Disclosures About Fair Value of Assets and Liabilities

6 Months Ended

Jun. 30, 2011

Disclosures About Fair Value of Assets and Liabilities

Note 6. Disclosures About Fair Value of Assets and Liabilities

The Corporation has adopted fair value accounting guidance that defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements.  This guidance 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. This 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 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 active 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 used for instruments measured at fair value on a recurring basis and recognized in the accompanying Consolidated Condensed Balance Sheets, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Investment securities

Where quoted, market prices are available in an active market and securities are classified within Level 1 of the valuation hierarchy. There are no securities classified within Level 1 of the hierarchy. 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 agencies, mortgage backs, state and municipal and equity securities. In certain cases where Level 1 or Level 2 inputs are not available, securities are classified within Level 3 of the hierarchy. Level 3 fair value, including corporate obligations and equity securities, was determined using a discounted cash flow model that incorporated market estimates of interest rates and volatility in markets that have not been active.

Third party vendors compile prices from various sources and may apply such techniques as matrix pricing to determine the value of identical or similar investment securities classified within Level 2. 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 rather relying on the investment securities’ relationship to other benchmark quoted investment securities. Any investment security not valued based upon the methods above are considered Level 3.

Pooled Trust Preferred Securities

Pooled trust preferred securities in the portfolio amount to $5.6 million in amortized cost, with a fair value of $144,000; all of which are classified as Level 3 inputs in the fair value hierarchy. These securities were rated A or better at inception, but at June 30, 2011, Moody’s ratings on these securities now range from Ca to C. The issuers in these securities are primarily banks, but some of the pools do include a limited number of insurance companies. On a quarterly basis, the Corporation uses an other-than-temporary impairment (“OTTI”) evaluation process to compare the present value of expected cash flows to determine whether an adverse change in cash flows has occurred. The OTTI process considers the structure and term of the collateralized debt obligation (“CDO”), interest rates, principal balances of note classes and underlying issuers, the timing and amount of interest and principal payments of the underlying issuers, and the allocation of the payments to the note classes.  The current estimate of expected cash flows is based on the most recent trustee reports and any other relevant market information including announcements of interest payment deferrals or defaults of underlying trust preferred securities. Assumptions used in the process include expected future default rates and prepayments as well as recovery assumptions on defaults and deferrals. In addition, the process is used to “stress” each CDO, or make assumptions more severe than expected activity, to determine the degree to which assumptions could deteriorate before the CDO could no longer fully support repayment of the Corporation’s note class. Upon completion of the June 30, 2011, quarterly analysis, the conclusion was no additional OTTI impairment for the three months ending June 30, 2011. The Corporation recognized OTTI impairment of $400,000 and $888,000 for the six months ended June 30, 2011 and June 30, 2010.

Interest rate swap agreements

See information regarding the Corporation’s interest rate derivative products in Note 5. Derivative Financial Instruments, included within the Notes to Consolidated Condensed Financial Statements of this Form 10Q.

The fair value is estimated by a third party using inputs that are primarily unobservable and cannot be corroborated by observable market data and, therefore, are classified within Level 3 of the valuation hierarchy.

The following presents the fair value measurements of assets and liabilities recognized in the Consolidated Condensed 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 June 30, 2011, and December 31, 2010.

	Fair Value Measurements Using
June 30, 2011	Fair Value			Quoted Prices in Active Markets for Identical Assets (Level 1)	Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Available for sale securities:
U.S. Government-sponsored agency securities	$	113			$	113
State and municipal		238,513				238,513
Mortgage-backed securities		349,145				349,145
Corporate obligations		176					$	176
Equity securities		3,265				3,261		4
Interest rate swap asset		3,783						3,783
Interest rate cap		954						954
Interest rate swap liability		(3,986	)					(3,986	)

	Fair Value Measurements Using
December 31, 2010	Fair Value			Quoted Prices in Active Markets for Identical Assets (Level 1)	Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Available for sale securities:
U.S. Government-sponsored agency securities	$	616			$	616
State and municipal		239,990				239,990
Mortgage-backed securities		295,317				295,317
Corporate obligations		182					$	182
Equity securities		3,265				3,261		4
Interest rate swap asset		4,002						4,002
Interest rate cap		1,109						1,109
Interest rate swap liability		(3,876	)					(3,876	)

The following is a reconciliation of the beginning and ending balances of recurring fair value measurements recognized in the Consolidated Condensed Balance Sheets using significant unobservable Level 3 inputs for the three and six months ended June 30, 2011, and 2010.

	Three Months Ended June 30, 2011												Six Months Ended June 30, 2011
	Available for Sale Securities			Interest Rate Swap Asset			Interest Rate Cap			Interest Rate Swap Liability			Available for Sale Securities			Interest Rate Swap Asset			Interest Rate Cap			Interest Rate Swap Liability
Balance at beginning of the period	$	173		$	3,647		$	1,124		$	(3,379	)	$	186		$	4,002		$	1,109		$	(3,876	)
Total realized and unrealized gains and losses:
Included in net income (loss)					586						(607	)		(400	)		112						(110	)
Included in other comprehensive income		(82	)	$	(450	)	$	(170	)					240		$	(331	)	$	(155	)
Purchases, issuances and settlements
Transfers in/(out) of Level 3
Principal payments		89												154
Ending balance at June 30, 2011	$	180		$	3,783		$	954		$	(3,986	)	$	180		$	3,783		$	954		$	(3,986	)

	Three Months Ended June 30, 2010								Six Months Ended June 30, 2010
	Available for Sale Securities			Interest Rate Swap Asset		Interest Rate Swap Liability			Available for Sale Securities			Interest Rate Swap Asset		Interest Rate Swap Liability
Balance at beginning of the period	$	1,394		$	2,843	$	(2,873	)	$	2,483		$	2,624	$	(2,648	)
Total realized and unrealized gains and losses:
Included in net income (loss)		(400	)		1,081		(1,288	)		(888	)		1,300		(1,513	)
Included in other comprehensive income		345								(324	)
Purchases, issuances and settlements
Transfers in/(out) of Level 3
Principal payments		92								160
Ending balance at June 30, 2010	$	1,431		$	3,924	$	(4,161	)	$	1,431		$	3,924	$	(4,161	)

Following is a description of valuation methodologies used for instruments measured at fair value on a non-recurring basis and recognized in the Consolidated Condensed Balance Sheets, as well as the general classification of such instruments pursuant to the valuation hierarchy.

	Fair Value Measurements Using
June 30, 2011	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)	Significant Other Observable Inputs (Level 2)	Significant Unobservable Inputs (Level 3)
Impaired loans	$	37,957			$	37,957
Other real estate owned (collateral dependent)	$	7,830			$	7,830

	Fair Value Measurements Using
December 31, 2010	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)	Significant Other Observable Inputs (Level 2)	Significant Unobservable Inputs (Level 3)
Impaired loans	$	45,432			$	45,432
Other real estate owned (collateral dependent)	$	6,314			$	6,314

Impaired Loans (collateral dependent) and Other Real Estate Owned

Loan impairment is reported when substantial doubt about the collectability of scheduled payments exists. Impaired loans are carried at the present value of estimated future cash flows using the loan’s existing rate, or the fair value of collateral if the loan is collateral dependent. A portion of the allowance for loan losses is allocated to impaired loans if the value of such loans is deemed to be less than the unpaid balance. If these allocations cause the allowance for loan losses to increase, such increase is reported as a component of the provision for loan losses. Loan losses are charged against the allowance when management believes the uncollectability of the loan is confirmed. During the first six months of 2011, certain impaired loans were partially charged-off or re-evaluated. The valuation would be considered Level 3, consisting of appraisals of underlying collateral and discounted cash flow analysis.

The fair value for impaired loans and other real estate owned is measured based on the value of the collateral securing those loans or real estate and is determined using several methods. The fair value of real estate is generally determined based on appraisals by qualified licensed appraisers. The appraisers typically determine the value of the real estate by utilizing an income or market valuation approach. If an appraisal is not available, the fair value may be determined by using a cash flow analysis. Fair value on other collateral such as business assets is typically calculated by using financial information such as financial statements and aging reports provided by the borrower and is discounted as considered appropriate.

The estimated fair values of the Corporation’s financial instruments are as follows:

	June 30, 2011				December 31, 2010
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Assets:
Cash and due from banks	$	50,874	$	50,874	$	50,844	$	50,844
Federal funds sold						7,463		7,463
Interest-bearing time deposits		15,865		15,865		65,216		65,216
Investment securities available for sale		591,212		591,212		539,370		539,370
Investment securities held to maturity		347,154		351,865		287,427		286,270
Mortgage loans held for sale		4,846		4,846		21,469		21,469
Loans		2,646,889		2,649,114		2,752,706		2,715,924
FRB and FHLB stock		31,384		31,384		33,884		33,884
Interest Rate Swap Asset		4,737		4,737		5,111		5,111
Interest receivable		17,001		17,001		18,674		18,674
Liabilities:
Deposits	$	3,142,533	$	3,147,704	$	3,268,880	$	3,280,489
Borrowings:
Federal funds purchased		22,978		22,978
Securities sold under repurchase agreements		124,236		124,774		109,871		110,494
Federal Home Loan Bank advances		74,050		77,702		82,684		87,463
Subordinated debentures, revolving credit lines and term loans		226,580		178,832		226,440		176,259
Interest Rate Swap Liability		3,986		3,986		3,876		3,876
Interest Payable		3,601		3,601		4,262		4,262

Cash and due from banks:  The fair value of cash and cash equivalents approximates carrying value.

Federal Funds Sold:  The fair value of Federal funds sold approximates carrying value.

Interest-bearing time deposits:  The fair value of interest-bearing time deposits approximates carrying value.

Investment securities:  Fair value is based on quoted market prices, if available.  If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities.

Mortgage loans held for sale:  The fair value of mortgage loans held for sale approximates carrying value.

Loans:  The fair value for loans is estimated using discounted cash flow analysis, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality.  See Impaired Loans above.

Federal Reserve and Federal Home Loan Bank stock:  The fair value of Federal Reserve Bank and Federal Home Loan Bank stock is based on the price which it may be resold to the Federal Reserve and Federal Home Loan Bank.

Interest receivable and Interest payable:  The fair value of interest receivable/payable approximates carrying value.

Derivative instruments:  The fair value of the derivatives, consisting of interest rate swaps, reflects the estimated amounts that would have been received to terminate these contracts at the reporting date based upon pricing or valuation models applied to current market information.

Deposits:  The fair values of noninterest-bearing and interest-bearing demand accounts and savings deposits are equal to the amount payable on demand at the balance sheet date. The carrying amounts for variable rate, fixed-term certificates of deposit approximate their fair values at the balance sheet date. Fair values for fixed-rate certificates of deposit and other time deposits are estimated using a discounted cash flow calculation that applies interest rates currently being offered to a schedule of aggregated expected monthly maturities on such time deposits.

Federal funds purchased: The fair value of federal funds purchased approximates carrying value.

Borrowings:  The fair value of borrowings is estimated using a discounted cash flow calculation, based on current rates for similar debt.