ORRSTOWN FINANCIAL SERVICES INCORRF
ORRSTOWN FINANCIAL SERVICES INC Fair Value Disclosure
FAIR VALUE
Fair value is the exchange price that would be received for an asset or paid to transfer a liability (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. Certain financial instruments and all non-financial instruments are excluded from disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company.
The fair value hierarchy distinguishes between (1) market participant assumptions developed based on market data obtained from independent sources (observable inputs) and (2) an entity's own assumptions about market participant assumptions based on the best information available in the circumstances (unobservable inputs). The fair value hierarchy
consists of three broad levels, which gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). The three levels of the fair value hierarchy are:
Level 1 – quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access at the measurement date.
Level 2 – significant other observable inputs other than Level 1 prices such as prices for similar assets and liabilities in active markets; quoted prices for identical or similar instruments in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3 – at least one significant unobservable input that reflects a company's own assumptions about the assumptions that market participants would use in pricing an asset or liability.
In instances in which multiple levels of inputs are used to measure fair value, hierarchy classification is based on the lowest level input that is significant to the fair value measurement in its entirety. The Company's assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.
The Company used the following methods and significant assumptions to estimate fair value for financial instruments measured on a recurring basis:
Where quoted prices are available in an active market, investment securities are classified within Level 1 of the valuation hierarchy. Level 1 investment securities include highly liquid government bonds, mortgage products and exchange traded equities. If quoted market prices are not available, investment securities are classified within Level 2 and fair values are estimated by using pricing models, quoted prices of securities with similar characteristics or DCF. Level 2 investment securities include U.S. agency securities, MBS, obligations of states and political subdivisions and certain corporate, asset-backed and other securities. In certain cases where there is limited activity or less transparency around inputs to the valuation, investment securities are classified within Level 3 of the valuation hierarchy. The Company’s investment securities are classified as AFS.
The fair values of interest rate swaps, interest rate caps and risk participation derivatives are determined using models that incorporate readily observable market data into a market standard methodology. This methodology nets the discounted future cash receipts and the discounted expected cash payments. The discounted variable cash receipts and payments are based on expectations of future interest rates derived from observable market interest rate curves. In addition, fair value is adjusted for the effect of nonperformance risk by incorporating credit valuation adjustments for the Company and its counterparties. These assets and liabilities are classified as Level 2 fair values, based upon the lowest level of input that is significant to the fair value measurements.
The following table summarizes assets and liabilities measured at fair value on a recurring basis at December 31, 2024 or 2023.
| Level 1 | Level 2 | Level 3 | Total Fair Value Measurements | ||||||||||||||||||||
| December 31, 2024 | |||||||||||||||||||||||
| Financial Assets | |||||||||||||||||||||||
| Investment securities: | |||||||||||||||||||||||
| U.S. Treasury securities | $ | 18,063 | $ | — | $ | — | $ | 18,063 | |||||||||||||||
U.S. government agencies | — | 3,053 | — | 3,053 | |||||||||||||||||||
| States and political subdivisions | — | 193,756 | 6,272 | 200,028 | |||||||||||||||||||
| GSE residential MBSs | — | 151,548 | — | 151,548 | |||||||||||||||||||
| GSE commercial MBSs | — | 8,792 | — | 8,792 | |||||||||||||||||||
GSE residential CMOs | — | 324,692 | — | 324,692 | |||||||||||||||||||
| Non-agency CMOs | — | 22,636 | 10,648 | 33,284 | |||||||||||||||||||
| Asset-backed | — | 88,103 | — | 88,103 | |||||||||||||||||||
| Corporate bonds | — | 1,954 | — | 1,954 | |||||||||||||||||||
| Other | 194 | — | — | 194 | |||||||||||||||||||
| Loans held for sale | — | 6,614 | — | 6,614 | |||||||||||||||||||
| Derivatives | — | 13,431 | 20 | 13,451 | |||||||||||||||||||
| Totals | $ | 18,257 | $ | 814,579 | $ | 16,940 | $ | 849,776 | |||||||||||||||
| Financial Liabilities | |||||||||||||||||||||||
| Derivatives | $ | — | $ | 12,575 | $ | — | $ | 12,575 | |||||||||||||||
| December 31, 2023 | |||||||||||||||||||||||
| Financial Assets | |||||||||||||||||||||||
| Investment securities: | |||||||||||||||||||||||
| U.S. Treasury securities | $ | 17,840 | $ | — | $ | — | $ | 17,840 | |||||||||||||||
U.S. government agencies | — | 4,151 | — | 4,151 | |||||||||||||||||||
| States and political subdivisions | — | 197,060 | 6,062 | 203,122 | |||||||||||||||||||
| GSE residential MBSs | — | 57,632 | — | 57,632 | |||||||||||||||||||
| GSE commercial mortgage-backed securities | — | 4,743 | — | 4,743 | |||||||||||||||||||
GSE residential CMOs | — | 73,102 | — | 73,102 | |||||||||||||||||||
| Non-agency CMOs | — | 22,878 | 21,791 | 44,669 | |||||||||||||||||||
| Asset-backed | — | 108,134 | — | 108,134 | |||||||||||||||||||
| Other | 126 | — | — | 126 | |||||||||||||||||||
| Loans held for sale | — | 5,816 | — | 5,816 | |||||||||||||||||||
| Derivatives | — | 11,328 | 55 | 11,383 | |||||||||||||||||||
| Totals | $ | 17,966 | $ | 484,844 | $ | 27,908 | $ | 530,718 | |||||||||||||||
| Financial Liabilities | |||||||||||||||||||||||
| Derivatives | $ | — | $ | 13,464 | $ | — | $ | 13,464 | |||||||||||||||
The Company had one municipal bond and two CMOs measured at fair value on a recurring basis using significant unobservable inputs (Level 3) at both December 31, 2024 and 2023. The Level 3 valuation is based on a non-executable broker quote, which is considered a significant unobservable input. Such quotes are updated as available and may remain constant for a period of time for certain broker-quoted securities that do not move with the market or that are not interest rate sensitive as a result of their structure or overall attributes.
The Company’s residential mortgage loans HFS were recorded at fair value utilizing Level 2 measurements. This fair value measurement is determined based upon third party quotes obtained on similar loans. For loans held-for-sale for which the
fair value option has been elected, the aggregate fair value was below the aggregate principal balance by $131 thousand and $1.5 million as of December 31, 2024 and 2023, respectively.
The determination of the fair value of interest rate lock commitments on residential mortgages is based on agreed upon pricing with the respective investor on each loan and includes a pull through percentage. The pull through percentage represents an estimate of loans in the pipeline to be delivered to an investor versus the total loans committed for delivery. Significant changes in this input could result in a significantly higher or lower fair value measurement. As the pull through percentage is a significant unobservable input, this is deemed a Level 3 valuation input. The average pull through percentage, which is based upon historical experience, was 92% as of December 31, 2024. An increase or decrease of 5% in the pull through assumption would result in a positive or negative change of $1 thousand in the fair value of interest rate lock commitments at December 31, 2024.
The following provides details of the Level 3 fair value measurement activity for the years ended December 31, 2024 or 2023:
| Investment securities: | |||||||||||
| 2024 | 2023 | ||||||||||
| Balance, beginning of year | $ | 27,853 | $ | 27,193 | |||||||
| Unrealized gains included in OCI | 79 | 358 | |||||||||
| Purchases | — | 871 | |||||||||
| Net discount accretion | 82 | 62 | |||||||||
| Principal payments and other | (987) | (631) | |||||||||
| Calls | (10,107) | — | |||||||||
| Balance, end of year | $ | 16,920 | $ | 27,853 | |||||||
There were no transfers into or out of Level 3 at December 31, 2024 and 2023.
Interest rate lock commitments on residential mortgages: | |||||||||||
| 2024 | 2023 | ||||||||||
| Balance, beginning of year | $ | 55 | $ | 35 | |||||||
| Total (losses) gains included in earnings | (35) | 20 | |||||||||
| Balance, end of year | $ | 20 | $ | 55 | |||||||
Certain financial assets are measured at fair value on a nonrecurring basis. Adjustments to the fair value of these assets usually results from the application of lower-of-cost-or-market accounting or write-downs of individual assets. The Company used the following methods and significant assumptions to estimate fair value for these financial assets.
Mortgage Servicing Rights
MSRs are evaluated for impairment by comparing the carrying value to the fair value, which is determined through a DCF valuation. To the extent the amortized cost of the MSRs exceeds their estimated fair values, a valuation allowance is established for such impairment. Fair value adjustments on the MSRs only occurs if there is an impairment charge. At December 31, 2024 and 2023, the MSR impairment reserve was zero for both periods. For the years ended December 31, 2024 and 2023, there were no impairment valuation allowance adjustments in mortgage banking activities on the consolidated statement of income.
Individually Evaluated Loans
Loans individually evaluated for credit expected losses include nonaccrual loans and other loans that do not share similar risk characteristics to loans in the CECL loan pools, which have been classified as Level 3. Individually evaluated loans with an allocation to the ACL are measured at fair value on a nonrecurring basis. Any fair value adjustments are recorded in the period incurred as provision for credit losses on the consolidated statements of operations.
The measurement of loss associated with loans evaluated individually for all loan classes was based on either the observable market price of the loan, the fair value of the collateral, or DCF. For collateral-dependent loans, fair value was measured based on the value of the collateral securing the loan, less estimated costs to sell. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. The value of the real estate collateral is determined utilizing an income or market valuation approach based on an appraisal conducted by an independent, licensed
appraiser outside of the Company using observable market data (Level 2). However, if the collateral is a house or building in the process of construction, or if management adjusts the appraisal value, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal, if deemed significant, or the net book value on the applicable business’ financial statements if not considered significant using observable market data. Likewise, values for inventory and accounts receivable collateral are based on financial statement balances or aging reports (Level 3).
Changes in the fair value of individually evaluated loans still held and considered in the determination of the provision for credit losses were a decline of $5.2 million, $332 thousand and $0 thousand for the years ended December 31, 2024, 2023 and 2022, respectively.
The following table summarizes assets measured at fair value on a nonrecurring basis at December 31, 2024 and 2023:
| Level 1 | Level 2 | Level 3 | Total Fair Value Measurements | ||||||||||||||||||||
| December 31, 2024 | |||||||||||||||||||||||
| Individually evaluated loans | |||||||||||||||||||||||
| Commercial real estate: | |||||||||||||||||||||||
| Owner-occupied | $ | — | $ | — | $ | 997 | $ | 997 | |||||||||||||||
| Non-owner occupied residential | — | — | 43 | 43 | |||||||||||||||||||
| Acquisition and development: | |||||||||||||||||||||||
| Commercial and land development | — | — | 932 | 932 | |||||||||||||||||||
| Commercial and industrial | — | — | 3,995 | 3,995 | |||||||||||||||||||
| Residential mortgage: | |||||||||||||||||||||||
| First lien | — | — | 213 | 213 | |||||||||||||||||||
| Home equity - term | — | — | 44 | 44 | |||||||||||||||||||
| Home equity - lines of credit | — | — | 25 | 25 | |||||||||||||||||||
| Installment and other loans | — | — | 3 | 3 | |||||||||||||||||||
| Total individually evaluated loans | $ | — | $ | — | $ | 6,252 | $ | 6,252 | |||||||||||||||
| December 31, 2023 | |||||||||||||||||||||||
| Individually evaluated loans | |||||||||||||||||||||||
| Commercial real estate: | |||||||||||||||||||||||
| Owner-occupied | $ | — | $ | — | $ | 75 | $ | 75 | |||||||||||||||
| Commercial and industrial | — | — | 164 | 164 | |||||||||||||||||||
| Residential mortgage: | |||||||||||||||||||||||
| First lien | — | — | 219 | 219 | |||||||||||||||||||
| Home equity - lines of credit | — | — | 56 | 56 | |||||||||||||||||||
| Total individually evaluated loans | $ | — | $ | — | $ | 514 | $ | 514 | |||||||||||||||
The following table presents additional qualitative information about assets measured on a nonrecurring basis and for which the Company has utilized Level 3 inputs to determine fair value:
Fair Value Estimate | Valuation Techniques | Unobservable Input | Range | ||||||||||||||||||||
| December 31, 2024 | |||||||||||||||||||||||
| Individually evaluated loans | $ | 6,252 | Appraisal of collateral | Management adjustments on appraisals for property type and recent activity | 10% - 84% discount | ||||||||||||||||||
| - Management adjustments for liquidation expenses | 5.81% - 16.07% discount | ||||||||||||||||||||||
| December 31, 2023 | |||||||||||||||||||||||
| Individually evaluated loans | $ | 514 | Appraisal of collateral | Management adjustments on appraisals for property type and recent activity | 10% - 70% discount | ||||||||||||||||||
| - Management adjustments for liquidation expenses | 3.3% - 12.3% discount | ||||||||||||||||||||||
Fair values of financial instruments
GAAP requires disclosure of the fair value of financial assets and liabilities, including those that are not measured and reported at fair value on a recurring or nonrecurring basis. The following table presents the carrying amounts and estimated fair values of financial assets and liabilities at December 31, 2024, and 2023:
Carrying Amount | Fair Value | Level 1 | Level 2 | Level 3 | |||||||||||||||||||||||||
| December 31, 2024 | |||||||||||||||||||||||||||||
| Financial Assets | |||||||||||||||||||||||||||||
| Cash and due from banks | $ | 51,026 | $ | 51,026 | $ | 51,026 | $ | — | $ | — | |||||||||||||||||||
| Interest-bearing deposits with banks | 197,848 | 197,848 | 197,848 | — | — | ||||||||||||||||||||||||
| Restricted investments in bank stock | 20,232 | n/a | n/a | n/a | n/a | ||||||||||||||||||||||||
| Investment securities | 829,711 | 829,711 | 18,257 | 794,534 | 16,920 | ||||||||||||||||||||||||
| Loans held for sale | 6,614 | 6,614 | — | 6,614 | — | ||||||||||||||||||||||||
| Loans, net of allowance for credit losses | 3,882,525 | 3,783,097 | — | — | 3,783,097 | ||||||||||||||||||||||||
| Derivatives | 13,451 | 13,451 | — | 13,431 | 20 | ||||||||||||||||||||||||
| Accrued interest receivable | 21,058 | 21,058 | — | 5,361 | 15,697 | ||||||||||||||||||||||||
| Financial Liabilities | |||||||||||||||||||||||||||||
| Deposits | 4,623,096 | 4,621,081 | — | 4,621,081 | — | ||||||||||||||||||||||||
| Securities sold under agreements to repurchase and federal funds purchased | 25,863 | 25,863 | — | 25,863 | — | ||||||||||||||||||||||||
| FHLB advances and other borrowings | 115,364 | 114,851 | — | 114,851 | — | ||||||||||||||||||||||||
| Subordinated notes and trust preferred debt | 68,680 | 67,597 | — | 67,597 | — | ||||||||||||||||||||||||
| Derivatives | 12,575 | 12,575 | — | 12,575 | — | ||||||||||||||||||||||||
| Accrued interest payable | 2,924 | 2,924 | — | 2,924 | — | ||||||||||||||||||||||||
| Off-balance sheet instruments | — | — | — | — | — | ||||||||||||||||||||||||
| December 31, 2023 | |||||||||||||||||||||||||||||
| Financial Assets | |||||||||||||||||||||||||||||
| Cash and due from banks | $ | 32,586 | $ | 32,586 | $ | 32,586 | $ | — | $ | — | |||||||||||||||||||
| Interest-bearing deposits with banks | 32,575 | 32,575 | 32,575 | — | — | ||||||||||||||||||||||||
| Restricted investments in bank stock | 11,992 | n/a | n/a | n/a | n/a | ||||||||||||||||||||||||
| Investment securities | 513,519 | 513,519 | 17,966 | 467,700 | 27,853 | ||||||||||||||||||||||||
| Loans held for sale | 5,816 | 5,816 | — | 5,816 | — | ||||||||||||||||||||||||
| Loans, net of allowance for credit losses | 2,269,611 | 2,159,745 | — | — | 2,159,745 | ||||||||||||||||||||||||
| Derivatives | 11,383 | 11,383 | — | 11,328 | 55 | ||||||||||||||||||||||||
| Accrued interest receivable | 13,630 | 13,630 | — | 4,987 | 8,643 | ||||||||||||||||||||||||
| Financial Liabilities | |||||||||||||||||||||||||||||
| Deposits | 2,558,814 | 2,555,904 | — | 2,555,904 | — | ||||||||||||||||||||||||
| Securities sold under agreements to repurchase and federal funds purchased | 9,785 | 9,785 | — | 9,785 | — | ||||||||||||||||||||||||
| FHLB advances and other borrowings | 137,500 | 137,500 | — | 137,500 | — | ||||||||||||||||||||||||
| Subordinated notes | 32,093 | 29,887 | — | 29,887 | — | ||||||||||||||||||||||||
| Derivatives | 13,464 | 13,464 | — | 13,464 | — | ||||||||||||||||||||||||
| Accrued interest payable | 2,560 | 2,560 | — | 2,560 | — | ||||||||||||||||||||||||
| Off-balance sheet instruments | — | — | — | — | — | ||||||||||||||||||||||||
In accordance with the Company's adoption of ASU 2016-01, Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities, the methods utilized to measure the fair value of financial instruments at December 31, 2024 and 2023 represents an approximation of exit price; however, an actual exit price may differ.
About Fair Value Disclosures
Fair value disclosures classify all assets and liabilities measured at fair value into a three-level hierarchy: Level 1 (quoted market prices), Level 2 (observable inputs like yield curves), and Level 3 (unobservable inputs requiring management estimates). The proportion of Level 3 assets directly reflects how much of the balance sheet depends on internal models rather than market evidence.
Key signals: a growing Level 3 balance relative to total fair-value assets increases valuation uncertainty and earnings volatility risk. Watch for transfers between levels — assets moving from Level 2 to Level 3 often signal deteriorating market liquidity. Unrealized gains and losses on Level 3 positions flow through earnings or other comprehensive income, so large swings deserve scrutiny. For financial institutions, examine the sensitivity disclosures that show how Level 3 valuations change under alternative assumptions. Compare the fair value of debt against its carrying amount to gauge hidden leverage.