Amount		Value		Amount		Value
Financial assets
Level 1 inputs
Cash and cash equivalents	$	45,827	$	45,827	$	55,499	$	55,499
Level 2 inputs
Investment securities available for sale	$	78,069	$	78,069	$	83,587	$	83,587
Investment securities held to maturity		536,970		473,296		559,455		494,626
Equity securities		1,245		1,245		1,233		1,233
Restricted securities		21,208		21,208		11,169		11,169
LHFS		6,845		6,845		4,248		4,248
TBA securities		117		117		41		41
Cash surrender value on life insurance		60,150		60,150		59,218		59,218
Loans, at fair value		9,745		9,745		8,437		8,437
Level 3 inputs
Loans, net	$	2,714,464	$	2,550,457	$	2,531,027	$	2,431,808
MSRs		5,466		5,466		5,275		5,275
IRLCs		32		32		35		35
Financial liabilities
Level 2 inputs
Deposits:
Noninterest-bearing demand	$	778,963	$	778,963	$	862,015	$	862,015
Checking plus interest		694,221		694,221		694,101		694,101
Money market		600,724		600,724		709,132		709,132
Savings		270,884		270,884		319,814		319,814
Club		1,098		1,098		374		374
Certificates of deposit		591,636		583,747		424,348		410,455
Advances from FHLB - short-term		276,000		276,012		40,000		40,002
Subordinated debt		43,227		40,377		43,072		41,193
TBA Securities		19		19		6		6
Level 3 inputs
IRLCs		—		—		7		7