NOTE 17 - 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:

Securities Available for Sale and Trading Assets: The fair values for investment securities and trading assets are determined by quoted market prices, if available (Level 1). For securities where quoted prices are not available, fair values are calculated based on market prices of similar securities (Level 2). For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other market indicators (Level 3).

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 appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value.

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. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. Real estate owned properties are evaluated on a quarterly basis for additional impairment and adjusted accordingly.

Loan Servicing Rights: Fair value is based on market prices for comparable mortgage servicing contracts, when available, or alternatively based on a valuation model that calculates the present value of estimated future net servicing income, resulting in a Level 3 classification.

Assets and Liabilities Measured on a Recurring Basis

Available for sale investment securities are the Company’s only balance sheet item that meet the disclosure requirements for instruments measured at fair value on a recurring basis. Disclosures are as follows in the tables below.

2016


			Quoted Prices
			In Active
			Markets for		Significant Other		Significant
			Identical		Observable		Unobservable
	Carrying		Assets		Inputs		Inputs
Description	Value		(Level 1)		(Level 2)		(Level 3)

U. S. government agencies	$	36,528	$	—	$	36,528	$	—
States and municipals		91,132		—		91,132		—
Mortgage-backed - residential		145,770		—		145,770		—
Equity securities		340		340		—		—
Trading Assets		5,592		1,608		3,984		—
Total	$	279,362	$	1,948	$	277,414	$	—


			Quoted Prices
			In Active
			Markets for		Significant Other		Significant
			Identical		Observable		Unobservable
	Carrying		Assets		Inputs		Inputs
Description	Value		(Level 1)		(Level 2)		(Level 3)

U. S. government agencies	$	48,863	$	—	$	48,863	$	—
States and municipals		91,962		—		91,962		—
Mortgage-backed - residential		123,043		—		123,043		—
Equity securities		344		344		—		—
Trading Assets		5,531		1,617		3,914		—
Total	$	269,743	$	1,961	$	267,782	$	—

There were no transfers between level 1 and level 2 during 2016 or 2015.

Assets measured at fair value on a non-recurring basis are summarized below:


	Fair Value Measurements at December 31, 2016 Using :
			Quoted Prices
			In Active
			Markets for		Significant Other		Significant
			Identical		Observable		Unobservable
	Carrying		Assets		Inputs		Inputs
(In thousands)	Value		(Level 1)		(Level 2)		(Level 3)

Description
Impaired loans:
Real Estate Mortgage:
1-4 family Residential	$	1,685	$	—	$	—	$	1,685
Agricultural		2,234		—		—		2,234
Other real estate owned, net:
Residential		956		—		—		956
Commercial		272		—		—		272
Loan servicing rights		1,083		—		—		1,083


	Fair Value Measurements at December 31, 2015 Using :
			Quoted Prices
			In Active
			Markets for		Significant Other		Significant
			Identical		Observable		Unobservable
	Carrying		Assets		Inputs		Inputs
(In thousands)	Value		(Level 1)		(Level 2)		(Level 3)

Description
Impaired loans:
Real Estate Mortgage:
Multi-family residential	$	540	$	—	$	—	$	540
Non-farm & non-residential		285		—		—		285
Agricultural		—		—		—		—
Other real estate owned, net:
Residential		1,504		—		—		1,504
Loan servicing rights		87		—		—		87

Impaired loans measured for impairment using the fair value of the collateral had a net carrying amount of $3.9 million, with a valuation allowance of $502 thousand at December 31, 2016. During 2016, four new loans became impaired resulting in an additional provision for loan losses of $427 thousand. The total allowance for specific impaired loans decreased $107 thousand for the year ending December 31, 2016. At December 31, 2015, impaired loans measured for impairment using the fair value of the collateral had a net carrying amount of $825 thousand, with a valuation allowance of $170 thousand, resulting in an additional provision for loan losses of $170 thousand for the year ending December 31, 2015.

Other real estate owned measured at fair value less costs to sell, had a net carrying amount of $1.2 million, which is made up of the outstanding balance of $2.0 million, net of a valuation allowance of $803 thousand at December 31, 2016. Write-downs of other real estate totaled $187 thousand for the year ending December 31, 2016. At December 31, 2015, other real estate owned measured at fair value less costs to sell, had a net carrying amount of $1.5 million, which was made up of the outstanding balance of $2.1 million, net of a valuation allowance of $616 thousand at December 31, 2015. Write-downs of other real estate totaled $252 thousand for the year ending December 31, 2015.

Certain impaired loan servicing rights, which are carried at lower of cost or fair value, were carried at their fair value of $1.1 million, which is made up of the outstanding balance of $1.2 million, net of a valuation allowance of $125 thousand at December 31, 2016. Net write-downs for the loan servicing rights totaled $105 thousand for the year ending December 31, 2016. At December 31, 2015, impaired loan servicing rights were carried at their fair value of $87 thousand, which is made up of the outstanding balance of $106 thousand, net of a valuation allowance of $20 thousand at December 31, 2015. Net Recoveries for prior write-downs were recorded in the amount of $59 thousand for the year ending December 31, 2015.

The following table presents quantitative information about level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis at December 31, 2016 and 2015:


					Range
December 31, 2016	Fair		Valuation	Unobservable	(Weighted
(In thousands)	Value		Technique(s)	Input(s)	Average)
Impaired loans
Real estate mortgage:
1-4 family residential	$	1,685	sales comparison	adjustment for differences between the comparable sales	0%-21%	(10)%
Agricultural		2,234	sales comparison	adjustment for differences between the comparable sales	2%-75%	(9)%
Other real estate owned:
Residential		956	sales comparison	adjustment for differences between the comparable sales	1%-16%	(9)%
Commercial		272	income approach	capitalization rate	10%-10%	(10)%
Loan Servicing Rights		1,083	discounted cash flow	constant prepayment rates	8%-45%	(13)%


					Range
December 31, 2015	Fair		Valuation	Unobservable	(Weighted
(In thousands)	Value		Technique(s)	Input(s)	Average)
Impaired loans
Real estate mortgage:
1-4 family residential	$	540	sales comparison	adjustment for differences between the comparable sales	1%-12%	(7)%
Non-farm & non-residential		285	sales comparison	adjustment for differences between the comparable sales	23%-31%	(27)%
Other real estate owned:
Residential		1,504	sales comparison	adjustment for differences between the comparable sales	10%-28%	(19)%
			income approach	capitalization rate	10%-10%	(10)%
Loan Servicing Rights		87	discounted cash flow	constant prepayment rates	8%-21%	(11)%

Fair Value of Financial Instruments

The carrying amounts and estimated fair values of financial instruments, at December 31, 2016 and December 31, 2015 are as follows:

December 31, 2016:


	Carrying
(in thousands)	Value		Level 1		Level 2		Level 3		Total

Financial assets
Cash and cash equivalents	$	43,250	$	43,250	$	—	$	—	$	43,250
Interest bearing deposits		5,029		5,029		—		—		5,029
Securities		273,770		340		273,430		—		273,770
Trading assets		5,592		1,608		3,984		—		5,592
Loans held for sale		724		—		750		—		750
Loans, net		648,466		—		—		648,234		648,234
FHLB Stock		7,034		—		—		—		N/A
Interest receivable		3,715		—		1,334		2,381		3,715
Financial liabilities
Deposits	$	802,981	$	607,617	$	195,528	$	—	$	803,145
Securities sold under agreements to repurchase		20,873		—		21,006		—		21,006
Long-term Federal Home Loan Bank advances		92,500		—		91,015		—		91,015
Note payable		4,090				4,564				4,564
Subordinated debentures		7,217		—		—		7,210		7,210
Interest payable		692		—		639		53		692

December 31, 2015:


	Carrying
(in thousands)	Value		Level 1		Level 2		Level 3		Total

Financial assets
Cash and cash equivalents	$	28,048	$	28,048	$	—	$	—	$	28,048
Interest bearing deposits		4,874		4,874		—		—		4,874
Securities		264,212		344		263,868		—		264,212
Trading assets		5,531		1,617		3,914		—		5,531
Mortgage loans held for sale		624		—		633		—		633
Loans, net		617,600		—		—		616,206		616,206
FHLB Stock		7,034		—		—		—		N/A
Interest receivable		3,681		—		1,358		2,323		3,681
Financial liabilities
Deposits	$	758,981	$	557,146	$	203,192	$	—	$	760,338
Securities sold under agreements to repurchase		18,514		—		18,523		—		18,523
FHLB advances		87,833		—		82,349		—		82,349
Note payable		4,794		—		5,431		—		5,431
Subordinated debentures		7,217		—		—		7,206		7,206
Interest payable		659		—		649		10		659

The methods and assumptions, not previously presented, used to estimate fair value are described as follows: Carrying amount is the estimated fair value for cash and cash equivalents, interest bearing deposits, accrued interest receivable and payable, demand deposits, short-term debt, and variable rate loans or deposits that reprice frequently and fully. The methods for determining the fair values for securities were described previously.

For fixed rate loans or deposits and for variable rate loans or deposits with infrequent repricing or repricing limits, fair value is based on discounted cash flows using current market rates applied to the estimated life and credit risk (including consideration of widening credit spreads). The method used to determine the fair value of loans does not necessarily represent an exit price. Fair value of debt is based on current rates for similar financing. It was not practicable to determine the fair value of FHLB stock due to restrictions placed on its transferability. The fair value of off-balance sheet items is not considered material.