Note

15.

FAIR VALUE MEASUREMENTS

In determining fair value, FNCB uses various valuation approaches, including market, income and cost approaches. Accounting standards establish a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability, which are developed based on market data obtained from sources independent of FNCB. Unobservable inputs reflect FNCB

’s knowledge about the assumptions the market participants would use in pricing an asset or liability, which are developed based on the best information available in the circumstances.

The fair value hierarchy gives the highest priority to unadjusted quoted market prices in active markets for identical assets or liabilities (Level

measurement) and the lowest priority to unobservable inputs (Level

measurement).

A financial asset or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. The fair value hierarchy is broken down into

three

levels based on the reliability of inputs as follows:

●

Level

valuation is based upon unadjusted quoted market prices for identical instruments traded in active markets;

●

Level

valuation is based upon quoted market prices for similar instruments traded in active markets, quoted market prices for identical or simila

r instruments traded in markets that are

not

active and model-based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by market data; and

●

Level

valuation is derived from other valuation method

ologies including discounted cash flow models and similar techniques that use significant assumptions

not

observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in determining fair value.

A description of the valuation methodologies used for assets recorded at fair value, and for estimating fair value of financial instruments

not

recorded at fair value, is set forth below.

Available-for-Sale Debt Securities

The estimated fair values for FNCB’s investments in obligations of U.S. government agencies, obligations of state and political subdivisions, government-sponsored agency CMOs and mortgage-backed securities, private collateralized mortgage obligations, asset-backed securities and negotiable certificates of deposit are obtained by FNCB from a nationally-recognized pricing service. This pricing service develops estimated fair values by analyzing like securities and applying available market information through processes such as benchmark curves, benchmarking of like securities, sector groupings and matrix pricing (Level

inputs), to prepare valuations. Matrix pricing is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the securities’ relationship to other benchmark quoted securities. The fair value measurements consider observable data that

may

include, among other things, dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, and are based on market data obtained from sources independent from FNCB. The Level

investments in FNCB’s portfolio are priced using those inputs that, based on the analysis prepared by the pricing service, reflect the assumptions that market participants would use to price the assets. Management has determined that the Level

designation is appropriate for these securities because, as with most fixed-income securities, those in FNCB’s portfolio are

not

exchange-traded, and such non-exchange-traded fixed income securities are typically priced by correlation to observed market data. FNCB has reviewed the pricing service’s methodology to confirm its understanding that such methodology results in a valuation based on quoted market prices for similar instruments traded in active markets, quoted markets for identical or similar instruments traded in markets that are

not

active and model-based valuation techniques for which the significant assumptions can be corroborated by market data as appropriate to a Level

designation.

For those securities for which the inputs used by an independent pricing service were derived from unobservable market information, FNCB evaluated the appropriateness and quality of each price. Management reviewed the volume and level of activity for all classes of securities and attempted to identify transactions which

may

not

be orderly or reflective of a significant level of activity and volume. For securities meeting these criteria, the quoted prices received from either market participants or an independent pricing service

may

be adjusted, as necessary, to estimate fair value (fair values based on Level

inputs). If applicable, the adjustment to fair value was derived based on present value cash flow model projections obtained from

third

party providers using assumptions similar to those incorporated by market participants.

December 31, 2019,

FNCB owned

six

corporate debt securities with an aggregate amortized cost and fair value of

$7.0

million and

$7.2

million, respectively. The market for

four

of the

six

corporate debt securities securities at

December 31, 2019

was

not

active and markets for similar securities are also

not

active. FNCB obtained valuations for these securities from a

third

-party service provider that prepared the valuations using a discounted cash flow approach. Management takes measures to validate the service provider’s analysis and is actively involved in the valuation process, including reviewing and verifying the assumptions used in the valuation calculations. Results of a discounted cash flow test are significantly affected by variables such as the estimate of the probability of default, estimates of future cash flows, discount rates, prepayment rates and the creditworthiness of the underlying issuers. FNCB considers these inputs to be unobservable Level

inputs because they are based on estimates about the assumptions market participants would use in pricing this type of asset and developed based on the best information available in the circumstances rather than on observable inputs. As it relates to fair value measurements, once each issuer is categorized and the forecasted default rates have been applied, the expected cash flows are modeled using the variables described above. Discount rates ranging from

5.13

% to

5.63

% were applied to the expected cash flows to estimate fair value. Management will continue to monitor the market for these securities to assess the market activity and the availability of observable inputs and will continue to apply these controls and procedures to the valuations received from its

third

-party service provider for the period it continues to use an outside valuation service.

Equity Securities

The estimated fair values of equity securities are determined by obtaining quoted prices on nationally recognized exchanges (Level

inputs).

Assets Measured at Fair Value on a Recurring Basis

The following tables present the financial assets that are measured at fair value on a recurring basis at

December 31,

2019

and

2018,

and the fair value hierarchy of the respective valuation techniques utilized to determine the fair value:

	Fair Value Measurements at December 31, 2019
			Quoted Prices		Significant		Significant
			in Active Markets		Observable		Unobservable
			for Identical Assets		Inputs		Inputs
(in thousands)	Fair Value		(Level 1)		(Level 2)		(Level 3)
Available-for-sale debt securities:
Obligations of state and political subdivisions	$	117,763	$	-	$	117,763	$	-
U.S. government/government-sponsored agencies:
Collateralized mortgage obligations - residential		80,294		-		80,294		-
Collateralized mortgage obligations - commercial		17,723		-		17,723		-
Mortgage-backed securities		18,485		-		18,485		-
Private collateralized mortgage obligations		25,075		-		25,075		-
Corporate debt securities		7,182		-		2,032		5,150
Asset-backed securities		5,621		-		5,621		-
Negotiable certificates of deposit		696		-		696		-
Total available-for-sale debt securities	$	272,839	$	-	$	267,689	$	5,150

Equity Securities	$	920	$	920	$	-	$	-

	Fair Value Measurements at December 31, 2018
			Quoted Prices		Significant		Significant
			in Active Markets		Observable		Unobservable
			for Identical Assets		Inputs		Inputs
(in thousands)	Fair Value		(Level 1)		(Level 2)		(Level 3)
Available-for-sale debt securities:
Obligations of state and political subdivisions	$	152,187	$	-	$	152,187	$	-
U.S. government/government-sponsored agencies:
Collateralized mortgage obligations - residential		34,207		-		34,207		-
Collateralized mortgage obligations - commercial		73,640		-		73,640		-
Mortgage-backed securities		23,934		-		23,934		-
Private collateralized mortgage obligations		2,913		-		2,913		-
Corporate debt securities		4,936		-		1,007		3,929
Asset-backed securities		1,802		-		1,802		-
Negotiable certificates of deposit		2,413		-		2,413		-
Total available-for-sale debt securities	$	296,032	$	-	$	292,103	$	3,929

Equity Securities	$	891	$	891	$	-	$	-

There were

transfers between levels within the fair value hierarchy during the years ended

December 31,

2019

and

2018.

The following table presents a reconciliation and statement of operations classification of gains and losses for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level

), which consisted entirely of corporate debt securities, for the years ended

December 31, 2019

and

2018.

Fair Value Measurements
Using Significant Unobservable Inputs (Level 3)
	Corporate Debt Securities
	For the Year Ended December 31,
(in thousands)	2019		2018
Balance at January 1,	$	3,929	$	4,058
Additions		1,000		-
Payments received		-		-
Sales		-		-
Total gains or losses (realized/unrealized):
Included in earnings		-		-
Included in other comprehensive income		221		(129	)
Balance at December 31,	$	5,150	$	3,929

Assets Measured at Fair Value on a Non-Recurring Basis

The following tables present assets and liabilities measured at fair value on a non-recurring basis at

December 31,

2019

and

2018,

and additional quantitative information about the valuation techniques and inputs utilized by FNCB to determine fair value. All such assets and liabilities were measured using Level

inputs.

	December 31, 2019
	Fair Value Measurement						Quantitative Information
	Recorded		Valuation		Fair		Valuation	Unobservable	Value/
(in thousands)	Investment		Allowance		Value		Technique	Inputs	Range
Impaired loans - collateral dependent	$	7,721	$	376	$	7,345	Appraisal of collateral	Selling costs		10.0%
Impaired loans - other		8,065		97		7,968	Discounted cash flows	Discount rate	3.99%	-	7.49	%
Other real estate owned		289		-		289	Appraisal of collateral	Selling costs		10.0%

	December 31, 2018
	Fair Value Measurement						Quantitative Information
	Recorded		Valuation		Fair		Valuation	Unobservable	Value/
(in thousands)	Investment		Allowance		Value		Technique	Inputs	Range
Impaired loans - collateral dependent	$	8,020	$	606	$	7,414	Appraisal of collateral	Selling costs		10.0%
Impaired loans - other		4,397		51		4,346	Discounted cash flows	Discount rate	3.70%	-	7.50%
Other real estate owned		919		-		919	Appraisal of collateral	Selling costs		10.0%

The fair value of collateral-dependent impaired loans is determined through independent appraisals or other reasonable offers, which generally include various Level

inputs which are

not

identifiable. Management reduces the appraised value by the estimated costs to sell the property and

may

make adjustments to the appraised values as necessary to consider any declines in real estate values since the time of the appraisal. For impaired loans that are

not

collateral-dependent, fair value is determined using the discounted cash flow method. When the measure of the impaired loan is less than the recorded investment in the loan, the impairment is recorded through a valuation allowance or is charged off. The amount shown is the balance of impaired loans, net of any charge-offs and the related allowance for loan losses.

OREO properties are recorded at fair value less the estimated cost to sell at the date of FNCB

’s acquisition of the property. Subsequent to acquisition of the property, the balance

may

be written down further. It is FNCB’s policy to obtain certified external appraisals of real estate collateral underlying impaired loans and OREO, and estimate fair value using those appraisals. Other valuation sources

may

be used, including broker price opinions, letters of intent and executed sale agreements.

The following table summarizes the estimated fair values of FNCB

’s financial instruments at

December 31, 2019

and

2018.

FNCB discloses fair value information about financial instruments, whether or

not

recognized in the statements of financial condition, for which it is practicable to estimate that value. The fair value of financial instruments that are

not

measured at fair value in the financial statements were based on exit price notion. The following estimated fair value amounts have been determined using available market information and appropriate valuation methodologies. However, management judgment is required to interpret data and develop fair value estimates. Accordingly, the estimates below are

not

necessarily indicative of the amounts FNCB could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies

may

have a material effect on the estimated fair value amounts.

	Fair Value	December 31, 2019				December 31, 2018
(in thousands)	Measurement	Carrying Value		Fair Value		Carrying Value		Fair Value
Financial assets
Cash and short term investments	Level 1	$	34,565	$	34,565	$	36,481	$	36,481
Available-for-sale debt securities	See previous table		272,839		272,839		296,032		296,032
Equity securities	Level 1		920		920		891		891
Restricted stock	Level 2		3,804		3,804		3,123		3,123
Loans held for sale	Level 2		1,061		1,061		820		820
Loans, net	Level 3		819,529		810,074		829,581		816,234
Accrued interest receivable	Level 2		3,234		3,234		3,614		3,614
Equity securities without readily determinable fair values	Level 3		1,658		1,658		1,658		1,658
Servicing rights	Level 3		356		790		350		878

Financial liabilities
Deposits	Level 2		1,001,709		1,001,829		1,095,629		1,093,797
Borrowed funds	Level 2		57,219		57,234		34,240		34,108
Accrued interest payable	Level 2		258		258		338		338