FAIR VALUE

Fair value is the exchange price that would be received for an asset or paid to transfer a liability (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. There are three levels of inputs that may be used to measure fair values:


•	Level 1 – Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.


•	Level 2 – Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.


•	Level 3 – Significant unobservable inputs that reflect a company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

The Company used the following methods and significant assumptions to estimate the fair value of each type of financial instrument:

Securities: The fair values of marketable equity securities are generally determined by quoted prices, in active markets, for each specific security (Level 1). If Level 1 measurement inputs are not available for a marketable equity security, we determine its fair value based on the quoted price of a similar security traded in an active market (Level 2). The fair values of debt securities are generally determined by matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2).

Impaired Loans: The fair value of impaired loans with specific allocations of the allowance for loan losses is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available for similar loans and collateral underlying such loans. Non-real estate collateral may be valued using an appraisal, net book value per the borrower’s financial statements, or aging reports, adjusted or discounted based on management’s historical knowledge, changes in market conditions from the time of the valuation, and management’s expertise and knowledge of the client and client’s business, resulting in a Level 3 fair value classification. Impaired loans are evaluated on a quarterly basis for additional impairment and adjusted in accordance with the allowance policy.

Other Real Estate Owned: Assets acquired through or instead of loan foreclosure are initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. These assets are subsequently accounted for at lower of cost or fair value less estimated costs to sell. Fair value is commonly based on recent real estate appraisals which are updated no less frequently than annually. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach with data from comparable properties. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Real estate owned properties are evaluated on a quarterly basis for additional impairment and adjusted accordingly.

The following table sets forth the Company’s financial assets that were accounted for at fair value and are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.



	Fair Value Measurements Using
	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Fair Value
September 30, 2018
Securities:
Certificates of deposit	$	—	$	89,175	$	—	$	89,175
Mortgage-backed securities – residential	—		10,925		—		10,925
Collateralized mortgage obligations – residential	—		3,821		—		3,821
	$	—	$	103,921	$	—	$	103,921
December 31, 2017
Securities:
Certificates of deposit	$	—	$	75,916	$	—	$	75,916
Equity mutual fund	499		—		—		499
Mortgage-backed securities - residential	—		12,472		—		12,472
Collateralized mortgage obligations – residential	—		4,486		—		4,486
SBA-guaranteed loan participation certificates	—		10		—		10
	$	499	$	92,884	$	—	$	93,383

The following table sets forth the Company’s assets that were measured at fair value on a non-recurring basis:



	Fair Value Measurement Using
	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Fair Value
September 30, 2018
Other real estate owned:
Land	$	—	$	—	$	1	$	1

December 31, 2017
Other real estate owned:
One-to-four family residential real estate	$	—	$	—	$	102	$	102
Nonresidential real estate	—		—		814		814
	$	—	$	—	$	916	$	916

At September 30, 2018 and December 31, 2017 there were no impaired loans that were measured for impairment using the fair value of the collateral for collateral–dependent loans and which had specific valuation allowances.

OREO, which is carried at the lower of cost or fair value less costs to sell, and had a carrying value of $24,000 less a valuation allowance of $23,000, or $1,000 at September 30, 2018, compared to a carrying value of $1.2 million less a valuation allowance of $261,000, or $916,000, at December 31, 2017. There were $27,000 and $301,000 of valuation adjustments of OREO recorded for the nine months ended September 30, 2018 and 2017, respectively.

The following table presents quantitative information, based on certain empirical data with respect to Level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis:



	Fair Value		Valuation Technique(s)	Significant Unobservable Input(s)	Range (Weighted Average)
September 30, 2018
Other real estate owned:
Land	1		Sales comparison	Discount applied to valuation	12.3%
	$	1

December 31, 2017
Other real estate owned
One-to-four family residential real estate	$	102	Sales comparison	Discount applied to valuation	5.6%
Nonresidential real estate	814		Sales comparison	Comparison between sales and income approaches	-3.66% to 15.22% (11.0%)
	$	916

The carrying amount and estimated fair value of financial instruments are as follows:



			Fair Value Measurements at September 30, 2018 Using:
	Carrying Amount		Level 1		Level 2		Level 3		Total
Financial assets
Cash and cash equivalents	$	86,934	$	12,473	$	74,461	$	—	$	86,934
Securities	103,921		—		103,921		—		103,921
Loans receivable, net of allowance for loan losses	1,267,787		—		—		1,265,906		1,265,906
FHLB and FRB stock	8,026		—		—		—		N/A
Accrued interest receivable	4,974		—		4,974		—		4,974
Financial liabilities
Noninterest-bearing demand deposits	$	225,446	$	—	$	225,446	$	—	$	225,446
NOW and money market accounts	549,631		—		549,631		—		549,631
Savings deposits	155,232		—		155,232		—		155,232
Certificates of deposit	365,461		—		362,670		—		362,670
Borrowings	21,232		—		21,214		—		21,214
Accrued interest payable	361		—		361		—		361



			Fair Value Measurements at December 31, 2017 Using:
	Carrying Amount		Level 1		Level 2		Level 3		Total
Financial assets
Cash and cash equivalents	$	127,592	$	13,572	$	114,020	$	—	$	127,592
Securities	93,383		499		92,884		—		93,383
Loans receivable, net of allowance for loan losses	1,314,651		—		1,323,139		—		1,323,139
FHLB and FRB stock	8,290		—		—		—		N/A
Accrued interest receivable	4,619		—		4,619		—		4,619
Financial liabilities
Noninterest-bearing demand deposits	$	234,354	$	—	$	234,354	$	—	$	234,354
NOW and money market accounts	589,238		—		589,238		—		589,238
Savings deposits	160,501		—		160,501		—		160,501
Certificates of deposit	355,958		—		353,969		—		353,969
Borrowings	60,768		—		60,627		—		60,627
Accrued interest payable	147		—		147		—		147

For purposes of the above, the following assumptions were used:

Cash and Cash Equivalents: The estimated fair values for cash and cash equivalents are based on their carrying value due to the short-term nature of these assets.

Loans: At September 30, 2018, the exit price observations are obtained from an independent third-party using its proprietary valuation model and methodology and may not reflect actual or prospective market valuations. The valuation is based on the probability of default, loss given default, recovery delay, prepayment, and discount rate assumptions. The new methodology is a result of the adoption of ASU 2016-01.

At December 31, 2017, the estimated fair value for loans has been determined by calculating the present value of future cash flows based on the current rate the Company would charge for similar loans with similar maturities, applied for an estimated time period until the loan is assumed to be repriced or repaid. The methods utilized to estimate fair value of loans do not necessarily represent an exit price.

FHLB and FRB Stock: It is not practicable to determine the fair value of FHLB and FRB stock due to the restrictions placed on their transferability.

Deposit Liabilities: The estimated fair value for certificates of deposit has been determined by calculating the present value of future cash flows based on estimates of rates the Company would pay on such deposits, applied for the time period until maturity. The estimated fair values of noninterest-bearing demand, NOW, money market, and savings deposits are assumed to approximate their carrying values as management establishes rates on these deposits at a level that approximates the local market area. Additionally, these deposits can be withdrawn on demand.

Borrowings: The estimated fair values of advances from the FHLB and notes payable are based on current market rates for similar financing. The estimated fair value of securities sold under agreements to repurchase is assumed to equal its carrying value due to the short-term nature of the liability.

Accrued Interest: The estimated fair values of accrued interest receivable and payable are assumed to equal their carrying value.

Off-Balance-Sheet Instruments: Off-balance-sheet items consist principally of unfunded loan commitments, standby letters of credit, and unused lines of credit. The estimated fair values of unfunded loan commitments, standby letters of credit, and unused lines of credit are not material.

While the above estimates are based on management’s judgment of the most appropriate factors, as of the balance sheet date, there is no assurance that the estimated fair values would have been realized if the assets were disposed of or the liabilities settled at that date, since market values may differ depending on the various circumstances. The estimated fair values would also not apply to subsequent dates.

In addition, other assets and liabilities that are not financial instruments, such as premises and equipment, are not included in the above disclosures.