Fair Value of Financial Instruments

ASC Topic 820, Fair Value Measurements, defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASU Topic 820 also specifies 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 standard describes three levels of inputs that may be used to measure fair value:


Level 1	Quoted prices in active markets for identical assets or liabilities


Level 2	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 for substantially the full term of the assets or liabilities


Level 3	Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities

Following is a description of the valuation methodologies and inputs used for assets measured at fair value on a recurring basis and recognized in the accompanying consolidated balance sheets, as well as the general classification of such assets pursuant to the valuation hierarchy.

Available-for-Sale Securities

Where quoted market prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 securities include highly liquid mutual funds. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics or discounted cash flows.

Level 2 securities include U.S. Government-sponsored agencies, municipal securities, mortgage and asset-backed securities and certain corporate securities. Matrix pricing is a mathematical technique widely used in the banking industry to value investment securities without relying exclusively on quoted prices for specific investment securities but also on the investment securities’ relationship to other benchmark quoted investment securities.

In certain cases where Level 1 or Level 2 inputs are not available, securities are classified within Level 3 of the hierarchy. Fair values are calculated using discounted cash flows. Discounted cash flows are calculated based off of the anticipated future cash flows updated to incorporate loss severities. Rating agency and industry research reports as well as default and deferral activity are reviewed and incorporated into the calculation. The Company did not own any securities classified within Level 3 of the hierarchy as of December 31, 2017 or 2016.

Loans Held-for-Sale (mandatory pricing agreements)

The fair value of loans held-for-sale is determined using quoted prices for similar assets, adjusted for specific attributes of that loan (Level 2).

Interest Rate Swap Agreements

The fair values of interest rate swap agreements are estimated using current market interest rates as of the balance sheet date and calculated using discounted cash flows that are observable or that can be corroborated by observable market data and, therefore, are classified within Level 2 of the valuation hierarchy.

Forward Contracts

The fair values of forward contracts on to-be-announced securities are determined using quoted prices in active markets, or benchmarked thereto (Level 1).

Interest Rate Lock Commitments

The fair values of IRLCs are determined using the projected sale price of individual loans based on changes in market interest rates, projected pull-through rates (the probability that an IRLC will ultimately result in an originated loan), the reduction in the value of the applicant’s option due to the passage of time, and the remaining origination costs to be incurred based on management’s estimate of market costs (Level 3).

The following tables present the fair value measurements of assets and liabilities recognized in the accompanying consolidated balance sheets measured at fair value on a recurring basis and the level within the fair value hierarchy in which the fair value measurements fall at December 31, 2017 and 2016.



				December 31, 2017
				Fair Value Measurements Using
	Fair Value			Quoted Prices in Active Markets for Identical Assets (Level 1)			Significant Other Observable Inputs (Level 2)			Significant Unobservable Inputs (Level 3)
U.S. Government-sponsored agencies	$	133,190		$	—		$	133,190		$	—
Municipal securities	96,377			—			96,377			—
Mortgage-backed securities	209,720			—			209,720			—
Asset-backed securities	5,009			—			5,009			—
Corporate securities	26,047			—			26,047			—
Other securities	2,932			2,932			—			—
Total available-for-sale securities	$	473,275		$	2,932		$	470,343		$	—
Interest rate swaps	(271		)	—			(271		)	—
Loans held-for-sale (mandatory pricing agreements)	23,571			—			23,571			—
Forward contracts	(80		)	(80		)	—			—
IRLCs	551			—			—			551



			December 31, 2016
			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
U.S. Government-sponsored agencies	$	91,896	$	—	$	91,896	$	—
Municipal securities	91,886		—		91,886		—
Mortgage-backed securities	231,641		—		231,641		—
Asset-backed securities	19,534		—		19,534		—
Corporate securities	18,811				18,811
Other securities	2,932		2,932		—		—
Total available-for-sale securities	$	456,700	$	2,932	$	453,768	$	—
Loans held-for-sale (mandatory pricing agreements)	27,101		—		27,101		—
Forward contracts	438		438		—		—
IRLCs	610		—		—		610

The following table reconciles the beginning and ending balances of recurring fair value measurements recognized in the accompanying consolidated balance sheets using significant unobservable (Level 3) inputs.



	Interest Rate Lock Commitments
Balance as of January 1, 2015	$	521
Total realized gains (losses)
Included in net income	61
Included in other comprehensive income	—
Sales	—
Balance, December 31, 2015	582
Total realized gains
Included in net income	28
Balance, December 31, 2016	610
Total realized gains
Included in net income	(59		)
Balance, December 31, 2017	$	551

The following describes the valuation methodologies and inputs used for assets measured at fair value on a nonrecurring basis, as well as the general classification of such assets pursuant to the valuation hierarchy.

Impaired Loans (Collateral Dependent)

Loans for which it is probable that the Company will not collect all principal and interest due according to contractual terms are measured for impairment. The amount of the impairment may be determined based on the fair value of the underlying collateral, less costs to sell, the estimated present value of future cash flows or the loan’s observable market price.

If the impaired loan is identified as collateral dependent, the fair value of the underlying collateral, less costs to sell, is used to measure impairment. This method requires obtaining a current independent appraisal of the collateral and applying a discount factor to the value. If the impaired loan is not collateral dependent, the Company utilizes a discounted cash flow analysis to measure impairment.

Impaired loans with a specific valuation allowance based on the value of the underlying collateral or a discounted cash flow analysis are classified as Level 3 assets.

There were no impaired loans that were measured at fair value on a nonrecurring basis at December 31, 2017 or 2016.

Unobservable (Level 3) Inputs

The following tables present quantitative information about unobservable inputs used in recurring and nonrecurring Level 3 fair value measurements other than goodwill.



	Fair Value at December 31, 2017		Valuation Technique	Unobservable Inputs	Range
IRLCs	$	551	Discounted cash flow	Loan closing rates	39% - 100%



	Fair Value at December 31, 2016		Valuation Technique	Unobservable Inputs	Range
IRLCs	$	610	Discounted cash flow	Loan closing rates	43% - 99%

The following methods were used to estimate the fair value of all other financial instruments recognized in the accompanying consolidated balance sheets at amounts other than fair value:

Cash and Cash Equivalents

For these instruments, the carrying amount is a reasonable estimate of fair value.

Interest-Bearing Time Deposits

The fair value of these financial instruments approximates carrying value.

Held-to-Maturity Securities

Fair values are determined by using models that are based on security-specific details, as well as relevant industry and economic factors. The most significant of these inputs are quoted market prices, and interest rate spreads on relevant benchmark securities.

Loans Held-For-Sale (best efforts pricing agreements)

The fair value of these loans approximates carrying value.

Loans

The fair value of loans is estimated by discounting future cash flows using current rates at which similar loans would be made to borrowers with similar credit ratings and remaining maturities.

Accrued Interest Receivable

The fair value of these financial instruments approximates carrying value.

Federal Home Loan Bank of Indianapolis Stock

The fair value approximates carrying value.

Deposits

The fair value of noninterest-bearing and interest-bearing demand deposits, savings and money market accounts approximates carrying value. The fair value of fixed maturity certificates of deposit and brokered deposits are estimated using rates currently offered for deposits of similar remaining maturities.

Advances from Federal Home Loan Bank

The fair value of fixed rate advances is estimated using rates currently offered for similar remaining maturities. The carrying value of variable rate advances approximates fair value.

Subordinated Debt

The fair value of the Company’s publicly traded subordinated debt is obtained from quoted market prices. The fair value of the Company’s remaining subordinated debt is estimated using discounted cash flow analysis, based on current borrowing rates for similar types of debt instruments.

Accrued Interest Payable

The fair value of these financial instruments approximates carrying value.

Commitments

The fair value of commitments to extend credit are based on fees currently charged to enter into similar agreements with similar maturities and interest rates. The Company determined that the fair value of commitments was zero based on the contractual value of outstanding commitments at December 31, 2017 and 2016.

The following tables summarize the carrying value and estimated fair value of all financial assets and liabilities at December 31, 2017 and 2016:



	December 31, 2017
	Fair Value Measurements Using
	Carrying Amount		Fair Value		Quoted Prices In Active Market for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Cash and cash equivalents	$	47,981	$	47,981	$	47,981	$	—	$	—
Held-to-maturity securities	19,209		19,083		—		19,083		—
Loans held-for-sale (best efforts pricing agreements)	27,835		27,835		—		27,835		—
Net loans	2,091,193		2,051,545		—		—		2,051,545
Accrued interest receivable	11,944		11,944		11,944		—		—
Federal Home Loan Bank of Indianapolis stock	19,575		19,575		—		19,575		—
Deposits	2,084,941		2,057,708		688,800		—		1,368,908
Advances from Federal Home Loan Bank	410,176		397,950		—		397,950		—
Subordinated debt	36,726		39,972		26,520		13,452		—
Accrued interest payable	311		311		311		—		—



	December 31, 2016
	Fair Value Measurements Using
	Carrying Amount		Fair Value		Quoted Prices In Active Market for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Cash and cash equivalents	$	39,452	$	39,452	$	39,452	$	—	$	—
Interest-bearing time deposits	250		250		250		—		—
Held-to-maturity securities	16,671		16,197		—		16,197		—
Net loans	1,250,789		1,244,918		—		—		1,244,918
Accrued interest receivable	6,708		6,708		6,708		—		—
Federal Home Loan Bank of Indianapolis stock	8,910		8,910		—		8,910		—
Deposits	1,462,867		1,441,794		492,435		—		949,359
Advances from Federal Home Loan Bank	189,981		186,258		—		186,258		—
Subordinated debt	36,578		38,425		24,900		13,525		—
Accrued interest payable	112		112		112		—		—