Fair Value of Financial Instruments

ASC Topic 820, Fair Value Measurement, defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASC Topic 820 also specifies a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:


Level 1	Quoted prices in active markets for identical assets or liabilities


Level 2	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 for substantially the full term of the assets or liabilities


Level 3	Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities

Following is a description of the valuation methodologies and inputs used for assets measured at fair value on a recurring basis and recognized in the accompanying condensed consolidated balance sheets, as well as the general classification of such assets pursuant to the valuation hierarchy.

Available-for-Sale Securities

Where quoted market prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 securities include highly liquid mutual funds. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics or discounted cash flows.

Level 2 securities include U.S. Government-sponsored agencies, municipal securities, mortgage and asset-backed securities and certain corporate securities. Matrix pricing is a mathematical technique widely used in the banking industry to value investment securities without relying exclusively on quoted prices for specific investment securities but also on the investment securities’ relationship to other benchmark quoted investment securities.

In certain cases where Level 1 or Level 2 inputs are not available, securities are classified within Level 3 of the hierarchy. Fair values are calculated using discounted cash flows. Discounted cash flows are calculated based off of the anticipated future cash flows updated to incorporate loss severities. Rating agency and industry research reports as well as default and deferral activity are reviewed and incorporated into the calculation. The Company did not own any securities classified within Level 3 of the hierarchy as of September 30, 2018 or December 31, 2017.

Loans Held-for-Sale (mandatory pricing agreements)

The fair value of loans held-for-sale is determined using quoted prices for similar assets, adjusted for specific attributes of that loan (Level 2).

Forward Contracts

The fair values of forward contracts on to-be-announced securities are determined using quoted prices in active markets, or benchmarked thereto (Level 1).

Interest Rate Lock Commitments

The fair values of interest rate lock commitments (“IRLCs”) are determined using the projected sale price of individual loans based on changes in market interest rates, projected pull-through rates (the probability that an IRLC will ultimately result in an originated loan), the reduction in the value of the applicant’s option due to the passage of time, and the remaining origination costs to be incurred based on management’s estimate of market costs (Level 3).

The following tables present the fair value measurements of assets and liabilities recognized in the accompanying condensed consolidated balance sheets measured at fair value on a recurring basis and the level within the fair value hierarchy in which the fair value measurements fall at September 30, 2018 and December 31, 2017.



				September 30, 2018 Fair Value Measurements Using
	Fair Value			Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)			Significant Unobservable Inputs (Level 3)
U.S. Government-sponsored agencies	$	112,760		$	—	$	112,760		$	—
Municipal securities	91,080			—		91,080			—
Mortgage-backed securities	225,692			—		225,692			—
Asset-backed securities	4,960			—		4,960			—
Corporate securities	34,505			—		34,505			—
Total available-for-sale securities	468,997			—		468,997			—
Loans held-for-sale (mandatory pricing agreements)	23,493			—		23,493			—
Interest rate swap assets	8,032			—		8,032			—
Interest rate swap liabilities	(72		)	—		(72		)	—
Forward contracts	127			127		—			—
IRLCs	383			—		—			383



				December 31, 2017 Fair Value Measurements Using
	Fair Value			Quoted Prices in Active Markets for Identical Assets (Level 1)			Significant Other Observable Inputs (Level 2)			Significant Unobservable Inputs (Level 3)
U.S. Government-sponsored agencies	$	133,190		$	—		$	133,190		$	—
Municipal securities	96,377			—			96,377			—
Mortgage-backed securities	209,720			—			209,720			—
Asset-backed securities	5,009			—			5,009			—
Corporate securities	26,047			—			26,047			—
Other securities	2,932			2,932			—			—
Total available-for-sale securities	473,275			2,932			470,343			—
Loans held-for-sale (mandatory pricing agreements)	23,571			—			23,571			—
Interest rate swaps	(271		)	—			(271		)	—
Forward contracts	(80		)	(80		)	—			—
IRLCs	551			—			—			551

The following tables reconcile the beginning and ending balances of recurring fair value measurements recognized in the accompanying condensed consolidated balance sheets using significant unobservable (Level 3) inputs for the three and nine months ended September 30, 2018 and 2017.



	Three Months Ended
	Interest Rate Lock Commitments
Balance, July 1, 2018	$	724
Total realized losses
Included in net income	(341		)
Balance, September 30, 2018	$	383

Balance, July 1, 2017	$	652
Total realized gains
Included in net income	135
Balance, September 30, 2017	$	787



	Nine Months Ended
	Interest Rate Lock Commitments
Balance, January 1, 2018	$	551
Total realized losses
Included in net income	(168		)
Balance, September 30, 2018	$	383

Balance, January 1, 2017	$	610
Total realized gains
Included in net income	177
Balance, September 30, 2017	$	787

Significant Unobservable (Level 3) Inputs

The following tables present quantitative information about significant unobservable inputs used in recurring and Level 3 fair value measurements other than goodwill.



	Fair Value at September 30, 2018		Valuation Technique	Significant Unobservable Inputs	Range
IRLCs	$	383	Discounted cash flow	Loan closing rates	38% - 100%



	Fair Value at December 31, 2017		Valuation Technique	Significant Unobservable Inputs	Range
IRLCs	$	551	Discounted cash flow	Loan closing rates	39% - 100%

The following methods were used to estimate the fair value of all other financial instruments recognized in the accompanying condensed consolidated balance sheets at amounts other than fair value.

Cash and Cash Equivalents

For these instruments, the carrying amount is a reasonable estimate of fair value.

Interest-Bearing Time Deposits

The fair value of these financial instruments approximates carrying value.

Securities Held-to-Maturity

Fair values are determined by using models that are based on security-specific details, as well as relevant industry and economic factors. The most significant of these inputs are quoted market prices, and interest rate spreads on relevant benchmark securities.

Loans Held-for-Sale (best efforts pricing agreements)

The fair value of these loans approximates carrying value.

Loans

The fair value of loans as of September 30, 2018 was impacted by the adoption of Accounting Standards Update 2016-01, which is discussed further in Note 12 of the consolidated financial statements. In accordance with Accounting Standards Update 2016-01, the fair value of loans are estimated on an exit price basis incorporating discounts for credit, liquidity and marketability factors. This is not comparable with the fair values disclosed for December 31, 2017, which were based on an entrance price basis. For that date, fair values of variable rate loans that reprice frequently and with no significant change in credit risk were based on carrying values. The fair value of other loans as of that date were estimated by discounted cash flow analysis, which used interest rates then being offered for loans with similar terms to borrowers of similar credit quality.

Accrued Interest Receivable

The fair value of these financial instruments approximates carrying value.

Federal Home Loan Bank of Indianapolis Stock

The fair value approximates carrying value.

Deposits

The fair value of noninterest-bearing and interest-bearing demand deposits, savings and money market accounts approximates carrying value. The fair value of fixed maturity certificates of deposit and brokered deposits are estimated using rates currently offered for deposits of similar remaining maturities.

Advances from Federal Home Loan Bank

The fair value of fixed rate advances is estimated using rates currently available for advances with similar remaining maturities. The carrying value of variable rate advances approximates fair value.

Subordinated Debt

The fair value of the Company’s publicly traded subordinated debt is obtained from quoted market prices. The fair value of the Company’s remaining subordinated debt is estimated using discounted cash flow analysis, based on current borrowing rates for similar types of debt instruments.

Accrued Interest Payable

The fair value of these financial instruments approximates carrying value.

Commitments

The fair value of commitments to extend credit are based on fees currently charged to enter into similar agreements with similar maturities and interest rates. The Company determined that the fair value of commitments was zero based on the contractual value of outstanding commitments at each of September 30, 2018 and December 31, 2017.

The following tables present the carrying value and estimated fair value of all financial assets and liabilities at September 30, 2018 and December 31, 2017.



	September 30, 2018 Fair Value Measurements Using
	Carrying Amount		Fair Value		Quoted Prices In Active Market for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Cash and cash equivalents	$	85,790	$	85,790	$	85,790	$	—	$	—
Securities held-to-maturity	20,200		19,510		—		19,510		—
Net loans	2,476,918		2,347,403		—		—		2,347,403
Accrued interest receivable	14,472		14,472		14,472		—		—
Federal Home Loan Bank of Indianapolis stock	22,050		22,050		—		22,050		—
Deposits	2,446,564		2,423,037		663,012		—		1,760,025
Advances from Federal Home Loan Bank	425,160		414,668		—		414,668		—
Subordinated debt	33,837		35,877		25,630		10,247		—
Accrued interest payable	887		887		887		—		—



	December 31, 2017 Fair Value Measurements Using
	Carrying Amount		Fair Value		Quoted Prices In Active Market for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Cash and cash equivalents	$	47,981	$	47,981	$	47,981	$	—	$	—
Securities held-to-maturity	19,209		19,083		—		19,083		—
Loans held-for-sale (best efforts pricing agreements)	27,836		27,836		—		27,836		—
Net loans	2,076,223		2,036,575		—		—		2,036,575
Accrued interest receivable	11,944		11,944		11,944		—		—
Federal Home Loan Bank of Indianapolis stock	19,575		19,575		—		19,575		—
Deposits	2,084,941		2,057,708		688,800		—		1,368,908
Advances from Federal Home Loan Bank	410,176		397,950		—		397,950		—
Subordinated debt	36,726		39,972		26,520		13,452		—
Accrued interest payable	311		311		311		—		—