Note 15 - Fair Values of Financial Instruments

12 Months Ended

Dec. 31, 2021

Notes to Financial Statements

Fair Value Disclosures [Text Block]

15. Fair Values of Financial Instruments

The fair value hierarchy requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.  An asset or liability's level is based on the lowest level of input that is significant to the fair value measurement.  There are three levels of inputs that may be used to measure fair value.

Level 1:	Quoted prices (unadjusted) for identical assets or liabilities in active markets that the Corporation has the ability to access at the measurement date.
Level 2:	Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3:	Significant unobservable inputs that reflect the Corporation’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

Management uses its best judgment in estimating the fair value of the Corporation’s financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amounts the Corporation could have realized in a sale transaction or exit price on the date indicated. The estimated fair value amounts have been measured as of their respective year-ends and have not been re-evaluated or updated for purposes of these financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported at year-end.

Assets measured at fair value on a recurring basis. The Corporation used the following methods and significant assumptions to estimate the fair value of the following assets:

Debt securities available for sale, equity securities – The fair value of all investment securities are based upon the assumptions market participants would use in pricing the security. If available, investment securities are determined by quoted market prices (Level 1). Level 1 includes U.S. Treasury, federal agency securities and certain equity securities. For investment securities where quoted market prices are not available, fair values are calculated based on market prices on similar securities (Level 2). Level 2 includes U.S. Government sponsored entities and agencies, mortgage-backed securities, collateralized mortgage obligations, state and political subdivision securities and certain corporate debt securities. For investment securities where quoted prices or market prices of similar securities are not available, fair values are calculated by using unobservable inputs (Level 3) and may include certain corporate debt securities held by the Corporation. The Level 3 corporate debt securities valuations were supported by inputs such as the security issuer’s publicly attainable financial information, multiples derived from prices in observed transactions involving comparable businesses and other market, financial and nonfinancial factors.

For assets measured at fair value on a recurring basis, the fair value measurements by level within the fair value hierarchy are as follows:

(Dollar amounts in thousands)			(Level 1)		(Level 2)		(Level 3)
Description	Total		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
December 31, 2021:
Securities available-for-sale
U.S. government sponsored entities and agencies	$	8,159	$	—	$	8,159	$	—
U.S. agency mortgage-backed securities: residential		12,035		—		12,035		—
U.S. agency collateralized mortgage obligations: residential		49,490		—		49,490		—
State and political subdivision		92,562		—		92,562		—
Corporate debt securities		24,024		—		20,439		3,585
Total available-for-sale securities	$	186,270	$	—	$	182,685	$	3,585
Equity securities	$	5	$	5	$	—	$	—
December 31, 2020:
Securities available-for-sale
U.S. government sponsored entities and agencies	$	3,007	$	—	$	3,007	$	—
U.S. agency mortgage-backed securities: residential		16,581		—		16,581		—
U.S. agency collateralized mortgage obligations: residential		15,911		—		15,911		—
State and political subdivisions		55,577		—		55,577		—
Corporate debt securities		21,965		—		19,959		2,006
Total available-for-sale securities	$	113,041	$	—	$	111,035	$	2,006
Equity securities	$	15	$	15	$	—	$	—

The Corporation’s policy is to transfer assets or liabilities from one level to another when the methodology to obtain the fair value changes such that there are more or fewer unobservable inputs as of the end of the reporting period.  During 2021, certain corporate debt securities were purchased and later transferred into Level 3 because of a lack of observable market data.  During 2020, certain corporate debt securities were tranferred out of Level 3 because of the availability of market pricing.  The following table presents changes in Level 3 assets measured on a recurring basis for the years ended December 31, 2021 and 2020:

(Dollar amounts in thousands)	2021		2020
Balance at the beginning of the period	$	2,006	$	4,022
Total gains or losses (realized/unrealized):
Included in other comprehensive income		21		234
Transfers in and/or out of Level 3		1,558		(2,250	)
Balance at the end of the period	$	3,585	$	2,006

Assets measured at fair value on a non-recurring basis. The Corporation used the following methods and significant assumptions to estimate the fair value of the following assets:

Impaired loans – At the time a loan is considered impaired, it is valued at the lower of cost or fair value. Impaired loans carried at fair value generally receive a specific allowance for loan losses. For collateral dependent loans, fair value is commonly based on real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. Non-real estate collateral may be valued using an appraisal, net book value per the borrower’s financial statements, or aging reports, adjusted or discounted based on management’s historical knowledge, changes in market conditions from the time of the valuation, and management’s expertise and knowledge of the client and client’s business, resulting in a Level 3 classification. Impaired loans are evaluated on a quarterly basis for additional impairment and adjusted accordingly. As of December 31, 2021, the Corporation had five impaired commercial real estate loans carried at a fair value of $470,000, which consisted of the outstanding balance of the outstanding balance of $558,000 less a specific reserve of $88,000.  In addition, the Corporation had one commercial business loan carried at a fair value of $54,000, which consisted of the outstanding balance of $247,000 less a specific reserve of $193,000. As of December 31, 2020, the Corporation had two impaired commercial real estate loans carried at a fair value of $340,000, which consisted of the outstanding balance of the outstanding balance of $380,000 less a specific reserve of $40,000.  In addition, the Corporation had three commercial business loans carried at a fair value of $58,000, which consisted of the outstanding balance of the outstanding balance of $78,000 less a specific reserve of $20,000.  During the years ended December 31, 2021 and 2020, there was additional provision for loan losses of $267,000 and $81,000, respectively, recorded for impaired loans.

Other real estate owned(OREO) – Assets acquired through or instead of 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. Management’s ongoing review of appraisal information may result in additional discounts or adjustments to the valuation based upon more recent market sales activity or more current appraisal information derived from properties of similar type and/or locale. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. As of December 31, 2021, the Corporation did not hold any OREO properties.  As of December 31, 2020, OREO measured at fair value less costs to sell had a net carrying amount of $9,000, which consisted of the outstanding balance of $18,000 less write-downs of $9,000.

Appraisals for both collateral-dependent impaired loans and OREO are performed by certified general appraisers (for commercial properties) or certified residential appraisers (for residential properties) whose qualifications and licenses have been reviewed by the Corporation. Once received, management reviews the assumptions and approaches utilized in the appraisal as well as the overall resulting fair value in comparison with independent data sources such as recent market data or industry-wide statistics. On an annual basis, the Corporation compares the actual selling price of OREO that has been sold to the most recent appraised value to determine what additional adjustment should be made to the appraisal value to arrive at fair value. The most recent analysis performed indicated that a discount of 10% should be applied.

For assets measured at fair value on a non-recurring basis at December 31, 2021 and 2020, the fair value measurements by level within the fair value hierarchy are as follows:

(Dollar amounts in thousands)			(Level 1)		(Level 2)		(Level 3)
Description	Total		Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
December 31, 2021:
Impaired commercial business loan	$	54	$	—	$	—	$	54
Impaired commercial real estate loans		470		—		—		470
Total	$	524	$	—	$	—	$	524
December 31, 2020:
Impaired commercial business loans	$	58	$	—	$	—	$	58
Impaired commercial real estate loans		340		—		—		340
Other real estate owned		9		—		—		9
Total	$	407	$	—	$	—	$	407

The following table presents quantitative information about Level 3 fair value measurements for assets measured at fair value on a non-recurring basis:

(Dollar amounts in thousands)			Valuation	Unobservable	Weighted
			Techniques(s)	Input(s)	Average
December 31, 2021:
Impaired commercial business loan	$	54	Sales comparison approach	Adjustment for differences between comparable sales		10%
Impaired commercial real estate loans		470	Sales comparison approach	Adjustment for differences between comparable sales		10%
December 31, 2020:
Impaired commercial business loans	$	58	Sales comparison approach	Adjustment for differences between comparable sales		10%
Impaired commercial real estate loans		340	Sales comparison approach	Adjustment for differences between comparable sales		10%
Other real estate owned		9	Sales comparison approach	Adjustment for differences between comparable sales		10%

Excluded from the tables above at December 31, 2021 was one unsecured commercial business loan totaling $3,000 and one impaired residential mortgage loan totaling $69,000 which was classified as a TDR and measured using a discounted cash flow methodology.  As of December 31, 2020 there were two unsecured commercial business loans totaling $14,000 excluded from the tables.

During the first quarter of 2018, the Corporation adopted ASU 2016-01 that requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes. The following table sets forth the carrying amount and fair value of the Corporation’s financial instruments included in the consolidated balance sheet as of December 31: 

(Dollar amounts in thousands)
	Carrying		Fair Value Measurements using:
Description	Amount		Total		Level 1		Level 2		Level 3
December 31, 2021:
Financial Assets:
Cash and cash equivalents	$	9,080	$	9,080	$	9,080	$	—	$	—
Interest earning time deposits		2,484		2,484		—		2,484		—
Securities - available-for-sale		186,270		186,270		—		182,685		3,585
Securities - equities		5		5		5		—		—
Loans held for sale		469		469		—		469		—
Loans, net		780,010		780,086		—		—		780,086
Federal bank stock		5,715		N/A		N/A		N/A		N/A
Accrued interest receivable		3,731		3,731		35		817		2,879
Financial Liabilities:
Deposits		918,496		921,811		767,840		153,971		—
Borrowed funds		22,050		22,121		—		22,121		—
Accrued interest payable		338		338		5		333		—

December 31, 2020:
Financial Assets:
Cash and cash equivalents	$	37,439	$	37,439	$	37,439	$	—	$	—
Interest earning time deposits		5,718		5,718		—		5,718		—
Securities - available-for-sale		113,041		113,041		—		111,035		2,006
Securities - equities		15		15		15		—		—
Loans held for sale		75		75		—		75		—
Loans, net		800,338		807,170		—		—		807,170
Federal bank stock		5,635		N/A		N/A		N/A		N/A
Accrued interest receivable		3,786		3,786		52		513		3,221
Financial Liabilities:
Deposits		893,627		899,446		705,680		193,766		—
Borrowed funds		32,050		33,256		—		33,256		—
Accrued interest payable		474		474		19		455		—

This information should not be interpreted as an estimate of the fair value of the entire Corporation since a fair value calculation is only provided for a limited portion of the Corporation’s assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between the Corporation’s disclosures and those of other companies may not be meaningful.

Off-Balance Sheet Financial Instruments

The Corporation is party to credit related financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and commercial letters of credit. Commitments to extend credit involve, to a varying degree, elements of credit and interest rate risk in excess of amounts recognized in the consolidated balance sheets. The Corporation’s exposure to credit loss in the event of non-performance by the other party for commitments to extend credit is represented by the contractual amount of these commitments, less any collateral value obtained. The Corporation uses the same credit policies in making commitments as for on-balance sheet instruments. The Corporation’s distribution of commitments to extend credit approximates the distribution of loans receivable outstanding.

The following table presents the notional amount of the Corporation’s off-balance sheet commitment financial instruments as of December 31:

(Dollar amounts in thousands)	2021				2020
	Fixed Rate		Variable Rate		Fixed Rate		Variable Rate
Commitments to make loans	$	7,370	$	18,914	$	3,749	$	3,737
Unused lines of credit		21,072		77,261		20,229		87,478
Total	$	28,442	$	96,175	$	23,978	$	91,215

Commitments to make loans are generally made for periods of 30 days or less. Commitments to extend credit include agreements to lend to a customer as long as there is no violation of any condition established in the contract. These commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Commitments to extend credit also include unfunded commitments under commercial and consumer lines of credit, revolving credit lines and overdraft protection agreements. These lines of credit may be collateralized and usually do not contain a specified maturity date and may be drawn upon to the total extent to which the Corporation is committed.

Standby letters of credit are conditional commitments issued by the Corporation usually for commercial customers to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Corporation generally holds collateral supporting those commitments if deemed necessary. Standby letters of credit, net of collateral maintained by the Bank, were $444,000 and $493,000 at December 31, 2021 and 2020, respectively. The current amount of the liability as of December 31, 2021 and 2020 for guarantees under standby letters of credit issued is not material.