Fair Value Measurements

9 Months Ended

Sep. 30, 2022

Note 8. Fair Value Measurements

ASC 825, “Financial Instruments”, requires disclosure of the estimated fair value of an entity’s assets and liabilities considered to be financial instruments. For the Company, as for most financial institutions, the majority of its assets and liabilities are considered to be financial instruments. However, many such instruments lack an available trading market as characterized by a willing buyer and willing seller engaging in an exchange transaction. Accordingly, estimated fair values are determined by the Company using the best available data and an estimation methodology it believes to be suitable for each category of financial instruments. Also, it is the Company’s general practice and intent to hold its financial instruments to maturity whether or not categorized as “available-for-sale” and not to engage in trading or sales activities although it has sold loans in the past and may do so in the future. For fair value disclosure purposes, the Company utilized certain value measurement criteria required in accordance with 820, “Fair Value Measurements and Disclosures”, as discussed below.

Changes in the assumptions or methodologies used to estimate fair values may materially affect the estimated amounts. Also, there may not be reasonable comparability between institutions due to the wide range of permitted assumptions and methodologies in the absence of active markets. This lack of uniformity gives rise to a high degree of subjectivity in estimating financial instrument fair values.

Cash and cash equivalents, which are comprised of cash and due from banks, the Company’s balance at the Federal Reserve Bank and securities purchased under agreements to resell, had recorded values of $722.7 million and $601.8 million as of September 30, 2022 and December 31, 2021, respectively, which approximated fair values.

The estimated fair values of investment securities are based on quoted market prices, if available, or estimated using a methodology based on management’s inputs. Level 3 investment security fair values are based on the present valuing of cash flows, which discounts expected cash flows from principal and interest using yield to maturity, or yield to call as appropriate, at the measurement date. In the third quarter of 2022 and 2021, there were no transfers between the three levels.

FHLB, Atlantic Central Bankers Bank stock and Federal Reserve Bank stock are held as required by those respective institutions and are carried at cost. Each of these institutions require their correspondent banking institutions to hold stock as a condition of membership. While a fixed stock amount is required by each of these institutions, the Federal Home Loan Bank stock requirement increases or decreases with the level of borrowing activity.

Commercial loans held at fair value are comprised primarily of commercial real estate bridge loans and SBA loans which had been originated for sale or securitization in the secondary market, and which are now being held on the balance sheet. Commercial real estate bridge loans and SBA loans are valued using a discounted cash flow analysis based upon pricing for similar loans where market indications of the sales price of such loans are not available, on a pooled basis.

The net loan portfolio is valued using the present value of discounted cash flow where market prices were not available. The discount rate used in these calculations is the estimated current market rate adjusted for credit risk. Accrued interest receivable has a carrying value that approximates fair value.

Assets held-for-sale from discontinued operations were recorded at the lower of cost basis or market value. For loans, market value was determined using the discounted cash flow approach which converts expected cash flows from the loan portfolio by unit of measurement to a present value estimate. Unit of measurement was determined by loan type and for significant loans on an individual loan basis. Loan fair values are based on “unobservable inputs” that are based on available information. Level 3 fair values are based on the present value of cash flows by unit of measurement. In the first quarter of 2022, discontinued loans were reclassified to loans held for investment, as efforts to sell the loans had concluded. Accordingly, these loans will be accounted for as such, and included in related tables. Discontinued other real estate owned which constituted the remainder of discontinued assets was reclassified to the other real estate owned caption on the consolidated balance sheet.

For other real estate owned, market value is based upon appraisals of the underlying collateral by third-party appraisers, reduced by 7% to 10% for estimated selling costs.

The estimated fair values of demand deposits (comprised of interest and non-interest bearing checking accounts, savings accounts, and certain types of money market accounts) are equal to the amount payable on demand at the reporting date (generally, their carrying amounts). The fair values of securities sold under agreements to repurchase and short-term borrowings are equal to their carrying amounts as they are short-term borrowings.

Time deposits, when outstanding, senior debt and subordinated debentures have a fair value estimated using a discounted cash flow calculation that applies current interest rates to discount expected cash flows. The carrying amount of accrued interest payable approximates its fair value. Long term borrowings resulted from sold loans which did not qualify for true sale accounting. They are presented in the amount of the principal of such loans.

The fair values of interest rate swaps, recorded in other assets or other liabilities, are determined using models that use readily observable market inputs and a market standard methodology applied to the contractual terms of the derivatives, including the period to maturity and interest rate indices.

The fair value of commitments to extend credit is estimated based on the amount of unamortized deferred loan commitment fees. The fair value of letters of credit is based on the amount of unearned fees plus the estimated cost to terminate the letters of credit. Fair values of unrecognized financial instruments, including commitments to extend credit, and the fair value of letters of credit are considered immaterial.

The following tables provide information regarding carrying amounts and estimated fair values (in thousands) as of the dates indicated:



	September 30, 2022
					Quoted prices in		Significant other		Significant
					active markets for		observable		unobservable
	Carrying		Estimated		identical assets		inputs		inputs
	amount		fair value		(Level 1)		(Level 2)		(Level 3)
Investment securities, available-for-sale	$	790,594	$	790,594	$	—	$	771,597	$	18,997
Federal Home Loan Bank, Atlantic Central Bankers Bank, and Federal Reserve Bank stock		12,629		12,629		—		—		12,629
Commercial loans, at fair value		818,040		818,040		—		—		818,040
Loans, net of deferred loan fees and costs		5,267,375		5,254,340		—		—		5,254,340
Interest rate swaps, asset		952		952		—		952		—
Demand and interest checking		5,934,591		5,934,591		—		5,934,591		—
Savings and money market		575,381		575,381		—		575,381		—
Time deposits		401,331		401,331		—		401,331		—
Senior debt		98,958		93,871		—		93,871		—
Subordinated debentures		13,401		8,947		—		—		8,947
Securities sold under agreements to repurchase		42		42		42		—		—



	December 31, 2021
					Quoted prices in		Significant other		Significant
					active markets for		observable		unobservable
	Carrying		Estimated		identical assets		inputs		inputs
	amount		fair value		(Level 1)		(Level 2)		(Level 3)
Investment securities, available-for-sale	$	953,709	$	953,709	$	—	$	934,678	$	19,031
Federal Home Loan Bank and Atlantic Central Bankers Bank stock		1,663		1,663		—		—		1,663
Commercial loans, at fair value		1,388,416		1,388,416		—		—		1,388,416
Loans, net of deferred loan fees and costs		3,747,224		3,745,548		—		—		3,745,548
Assets held-for-sale from discontinued operations		3,268		3,268		—		—		3,268
Interest rate swaps, liability		553		553		—		553		—
Demand and interest checking		5,561,365		5,561,365		—		5,561,365		—
Savings and money market		415,546		415,546		—		415,546		—
Senior debt		98,682		101,980		—		101,980		—
Subordinated debentures		13,401		8,815		—		—		8,815
Securities sold under agreements to repurchase		42		42		42		—		—

The assets and liabilities measured at fair value on a recurring basis, segregated by fair value hierarchy, are summarized below (in thousands) as of the dates indicated:



			Fair Value Measurements at Reporting Date Using
			Quoted prices in		Significant other		Significant
				active markets for	observable		unobservable
	Fair value		identical assets		inputs		inputs
		September 30, 2022	(Level 1)		(Level 2)		(Level 3)
Investment securities, available-for-sale
U.S. Government agency securities	$	24,282	$	—	$	24,282	$	—
Asset-backed securities		340,981		—		340,981		—
Obligations of states and political subdivisions		47,489		—		47,489		—
Residential mortgage-backed securities		144,314		—		144,314		—
Collateralized mortgage obligation securities		44,762		—		44,762		—
Commercial mortgage-backed securities		181,966		—		169,769		12,197
Corporate debt securities		6,800		—		—		6,800
Total investment securities, available-for-sale		790,594		—		771,597		18,997
Commercial loans, at fair value		818,040		—		—		818,040
Interest rate swaps, asset		952		—		952		—
	$	1,609,586	$	—	$	772,549	$	837,037



			Fair Value Measurements at Reporting Date Using
			Quoted prices in		Significant other		Significant
				active markets for	observable		unobservable
	Fair value		identical assets		inputs		inputs
		December 31, 2021	(Level 1)		(Level 2)		(Level 3)
Investment securities, available-for-sale
U.S. Government agency securities	$	37,302	$	—	$	37,302	$	—
Asset-backed securities		360,418		—		360,418		—
Obligations of states and political subdivisions		52,137		—		52,137		—
Residential mortgage-backed securities		184,301		—		184,301		—
Collateralized mortgage obligation securities		61,861		—		61,861		—
Commercial mortgage-backed securities		251,076		—		238,659		12,417
Corporate debt securities		6,614		—		—		6,614
Total investment securities, available-for-sale		953,709		—		934,678		19,031
Commercial loans, at fair value		1,388,416		—		—		1,388,416
Assets held-for-sale from discontinued operations		3,268		—		—		3,268
Interest rate swaps, liability		553		—		553		—
	$	2,344,840	$	—	$	934,125	$	1,410,715

In addition, ASC 820 establishes a common definition for fair value to be applied to assets and liabilities. It clarifies that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. It also establishes a framework for measuring fair value and expands disclosures concerning fair value measurements. ASC 820 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). Level 1 valuation is based on quoted market prices for identical assets or liabilities to which the Company has access at the measurement date. Level 2 valuation is based on other observable inputs for the asset or liability, either directly or indirectly. This includes quoted prices for similar assets in active or inactive markets, inputs other than quoted prices that are observable for the asset or liability such as yield curves, volatilities, prepayment speeds, credit risks, default rates, or inputs that are derived principally from, or corroborated through, observable market data by market-corroborated reports. Level 3 valuation is based on “unobservable inputs” which the Company believes is the best information available in the circumstances. A financial instrument’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.

The Company’s Level 3 asset activity for the categories shown are summarized below (in thousands):



	Fair Value Measurements Using
	Significant Unobservable Inputs
	(Level 3)

	Available-for-sale				Commercial loans,
	securities				at fair value
	September 30, 2022		December 31, 2021		September 30, 2022		December 31, 2021
Beginning balance	$	19,031	$	178,951	$	1,388,416	$	1,810,812
Transfers from investment in unconsolidated entity		—		—		—		22,926
Transfers from assets held-for-sale from discontinued operations		—		—		—		61,580
Transfers to loans, net		—		—		(61,580)		—
Total net (losses) or gains (realized/unrealized)
Included in earnings		—		(44)		9,756		13,214
Included in other comprehensive loss		(34)		(1,422)		—		—
Purchases, issuances, sales and settlements
Issuances		—		—		36,877		127,765
Settlements		—		(158,454)		(555,429)		(647,881)
Ending balance	$	18,997	$	19,031	$	818,040	$	1,388,416

Total losses year to date included
in earnings attributable to the change in
unrealized gains or losses relating to assets still
held at the reporting date as shown above.	$	—	$	—	$	(5,278)	$	(2,133)

The Company’s Level 3 asset activity for the categories shown are summarized below (in thousands):


	Fair Value Measurements Using
	Significant Unobservable Inputs
	(Level 3)

	Investment in				Assets held-for-sale
	unconsolidated entity				from discontinued operations
	September 30, 2022		December 31, 2021		September 30, 2022		December 31, 2021
Beginning balance	$	—	$	31,294	$	3,268	$	113,650
Transfers to commercial loans, at fair value		—		(22,926)		—		(61,580)
Transfers to other real estate owned		—		(2,145)		—		(17,343)
Total (losses) or gains (realized/unrealized)
Included in earnings		—		—		—		1,102
Purchases, issuances, sales, settlements and charge-offs
Issuances		—		—		—		5,222
Sales		—		—		—		(2,020)
Settlements		—		(6,223)		(3,268)		(35,750)
Charge-offs		—		—		—		(13)
Ending balance	$	—	$	—	$	—	$	3,268

Total losses year to date included
in earnings attributable to the change in
unrealized gains or losses relating to assets still
held at the reporting date as shown above.	$	—	$	—	$	—	$	566

The Company’s other real estate owned activity is summarized below (in thousands) as of the dates indicated:


	September 30, 2022		December 31, 2021
Beginning balance	$	18,873	$	—
Transfers from investment in unconsolidated entity		—		2,145
Sales		—		(615)
Transfers from discontinued operations		—		17,343
Ending balance	$	18,873	$	18,873

Information related to fair values of level 3 balance sheet categories is as follows:

Level 3 instruments only

Weighted

Fair value at

Range at

average at

September 30, 2022

Valuation techniques

Unobservable inputs

September 30, 2022

Commercial mortgage-backed investment

security (a)

12,197

Discounted cash flow

Discount rate

11.08%

Insurance liquidating trust preferred security (b)

6,800

Discounted cash flow

Discount rate

10.82%

Federal Home Loan Bank, Atlantic

Central Bankers Bank, and Federal Reserve Bank stock

12,629

Cost

N/A

Loans, net of deferred loan fees and costs (c)

5,254,340

Discounted cash flow

Discount rate

5.00%-10.00%

5.87%

Commercial - SBA (d)

159,914

Discounted cash flow

Discount rate

3.85%-5.07%

4.95%

Non-SBA CRE - fixed (e)

62,923

Discounted cash flow and appraisal

Discount rate

8.26%-19.23%

12.34%

Non-SBA CRE - floating (f)

595,203

Discounted cash flow

Discount rate

5.56%-16.00%

6.26%

Commercial loans, at fair value

818,040

Subordinated debentures (g)

8,947

Discounted cash flow

Discount rate

11.05%

Other real estate owned (h)

18,873

Appraised value

N/A


		Level 3 instruments only
						Weighted
	Fair value at				Range at	average at
	December 31, 2021		Valuation techniques	Unobservable inputs	December 31, 2021	December 31, 2021
Commercial mortgage-backed investment
security	$	12,417	Discounted cash flow	Discount rate	8.00%	8.00%
Insurance liquidating trust preferred security		6,614	Discounted cash flow	Discount rate	7.00%	7.00%
Federal Home Loan Bank and Atlantic
Central Bankers Bank stock		1,663	Cost	N/A	N/A	N/A
Loans, net of deferred loan fees and costs		3,745,548	Discounted cash flow	Discount rate	1.00% - 7.00%	3.70%

Commercial - SBA		199,585	Discounted cash flow	Discount rate	1.04% - 2.12%	$103.40
Non-SBA CRE - fixed		79,864	Discounted cash flow	Discount rate	5.31%-7.43%	6.26%
Non-SBA CRE - floating		1,047,387	Discounted cash flow	Discount rate	3.96%-10.20%	4.96%
Other loans		61,580	Discounted cash flow	Discount rate	3.18%-6.80%	4.36%
Commercial loans, at fair value		1,388,416

Assets held-for-sale from discontinued operations		3,268	Discounted cash flow	Discount rate	3.18%-6.80%	4.36%

Subordinated debentures		8,815	Discounted cash flow	Discount rate	7.00%	7.00%

Other real estate owned		18,873	Appraised value	N/A	N/A	N/A

The valuations for each of the instruments above, as of the balance sheet date, are subject to judgments, assumptions and uncertainties, changes in which could have a significant impact on such valuations. Weighted averages were calculated by using the discount rate for each individual security or loan weighted by its market value, except for SBA loans. For SBA loans, the yields derived from market pricing indications for pools determined by date of loan origination were weighted. For commercial loans recorded at fair value, changes in fair value are reflected in the income statement. Changes in the fair value of securities which are unrelated to credit are recorded through equity. Changes in the fair value of loans recorded at amortized cost which are unrelated to credit are a disclosure item, without impact on the financial statements. The notes below refer to the September 30, 2022 table.

a)Commercial mortgage-backed investment security, consisting of a single Bank issued CRE security, is valued using discounted cash flow analysis. The discount rate and prepayment rate applied are based upon market observations and actual experience for comparable securities and implicitly assume market averages for defaults and loss severities. The security has significant

credit enhancement, or protection from other tranches in the issue, which limits the valuation exposure to credit losses. Nonetheless, increases in expected default rates or loss severities on the loans underlying the issue could reduce its value. In market environments in which investors demand greater yield compensation for credit risk, the discount rate applied would ordinarily be higher and the valuation lower. Changes in prepayments and loss experience could also change the interest earned on this holding in future periods and impact its fair value. As a single security, the weighted average rate shown is the actual rate applied to the security.

b)Insurance liquidating trust preferred security is a single debenture which is valued using discounted cash flow analysis. The discount rate used is based on the market rate on comparable relatively illiquid instruments and credit analysis. A change in the liquidating trust’s ability to repay the note, or an increase in interest rates, particularly for privately placed debentures, would affect the discount rate and thus the valuation. As a single security, the weighted average rate shown is the actual rate applied to the security.

c)Loans, net of deferred loan fees and costs are valued using discounted cash flow analysis. Discount rates are based upon available information for estimated current origination rates for each loan type. Origination rates may fluctuate based upon changes in the risk free (Treasury) rate and credit experience for each loan type.

d)Commercial-SBA Loans are comprised of the government guaranteed portion of SBA insured loans. Their valuation is based upon the yield derived from dealer pricing indications for guaranteed pools, adjusted for seasoning and prepayments. A limited number of broker/dealers originate the pooled securities for which the loans are purchased and as a result, prices can fluctuate based on such limited market demand, although the government guarantee has resulted in consistent historical demand. Valuations are impacted by prepayment assumptions resulting from both voluntary payoffs and defaults. Such assumptions for both poolable and seasoned loans are based on a seasoning vector for constant prepayment rates from 3% to 30% over life.

e)Non-SBA CRE-fixed are fixed rate non-SBA commercial real estate mortgages. These loans are fair valued by a third party, based upon discounting at market rates for similar loans, except for one loan which is fair valued on the basis of an appraisal. Discount rates used in applying discounted cash flow analysis utilize input based upon loan terms, the general level of interest rates and the quality of the credit. Deterioration in loan performance or other credit weaknesses could result in fair value ranges which would be dependent upon potential buyers’ tolerance for such weaknesses and are difficult to estimate. The loan which is valued on the basis of an appraisal has a fair value of $4.8 million, an outstanding principal balance of $9.5 million and is discussed in Note 6.

f)Non-SBA CRE-floating are floating rate non-SBA loans, the vast majority of which are secured by multi-family properties (apartments). These are bridge loans designed to provide owners time and funding for property improvements and are generally valued using discounted cash flow analysis. The discount rate for the vast majority of these loans was based upon current origination rates for similar loans. Deterioration in loan performance or other credit weaknesses could result in fair value ranges which would be dependent upon potential buyers’ tolerance for such weaknesses and are difficult to estimate. At September 30, 2022, these loans were fair valued by a third party, based upon discounting at market rates for similar loans.

g)Subordinated debentures are comprised of two subordinated notes issued by the Company, maturing in 2038 with a floating rate of 3-month LIBOR plus 3.25%. These notes are valued using discounted cash flow analysis. The discount rate is based on the market rate for comparable relatively illiquid instruments. Changes in those market rates, or the credit of the Company could result in changes in valuation.

h)For other real estate owned, fair value is based upon appraisals of the underlying collateral by third party appraisers, reduced by 7% to 10% for estimated selling costs. Such appraisals reflect estimates of amounts realizable upon property sales based on the sale of comparable properties and other factors. Actual sales prices may vary based upon the identification of potential purchasers, changing conditions in local real estate markets and the level of interest rates required to finance purchases.

Assets measured at fair value on a nonrecurring basis, segregated by fair value hierarchy, during the periods shown are summarized below (in thousands):



			Fair Value Measurements at Reporting Date Using
			Quoted prices in active		Significant other		Significant
			markets for identical		observable		unobservable
	Fair value		assets		inputs		inputs⁽¹⁾
Description	September 30, 2022		(Level 1)		(Level 2)		(Level 3)
Collateral dependent loans⁽¹⁾	$	7,059	$	—	$	—	$	7,059
Other real estate owned		18,873		—		—		18,873
Intangible assets		2,149		—		—		2,149
	$	28,081	$	—	$	—	$	28,081



			Fair Value Measurements at Reporting Date Using
			Quoted prices in active		Significant other		Significant
			markets for identical		observable		unobservable
	Fair value		assets		inputs		inputs⁽¹⁾
Description	December 31, 2021		(Level 1)		(Level 2)		(Level 3)
Collateral dependent loans⁽¹⁾	$	3,005	$	—	$	—	$	3,005
Other real estate owned		18,873		—		—		18,873
Intangible assets		2,447		—		—		2,447
	$	24,325	$	—	$	—	$	24,325

1.The method of valuation approach for the loans evaluated for an allowance for credit losses on an individual loan basis and also for other real estate owned was the market approach based upon appraisals of the underlying collateral by external appraisers, reduced by 7% to 10% for estimated selling costs. Intangible assets are valued based upon internal analyses.

At September 30, 2022, principal on collateral dependent loans and troubled debt restructurings, which is accounted for on the basis of the value of underlying collateral, is shown at estimated fair value of $7.1 million. To arrive at that fair value, related loan principal of $7.9 million was reduced by specific reserves of $863,000 within the allowance for credit losses as of that date, representing the deficiency between principal and estimated collateral values, which were reduced by estimated costs to sell. When the deficiency is deemed uncollectible, it is charged off by reducing the specific reserve and decreasing principal. Included in the collateral dependent loans at September 30, 2022 were 11 troubled debt restructured loans with a balance of $5.3 million, which had specific reserves of $447,000. Included in the collateral dependent loans at December 31, 2021, were 10 troubled debt restructured loans with a balance of $1.5 million which had specific allowances of $476,000. Valuation techniques consistent with the market and/or cost approach were used to measure fair value and primarily included observable inputs for the individual collateral dependent loans being evaluated such as recent sales of similar assets or observable market data for operational or carrying costs. In cases where such inputs were unobservable, the loan balance is reflected within the Level 3 hierarchy.

- Definition

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

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