Note 12 - Fair Value

9 Months Ended

Sep. 30, 2012

Fair Value Disclosures [Text Block]

12.   FAIR VALUE

Fair value is the price that would be received for an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.  Fair value is reported based on a hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.  The three levels of inputs that may be used to measure fair value are:

· 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 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.  Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.

Financial assets measured at fair value on a recurring basis are as follows:

Securities. Where quoted prices are available in an active market, securities are reported at fair value utilizing Level 1 inputs. Level 1 securities are comprised of bond funds. If quoted market prices are not available, the Company obtains fair values from an independent pricing service. The fair value measurements consider data that may include proprietary pricing models, quoted prices of securities with similar characteristics or discounted cash flows. Level 2 securities are comprised of highly liquid government bonds, and collateralized mortgage and debt obligations. Market values provided by the pricing service are compared to prices from other sources for reasonableness. The Company has not adjusted the values from the pricing service.

Interest Rate Derivatives. The Company’s derivative position is classified within Level 2 in the fair value hierarchy and is valued using models generally accepted in the financial services industry that use actively quoted or observable market input values from external market data providers and/or non-binding broker-dealer quotations. The fair value of the derivative is determined using discounted cash flow models. These models’ key assumptions include the contractual terms of the respective contract, along with significant observable inputs, including interest rates, yield curves, non-performance risk and volatility. Derivative contracts are executed with a Credit Support Annex, which is a bilateral ratings-sensitive agreement that requires collateral postings at established credit threshold levels. These agreements protect the interests of the Company and its counterparties, should either party suffer a credit rating deterioration.

The following table presents the financial instruments carried at fair value on a recurring basis by caption on the consolidated balance sheets and by valuation hierarchy (as described above) at September 30, 2012 and December 31, 2011:

September 30, 2012	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Fair Value Measurements
Securities available-for-sale
U.S. Treasury and other U.S. government corporations and agencies	$	–	$	75,913	$	75,913
Obligations of state and political subdivisions		–		13,401		13,401
Corporate				6,352		6,352
Mortgage-backed securities and collateralized mortgage obligations:
Government issued or guaranteed		–		67,432		67,432
Privately issued residential		–		677		677
Asset backed securities		–		143		143
Investment in CRA funds		14,364		–		14,364
Total available-for-sale securities		14,364		163,918		178,282
Derivative assets
Interest rate cap		–		55		55
Total assets measured at fair value on a recurring basis	$	14,364	$	163,973	$	178,337
Derivative liabilities
Interest rate swap	$	–	$	1,927	$	1,927
December 31, 2011
Securities available-for-sale
U.S. Treasury and other U.S. government corporations and agencies	$	—	$	92,199	$	92,199
Obligations of state and political subdivisions		—		5,706		5,706
Corporate		—		6,141		6,141
Mortgage-backed securities and collateralized mortgage obligations:
Government issued or guaranteed		—		53,739		53,739
Privately issued residential		—		667		667
Asset backed securities		—		102		102
Investment in CRA funds		13,835		—		13,835
Total available-for-sale securities		13,835		158,554		172,389
Derivative assets
Interest rate cap		—		194		194
Total assets measured at fair value on a recurring basis	$	13,835	$	158,748	$	172,583
Derivative liabilities
Interest rate swap	$	—	$	1,992	$	1,992

There were no transfers between Level 1 and Level 2 financial instruments carried at fair value on a recurring basis.

Certain non-financial assets measured at fair value on a recurring basis include reporting units measured at fair value in the first step of a goodwill impairment test. Certain non-financial assets measured at fair value on a non-recurring basis include non-financial assets and non-financial liabilities measured at fair value in the second step of a goodwill impairment test, and intangible assets measured at fair value for impairment assessment, as well as foreclosed assets.  Certain financial assets are measured at fair value on a non-recurring basis; that is, the instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment).

Non-financial and financial assets measured at fair value on a non-recurring basis include the following:

Goodwill. Goodwill is measured at fair value on a non-recurring basis using Level 3 inputs.   In the first step of a goodwill impairment test, the Company primarily uses a review of the valuation of recent guideline bank acquisitions, if available, pricing of publicly traded comparables, as well as discounted cash flow analysis and the market capitalization of the Company.   If the second step of a goodwill impairment test is required, the implied fair value of goodwill is determined in the same manner as goodwill is recognized in a business combination.  See Note 4 “Goodwill” for additional information. 

Foreclosed Assets.  Foreclosed assets are carried at fair value less costs to sell.  The fair value measurements of foreclosed assets can include Level 2 measurement inputs such as real estate appraisals and comparable real estate sales information, in conjunction with Level 3 measurement inputs such as cash flow projections, qualitative adjustments, sales cost estimates, etc.  As a result, the categorization of foreclosed assets is Level 3 of the fair value hierarchy.  In connection with the measurement and initial recognition of certain foreclosed assets, the Company may recognize charge-offs through the allowance for loan losses, and subsequent to initial recognition based on updated appraisals or other factors, may remeasure foreclosed assets to fair value through a write-down included in other non-interest expense.

Impaired Loans. Certain impaired loans with a valuation reserve are measured for impairment using the practical expedient, whereby fair value of the loan is based on the fair value of the loan’s collateral, provided the loan is collateral dependent. The fair value measurements of loan collateral can include real estate appraisals, comparable real estate sales information, cash flow projections, realization estimates, etc., all of which can include observable and unobservable inputs. As a result, the categorization of impaired loans can be either Level 2 or Level 3 of the fair value hierarchy, depending on the nature of the inputs used for measuring the related collateral’s fair value. As of September 30, 2012 and December 31, 2011, certain impaired loans were remeasured and reported at fair value through a specific valuation allowance allocation of the allowance for loan losses based upon the fair value of the underlying collateral.

The following presents assets carried at fair value on a nonrecurring basis by caption on the condensed consolidated balance sheets and by valuation hierarchy (as described above) as of September 30, 2012 and December 31, 2011 (in thousands):

	As of September 30, 2012						As of December 31, 2011
	Level 2			Level 3			Level 2			Level 3
Assets
Goodwill		$	—		$	14,327		$	—		$	14,327
Foreclosed assets			—			7,915			—			19,018
Impaired loans (1)			9,704			—			15,696			—

(1) Impaired loans represent collateral dependent impaired loans with a specific valuation reserve.

The following presents losses related to fair value adjustments that are included in the Consolidated Statements of Operations for the three months ended September 30, 2012 and 2011 related to assets held at those dates (in thousands):

	Three Months Ended September 30,						Nine Months Ended September 30,
	2012			2011			2012			2011
Losses related to:
Goodwill		$	—		$	—		$	—		$	—
Foreclosed assets (1)			598			948			1,520			1,591
Impaired loans (2)			—			369			451			3,905

(1) Losses represent related losses on foreclosed properties that were written down subsequent to their initial classification as foreclosed properties.

(2) Losses on impaired loans represent charge-offs which are netted against the allowance for loan losses.

  Fair Value of Financial Instruments

FASB ASC Topic 825 requires disclosure of the fair value of financial assets and liabilities, including those financial assets and financial liabilities that are not measured and reported at fair value on a recurring basis or non-recurring basis.

The estimated fair values of financial instruments that are reported at amortized cost in the Company’s consolidated balance sheets, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value, were as follows:

	As of September 30, 2012				As of December 31, 2011
	Carrying or Contract Amount		Estimated Fair Value		Carrying or Contract Amount		Estimated Fair Value
	(In thousands)
Financial Assets
Level 2 inputs:
Cash and cash equivalents	$	174,911	$	174,911	$	193,609	$	193,609
Investment securities held-to-maturity		4,046		4,772		4,046		4,536
Other investments		5,774		5,774		6,484		6,484
Loans held-for-sale		—		—		1,200		1,498
Cash value of bank owned life insurance		32,456		32,456		31,427		31,427
Accrued interest receivable		3,938		3,938		4,327		4,327
Level 3 inputs:
Loans held-for-investment, net		1,071,313		1,051,039		1,015,095		968,434
Financial Liabilities
Level 2 inputs:
Deposit transaction accounts		811,781		811,781		744,833		744,833
Junior subordinated debentures		36,083		36,083		36,083		36,083
Accrued interest payable		258		258		310		310
Level 3 inputs:
Time deposits		453,277		453,277		506,742		511,050
Other borrowings		26,000		25,991		26,315		26,206
Off-balance sheet financial instruments
Unfunded loan commitments, including unfunded lines of credit		—		173		—		236
Standby letters of credit		—		45		—		69

The following methodologies and assumptions were used to estimate the fair value of the Company’s financial instruments as disclosed in the table:

Assets for Which Fair Value Approximates Carrying Value.  The fair values of certain financial assets and liabilities carried at cost, including cash and due from banks, deposits with banks, federal funds sold, cash value of bank owned life insurance, certificates of deposit with banks denominated in a foreign currency, due from customers on acceptances and accrued interest receivable, are considered to approximate their respective carrying values due to their short-term nature and/or negligible credit risks.

Investment Securities.Fair values are based primarily upon quoted market prices obtained from an independent pricing service.

Loans.The fair value of loans originated by the Banks is estimated by discounting the expected future cash flows using the current interest rates at which similar loans with similar terms would be made. The presence of floors on a large portion of the variable rate loans has supported the yields above current market levels and is the key factor causing the fair value of the variable rate loans with floors to exceed the book value. The fair value of the remainder of the variable rate loans approximates the carrying value while fixed rate loans are generally above the carrying values. Using these results, valuation adjustments are made for specific credit risks as well as general portfolio credit and market risks to arrive at the fair value.

Loans held-for-sale.  The fair value of loans held-for-sale is based on contractual sales prices.

Liabilities for Which Fair Value Approximates Carrying Value.The estimated fair value for transactional deposit liabilities with no stated maturity (i.e., demand, savings, and money market deposits) approximates the carrying value. The estimated fair value of deposits does not take into account the value of the Company’s long-term relationships with depositors, commonly known as core deposit intangibles, which are separate intangible assets, and not considered financial instruments.  Nonetheless, the company would likely realize a core deposit premium if its deposit portfolio were sold in the principal market for such deposits.

The fair value of acceptances outstanding, accounts payable and accrued liabilities are considered to approximate their respective carrying values due to their short-term nature.

Time Deposits.Fair values for fixed-rate time deposits are estimated using a discounted cash flow calculation that applies interest rates currently being offered on time deposits to a schedule of aggregated expected monthly maturities on time deposits.

Other Borrowings.The carrying amounts of federal funds purchased, borrowings under repurchase agreements, and other borrowings maturing within fourteen days approximate their fair values. Fair values of other borrowings are estimated using discounted cash flow analyses based on the Company’s current incremental borrowing rates for similar types of borrowing arrangements.

Junior Subordinated Debentures.The fair value of the junior subordinated debentures approximates the carrying value as the debentures reprice quarterly.

Commitments to Extend Credit and Letters of Credit.The fair value of such instruments is estimated using the unamortized portion of fees collected for execution of such credit facility.