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FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES
 6 Months Ended
Jun. 30, 2012
FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES  
FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES

17.  FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES

 

Disclosures about Fair Value of Financial Instruments

 

Fair value estimates, methods and assumptions are set forth below for our financial instruments.

 

Short-Term Financial Instruments

 

The carrying values of short-term financial instruments are deemed to approximate fair values. Such instruments are considered readily convertible to cash and include cash and due from banks, interest-bearing deposits in other banks, accrued interest receivable, the majority of short-term borrowings and accrued interest payable.

 

Investment Securities

 

The fair value of investment securities is based on market price quotations received from securities dealers. Where quoted market prices are not available, fair values are based on quoted market prices of comparable securities.

 

Loans

 

Fair values of loans are estimated based on discounted cash flows of portfolios of loans with similar financial characteristics including the type of loan, interest terms and repayment history. Fair values are calculated by discounting scheduled cash flows through estimated maturities using estimated market discount rates. Estimated market discount rates are reflective of credit and interest rate risks inherent in the Company’s various loan types and are derived from available market information, as well as specific borrower information. The fair value of loans are not based on the notion of exit price.

 

Loans Held for Sale

 

The fair value of loans classified as held for sale are generally based upon quoted prices for similar assets in active markets, acceptance of firm offer letters with agreed upon purchase prices, discounted cash flow models that take into account market observable assumptions, or independent appraisals of the underlying collateral securing the loans. We report the fair values of Hawaii and mainland construction and commercial real estate loans net of applicable selling costs on our consolidated balance sheets.

 

Other Interest Earning Assets

 

The equity investment in common stock of the FHLB, which is redeemable for cash at par value, is reported at its par value.

 

Deposit Liabilities

 

The fair values of deposits with no stated maturity, such as noninterest-bearing demand deposits and interest-bearing demand and savings accounts, are equal to the amount payable on demand. The fair value of time deposits is estimated using discounted cash flow analyses. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities.

 

Short-Term Borrowings and Long-Term Debt

 

The fair value for a portion of our short-term borrowings is estimated by discounting scheduled cash flows using rates currently offered for securities of similar remaining maturities. The fair value of our long-term debt, primarily FHLB advances, is estimated by discounting scheduled cash flows over the contractual borrowing period at the estimated market rate for similar borrowing arrangements.

 

Off-Balance Sheet Financial Instruments

 

The fair values of off-balance sheet financial instruments are estimated based on the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the counterparties, current settlement values or quoted market prices of comparable instruments.

 

For derivative financial instruments, the fair values are based upon current settlement values, if available. If there are no relevant comparables, fair values are based on pricing models using current assumptions for interest rate swaps and options.

 

Limitations

 

Fair value estimates are made at a specific point in time based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time our entire holdings of a particular financial instrument. Because no market exists for a significant portion of our financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

 

Fair value estimates are based on existing on- and off-balance sheet financial instruments without attempting to estimate the value of future business and the value of assets and liabilities that are not considered financial instruments. For example, significant assets and liabilities that are not considered financial assets or liabilities include deferred tax assets, premises and equipment and intangible assets. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in many of the estimates.

 

 

 

 

 

 

 

Fair Value Measurement Using

 

 

 

 

 

 

 

Quoted Prices in

 

 

 

Significant

 

 

 

 

 

 

 

Active Markets for

 

Significant Other

 

Unobservable

 

 

 

Carrying

 

Estimated

 

Identical Assets

 

Observable Inputs

 

Inputs

 

 

 

amount

 

fair value

 

(Level 1)

 

(Level 2)

 

(Level 3)

 

 

 

(Dollars in thousands)

 

June 30, 2012

 

 

 

 

 

 

 

 

 

 

 

Financial assets

 

 

 

 

 

 

 

 

 

 

 

Cash and due from banks

 

$

72,967

 

$

72,967

 

$

72,967

 

$

—

 

$

—

 

Interest-bearing deposits in other banks

 

100,544

 

100,544

 

100,544

 

—

 

—

 

Investment securities

 

1,633,011

 

1,633,019

 

869

 

1,619,271

 

12,879

 

Loans held for sale

 

30,831

 

30,831

 

—

 

10,385

 

20,446

 

Net loans and leases

 

1,997,349

 

1,949,615

 

—

 

114,685

 

1,834,930

 

Accrued interest receivable

 

12,596

 

12,596

 

12,596

 

—

 

—

 

 

 

 

 

 

 

 

 

 

 

 

 

Financial liabilities

 

 

 

 

 

 

 

 

 

 

 

Deposits:

 

 

 

 

 

 

 

 

 

 

 

Noninterest-bearing deposits

 

769,010

 

769,010

 

769,010

 

—

 

—

 

Interest-bearing demand and savings deposits

 

1,787,679

 

1,787,679

 

1,787,679

 

—

 

—

 

Time deposits

 

1,005,628

 

1,008,530

 

—

 

—

 

1,008,530

 

Long-term debt

 

108,289

 

37,008

 

—

 

37,008

 

—

 

Accrued interest payable (included in other liabilities)

 

11,412

 

11,412

 

11,412

 

—

 

—

 

 

 

 

 

 

 

 

 

 

 

 

 

Off-balance sheet financial instruments

 

 

 

 

 

 

 

 

 

 

 

Commitments to extend credit

 

494,120

 

2,471

 

—

 

2,471

 

—

 

Standby letters of credit and financial guarantees written

 

12,877

 

97

 

—

 

97

 

—

 

Interest rate options

 

135,265

 

1,197

 

—

 

1,197

 

—

 

Forward interest rate contracts

 

49,079

 

(365

)

—

 

(365

)

—

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2011

 

 

 

 

 

 

 

 

 

 

 

Financial assets

 

 

 

 

 

 

 

 

 

 

 

Cash and due from banks

 

$

76,233

 

$

76,233

 

$

76,233

 

$

—

 

$

—

 

Interest-bearing deposits in other banks

 

180,839

 

180,839

 

180,839

 

—

 

—

 

Investment securities

 

1,493,925

 

1,493,970

 

970

 

1,480,006

 

12,994

 

Loans held for sale

 

50,290

 

50,290

 

—

 

12,414

 

37,876

 

Net loans and leases

 

1,942,354

 

1,858,267

 

—

 

131,836

 

1,726,431

 

Accrued interest receivable

 

11,674

 

11,674

 

11,674

 

—

 

—

 

 

 

 

 

 

 

 

 

 

 

 

 

Financial liabilities

 

 

 

 

 

 

 

 

 

 

 

Deposits:

 

 

 

 

 

 

 

 

 

 

 

Noninterest-bearing deposits

 

729,149

 

729,149

 

729,149

 

—

 

—

 

Interest-bearing demand and savings deposits

 

1,705,551

 

1,705,551

 

1,705,551

 

—

 

—

 

Time deposits

 

1,008,828

 

1,012,121

 

—

 

—

 

1,012,121

 

Short-term borrowings

 

34

 

34

 

—

 

34

 

—

 

Long-term debt

 

158,298

 

89,646

 

—

 

89,646

 

—

 

Accrued interest payable (included in other liabilities)

 

10,019

 

10,019

 

10,019

 

—

 

—

 

 

 

 

 

 

 

 

 

 

 

 

 

Off-balance sheet financial instruments

 

 

 

 

 

 

 

 

 

 

 

Commitments to extend credit

 

451,378

 

2,257

 

—

 

2,257

 

—

 

Standby letters of credit and financial guarantees written

 

13,159

 

99

 

—

 

99

 

—

 

Interest rate options

 

68,979

 

515

 

—

 

515

 

—

 

Forward interest rate contracts

 

33,776

 

(413

)

—

 

(413

)

—

 

Forward foreign exchange contracts

 

547

 

1

 

—

 

1

 

—

 

 

Fair Value Measurements

 

We group our financial assets and liabilities at fair value into three levels based on the markets in which the financial assets and liabilities are traded and the reliability of the assumptions used to determine fair value as follows:

 

·                  Level 1 — Valuation is based upon quoted prices (unadjusted) for identical assets or liabilities traded in active markets. A quoted price in an active market provides the most reliable evidence of fair value and shall be used to measure fair value whenever available.

 

·                  Level 2 — 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 3 — Valuation is generated from model-based techniques that use significant assumptions not observable in the market. These unobservable assumptions reflect our own estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques include use of discounted cash flow models and similar techniques that requires the use of significant judgment or estimation.

 

We base our fair values on the price that we would expect to receive if an asset were sold or pay to transfer a liability in an orderly transaction between market participants at the measurement date. We also maximize the use of observable inputs and minimize the use of unobservable inputs when developing fair value measurements.

 

We use fair value measurements to record adjustments to certain financial assets and liabilities and to determine fair value disclosures. Available for sale securities and derivatives are recorded at fair value on a recurring basis. From time to time, we may be required to record other financial assets at fair value on a nonrecurring basis such as loans held for sale, impaired loans and mortgage servicing rights. These nonrecurring fair value adjustments typically involve application of the lower of cost or fair value accounting or write-downs of individual assets.

 

There were no transfers of financial assets and liabilities between Level 1 and Level 2 of the fair value hierarchy during the three and six months ended June 30, 2012.

 

The following table presents the balances of assets and liabilities measured at fair value on a recurring basis as of June 30, 2012 and December 31, 2011:

 

 

 

 

 

Fair Value at Reporting Date Using

 

 

 

 

 

Quoted Prices
in Active
Markets for
Identical
Assets

 

Significant
Other
Observable
Inputs

 

Significant
Unobservable
Inputs

 

 

 

Fair Value

 

(Level 1)

 

(Level 2)

 

(Level 3)

 

 

 

(Dollars in thousands)

 

June 30, 2012

 

 

 

 

 

 

 

 

 

Available for sale securities:

 

 

 

 

 

 

 

 

 

U.S. Government sponsored entities debt securities

 

$

357,293

 

$

—

 

$

357,293

 

$

—

 

States and political subdivisions debt securities

 

92,524

 

—

 

79,645

 

12,879

 

U.S. Government sponsored entities mortgage-backed securities

 

1,132,850

 

—

 

1,132,850

 

—

 

Corporate securities

 

48,988

 

—

 

48,988

 

—

 

Other

 

869

 

869

 

—

 

—

 

Derivatives:

 

 

 

 

 

 

 

 

 

Interest rate contracts

 

831

 

—

 

831

 

—

 

Amended TARP Warrant

 

(785

)

—

 

(785

)

—

 

Total

 

$

1,632,570

 

$

869

 

$

1,618,822

 

$

12,879

 

 

 

 

 

 

 

 

 

 

 

December 31, 2011

 

 

 

 

 

 

 

 

 

Available for sale securities:

 

 

 

 

 

 

 

 

 

U.S. Government sponsored entities debt securities

 

$

373,177

 

$

—

 

$

373,177

 

$

—

 

States and political subdivisions debt securities

 

12,994

 

—

 

—

 

12,994

 

U.S. Government sponsored entities mortgage-backed securities

 

1,097,302

 

—

 

1,097,302

 

—

 

Corporate securities

 

8,551

 

—

 

8,551

 

—

 

Other

 

970

 

970

 

—

 

—

 

Derivatives:

 

 

 

 

 

 

 

 

 

Interest rate contracts

 

102

 

—

 

102

 

—

 

Amended TARP Warrant

 

(677

)

—

 

(677

)

—

 

Total

 

$

1,492,419

 

$

970

 

$

1,478,455

 

$

12,994

 

 

For the six months ended June 30, 2012 and 2011, the changes in Level 3 assets and liabilities measured at fair value on a recurring basis are summarized as follows:

 

 

 

Available for
sale states and
political
subdivisions
debt securities

 

Available for sale
non-agency
collateralized
mortgage
obligations (1)

 

 

 

(Dollars in thousands)

 

 

 

 

 

 

 

Balance at December 31, 2011

 

$

12,994

 

$

—

 

Principal payments received

 

(189

)

—

 

Unrealized net gain included in other comprehensive income

 

74

 

—

 

Balance at June 30, 2012

 

$

12,879

 

$

—

 

 

 

 

 

 

 

Balance at December 31, 2010

 

$

12,619

 

$

17

 

Principal payments received

 

(176

)

—

 

Balance at June 30, 2011

 

$

12,443

 

$

17

 

 

(1)        Represents available for sale non-agency collateralized mortgage obligations previously classified as Level 2 for which the market became inactive during 2008; therefore the fair value measurement was derived from discounted cash flow models using unobservable inputs and assumptions.

 

Within the state and political subdivisions debt securities category, the Company holds four mortgage revenue bonds issued by the City & County of Honolulu with an aggregate fair value of $12.9 million. The Company estimates the fair value of its mortgage revenue bonds by using a discounted cash flow model to calculate the present value of estimated future principal and interest payments.

 

The significant unobservable input used in the fair value measurement of the Company’s mortgage revenue bonds is the weighted average discount rate. As of June 30, 2012, the weighted average discount rate utilized was 2.71%, which was derived by incorporating a credit spread over the FHLB Fixed-Rate Advance curve. Significant increases (decreases) in the weighted average discount rate could result in a significantly lower (higher) fair value measurement.

 

For assets measured at fair value on a nonrecurring basis that were recorded at fair value on our balance sheet at June 30, 2012 and December 31, 2011, the following table provides the level of valuation assumptions used to determine the respective fair values:

 

 

 

 

 

Fair Value Measurements Using

 

 

 

 

 

Quoted Prices in
Active Markets for
Identical Assets

 

Significant Other
Observable Inputs

 

Significant
Unobservable
Inputs

 

 

 

Fair Value

 

(Level 1)

 

(Level 2)

 

(Level 3)

 

 

 

(Dollars in thousands)

 

June 30, 2012

 

 

 

 

 

 

 

 

 

Loans held for sale (1)

 

$

10,385

 

$

—

 

$

10,385

 

$

—

 

Impaired loans (1)

 

114,685

 

—

 

114,685

 

—

 

Other real estate (2)

 

49,379

 

—

 

49,379

 

—

 

 

 

 

 

 

 

 

 

 

 

December 31, 2011

 

 

 

 

 

 

 

 

 

Loans held for sale (1)

 

$

12,414

 

$

—

 

$

12,414

 

$

—

 

Impaired loans (1)

 

131,836

 

—

 

131,836

 

—

 

Other real estate (2)

 

61,681

 

—

 

61,681

 

—

 

 

(1)        Represents carrying value and related write-downs of loans for which adjustments are based on agreed upon purchase prices for the loans or the appraised value of the collateral.

 

(2)        Represents other real estate that is carried at the lower of carrying value or fair value less costs to sell. Fair value is generally based upon independent market prices or appraised values of the collateral.