6.	Fair Value

Fair value measurements (ASC 820) defines fair value as 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. ASC 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes 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 – Quoted prices for similar assets or liabilities in active markets, quoted prices in markets that are not active, or inputs that are observable, either directly or indirectly, for substantially the full term of the asset or liability.

Level 3 – Significant unobservable inputs that reflect a company's own assumptions about the value 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 of assets and liabilities:

Securities Available for Sale: Securities available for sale are fair valued utilizing an independent pricing service for identical assets or significantly similar securities. The pricing service uses a variety of techniques to arrive at fair value including market maker bids, quotes and pricing models. Inputs to the pricing models include recent trades, benchmark interest rates, spreads and actual and projected cash flows. This results in a Level 2 classification of the inputs for determining fair value. Interest and dividend income is recorded on the accrual method and included in the income statement in the respective investment class under total interest income. Also classified as available for sale securities are equity securities where fair value is determined by quoted market prices and these are designated as Level 1.

Other Real Estate Owned: The fair value of other real estate owned is determined by use of appraisals, comparable sales and property valuation techniques. This results in a Level 3 classification of the inputs for determining fair value. At September 30, 2011 and December 31, 2010, the majority of other real estate owned consisted of residential real estate property.

Impaired Loans: Impaired loans are reported at the fair value of the underlying collateral if repayment is expected solely from the collateral and takes into consideration the costs necessary to dispose of the property. Collateral values are estimated using Level 3 input based on the discounting of the collateral measured by appraisals. At September 30, 2011 and December 31, 2010, impaired loan consisted primarily of loans secured by commercial real estate.

Assets and liabilities measured at fair value under ASC 820 on a recurring basis are summarized below:

	Fair Value Measurements at
	September 30, 2011 Using:
	Carrying Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
(Dollars in thousands)

Securities available-for sale:

U.S. government-sponsored enterprises	$	633,812		-		633,812		-
State and political subdivisions		51,289		-		51,289		-
Mortgage-backed securities and collateralized mortgage obligations - residential		200,516		-		200,516		-
Corporate bonds		97,464		-		97,464		-
Other securities		660		10		650		-
Total securities available-for-sale	$	983,741		10		983,731		-

	Fair Value Measurements at
	December 31, 2010 Using:
	Carrying Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
(Dollars in thousands)

Securities available-for sale:

U.S. government-sponsored enterprises	$	614,886		-		614,886		-
State and political subdivisions		79,764		-		79,764		-
Mortgage-backed securities and collateralized mortgage obligations - residential		73,567		-		73,567		-
Corporate bonds		115,504		-		115,504		-
Other securities		967		317		650		-
Total securities available-for-sale	$	884,688		317		884,371		-

The securities available for sale in the above table do not include Federal Home Loan Bank stock and Federal Reserve Bank stock as these assets are not measured at fair value on a recurring basis, rather their fair value approximates their cost basis.

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

	Fair Value Measurements at
	September 30, 2011 Using:
	Carrying		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
	Value		(Level 1)		(Level 2)		(Level 3)
(Dollars in thousands)

Other real estate owned	$	6,111		-		-		6,111
Impaired loans:
Commercial real estate		5,400		-		-		5,400
Real estate mortgage - 1 to 4 family:
First mortgages		748		-		-		748

Other real estate owned, which is carried at fair value, approximates $6.1 million at September 30, 2011, and consisted of $2.0 million of commercial real estate and $4.1 million of residential real estate properties. Valuation charges of $215 thousand and $2.9 million are included in earnings for the three and nine months ended September 30, 2011, respectively.

Of the total impaired loans of $12.1 million at September 30, 2011, $6.1 million are collateral dependent and are carried at fair value measured on a non-recurring basis. Due to the sufficiency of charge-offs taken on these loans and the adequacy of the underlying collateral, there were no specific valuation allowances for these loans. Gross charge-offs related to impaired loans were $37 thousand and $771 thousand for the three and nine months ended September 30, 2011, respectively.

Fair Value Measurements at

December 31, 2010 Using:

Quoted Prices in

Active Markets for

Significant

Other

Observable

Significant

Unobservable

Carrying

Identical Assets

Inputs

Value

(Level 1)

(Level 2)

(Level 3)

(Dollars in thousands)

Other real estate owned

7,416

Impaired loans

8,307

Other real estate owned, which is carried at fair value, approximates $7.4 million at December 31, 2010. A valuation charge of $2.6 million is included in earnings for the year ended December 31, 2010.

At December 31, 2010, impaired loans had a fair value of $8.3 million. Due to the sufficiency of charge-offs taken on these loans and the adequacy of the underlying collateral, there were no specific valuation allowances for these loans. Gross charge-offs related to impaired loans were $2.6 million for the year ended December 31, 2010.

There have been no transfers between Level 1 and Level 2 during 2011 and 2010.

In accordance with ASC 825, the carrying amounts and estimated fair values of financial instruments, at September 30, 2011 and December 31, 2010 are as follows:

	As of
(dollars in thousands)	September 30, 2011
	Carrying		Fair
	Value		Value
Financial assets:
Cash and cash equivalents	$	475,825		475,825
Securities available for sale		990,602		990,602
Held to maturity securities		194,158		201,872
Net loans		2,431,167		2,560,825
Accrued interest receivable		12,855		12,855
Financial liabilities:
Demand deposits		269,958		269,958
Interest bearing deposits		3,410,569		3,417,277
Short-term borrowings		143,081		143,081
Accrued interest payable		770		770

	As of
(dollars in thousands)	December 31, 2010
	Carrying		Fair
	Value		Value
Financial assets:
Cash and cash equivalents	$	444,250		444,250
Securities available for sale		891,601		891,601
Held to maturity securities		191,712		200,206
Net loans		2,313,354		2,372,880
Accrued interest receivable		13,178		13,178
Financial liabilities:
Demand deposits		251,091		251,091
Interest bearing deposits		3,302,996		3,305,586
Short-term borrowings		124,615		124,615
Accrued interest payable		1,073		1,073

The specific estimation methods and assumptions used can have a substantial impact on the resulting fair values of financial instruments. Following is a brief summary of the significant methods and assumptions used in estimating fair values:

Cash and Cash Equivalents

The carrying values of these financial instruments approximate fair values.

Securities

Securities available for sale and held to maturity are fair valued utilizing an independent pricing service. The pricing service uses a variety of techniques to arrive at fair value including market maker bids and quotes of significantly similar securities and pricing models. Inputs to the pricing models include recent trades, benchmark interest rates, spreads and actual and projected cash flows.

Loans

The fair values of all loans are estimated using discounted cash flow analyses with discount rates equal to the interest rates currently being offered for loans with similar terms to borrowers of similar credit quality.

Deposit Liabilities

The fair values disclosed for noninterest bearing deposits, interest bearing checking accounts, savings accounts, and money market accounts are, by definition, equal to the amount payable on demand at the balance sheet date. The carrying value of all variable rate certificates of deposit approximates fair value. The fair value of fixed rate certificates of deposit is estimated using discounted cash flow analyses with discount rates equal to the interest rates currently being offered on certificates of similar size and remaining maturity.

Short-Term Borrowings and Other Financial Instruments

The fair value of all short-term borrowings, and other financial instruments approximates the carrying value.

Financial Instruments with Off-Balance Sheet Risk

The Company is a party to financial instruments with off-balance sheet risk. Such financial instruments consist of commitments to extend financing and standby letters of credit. If the commitments are exercised by the prospective borrowers, these financial instruments will become interest earning assets of the Company. If the commitments expire, the Company retains any fees paid by the prospective borrower. The fair value of commitments is estimated based upon fees currently charged to enter into similar agreements, taking into consideration the remaining terms of the agreements and the present creditworthiness of the borrower. For fixed rate commitments, the fair value estimation takes into consideration an interest rate risk factor. The fair value of these off-balance sheet items approximates the recorded amounts of the related fees, which are considered to be immaterial.

The Company does not engage in activities involving interest rate swaps, forward placement contracts, or any other instruments commonly referred to as derivatives.

- 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.

+ References

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