Fair Value Measurements

(In Thousands)

Fair Value Measurements and the Fair Level Hierarchy

ASC 820, “Fair Value Measurements and Disclosures,” provides guidance for using fair value to measure assets and liabilities and also establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The fair value hierarchy gives the highest priority to a valuation based on quoted prices in active markets for identical assets and liabilities (Level 1), moderate priority to a valuation based on quoted prices in active markets for similar assets and liabilities and/or based on assumptions that are observable in the market (Level 2), and the lowest priority to a valuation based on assumptions that are not observable in the market (Level 3).

Recurring Fair Value Measurements

The Company carries certain assets and liabilities at fair value on a recurring basis in accordance with applicable standards. The Company’s recurring fair value measurements are based on the requirement to carry such assets and liabilities at fair value or the Company’s election to carry certain eligible assets and liabilities at fair value. Assets and liabilities that are required to be carried at fair value on a recurring basis include securities available for sale and derivative instruments. The Company has elected to carry mortgage loans held for sale at fair value on a recurring basis as permitted under the guidance in ASC 825, “Financial Instruments” (“ASC 825”).

The following methods and assumptions are used by the Company to estimate the fair values of the Company’s financial assets and liabilities that are measured on a recurring basis:

Securities available for sale: Securities available for sale consist primarily of debt securities, such as obligations of U.S. Government agencies and corporations, mortgage-backed securities, trust preferred securities, and other debt and equity securities. Where quoted market prices in active markets are available, securities are classified within Level 1 of the fair value hierarchy. If quoted prices from active markets are not available, fair values are based on quoted market prices for similar instruments traded in active markets, quoted market prices for identical or similar instruments traded in markets that are not active, or model-based valuation techniques where all significant assumptions are observable in the market. Such instruments are classified within Level 2 of the fair value hierarchy. When assumptions used in model-based valuation techniques are not observable in the market, the assumptions used by management reflect estimates of assumptions used by other market participants in determining fair value. When there is limited transparency around the inputs to the valuation, the instruments are classified within Level 3 of the fair value hierarchy.

Derivative instruments: The Company uses derivatives to manage various financial risks. Most of the Company’s derivative contracts are extensively traded in over-the-counter markets and are valued using discounted cash flow models which incorporate observable market based inputs including current market interest rates, credit spreads, and other factors. Such instruments are categorized within Level 2 of the fair value hierarchy and include interest rate swaps and other interest rate contracts such as interest rate caps and/or floors. The Company’s interest rate lock commitments are valued using current market prices for mortgage-backed securities with similar characteristics, adjusted for certain factors including servicing and risk. The value of the Company’s forward commitments is based on current prices for securities backed by similar types of loans. Because these assumptions are observable in active markets, the Company’s interest rate lock commitments and forward commitments are categorized within Level 2 of the fair value hierarchy.

Mortgage loans held for sale: Mortgage loans held for sale are primarily agency loans which trade in active secondary markets. The fair value of these instruments is derived from current market pricing for similar loans, adjusted for differences in loan characteristics, including servicing and risk. Because the valuation is based on external pricing of similar instruments, mortgage loans held for sale are classified within Level 2 of the fair value hierarchy.

The following table presents assets and liabilities that are measured at fair value on a recurring basis as of the dates presented:



	Level 1		Level 2		Level 3		Totals
March 31, 2016
Financial assets:
Securities available for sale:
Obligations of other U.S. Government agencies and corporations	$	—	$	6,217	$	—	$	6,217
Residential mortgage-backed securities:
Government agency mortgage backed securities	—		363,072		—		363,072
Government agency collateralized mortgage obligations	—		180,908		—		180,908
Commercial mortgage-backed securities:
Government agency mortgage backed securities	—		57,135		—		57,135
Government agency collateralized mortgage obligations	—		5,048		—		5,048
Trust preferred securities	—		—		18,947		18,947
Other debt securities	—		18,426		—		18,426
Other equity securities	—		3,691		—		3,691
Total securities available for sale	—		634,497		18,947		653,444
Derivative instruments:
Interest rate contracts	—		4,181		—		4,181
Interest rate lock commitments	—		6,231		—		6,231
Forward commitments	—		36		—		36
Total derivative instruments	—		10,448		—		10,448
Mortgage loans held for sale	—		298,365		—		298,365
Total financial assets	$	—	$	943,310	$	18,947	$	962,257
Financial liabilities:
Derivative instruments:
Interest rate swaps	$	—	$	6,328	$	—	$	6,328
Interest rate contracts	—		4,181		—		4,181
Interest rate lock commitments	—		95		—		95
Forward commitments	—		3,788		—		3,788
Total derivative instruments	—		14,392		—		14,392
Total financial liabilities	$	—	$	14,392	$	—	$	14,392



	Level 1		Level 2		Level 3		Totals
December 31, 2015
Financial assets:
Securities available for sale:
Obligations of other U.S. Government agencies and corporations	$	—	$	6,200	$	—	$	6,200
Residential mortgage-backed securities:
Government agency mortgage backed securities	—		364,540		—		364,540
Government agency collateralized mortgage obligations	—		168,060		—		168,060
Commercial mortgage-backed securities:
Government agency mortgage backed securities	—		59,759		—		59,759
Government agency collateralized mortgage obligations	—		5,104		—		5,104
Trust preferred securities	—		—		19,469		19,469
Other debt securities	—		19,333		—		19,333
Other equity securities	—		4,340		—		4,340
Total securities available for sale	—		627,336		19,469		646,805
Derivative instruments:
Interest rate contracts	—		2,544		—		2,544
Interest rate lock commitments	—		4,508		—		4,508
Forward commitments	—		446		—		446
Total derivative instruments	—		7,498		—		7,498
Mortgage loans held for sale	—		225,254		—		225,254
Total financial assets	$	—	$	860,088	$	19,469	$	879,557
Financial liabilities:
Derivative instruments:
Interest rate swaps	$	—	$	4,266	$	—	$	4,266
Interest rate contracts	—		2,544		—		2,544
Forward commitments	—		509		—		509
Total derivative instruments	—		7,319		—		7,319
Total financial liabilities	$	—	$	7,319	$	—	$	7,319

The Company reviews fair value hierarchy classifications on a quarterly basis. Changes in the Company’s ability to observe inputs to the valuation may cause reclassification of certain assets or liabilities within the fair value hierarchy. Transfers between levels of the hierarchy are deemed to have occurred at the end of period. There were no such transfers between levels of the fair value hierarchy during the three months ended March 31, 2016.

The following tables provide a reconciliation for assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs, or Level 3 inputs, during the three months ended March 31, 2016 and 2015, respectively:



Three Months Ended March 31, 2016	Trust preferred securities
Balance at January 1, 2016	$	19,469
Accretion included in net income	7
Unrealized losses included in other comprehensive income	(481		)
Purchases	—
Sales	—
Issues	—
Settlements	(48		)
Transfers into Level 3	—
Transfers out of Level 3	—
Balance at March 31, 2016	$	18,947



Three Months Ended March 31, 2015	Trust preferred securities
Balance at January 1, 2015	$	19,756
Accretion included in net income	8
Unrealized gains included in other comprehensive income	716
Reclassification adjustment	—
Purchases	—
Sales	—
Issues	—
Settlements	(354		)
Transfers into Level 3	—
Transfers out of Level 3	—
Balance at March 31, 2015	$	20,126

For the three months ended March 31, 2016 and 2015, there were no gains or losses included in earnings that were attributable to the change in unrealized gains or losses related to assets or liabilities held at the end of each respective period that were measured on a recurring basis using significant unobservable inputs.

The following table presents information as of March 31, 2016 about significant unobservable inputs (Level 3) used in the valuation of assets and liabilities measured at fair value on a recurring basis:



Financial instrument	Fair Value		Valuation Technique	Significant Unobservable Inputs	Range of Inputs
Trust preferred securities	$	18,947	Discounted cash flows	Default rate	0-100%

Nonrecurring Fair Value Measurements

Certain assets may be recorded at fair value on a nonrecurring basis. These nonrecurring fair value adjustments typically are a result of the application of the lower of cost or market accounting or a write-down occurring during the period. The following table provides the fair value measurement for assets measured at fair value on a nonrecurring basis that were still held on the Consolidated Balance Sheets as of the dates presented and the level within the fair value hierarchy each is classified:



March 31, 2016	Level 1		Level 2		Level 3		Totals
Impaired loans	$	—	$	—	$	3,460	$	3,460
OREO	—		—		2,633		2,633
Total	$	—	$	—	$	6,093	$	6,093



December 31, 2015	Level 1		Level 2		Level 3		Totals
Impaired loans	$	—	$	—	$	6,508	$	6,508
OREO	—		—		12,839		12,839
Total	$	—	$	—	$	19,347	$	19,347

The following methods and assumptions are used by the Company to estimate the fair values of the Company’s financial assets and liabilities measured on a nonrecurring basis:

Impaired loans: Loans considered impaired are reserved for at the time the loan is identified as impaired taking into account the fair value of the collateral less estimated selling costs. Collateral may be real estate and/or business assets including but not limited to equipment, inventory and accounts receivable. The fair value of real estate is determined based on appraisals by qualified licensed appraisers. The fair value of the business assets is generally based on amounts reported on the business’s financial statements. Appraised and reported values may be adjusted based on changes in market conditions from the time of valuation and management’s knowledge of the client and the client’s business. Since not all valuation inputs are observable, these nonrecurring fair value determinations are classified as Level 3. Impaired loans are reviewed and evaluated on at least a quarterly basis for additional impairment and adjusted accordingly, based on the same factors previously identified. Impaired loans covered under loss-share agreements were recorded at their fair value upon the acquisition date, and no fair value adjustments were necessary for the three months ended March 31, 2016 or 2015. Impaired loans not covered under loss-share agreements that were measured or re-measured at fair value had a carrying value of $4,562 and $7,191 at March 31, 2016 and December 31, 2015, respectively, and a specific reserve for these loans of $1,102 and $683 was included in the allowance for loan losses as of such dates.

Other real estate owned: OREO is comprised of commercial and residential real estate obtained in partial or total satisfaction of loan obligations. OREO covered under loss-share agreements is recorded at its fair value on its acquisition date. OREO not covered under loss-share agreements acquired in settlement of indebtedness is recorded at the fair value of the real estate less estimated costs to sell. Subsequently, it may be necessary to record nonrecurring fair value adjustments for declines in fair value. Fair value, when recorded, is determined based on appraisals by qualified licensed appraisers and adjusted for management’s estimates of costs to sell. Accordingly, values for OREO are classified as Level 3.

The following table presents OREO measured at fair value on a nonrecurring basis that was still held in the Consolidated Balance Sheets as of the dates presented:



	March 31, 2016			December 31, 2015
OREO covered under loss-share agreements:
Carrying amount prior to remeasurement	$	111		$	—
Impairment recognized in results of operations	(9		)	—
Increase in FDIC loss-share indemnification asset	(37		)	—
Receivable from other guarantor	—			—
Fair value	$	65		$	—
OREO not covered under loss-share agreements:
Carrying amount prior to remeasurement	$	2,853		$	14,726
Impairment recognized in results of operations	(285		)	(1,887		)
Fair value	$	2,568		$	12,839



Financial instrument	Fair Value		Valuation Technique	Significant Unobservable Inputs	Range of Inputs
Impaired loans	$	3,460	Appraised value of collateral less estimated costs to sell	Estimated costs to sell	4-10%
OREO	2,633		Appraised value of property less estimated costs to sell	Estimated costs to sell	4-10%

Fair Value Option

The Company elected to measure all mortgage loans originated for sale on or after July 1, 2012 at fair value under the fair value option as permitted under ASC 825. Electing to measure these assets at fair value reduces certain timing differences and better matches the changes in fair value of the loans with changes in the fair value of derivative instruments used to economically hedge them.

Net gains of $5,527 and $27 resulting from fair value changes of these mortgage loans were recorded in income during the three months ended March 31, 2016 and 2015, respectively. The amount does not reflect changes in fair values of related derivative instruments used to hedge exposure to market-related risks associated with these mortgage loans. The change in fair value of both mortgage loans held for sale and the related derivative instruments are recorded in “Mortgage banking income” in the Consolidated Statements of Income.

The Company’s valuation of mortgage loans held for sale incorporates an assumption for credit risk; however, given the short-term period that the Company holds these loans, valuation adjustments attributable to instrument-specific credit risk is nominal. Interest income on mortgage loans held for sale measured at fair value is accrued as it is earned based on contractual rates and is reflected in loan interest income on the Consolidated Statements of Income.

The following table summarizes the differences between the fair value and the principal balance for mortgage loans held for sale measured at fair value as of:



March 31, 2016	Aggregate Fair Value		Aggregate Unpaid Principal Balance		Difference
Mortgage loans held for sale measured at fair value	$	298,365	$	286,619	$	11,746
Past due loans of 90 days or more	—		—		—
Nonaccrual loans	—		—		—

Fair Value of Financial Instruments

The carrying amounts and estimated fair values of the Company’s financial instruments, including those assets and liabilities that are not measured and reported at fair value on a recurring basis or nonrecurring basis, were as follows as of the dates presented:



			Fair Value
As of March 31, 2016	Carrying Value		Level 1		Level 2		Level 3		Total
Financial assets
Cash and cash equivalents	$	218,483	$	218,483	$	—	$	—	$	218,483
Securities held to maturity	448,376		—		448,376		—		448,376
Securities available for sale	653,444		—		634,497		18,947		653,444
Mortgage loans held for sale	298,365		—		298,365		—		298,365
Loans covered under loss-share agreements	44,989		—		—		43,011		43,011
Loans not covered under loss-share agreements, net	5,484,882		—		—		5,456,034		5,456,034
FDIC loss-share indemnification asset	6,118		—		—		6,118		6,118
Mortgage servicing rights	13,366		—		—		13,615		13,615
Derivative instruments	10,448		—		10,448		—		10,448
Financial liabilities
Deposits	$	6,431,377	$	4,934,645	$	1,504,606	$	—	$	6,439,251
Short-term borrowings	414,255		414,255		—		—		414,255
Other long-term borrowings	181		181		—		—		181
Federal Home Loan Bank advances	52,003		—		55,407		—		55,407
Junior subordinated debentures	95,232		—		75,218		—		75,218
Derivative instruments	14,392		—		14,392		—		14,392



			Fair Value
As of December 31, 2015	Carrying Value		Level 1		Level 2		Level 3		Total
Financial assets
Cash and cash equivalents	$	211,571	$	211,571	$	—	$	—	$	211,571
Securities held to maturity	458,400		—		473,753		—		473,753
Securities available for sale	646,805		—		627,336		19,469		646,805
Mortgage loans held for sale	225,254		—		225,254		—		225,254
Loans covered under loss-share agreements	93,142		—		—		92,528		92,528
Loans not covered under loss-share agreements, net	5,277,883		—		—		5,208,630		5,208,630
FDIC loss-share indemnification asset	7,149		—		—		7,149		7,149
Mortgage servicing rights	29,642		—		—		33,283		33,283
Derivative instruments	7,498		—		7,498		—		7,498
Financial liabilities
Deposits	$	6,218,602	$	4,723,312	$	1,502,202	$	—	$	6,225,514
Short-term borrowings	422,279		422,279		—		—		422,279
Other long-term borrowings	192		192		—		—		192
Federal Home Loan Bank advances	52,930		—		56,101		—		56,101
Junior subordinated debentures	95,095		—		78,095		—		78,095
Derivative instruments	7,319		—		7,319		—		7,319

The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value. The methodologies for estimating the fair value of financial assets and liabilities that are measured at fair value on a recurring or nonrecurring basis were discussed previously.

Cash and cash equivalents: Cash and cash equivalents consist of cash and due from banks and interest-bearing balances with banks. The carrying amount reported in the Consolidated Balance Sheets for cash and cash equivalents approximates fair value based on the short-term nature of these assets.

Securities held to maturity: Securities held to maturity consist of debt securities such as obligations of U.S. Government agencies, states, and other political subdivisions. Where quoted market prices in active markets are available, securities are classified within Level 1 of the fair value hierarchy. If quoted prices in active markets are not available, fair values are based on quoted market prices for similar instruments traded in active markets, quoted market prices for identical or similar instruments traded in markets that are not active, or model-based valuation techniques where all significant assumptions are observable in the market. Such instruments are classified within Level 2 of the fair value hierarchy. When assumptions used in model-based valuation techniques are not observable in the market, the assumptions used by management reflect estimates of assumptions used by other market participants in determining fair value. When there is limited transparency around the inputs to the valuation, the instruments are classified within Level 3 of the fair value hierarchy.

Loans covered under loss-share agreements: The fair value of loans covered under loss-share agreements is based on the net present value of future cash proceeds expected to be received using discount rates that are derived from current market rates and reflect the level of interest risk in the covered loans.

Loans not covered under loss-share agreements: For variable-rate loans not covered under loss-share agreements that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. Fair values of fixed-rate loans not covered under loss-share agreements, including mortgages and commercial, agricultural and consumer loans, are estimated using a discounted cash flow analysis based on interest rates currently being offered for loans with similar terms to borrowers of similar credit quality.

FDIC loss-share indemnification asset: The fair value of the FDIC loss-share indemnification asset is based on the net present value of future cash flows expected to be received from the FDIC under the provisions of the loss-share agreements using a discount rate that is based on current market rates for the underlying covered loans. Current market rates are used in light of the uncertainty of the timing and receipt of the loss-share reimbursement from the FDIC.

Mortgage servicing rights: Mortgage servicing rights are carried at the lower of amortized cost or fair value. Fair value is determined using an income approach with various assumptions including expected cash flows, market discount rates, prepayment speeds, servicing costs, and other factors. Because these factors are not all observable and include management’s assumptions, mortgage servicing rights are classified within Level 3 of the fair value hierarchy. Mortgage servicing rights were carried at amortized cost at March 31, 2016 and December 31, 2015, and no impairment charges were recognized in earnings for the three months ended March 31, 2016 or 2015.

Deposits: The fair values disclosed for demand deposits, both interest-bearing and noninterest-bearing, are, by definition, equal to the amount payable on demand at the reporting date. Such deposits are classified within Level 1 of the fair value hierarchy. The fair values of certificates of deposit and individual retirement accounts are estimated using a discounted cash flow based on currently effective interest rates for similar types of deposits. These deposits are classified within Level 2 of the fair value hierarchy.

Short-term borrowings: Short-term borrowings consist of securities sold under agreements to repurchase and overnight borrowings. The fair value of these borrowings approximates the carrying value of the amounts reported in the Consolidated Balance Sheets for each respective account given the short-term nature of the liabilities.

Federal Home Loan Bank advances: The fair value for Federal Home Loan Bank (“FHLB”) advances is determined by discounting the expected future cash outflows using current market rates for similar borrowings, or Level 2 inputs.

Junior subordinated debentures: The fair value for the Company’s junior subordinated debentures is determined using quoted market prices for similar instruments traded in active markets.