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)

Assets and Liabilities Measured and Reported at Fair Value

Fair value represents 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. There are

three

levels of inputs that

may

be used to measure fair values:

●

Level

Valuation is based upon quoted (unadjusted) prices for identical instruments traded in active markets.

●

Level

Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are

not

active, and model-based valuation techniques for which all significant assumptions are observable in the market.

●

Level

Valuation is generated from model-based techniques that use significant assumptions

not

observable in the market. These unobservable assumptions would reflect internal estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques could include pricing models, discounted cash flows and other similar techniques.

Authoritative guidance requires maximization of use of observable inputs and minimization of use of unobservable inputs in fair value measurements. Where there exists limited or

observable market data, Bancorp derives its own estimates by generally considering characteristics of the asset/liability, the current economic and competitive environment and other factors. For this reason, results cannot be determined with precision and

may

not

be realized on an actual sale or immediate settlement of the asset or liability.

March 31, 2019

and

December 31, 2018,

Bancorp’s securities available for sale portfolio and interest rate swaps were recorded at fair value on a recurring basis.

All available for sale securities are priced using standard industry models or matrices with various assumptions such as yield curves, volatility, prepayment speeds, default rates, time value, credit rating and market prices for similar instruments. These assumptions are observable in the market place and can be derived from or supported by observable data. These measurements are classified as Level

Fair value measurements for interest rate swaps are based on benchmark forward yield curves and other relevant observable market data. For purposes of potential valuation adjustments to derivative positions, Bancorp evaluates the credit risk of its counterparties as well as its own credit risk. To date, Bancorp has

not

realized any losses due to counterparty’s inability to perform and the change in value of derivative assets and liabilities attributable to credit risk was

not

significant during the reporting period. Interest rate swaps are valued using primarily Level

inputs.

Mortgage servicing rights, impaired loans and OREO are recorded at fair value on a non-recurring basis, generally in the application of lower of cost or market adjustments or write-downs of specific assets.

Carrying values of assets measured at fair value on a recurring basis follows:

(In thousands)	Fair value at March 31, 2019
Assets	Total		Level 1		Level 2		Level 3
Securities available for sale
Government sponsored enterprise obligations	$	342,866	$	-	$	342,866	$	-
Mortgage backed securities - government agencies		137,131		-		137,131		-
Obligations of states and political subdivisions		27,134		-		27,134		-

Total Securities available for sale		507,131		-		507,131		-

Interest rate swaps		524		-		524		-

Total assets	$	507,655	$	-	$	507,655	$	-

Liabilities

Interest rate swaps	$	240	$	-	$	240	$	-

(In thousands)	Fair value at December 31, 2018
Assets	Total		Level 1		Level 2		Level 3
Securities available for sale
Government sponsored enterprise obligations		261,039		-		261,039		-
Mortgage backed securities - government agencies		146,277		-		146,277		-
Obligations of states and political subdivisions		29,679		-		29,679		-

Total Securities available for sale		436,995		-		436,995		-

Interest rate swaps		1,035		-		1,035		-

Total assets	$	438,030	$	-	$	438,030	$	-

Liabilities

Interest rate swaps	$	543	$	-	$	543	$	-

For the securities portfolio, Bancorp monitors the valuation technique used by pricing agencies to ascertain when transfers between levels have occurred. The nature of other assets and liabilities measured at fair value is such that transfers in and out of any level are expected to be rare. For the

three

months ended

March 31, 2019,

there were

transfers between Levels

Bancorp had

financial instruments classified within Level

of the valuation hierarchy for assets and liabilities measured at fair value on a recurring basis at

March 31, 2019

December 31, 2018.

Discussion of assets measured at fair value on a non-recurring basis follows:

Mortgage Servicing Rights

– On at least a quarterly basis, MSRs are evaluated for impairment based upon the fair value of the MSRs as compared to carrying amount. Fair value is based on a valuation model that calculates the present value of estimated net servicing income. The model incorporates assumptions that market participants would use in estimating future net servicing income. These measurements are classified as Level

March 31, 2019

and

December 31, 2018,

there was

valuation allowance for the mortgage servicing rights, as the fair value exceeded the cost. Accordingly, the MSRs are

not

included in the following tabular disclosure for

March 31, 2019

December 31, 2018.

Impaired loans

- Collateral-dependent impaired loans generally reflect partial charge-downs to their respective fair value, which is commonly based on recent real estate appraisals. Also, fair value is calculated as the carrying value of loans with a specific valuation allowance, less the specific valuation allowance. Fair value of impaired loans was primarily measured based on the value of collateral securing these loans. Impaired loans are classified within Level

of the fair value hierarchy. Collateral

may

be real estate and/or business assets including equipment, inventory, and/or accounts receivable. Bancorp determines the value of real estate collateral based on independent appraisals performed by qualified licensed appraisers. These appraisals

may

utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Appraised values are discounted for costs to sell and

may

be discounted further based on management’s historical knowledge, changes in market conditions from the date of the most recent appraisal, and/or management’s expertise and knowledge of the customer and the customer’s business. Such discounts by management are subjective and are typically significant unobservable inputs for determining fair value. For other assets, Bancorp relies on both internal and

third

party assessments of asset value, based on information provided by the borrower, following methodologies similar to those described for real estate. As of

March 31, 2019,

total impaired collateral dependent loans charged down to their fair value and impaired loans with a valuation allowance were

$408

thousand, and the specific allowance totaled

$39

thousand, resulting in a fair value of

$369

thousand, compared with total collateral dependent loans charged down to their fair value and impaired loans with a valuation allowance of

$967

thousand, and the specific allowance allocation totaling

$42

thousand, resulting in a fair value of

$925

thousand at

December 31, 2018.

Losses represent charge offs and changes in specific allowances for the periods indicated.

Other real estate owned (“OREO”)

- Assets acquired through or instead of loan foreclosure are initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. These assets are subsequently accounted for at lower of cost or fair value less estimated costs to sell. Fair value is commonly based on recent real estate appraisals performed by external parties which use judgments and assumptions that are property-specific and sensitive to changes in the overall economic environment. Appraisals

may

be further discounted based on management’s historical knowledge and/or changes in market conditions from the date of the most recent appraisal. Many of these inputs are

not

observable and, accordingly, these measurements are classified as Level

For OREO in the table below, fair value is the carrying value of only parcels of OREO which have a carrying value equal to appraised value. Losses represent write-downs which occurred during the period indicated. At

March 31, 2019

and

December 31, 2018,

carrying value of all other real estate owned was

$878

thousand and

$1.0

million, respectively.

Below are the carrying values of assets measured at fair value on a

non-recurring

basis.

(In thousands)	Fair value at March 31, 2019								Losses recorded:
									Three months ended
	Total		Level 1		Level 2		Level 3		March 31, 2019
Impaired loans	$	369	$	-	$	-	$	369	$	(3	)
Other real estate owned		239		-		-		239		-

Total	$	608	$	-	$	-	$	608	$	(3	)

(In thousands)	Fair value at December 31, 2018								Losses recorded:
									Three months ended
	Total		Level 1		Level 2		Level 3		March 31, 2018
Impaired loans	$	925	$	-	$	-	$	925	$	(1,711	)
Other real estate owned		239		-		-		239		-

Total	$	1,164	$	-	$	-	$	1,164	$	(1,711	)

For Level

assets measured at fair value on a non-recurring basis as of

March 31, 2019,

the significant unobservable inputs used in the fair value measurements are presented below.

					Range
	Fair		Valuation	Unobservable	(weighted
(Dollars in thousands)	value		technique	inputs	average)
Impaired loans - collateral dependent	$	369	Appraisal	Appraisal discounts		9.8	%
Other real estate owned		239	Appraisal	Appraisal discounts		22.0