21. Fair Value Measurement

Fair value is defined as the price that would be received on the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. There are three main valuation techniques to measure the fair value of assets and liabilities: the market approach, the income approach and the cost approach. The accounting literature defines an input fair value hierarchy that has three broad levels and gives the highest priority to quoted prices (unadjusted) in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3).

The valuation techniques are summarized below:

The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities.

The income approach uses financial models to convert future amounts to a single present amount. These valuation techniques include present value and option-pricing models.

The cost approach is based on the amount that currently would be required to replace the service capacity of an asset. This technique is often referred to as current replacement costs.

The input fair value hierarchy is summarized below:

Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the Company has the ability to access at each reporting date. An active market for the asset or liability is a market in which transactions for the asset or liability occur with sufficient frequency and volume to provide pricing information on an ongoing basis. A quoted price in an active market provides the most reliable evidence of fair value and is used to measure fair value whenever available.

Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. If the asset or liability has a specified (contractual) term, a Level 2 input must be observable for substantially the full term of the asset or liability. Level 2 inputs include: Quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active, that is, markets in which there are few transactions for the asset or liability, the prices are not current, or price quotations vary substantially either over time or among market makers (for example, some brokered markets), or in which little information is released publicly (for example, a principal-to-principal market); inputs other than quoted prices that are observable for the asset or liability (for example, interest rates and yield curves observable at commonly quoted intervals, volatilities, prepayment speeds, loss severities, credit risks, and default rates).

Level 3 inputs are unobservable inputs for the asset or liability. Unobservable inputs are only used to measure fair value to the extent that observable inputs are not available, thereby allowing for situations in which there is little, if any, market activity for the asset or liability at the measurement date.

There were no assets or liabilities measured at fair value on a recurring basis in the Company’s financial statements as of December 31, 2013 and 2012.

The following table presents major categories of assets measured at fair value on a non-recurring basis as of December 31, 2013 (in thousands):



			Fair Value Measurements Using
			Quoted prices in
			Active Markets	Significant	Significant	Total
		As of	for Identical	Other Observable	Unobservable	Impairments (1)
		December 31,	Assets	Inputs	Inputs	For the Year Ended
Description		2013	(Level 1)	(Level 2)	(Level 3)	December 31, 2013
Loans measured for
impairment using the fair value
of the underlying collateral	$	24,167	-	-	24,167	4,639
Impaired real estate held-for-sale and held-for-investment		55,955	-	-	55,955	2,288
Impaired loans held for sale		53,846	-	-	53,846	4,992
Total	$	133,968	-	-	133,968	11,919

(1)

Total impairments represent the amount of losses recognized during the year ended December 31, 2013 on assets that were held and measured at fair value as of December 31, 2013.

Quantitative information about significant unobservable inputs within Level 3 on major categories of assets measured on a non-recurring basis is as follows (dollars in thousands):



As of December 31, 2013		Fair	Valuation	Unobservable
Description		Value	Technique	Inputs	Range (Average) (1)(2)
Loans measured for
impairment using the fair value
of the underlying collateral	$	24,167	Fair Value of Collateral	Appraisal	$0.1 - 9.0 million ($0.4 million)
Impaired real estate held-for-sale and held-for-investment		55,955	Fair Value of Property	Appraisal	$0.1 - 12.0 million ($1.7 million)
Impaired loans held for sale		53,846	Fair Value of Collateral	Appraisal	$0.1 - 2.2 million ($0.3 million)
Total	$	133,968

(1) Range and average appraised values were reduced by costs to sell.

(2) Average was computed by dividing the aggregate appraisal amounts by the number of appraisals.

The following table presents major categories of assets measured at fair value on a non-recurring basis as of December 31, 2012 (in thousands):



			Fair Value Measurements Using
			Quoted prices in
			Active Markets	Significant	Significant	Total
		As of	for Identical	Other Observable	Unobservable	Impairments (1)
		December 31,	Assets	Inputs	Inputs	For the Year Ended
Description		2012	(Level 1)	(Level 2)	(Level 3)	December 31, 2012
Loans measured for
impairment using the fair value
of the underlying collateral	$	61,528	-	-	61,528	5,700
Impaired real estate held-for-sale and held-for-investment		31,645	-	-	31,645	8,416
Impaired loans held for sale		24,748	-	-	24,748	2,577
Total	$	117,921	-	-	117,921	16,693

(1) Total impairments represent the amount of losses recognized during the year ended December 31, 2012 on assets that were held and measured at fair value as of December 31, 2012.

Quantitative information about significant unobservable inputs within Level 3 on major categories of assets measured on a non-recurring basis is as follows (dollars in thousands):



As of December 31, 2012		Fair	Valuation	Unobservable
Description		Value	Technique	Inputs	Range (Average) (1)(2)
Loans measured for
impairment using the fair value
of the underlying collateral	$	61,528	Fair Value of Collateral	Appraisal	$0.3 - $11.8 million ($3.2 million)
Impaired real estate held-for-sale and held-for-investment		31,645	Fair Value of Property	Appraisal	$0.2 - $8.9 million ($3.3 million)
Impaired loans held for sale		24,748	Fair Value of Collateral	Appraisal	$0.1 - $3.1 million ($1.2 million)
Total	$	117,921

(1) Range and average appraised values were reduced by costs to sell.

(2) Average was computed by dividing the aggregate appraisal amounts by the number of appraisals.

There were no material liabilities measured at fair value on a non-recurring basis in the Company’s financial statements as of December 31, 2013 and December 31, 2012.

Loans Measured For Impairment

Impaired loans are generally valued based on the fair value of the underlying collateral less cost to sell as the majority of the Company’s loan portfolio are collateral dependent. The fair value of our loans may significantly increase or decrease based on changes in property values as our loans are primarily secured by real estate. The Company primarily uses third party appraisals to assist in measuring non-homogenous impaired loans. These appraisals generally use the market or income approach valuation technique and use market observable data to formulate an estimate of the fair value of the loan’s collateral. However, the appraiser uses professional judgment in determining the fair value of the collateral, and we may also adjust these values for changes in market conditions subsequent to the appraisal date. When current appraisals are not available for certain loans, we use our judgment on market conditions to adjust the most current appraisal. As a consequence, the calculation of the fair value of the collateral are considered Level 3 inputs. The Company generally recognizes impairment losses based on third party broker price opinions to obtain the fair value of the collateral less cost to sell when impaired homogenous loans become 120 days delinquent. These third party valuations from real estate professionals also use Level 3 inputs in determining fair values. The observable market inputs used to fair value loans include comparable property sales, rent rolls, market capitalization rates on income producing properties, risk adjusted discounts rates and foreclosure timeframes and exposure periods.

Impaired Real Estate Held-for-Sale and Held-for-Investment

Real estate is generally valued using third party appraisals or broker price opinions. These appraisals generally use the market approach valuation technique and use market observable data to formulate an estimate of the fair value of the properties. The market observable data is generally comparable property sales, rent rolls, market capitalization rates on income producing properties and risk adjusted discount rates. However, the appraisers or brokers use professional judgment in determining the fair value of the properties and we may also adjust these values for changes in market conditions subsequent to the valuation date. As a consequence of using appraisals, broker price opinions and adjustments to appraisals, the fair values of the properties are considered Level 3 inputs.

Loans Held-for-Sale

Loans held-for-sale are valued using an income approach with Level 3 inputs as market quotes or sale transactions of similar loans are generally not available. The fair value is estimated by discounting forecasted cash flows, using a discount rate that reflects the risks inherent in the loans held-for-sale portfolio. For non-performing loans held-for-sale, the forecasted cash flows are based on the estimated fair value of the collateral less cost to sell adjusted for foreclosure expenses and other operating expenses of the underlying collateral until foreclosure or sale.

Financial Disclosures about Fair Value of Financial Instruments



				Fair Value Measurements Using
		Carrying		Quoted prices in
		Amount	Fair Value	Active Markets	Significant	Significant
		As of	As of	for Identical	Other Observable	Unobservable
(in thousands)		December 31,	December 31,	Assets	Inputs	Inputs
Description		2013	2013	(Level 1)	(Level 2)	(Level 3)
Financial assets:
Cash and interest bearing
deposits in banks	$	43,138	43,138	43,138	-	-
Loans receivable including loans held for sale, net		126,072	131,853	-	-	131,853
Financial liabilities:
Notes payable		8,579	9,261	-	-	9,261
Notes Payable to related parties		21,662	21,419	-	-	21,419
BB&T preferred interest in FAR		68,517	69,032	-	-	69,032



				Fair Value Measurements Using
		Carrying		Quoted prices in
		Amount		Active Markets	Significant	Significant
		As of	As of	for Identical	Other Observable	Unobservable
(in thousands)		December 31,	December 31,	Assets	Inputs	Inputs
Description		2012	2012	(Level 1)	(Level 2)	(Level 3)
Financial assets:
Cash and interest bearing
deposits in banks	$	62,873	62,873	62,873	-	-
Loans receivable including loans held for sale, net		317,310	316,075	-	-	316,075
Financial liabilities:
Notes payable		10,301	10,301			10,301
BB&T preferred interest in FAR		196,877	201,099	-	-	201,099

Management has made estimates of fair value that it believes to be reasonable. However, because there is no active market for many of these financial instruments, management has derived the fair value of the majority of these financial instruments using the income approach technique with Level 3 unobservable inputs. Management estimates used in its net present value financial models rely on assumptions and judgments regarding issues where the outcome is unknown and actual results or values may differ significantly from these estimates. The Company’s fair value estimates do not consider the tax effect that would be associated with the disposition of the assets or liabilities at their fair value estimates. As such, the Company may not receive the estimated value upon sale or disposition of the asset or pay the estimated value upon disposition of the liability in advance of its scheduled maturity.

Interest-bearing deposits in other banks include $0.5 million of certificates of deposits guaranteed by the FDIC with maturities of less than one year as of December 31, 2012. Due to the FDIC guarantee and the short-term maturity of these certificates of deposit, the fair value of these deposits approximates the carrying value.

Fair values are estimated for loan portfolios with similar financial characteristics. Loans are segregated by category, and each loan category is further segmented by performing and non-performing categories.

The fair value of performing loans is calculated by using an income approach with Level 3 inputs. The fair value of performing loans is estimated by discounting forecasted cash flows using estimated market discount rates that reflect the interest rate and credit risk inherent in the loan portfolio. Management assigns a credit risk premium and an illiquidity adjustment to these loans based on delinquency status. The fair value of non-performing collateral dependent loans is estimated using an income approach with Level 3 inputs. The fair value of non-performing loans utilizes the fair value of the collateral adjusted for operating and selling expenses and discounted over the estimated holding period based on the market risk inherent in the property.

The fair value of notes payables, including to related parties, were measured using the income approach with Level 3 inputs obtained by discounting the forecasted cash flows based on estimated market rates.

BB&T’s preferred interest in FAR is considered an adjustable rate debt security. The fair value of this security is calculated using the income approach with Level 3 inputs. The fair value was obtained by discounting forecasted cash flows by risk adjusted market interest rate spreads to the LIBOR swap curve. The market spreads were obtained from reference data in the secondary institutional market place.