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Fair Value of Financial Instruments
 12 Months Ended
Dec. 31, 2015
Fair Value Disclosures [Abstract]  
Fair Value of Financial Instruments

7.

FAIR VALUE OF FINANCIAL INSTRUMENTS

Our financial instruments consist primarily of cash and cash equivalents, accounts receivable, accounts payable, funds held for clients, client funds obligation and long-term debt. The carrying amount of cash and cash equivalents, accounts receivable, accounts payable, funds held for clients and client fund obligation approximates fair value because of the short-term nature of the instruments.

We measure certain financial assets and liabilities at fair value at each reporting period. Fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or liability. A financial instrument’s classification within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. Three levels of inputs may be used to measure fair value are as follow:

Level 1—Unadjusted observable inputs that reflect quoted prices in active markets

Level 2—Input other than quoted prices in active markets that are directly or indirectly observable

Level 3—Unobservable inputs that are supported by little or no market activity

We use observable data, when available. During the years ended December 31, 2014 and 2013, we did not have any transfers between level 1, 2 or 3 in the three-tier fair value hierarchy.

 

The derivative liability related to long-term debt to related parties was classified as a Level 3 derivative due to valuation based upon significant unobservable inputs.

The key inputs used to calculate the fair value of the embedded derivative are: probability of exit, remaining term, yield volatility, credit spread, and risk-free rate. In general, increases in the probability of exit, credit spread, and risk-free rate would increase the value of the embedded derivative. Conversely, increases in the remaining term and yield volatility would decrease the value of the embedded derivative.

We did not have any financial instruments that are measured on a recurring basis for the years ended December 31, 2015 or 2014. Quantitative information regarding significant unobservable inputs used for recurring Level 3 fair value measurements of financial instruments as of December 31, 2013 were as follows:

 

 

 

 

 

December 31, 2013

 

 

 

 

 

 

Valuation Technique

 

Key Inputs

 

Range

 

Derivative Liability

 

Lattice Model

 

Probability of exit

 

 

90%

 

 

 

 

 

Remaining term

 

0.8 years - 8.3 years

 

 

 

 

 

Yield Volatility

 

21.4% - 31.1%

 

 

 

 

 

Credit Spread

 

 

8.90%

 

 

 

 

 

Risk-free rate

 

0.13% - 2.45%

 

 

The following table summarizes the change in fair value of our Level 3 financial instruments for the years ended December 31, 2015, 2014 and 2013 (dollars in thousands).

 

 

 

2015

 

 

2014

 

 

2013

 

Balance, beginning of year

 

$

—

 

 

$

1,107

 

 

$

1,767

 

Issuances

 

 

—

 

 

 

—

 

 

 

—

 

Change in fair value of derivative liability

 

 

—

 

 

 

(635

)

 

 

(660

)

Gain on the extinguishment of derivative liability

 

 

—

 

 

 

(472

)

 

 

—

 

Balance, end of year

 

$

—

 

 

$

—

 

 

$

1,107

 

 

Total change of the derivative liability recognized as other income, net in the consolidated statements of income was $1.1 million and $0.7 million for the years ended December 31, 2014 and 2013, respectively.