Note 10. Fair Value Measurements

The Company follows FASB ASC 820-10, Fair Value Measurements and Disclosures, (formerly SFAS 157, “Fair Value Measurements,”) which among other things, requires enhanced disclosures about assets and liabilities carried at fair value. ASC 820-10 establishes a hierarchal disclosure framework associated with the level of pricing observability utilized in measuring financial instruments at fair value. The three broad levels of the hierarchy are as follows:

Level I – Quoted prices are available in active markets for identical assets or liabilities as of the reported date. The type of financial instruments included in Level I are highly liquid cash instruments with quoted prices such as G-7 government, agency securities, listed equities and money market securities, as well as listed derivative instruments.

Level II – Pricing inputs are other than quoted prices in active markets, which are either directly or indirectly observable as of the reported date. The nature of these financial instruments include cash instruments for which quoted prices are available but traded less frequently, derivative instruments whose fair value have been derived using a model where inputs to the model are directly observable in the market, or can be derived principally from or corroborated by observable market data, and instruments that are fair valued using other financial instruments, the parameters of which can be directly observed. Instruments which are generally included in this category are corporate bonds and loans, mortgage whole loans, municipal bonds and OTC derivatives.

Level III – Instruments that have little to no pricing observability as of the reported date. These financial instruments do not have two-way markets and are measured using management’s best estimate of fair value, where the inputs into the determination of fair value require significant management judgment or estimation. Instruments that are included in this category generally include certain commercial mortgage loans, certain private equity investments, distressed debt, non-investment grade residual interests in securitizations, as well as certain highly structured OTC derivative contracts.

The results of the fair value hierarchy as of September 30, 2013, are as follows:

Financial Instruments Measured at Fair Value on a Recurring Basis:

Securities AFS Fair Value Measurements Using

Carrying
Value

Quoted Prices
In Active
Markets for
Identical
Assets
(Level 1)

Significant
Observable
Inputs
(Level 2)

Significant
Other
Unobservable
Inputs
(Level 3)

(In thousands)

U.S. Treasury

1,996

—

1,996

—

U.S. Government Sponsored Enterprises

9,998

—

9,998

—

SBA Backed Securities

7,431

—

7,431

—

U.S. Government Agency and Sponsored Mortgage Backed Securities

429,309

—

429,309

—

Privately Issued Residential Mortgage Backed Securities

2,418

—

2,418

—

Obligations Issued by States and Political Subdivisions

41,013

—

825

40,188

Other Debt Securities

2,189

—

2,189

—

Equity Securities

547

256

—

291

Total

494,901

256

454,166

40,479

Financial Instruments Measured at Fair Value on a Non-recurring Basis:

Impaired Loans

2,967

—

2,967

Impaired loan balances represent those collateral dependent loans where management has estimated the credit loss by comparing the loan’s carrying value against the expected realizable fair value of the collateral. Fair value is generally determined through a review process that includes independent appraisals, discounted cash flows, or other external assessments of the underlying collateral, which generally include various Level 3 inputs which are not identifiable. The Company discounts the fair values, as appropriate, based on management’s observations of the local real estate market for loans in this category.

Appraisals, discounted cash flows and real estate tax assessments are reviewed quarterly. There is no specific policy regarding how frequently appraisals will be updated. Adjustments are made to appraisals and real estate tax assessments based on management’s estimate of changes in real estate values. Within the past twelve months there have been no updated appraisals, however, all impaired loans have been reviewed during the past quarter using either a discounted cash flow analysis or other type of real estate tax assessment. The types of adjustments that are made to specific provisions (credits) relate to impaired loans recognized for the three and nine-month periods ended September 30, 2013 amounted to ($14,000) and ($212,000), respectively.

There were no transfers between level 1 and 2 for the nine months ended September 30, 2013. There were no liabilities measured at fair value on a recurring or nonrecurring basis during the nine month period ended September 30, 2013.

The following table presents additional information about assets measured at fair value on a recurring and nonrecurring basis for which the Company has utilized Level 3 inputs to determine fair value (dollars in thousands). Management continues to monitor the assumptions used to value the assets listed below.


Asset	Fair Value		Valuation Technique	Unobservable Input	Unobservable Input Value or Range
Securities AFS (4)	$	40,479	Discounted cash flow (DCF) unless maturity is one year or less	Discount rate	0%-1% (3)
Impaired Loans		2,967	Appraisal of collateral/ DCF/assessments (1)	Appraisal adjustments/ DCF assessment Adjustments (2)	0%-25% discount

(1)	Fair value is generally determined through a review process that includes independent appraisals, discounted cash flows, or other real estate tax assessed value of the underlying collateral, which generally include various Level 3 inputs which are not identifiable.

(2)	Appraisals, real estate tax assessed values or discounted cash flows may be adjusted by management for qualitative factors such as economic conditions and estimated expenses.

(3)	Weighted averages

(4)	Municipal securities generally have maturities of one year or less and, therefore, the amortized cost equates to the fair value.

The changes in Level 3 securities for the nine-month period ended September 30, 2013 are shown in the table below:

Auction Rate
Securities

Obligations
Issued by States
& Political
Subdivisions

Equity
Securities

Total

(In thousands)

Balance at December 31, 2012

3,963

49,477

342

53,782

Purchases

—

43,807

—

43,807

Maturities and calls

—

(57,036

)

(51

)

(57,087

)

Amortization

—

(23

)

—

(23

)

Balance at September 30, 2013

3,963

36,225

291

40,479

The amortized cost of Level 3 securities was $41,204,000 at September 30, 2013 with an unrealized loss of $725,000. The securities in this category are generally equity investments, municipal securities with no readily determinable fair value or failed auction rate securities. Management evaluated the fair value of these securities based on an evaluation of the underlying issuer, prevailing rates and market liquidity.

The changes in Level 3 securities for the nine-month period ended September 30, 2012, are shown in the table below:


	Auction Rate Securities		Obligations Issued by States & Political Subdivisions			Equity Securities			Total
	(In thousands)
Balance at December 31, 2011	$	3,725	$	14,772		$	417		$	18,914
Purchases		—		79,588			—			79,588
Maturities and calls		—		(34,333	)		(75	)		(34,408	)
Amortization		—		(33	)		—			(33	)

Balance at September 30, 2012	$	3,725	$	59,994		$	342		$	64,061

The amortized cost of Level 3 securities was $65,020,000 at September 30, 2012 with an unrealized loss of $960,000. The securities in this category are generally equity investments, municipal securities with no readily determinable fair value or failed auction rate securities. Management evaluated the fair value of these securities based on an evaluation of the underlying issuer, prevailing rates and market liquidity.