14. FAIR VALUE MEASUREMENTS AND FAIR VALUE OF FINANCIAL INSTRUMENTS

In general, 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, which is not adjusted for transaction costs. Accounting guidelines establish 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). The three levels of the fair value hierarchy are described below:

Basis of Fair Value Measurement:

Level 1 - Unadjusted, quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;

Level 2 - 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; and

Level 3 - Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e. supported by little or no market activity).

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 types of instruments whose value is based on quoted market prices in active markets include most U.S. Treasury securities, liquid mortgage products, active listed equities and most money market securities. Such instruments are generally classified within Level 1 of the fair value hierarchy. The Company does not adjust the quoted price for such instruments.

The types of instruments whose value is based on quoted prices in markets that are not active, broker or dealer quotations, or alternative pricing sources with reasonable levels of price transparency include most U.S. Government agency securities, state and municipal bonds, mortgage-backed securities, collateralized mortgage obligations, and corporate securities. Such instruments are generally classified within Level 2 of the fair value hierarchy and their fair values are determined as follows:


•	The markets for U.S. Government agency securities are active, but the exact (cusip) securities owned by the Company are traded thinly or infrequently. Therefore, the price for these securities is determined by reference to transactions in securities with similar yields, maturities and other features (matrix priced).


•	State and municipal bonds owned by the Company are traded thinly or infrequently, and as a result the fair value is estimated in reference to securities with similar yields, credit ratings, maturities, and in consideration of any prepayment assumptions obtained from market data.


•	Collateralized mortgage obligations and mortgage-backed securities are generally unique securities whose fair value is estimated using market information for new issues and adjusting for the features of a particular security by applying assumptions for prepayments, pricing spreads, yields and credit ratings.


•	Certain corporate securities owned by the Company are traded thinly or infrequently. Therefore, the fair value of these securities is determined by reference to transactions in other issues of these securities with similar yields and features.

14. FAIR VALUE MEASUREMENTS AND FAIR VALUE OF FINANCIAL INSTRUMENTS - Continued

Level 3 classification is for positions that are not traded in active markets or are subject to transfer restrictions. Valuations are adjusted to reflect illiquidity and/or non-transferability, and such adjustments are generally based on available market evidence. In the absence of such evidence, management’s best estimate is used. Management’s best estimate consists of both internal and external support on certain Level 3 investments. Internal cash flow models using a present value formula along with indicative exit pricing obtained from broker/dealers are used to fair value Level 3 investments. Management changes Level 3 inputs and assumptions when corroborated by evidence such as transactions in similar instruments, completed or pending third-party transactions in the underlying investment or comparable entities, subsequent rounds of financing, recapitalizations and other transactions across the capital structure, offerings in the equity or debt markets, and changes in financial ratios or cash flows. Fair values for securities classified within Level 3 are determined as follows:


•	Certain corporate securities owned by the Company are not traded in active markets and prices for securities with similar features are unavailable. The fair value for each security is estimated in reference to benchmark transactions by security type based upon yields, credit spreads and option features.

•

Certain marketable equity securities which are not subject to ownership restrictions but are traded thinly on exchanges or over-the-counter. As a result, prices are not available on a consistent basis from published sources, and, therefore, additional quotations from brokers may be obtained. Additionally considered indications of pricing include subsequent financing rounds or pending transactions. The reported fair value is based upon the Company’s judgment with respect to the information it is able to reliably obtain.

The Company utilizes a third-party service provider to assist with investment security pricing. The Company evaluates the pricing results by periodically reviewing the service provider's practices and procedures. Additionally, each quarter the Company independently validates the pricing results of the third-party service provider by obtaining independent prices from other sources and evaluating discrepancies to established tolerances for each security type. The Company also investigates pricing outliers by security class, and performs a review of unchanged security prices.

Interest rate swap agreements are measured by alternative pricing sources with reasonable levels of price transparency in markets that are not active. Based on the complex nature of interest rate swap agreements, the markets these instruments trade in are not as efficient and are less liquid than that of the Level 1 markets. These markets do however have comparable, observable inputs in which an alternative pricing source values these assets to arrive at a fair value. These characteristics classify interest rate swap agreements as Level 2 measurements.

The Company has the option to measure eligible financial assets, financial liabilities and Company commitments at fair value (i.e. the fair value option), on an instrument-by-instrument basis. The election to use the fair value option is available when an entity first recognizes a financial asset or liability or upon entering into a Company commitment. Subsequent changes in fair value must be recorded in earnings.

Specifically, for asset/liability management purposes, the fair value option was applied to the Company’s only fixed rate subordinated debenture liability, which was redeemed by the Company during the first quarter of 2013. Upon redemption, the Company recognized a gain of $2.1 million in non-interest income for the reversal of the cumulative change in fair value previously recognized in earnings. For the twelve months ended December 31, 2012, non-interest income included a gain of $0.7 million for the change in fair value. The fair value of the subordinated debenture was based on an unadjusted, quoted price of the traded asset (formerly Nasdaq: "NPBCO") in an active market on the final day of each month.

14. FAIR VALUE MEASUREMENTS AND FAIR VALUE OF FINANCIAL INSTRUMENTS - Continued

The following table sets forth the Company’s financial assets and liabilities that were accounted for at fair value on a recurring basis as of December 31, 2013 and December 31, 2012, by level within the fair value hierarchy. Financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.



December 31, 2013	Total Fair Value		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
(dollars in thousands)	Total Fair Value		(Level 1)		(Level 2)		(Level 3)
Assets
U.S. Government agencies	$	990	$	—	$	990	$	—
State and municipal bonds	214,711		—		214,711		—
Agency mortgage-backed securities/ collateralized mortgage obligations	1,659,180		—		1,659,180		—
Non-agency collateralized mortgage obligations	4,258		—		4,258		—
Corporate securities and other	9,668		61		4,922		4,685
Marketable equity securities	5,300		4,241		—		1,059
Investment securities, available-for-sale	$	1,894,107	$	4,302	$	1,884,061	$	5,744

Interest rate swap agreements	$	21,624	$	—	$	21,624	$	—

Liabilities
Forward sale commitments	$	84	$	—	$	84	$	—
Interest rate locks	42				42
Interest rate swap agreements	21,624		—		21,624		—

December 31, 2012	Total Fair Value		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
(dollars in thousands)	Total Fair Value		(Level 1)		(Level 2)		(Level 3)
Assets
U.S. Government agencies	$	1,023	$	—	$	1,023	$	—
State and municipal bonds	285,320		—		285,320		—
Agency mortgage-backed securities/ collateralized mortgage obligations	1,491,365		—		1,491,365		—
Non-agency collateralized mortgage obligations	9,110		—		9,110		—
Corporate securities and other	10,683		59		8,799		1,825
Marketable equity securities	4,712		3,711		—		1,001
Investment securities, available-for-sale	$	1,802,213	$	3,770	$	1,795,617	$	2,826

Interest rate locks	$	12	$	—	$	12	$	—
Interest rate swap agreements	28,252		—		28,252		—

Liabilities
Subordinated debentures	$	67,306	$	67,306	$	—	$	—
Forward sale commitments	362		—		362		—
Interest rate swap agreements	28,252		—		28,252		—

14. FAIR VALUE MEASUREMENTS AND FAIR VALUE OF FINANCIAL INSTRUMENTS - Continued

The following table presents activity for investment securities measured at fair value on a recurring basis for the year ended December 31, 2013:



(dollars in thousands)
	Beginning Balance January 1, 2013		Gains/(Losses) Included in Earnings		Gains/(Losses) Included in Other Comprehensive Income			Purchases		Sales			Maturities/ Calls/Paydowns			Accretion/ Amortization			Transfers		Ending Balance December 31, 2013
Level 1

Corporate securities and other	$	59	$	—	$	2		$	—	$	—		$	—		$	—		$	—	$	61
Marketable equity securities	3,711		—		530			—		—			—			—			—		4,241
Total level 1	3,770		—		532			—		—			—			—			—		4,302

Level 2

U.S. Government agencies	1,023		—		(34		)	1,000		—			(1,000		)	1			—		990
State and municipal bonds	285,320		—		(12,734		)	—		—			(61,630		)	3,755			—		214,711
Agency mortgage-backed securities/ collateralized mortgage obligations	1,491,365		—		(69,300		)	608,294		—			(365,012		)	(6,167		)	—		1,659,180
Non-agency collateralized mortgage obligations	9,110		—		(121		)	—		—			(4,744		)	13			—		4,258
Corporate securities and other	8,799		47		(9		)	—		(3,092		)	(814		)	(9		)	—		4,922
Total level 2	1,795,617		47		(82,198		)	609,294		(3,092		)	(433,200		)	(2,407		)	—		1,884,061

Level 3

Corporate securities and other	1,825		7		455			2,730		(340		)	—			8			—		4,685
Marketable equity securities	1,001		—		58			—		—			—			—			—		1,059
Total level 3	2,826		7		513			2,730		(340		)	—			8			—		5,744

Total available-for-sale securities	$	1,802,213	$	54	$	(81,153	)	$	612,024	$	(3,432	)	$	(433,200	)	$	(2,399	)	$	—	$	1,894,107

14. FAIR VALUE MEASUREMENTS AND FAIR VALUE OF FINANCIAL INSTRUMENTS - Continued

The following table sets forth the Company’s financial assets subject to fair value adjustments (impairment) on a non-recurring basis. Assets are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.



(dollars in thousands)	Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
December 31, 2013	(Level 1)		(Level 2)		(Level 3)		Balance
Loans held-for-sale	$	—	$	4,951	$	—	$	4,951
Impaired loans, net	—		—		49,412		49,412
OREO and other repossessed assets	—		—		1,278		1,278

December 31, 2012
Loans held-for-sale	$	—	$	14,330	$	—	$	14,330
Impaired loans, net	—		—		53,138		53,138
OREO and other repossessed assets	—		—		3,029		3,029

Fair value for loans held-for-sale is estimated based upon available market data for mortgage-backed securities with similar interest rates and maturities. Lower of cost or estimated fair value write-downs recorded on loans held-for-sale were zero as of December 31, 2013 and December 31, 2012.

The recorded investment in impaired loans totaled $57.7 million with a specific reserve of $8.3 million at December 31, 2013, compared to $56.2 million with a specific reserve of $3.1 million at December 31, 2012. Fair value for impaired loans is measured primarily on the value of the collateral securing these loans, less estimated costs to sell, or the present value of estimated cash flows discounted at the loan’s original effective interest rate. Appraised values may be discounted based on management’s historical knowledge, changes in market conditions from the time of valuation, and/or management’s expertise and knowledge of the client and client’s business.

Fair value for OREO and other repossessed assets is estimated based upon its appraised value less costs to sell. Additional write-downs of $0.1 million and $0.3 million were included in the period-ending OREO and other repossessed assets balance at December 31, 2013 and December 31, 2012, respectively.

In addition to financial instruments recorded at fair value in the Company’s financial statements, disclosure of the estimated fair value of all of an entity’s assets and liabilities considered to be financial instruments is also required. For the Company, as for most financial institutions, the majority of its assets and liabilities are considered to be financial instruments. However, certain instruments lack an available trading market as characterized by a willing buyer and willing seller engaging in an exchange transaction. Also, it is the Company’s general practice and intent to hold its financial instruments to maturity and to not engage in trading or sales activities, other than mortgage loans held-for-sale. Fair values have been estimated using data that management considered the best available and estimation methodologies deemed suitable for the pertinent category of financial instrument.

14. FAIR VALUE MEASUREMENTS AND FAIR VALUE OF FINANCIAL INSTRUMENTS - Continued

The estimation methodologies, resulting fair values and recorded carrying amounts are as follows:



(dollars in thousands)	December 31, 2013				December 31, 2012
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
ASSETS
Cash and cash equivalents	$	283,523	$	283,523	$	428,128	$	428,128
Investment securities available-for-sale	1,894,107		1,894,107		1,802,213		1,802,213
Investment securities held-to-maturity	438,445		452,202		464,166		499,149
Loans held-for-sale	4,951		5,077		14,330		14,680
Loans, net of allowance for loan losses	5,236,901		5,168,470		5,115,597		5,131,880
OREO and other repossessed assets	1,278		1,278		3,029		3,029
Interest rate locks	—		—		12		12
Interest rate swap agreements	21,624		21,624		28,252		28,252

LIABILITIES
Non-interest bearing deposits	$	970,051	$	970,051	$	891,401	$	891,401
Interest bearing deposits, non-maturity	3,852,036		3,852,036		3,609,174		3,609,174
Deposits with stated maturities	1,250,491		1,253,920		1,434,990		1,445,706
Customer repurchase agreements	551,736		551,736		560,065		560,065
Structured repurchase agreements	50,000		51,332		75,000		78,593
Short-term borrowings	—		—		100,000		100,000
Federal Home Loan Bank advances	603,232		611,890		464,632		543,903
Subordinated debentures	77,321		77,321		144,627		144,627
Forward sale commitments	84		84		362		362
Interest rate locks	42		42		—		—
Interest rate swap agreements	21,624		21,624		28,252		28,252

The fair value of cash and cash equivalents has been estimated to equal the carrying amounts due to the short-term nature of these instruments. Therefore, cash and cash equivalents are classified within Level 1 of the fair value hierarchy.

The fair value of investment securities held-to-maturity has been estimated in a similar fashion to similar securities categorized as available-for-sale. Held-to-maturity securities include state and municipal bonds, collateralized mortgage obligations and mortgage-backed securities. These instruments are classified within Level 2 of the fair value hierarchy.

The fair value of the loan portfolio has been estimated using a discounted cash flow methodology based upon prevailing market interest rates relative to the portfolios’ effective interest rate which includes assumptions concerning prepayment rates and net credit losses. The loan portfolio is classified within Level 3 of the fair value hierarchy.

The fair value of non-interest bearing demand deposits has been estimated to equal the carrying amount, which is assumed to be the amount payable on demand at the balance sheet date and therefore are classified within Level 1 of the fair value hierarchy.

The fair value of interest bearing deposits excludes deposits with stated maturities and is based on the assumption that the exit value of the instruments would be funded with like instruments by principal market participants. These instruments are classified within Level 2 of the fair value hierarchy.

The fair value of deposits with stated maturities is estimated at the present value of associated cash flows using contractual maturities and market interest rates. These instruments are classified within Level 2 of the fair value hierarchy.

14. FAIR VALUE MEASUREMENTS AND FAIR VALUE OF FINANCIAL INSTRUMENTS - Continued

The fair value of customer repurchase agreements has been estimated at the present value of associated cash flows using contractual maturities and market interest rates for each instrument. These instruments are classified within Level 2 of the fair value hierarchy.

The fair value of repurchase agreements is determined based on current market rates for similar borrowings, as well as a further calculation for valuing the optionality of the conversion features in certain of the instruments. These instruments are classified within Level 2 of the fair value hierarchy.

The fair value of FHLB advances is determined based on current market rates for similar borrowings with similar credit ratings, as well as a further calculation for valuing the optionality of the conversion features in certain of the instruments. These instruments are classified within Level 2 of the fair value hierarchy.

The fair value option was elected for the Company’s fixed rate subordinated debenture, and the fair value was measured on an unadjusted, quoted price for the traded assets (formerly Nasdaq: “NPBCO”) and as such was classified within Level 1 of the fair value hierarchy. The fair value of this instrument was $67.3 million at December 31, 2012 and zero at December 31, 2013 due to its redemption on March 7, 2013. Subordinated debentures that have floating interest rates based upon LIBOR are callable at any time and, due to the call feature, the fair value is estimated to equal the par amount. These instruments are classified within Level 2 of the fair value hierarchy.