Fair Value

9 Months Ended

Sep. 30, 2012

Fair Value Disclosure [Abstract]

Fair Value Disclosures [Text Block]

7. Fair Value

Fair value is the exchange price that would be received for an asset or paid to transfer a liability (an 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 value:

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: 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, and other inputs that are observable or can be corroborated by observable market data.

Level 3: Significant unobservable inputs that reflect a company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

The Company used the following methods and significant assumptions to estimate fair value.

Securities: The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges (Level 1 inputs) or matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2 inputs). In instances where broker quotes are used, these quotes are obtained from market makers or broker-dealers recognized to be market participants. These valuation methods are classified as Level 2 in the fair value hierarchy.

Collateralized debt obligations which are collateralized by financial institutions and insurance companies are determined by us utilizing an estimate of the expected cash flows based on our review of the underlying issuers’ financial condition and the anticipated deferral of payments and defaults of issuers. The fair values of our collateralized debt obligations are determined by the Company’s accounting department and reviewed by the Chief Financial Officer (CFO). We provide our estimate of default for each issuer, which ranges from 100% loss to 0.40% loss at September 30, 2012, to the capital market traders of our bond accountant who provide the cash flows we will receive based upon our assumptions. To determine the discounted projected cash flows for our collateralized debt obligations, we utilize discount rates ranging from 11.01% to 36.28% (26.97% weighted average rate) depending on the security. The discount rates were determined utilizing a risk free rate of three month Libor plus 300 bps (3.39% at 9/30/12), which includes a premium for market illiquidity, and a credit component based on the quality of the collateral and the deal structure.

The significant unobservable inputs used in the fair value measurement of the Company’s collateralized debt obligations are probabilities of specific-issuer defaults and deferrals and specific-issuer recovery assumptions. Significant increases in specific-issuer default assumptions or decreases in specific-issuer recovery assumptions would result in a significantly lower fair value measurement. Conversely, decreases in specific-issuer default assumptions or increases in specific-issuer recovery assumptions would result in a higher fair value measurement.

Impaired Loans: Impaired loans are evaluated at the time the loan is identified as impaired and are recorded at the lower of the carrying amount of the loan or the fair value of the underlying collateral. For collateral dependent loans, the fair value of real estate is primarily determined based on appraisals by qualified licensed appraisers. These appraisals may use a single valuation approach or a combination depending on the type of collateral including the comparable sales or income capitalization approach. The appraisals are discounted to reflect management’s estimate of the fair value of the collateral given the current circumstances and condition of the collateral including the market for the particular collateral and management’s experience with similar types of collateral. Impaired loans are evaluated quarterly for additional impairment. Fair value of impaired loans is classified as Level 3 in the fair value hierarchy.

Foreclosed and Repossessed Assets: Foreclosed and repossessed assets are initially recorded at fair value less estimated costs to sell when acquired. The fair value of foreclosed and repossessed assets is primarily determined based on appraisals by qualified appraisers whose qualifications have been reviewed by the Company. The appraisals are discounted to reflect management’s estimate of the fair value of the collateral given the current circumstances of the collateral and reduced by management’s estimate of costs to dispose of the asset. Also, management reviews the assumptions included the appraisals and makes adjustments where circumstances warrant such as recent experience with similar assets. Fair value of foreclosed and repossessed assets is classified as Level 3 in the fair value hierarchy.

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

			Fair Value Measurements Using
	Assets at Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
			(in thousands)
Assets (September 30, 2012):
Available for sale securities:
State and municipal	$	80,512	$	—	$	80,453	$	59
U.S. Government sponsored entities and agencies		1,618		—		1,618		—
Residential mortgage-backed securities issued by U.S. Government sponsored entities		166,731		—		166,731		—
Collateralized debt obligations, including trust preferred securities		936		—		—		936
Mutual Funds		260		—		260		—
Total available for sale securities	$	250,057	$	—	$	249,062	$	995

Assets (December 31, 2011):
Available for sale securities:
State and municipal	$	76,527	$	—	$	76,375	$	152
Residential mortgage-backed securities issued by U.S. Government sponsored entities		121,027		—		121,027		—
Collateralized debt obligations, including trust preferred securities		937		—		—		937
Mutual Funds		255		—		255		—
Total available for sale securities	$	198,746	$	—	$	197,657	$	1,089

There were no transfers between Level 1 and Level 2 during 2012 or 2011.

The table below presents a reconciliation of all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three months ended September 30:

	Collateralized Debt Obligations, Including Trust Preferred Securities					State and Municipal Securities
	2012			2011		2012		2011
	(in thousands)
Balance, beginning of period	$	906		$	1,467	$	59	$	-
Principal paydowns		(13	)		-		-		-
Net unrealized gain (loss) included in other comprehensive income		43			57		-		-
Balance, end of period	$	936		$	1,524	$	59	$	-

The table below presents a reconciliation of all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the nine months ended September 30:

	Collateralized Debt Obligations, Including Trust Preferred Securities					State and Municipal Securities
	2012			2011		2012			2011
	(in thousands)
Balance, beginning of period	$	937		$	1,359	$	152		$	-
Principal paydowns		(60	)		-		(93	)		-
Net unrealized gain (loss) included in other comprehensive income		59			165		-			-
Balance, end of period	$	936		$	1,524	$	59		$	-

The table below summarizes changes in unrealized gains and losses recorded in earnings for the three month periods ended September 30 for level 3 assets that are still held at June 30:

	Changes in Unrealized Gains/Losses Relating to Assets Still Held at Reporting Date for the Three Months Ended September 30 Collateralized Debt Obligations, Including Trust Preferred Securities				Changes in Unrealized Gains/Losses Relating to Assets Still Held at Reporting Date for the Three Months Ended September 30 State and Municipal Securities
	2012		2011		2012		2011
	(in thousands)				(in thousands)
Interest income on securities	$	32	$	14	$	1	$	-
Other changes in fair value		-		-		-		-
Total	$	32	$	14	$	1	$	-

The table below summarizes changes in unrealized gains and losses recorded in earnings for the nine month periods ended September 30 for level 3 assets that are still held at September 30:

	Changes in Unrealized Gains/Losses Relating to Assets Still Held at Reporting Date for the Six Months Ended September  30 Collateralized Debt Obligations, Including Trust Preferred Securities				Changes in Unrealized Gains/Losses Relating to Assets Still Held at Reporting Date for the Six Months Ended September 30  State and Municipal Securities
	2012		2011		2012		2011
	(in thousands)				(in thousands)
Interest income on securities	$	80	$	43	$	3	$	-
Other changes in fair value		-		-		-		-
Total	$	80	$	43	$	3	$	-

Assets measured at fair value on a nonrecurring basis are summarized below.

	Fair Value Measurements Using
	Assets at Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
			(in thousands)
Assets (September 30, 2012):
Impaired loans:
Commercial	$	203	$	—	$	—	$	203
Construction		4,828		—		—		4,828
Commercial real estate:
Owner Occupied nonfarm/nonresidential		124		—		—		124
Other nonfarm/nonresidential		7,927		—		—		7,927
Residential real estate:
Secured by first liens		2,124		—		—		2,124
Home equity		546		—		—		546
Consumer		19		—		—		19
Foreclosed and repossessed assets:
Construction		1,672		—		—		1,672
Commercial real estate:
Owner Occupied nonfarm/nonresidential		6,816		—		—		6,816
Other nonfarm/nonresidential		1,448		—		—		1,448
Residential real estate:
Secured by first liens		1,089		—		—		1,089
Consumer		30		—		—		30

	Fair Value Measurements Using
	Assets at Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs    (Level 2)		Significant Unobservable Inputs (Level 3)
			(in thousands)
Assets (December 31, 2011):
Impaired loans:
Commercial	$	872	$	—	$	—	$	872
Construction		6,248		—		—		6,248
Commercial real estate:
Owner Occupied nonfarm/nonresidential		8,096		—		—		8,096
Other nonfarm/nonresidential		9,375		—		—		9,375
Residential real estate:
Secured by first liens		1,336		—		—		1,336
Home equity		23		—		—		23
Consumer		34		—		—		34
Foreclosed and repossessed assets:
Construction		2,118		—		—		2,118
Commercial real estate:
Other nonfarm/nonresidential		1,865		—		—		1,865
Residential real estate:
Secured by first liens		1,092		—		—		1,092
Consumer		1		—		—		1

The Company measures loans for impairment using the fair value of the collateral for collateral-dependent loans. The Company’s impaired loans totaled $32.9 million as of September 30, 2012, which included collateral-dependent loans with a carrying value of $18.8 million. As of September 30, 2012, the Company’s collateral dependent loans had a valuation allowance of $3.0 million, resulting in a provision for loan losses of $1.3 million and $3.4 million for the three and nine months ended September 30, 2012, respectively. The Company recognized provision for loan losses of $601,000 and $1.6 million for the three and nine months ended September 30, 2011, respectively, for collateral dependent loans.

The Company evaluates the fair value of foreclosed and repossessed assets at the time they are transferred from loans and on a quarterly basis thereafter. During the three and nine months ended September 30, 2012 and 2011, the Company did not recognize charges to write down foreclosed and repossessed assets to their fair value.

The following table presents quantitative information about level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis at September 30, 2012:

	Fair Value		Valuation Technique(s)	Unobservable Input(s)	Range (Weighted Average)
	(in thousands)
Impaired Loans:
Commercial	$	203	Sales comparison approach	Adjustments for differences between comparable sales		0%-20% (9%)
Construction		4,828	Income capitalization approach	Capitalization rate		21%
			Sales comparison approach	Adjustments for differences between comparable sales		12%-24% (22%)
Commercial real estate		8,051	Income capitalization approach	Capitalization rate		12%-38% (32%)
Residential real estate		2,670	Sales comparison approach	Adjustments for differences between comparable sales		14%-52% (25%)
Consumer		19	Sales comparison approach	Adjustments for differences between comparable sales		25%
Foreclosed and repossessed assets:
Construction	$	1,672	Income capitalization approach	Capitalization rate		9%
			Sales comparison approach	Adjustments for differences between comparable sales		23%-78% (53%)
Commercial real estate		8,264	Income capitalization approach	Capitalization rate		14%
			Sales comparison approach	Adjustments for differences between comparable sales		0%-90% (41%)
Residential real estate		1,089	Sales comparison approach	Adjustments for differences between comparable sales		0%-69% (28%)
Consumer		30	Sales comparison approach	Adjustments for differences between comparable sales		0%

Fair value of Financial Instruments

Carrying amount and estimated fair values of financial instruments, not previously presented, at September 30, 2012 and December 31, 2011 were as follows:

			Fair Value Measurements Using
	Carrying Amount		Level 1		Level 2		Level 3		Total
	(in thousands)
September 30, 2012:
Financial assets:
Cash and due from financial institutions	$	12,030	$	12,030	$	—	$	—	$	12,030
Interest-bearing deposits in other financial institutions		10,917		10,917		—		—		10,917
Loans held for sale		1,926		—		1,945		—		1,945
Loans, net		464,295		—		—		479,971		479,971
Accrued interest receivable		3,260		—		1,221		2,039		3,260
Federal Home Loan Bank and Federal Reserve Stock		6,011		n/a		n/a		n/a		n/a
Financial liabilities:
Deposits		602,559		—		600,009		—		600,009
Other borrowings		52,112		—		52,164		—		52,164
Federal Home Loan Bank Advances		40,000		—		40,500		—		40,500
Subordinated debentures		17,000		—		—		10,256		10,256
Accrued interest payable		267		—		252		15		267

	Carrying Amount		Fair Value
	(in thousands)
December 31, 2011:
Financial assets
Cash and due from financial institutions	$	15,166	$	15,166
Interest-bearing deposits in other financial institutions		30,297		30,297
Loans held for sale		1,154		1,166
Loans, net of allowance for loan losses and impaired loans		460,302		472,612
Accrued interest receivable		3,196		3,196
Federal Home Loan Bank and Federal Reserve Stock		5,952		n/a
Financial liabilities
Deposits		581,358		569,892
Other borrowings		50,879		49,165
Federal Home Loan Bank Advances		55,000		55,825
Subordinated debentures		17,000		10,403
Accrued interest payable		329		329

The methods and assumptions, not previously presented, used to estimate fair values are described as follows:

(a) Cash and Cash Equivalents

The carrying amounts of cash and short-term instruments approximate fair values and are classified as Level 1.

(b) FHLB and FRB Stock

It is not practical to determine the fair value of FHLB and FRB stock due to restrictions placed on transferability.

(c) Loans

Fair values of loans, excluding loans held for sale, are estimated as follows: For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification. Fair values for other loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality resulting in a Level 3 classification. Impaired loans are valued at the lower of cost or fair value as described previously. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.

The fair value of loans held for sale is estimated based upon binding contracts and quotes from third party investors resulting in a Level 2 classification.

(e) Deposits

The fair value disclosed for demand deposits are, by definition, equal to the amount payable on demand at the reporting date resulting in a Level 2 classification. Fair values for fixed rate certificates of deposit are estimated using a discounted cash flows calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits resulting in a Level 2 classification.

(f) Other Borrowings

The fair values of the Company’s long-term borrowings are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 2 classification.

The fair values of the Company’s Subordinated Debentures are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 3 classification.

(g) Accrued Interest Receivable/Payable

The carrying amounts of accrued interest approximate fair value resulting in a Level 2 or Level 3 classification depending upon the classification of the associated asset or liability.

(i) Off-balance Sheet Instruments

Fair values for off-balance sheet, credit-related financial instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing. The fair value of commitments is not material.