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 March 31, 2020 or December 31, 2019.

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).

Servicing Asset

Fair value is based on a loan-by-loan basis taking into consideration the original maturity of the loans, the current age of the loans and the remaining term to maturity. The valuation methodology utilized for the servicing assets begins with generating estimated future cash flows for each servicing asset, based on their unique characteristics and market-based assumptions for prepayment speeds and costs to service. The present value of the future cash flows is then calculated utilizing market-based discount rate assumptions (Level 3).

Interest Rate Swap Agreements

The fair value of interest rate swap agreements is estimated using current market interest rates as of the balance sheet date and calculated using discounted cash flows that are observable or that can be corroborated by observable market data and, therefore, are classified within Level 2 of the valuation hierarchy.

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 March 31, 2020 and December 31, 2019.



				March 31, 2020 Fair Value Measurements Using
(in thousands)	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	$	70,004		$	—		$	70,004		$	—
Municipal securities	94,819			—			94,819			—
Agency mortgage-backed securities	282,632			—			282,632			—
Private label mortgage-backed securities	115,024						115,024			—
Asset-backed securities	4,713			—			4,713			—
Corporate securities	41,490			—			41,490			—
Total available-for-sale securities	608,682			—			608,682			—
Servicing asset	2,415			—			—			2,415
Interest rate swap liabilities	(78,552		)	—			(78,552		)	—
Loans held-for-sale (mandatory pricing agreements)	52,394			—			52,394			—
Forward contracts	(2,298		)	(2,298		)	—			—
IRLCs	2,064			—			—			2,064



				December 31, 2019 Fair Value Measurements Using
(in thousands)	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	$	75,872		$	—		$	75,872		$	—
Municipal securities	97,652			—			97,652			—
Agency mortgage-backed securities	261,440			—			261,440			—
Private label mortgage-backed securities	63,613			—			63,613			—
Asset-backed securities	4,955			—			4,955			—
Corporate securities	37,320			—			37,320			—
Total available-for-sale securities	540,852			—			540,852			—
Servicing asset	2,481			—			—			2,481
Interest rate swap liabilities	(37,786		)	—			(37,786		)	—
Loans held-for-sale (mandatory pricing agreements)	56,097			—			56,097			—
Forward contracts	(153		)	(153		)	—			—
IRLCs	910			—			—			910

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 months ended March 31, 2020 and 2019.



	Three Months Ended
(in thousands)	Servicing Asset			Interest Rate Lock Commitments
Balance, January 1, 2020	$	2,481		$	910
Total realized (losses) gains
Additions	113			—
Change in fair value	(179		)	1,154
Balance, March 31, 2020	2,415			2,064

Balance as of January 1, 2019	$	—		$	389
Total realized gains
Change in fair value	—			392
Balance, March 31, 2019	$	—		$	781

The following describes the valuation methodologies and inputs used for assets measured at fair value on a nonrecurring basis, as well as the general classification of such assets pursuant to the valuation hierarchy.

Impaired Loans (Collateral Dependent)

Loans for which it is probable that the Company will not collect all principal and interest due according to contractual terms are measured for impairment. The amount of impairment may be determined based on the fair value of the underlying collateral, less costs to sell, the estimated present value of future cash flows or the loan’s observable market price.

If the impaired loan is identified as collateral dependent, the fair value of the underlying collateral, less costs to sell, is used to measure impairment. This method requires obtaining a current independent appraisal of the collateral and applying a discount factor to the value. If the impaired loan is not collateral dependent, the Company utilizes a discounted cash flow analysis to measure impairment.

Impaired loans with a specific valuation allowance based on the value of the underlying collateral or a discounted cash flow analysis are classified as Level 3 assets.

The following table presents the fair value measurements of assets and liabilities recognized in the accompanying condensed consolidated balance sheets measured at fair value on a nonrecurring basis and the level within the fair value hierarchy in which the fair value measurement falls at March 31, 2020 and December 31, 2019.



			December 31, 2019
(in thousands)			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)
Impaired loans	$	3,019	$	—	$	—	$	3,019

Significant Unobservable (Level 3) Inputs

The following tables present quantitative information about unobservable inputs used in recurring and nonrecurring Level 3 fair value measurements.

(dollars in thousands)

Fair Value at
March 31, 2020

Valuation

Technique

Significant Unobservable

Inputs

Range

Weighted-Average Range

IRLCs

2,064

Discounted cash flow

Loan closing rates

36% - 100%

56%

Servicing asset

2,415

Discounted cash flow

Prepayment speeds

0% - 25%

14.4%

Expected weighted-average loan life

3.3 - 5.3 years

4.7 years

(dollars in thousands)

Fair Value at
December 31, 2019

Valuation

Technique

Significant Unobservable

Inputs

Range

Weighted-Average Range

Impaired loans

3,019

Fair value of collateral

Discount for type of property and current market conditions

10%

IRLCs

910

Discounted cash flow

Loan closing rates

50% - 100%

84%

Servicing asset

2,481

Discounted cash flow

Prepayment speeds

0% - 25%

13.5%

Expected weighted-average loan life

3.2 - 5.7 years

5.0 years

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.

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 is estimated on an exit price basis incorporating discounts for credit, liquidity and marketability factors.

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 March 31, 2020 and December 31, 2019.

The following tables present the carrying value and estimated fair value of all financial assets and liabilities at March 31, 2020 and December 31, 2019.



	March 31, 2020 Fair Value Measurements Using
(in thousands)	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	$	351,268	$	351,268	$	351,268	$	—	$	—
Securities held-to-maturity	66,331		69,468		—		69,468		—
Net loans	2,869,236		2,842,894		—		—		2,842,894
Accrued interest receivable	16,960		16,960		16,960		—		—
Federal Home Loan Bank of Indianapolis stock	25,650		25,650		—		25,650		—
Deposits	3,178,506		3,245,748		1,156,978		—		2,088,770
Advances from Federal Home Loan Bank	514,911		546,378		—		546,378		—
Subordinated debt	69,605		61,092		50,890		10,202		—
Accrued interest payable	3,293		3,293		3,293		—		—



	December 31, 2019 Fair Value Measurements Using
(in thousands)	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	$	327,361	$	327,361	$	327,361	$	—	$	—
Securities held-to-maturity	61,878		62,560		—		62,560		—
Net loans	2,941,707		2,876,688		—		—		2,876,688
Accrued interest receivable	18,607		18,607		18,607		—		—
Federal Home Loan Bank of Indianapolis stock	25,650		25,650		—		25,650		—
Deposits	3,153,963		3,232,065		1,002,141		—		2,229,924
Advances from Federal Home Loan Bank	514,910		520,950		—		520,950		—
Subordinated debt	69,528		75,206		64,996		10,210		—
Accrued interest payable	3,767		3,767		3,767		—		—