Chapter two

Fair Value Accounting

DEPARTMENT OF ACFN
 Introduction

•Sets out in a single IFRS framework for measuring

fair value and requires disclosures about fair value
measurements.
•It does not introduce any new requirements to
measure an asset or a liability at fair value, change
what is measured at fair value in IFRSs or address
how to present changes in fair value.
•IFRS 13 is effective from 1 January 2013. Early
application is permitted.
 Old definition of Fair Value
The old definition of fair value
The amount for which an
asset could be
exchanged, or a liability
settled, between
knowledgeable, willing
parties in an arm’s
length transaction.
Its weaknesses
It did not specify whether an entity
is buying or selling the asset.
It was unclear about what settling
meant because it did not refer to
the creditor.
It was unclear about whether it was
market-based.
It did not state explicitly when the
exchange or settlement takes
place.
 Fair Value Definition
4

• Fair value is the price that would be received to sell an

asset or paid to transfer a liability (exit price) in an
orderly transaction (not a forced sale) between market
participants (market-based view) at the measurement
date (current price).
• Fair value is a market-based measurement (it is not an
entity-specific measurement)
• Consequently, the entity’s intention to hold an asset
or to settle or otherwise fulfil a liability is not relevant
when measuring fair value.
IFRS 13 Fair Value Measurement
Assets: Classification, recognition and measurement
5

CM or RM
RM
CM or Nil

Cost
M RV

Cost Nil
FV N

CM
e or
m C

or
so of

PP&E

Co
Intangible

FV
st
r
we

st
Inv
Co

M
Inventory
Lo

Property
Assets
Etc Financial
Va ue
ri o Defined Biological val

M
Va us i r

FV
ri o
FV pl
Benefit assets Fa

or
us an lue
PUC p assets le Fair va to

C
l an o b ss

Am
osts
& a rb
itrary
ligatio
n less c
FV pl rules sell
a
PUC p n assets l lue
Fair va to
lan ob ess
sts
arbitr l i ga
ary ru ion &
t less co
l es sell
 ASSET TYPE MEASUREMENT AT
INITIAL RECOGNITION
IFRS 9 Financial Fair value
Instruments
IAS 16 Property, Purchase costs + construction
Plant and Equipment costs + costs to bring to the
location and condition necessary
to be capable of operating in the
manner intended by
management.
IAS 38 Intangible Purchase costs + development
Assets costs + costs to bring to the
location and condition necessary
to be capable of operating as
intended by management
IAS 40 Cost including transaction costs
Investment Property
IAS 41 Agriculture Fair value less costs to sell
MODEL BASED ON BASIS OF
FAIR VALUE IMPAIRMENT TEST
For specified financial
assets and for particular
business models: fair
value
Accounting policy choice: Compare carrying amount
revaluation model to recoverable amount.
Recoverable amount is
greater of value in use and
fair value less disposal
costs (IAS 36)
Accounting policy choice:
revaluation model
Accounting policy choice:
fair value
Fair value less costs to sell
 Application guidance
7

• When measuring fair value use assumptions that

market participants would use when pricing the asset or
liability under current market conditions, including
assumptions about risk.

• Characteristics of a particular asset or liability that a

market participant would take into account when pricing
the item at the measurment date, include:
– age, condition and location of the asset
– restrictions on the sale or use.
 Transaction and Price 8

• Measured using the price in the principal market for the

asset or liability (ie the market with the greatest volume
and level of activity for the asset or liability) or, in the
absence of a principal market, the most advantageous
market for the asset or liability.
 Non-financial assets 9

• Must reflect the use of a non-financial asset by market

participants that maximises the value of the asset
– physically possible
– legally permissible
– financially feasible
• Highest and best use is usually (but not always) the
current use.
 Measurement

The Concept of highest and best use

Reconsider methods, assumptions , processes / procedures
Under IFRS 13, an entity’s current use of an asset is generally taken to be
its highest and best use, unless market or other factors suggest that a
different use of that asset by market participants would maximise its
value.
If such factors exist, management is required to consider all relevant
information in determining whether the highest and best use of a
property is different from its current use at the measurement date.
 Measurement

Highest and best use non financial

assets
• “A fair value measurement of a non-financial
asset takes into account a market participant’s
ability to generate economic benefits by using
the asset in its highest and best use or by selling
it to another market participant that
would use the asset in its highest and best use.
 Measurement

Highest and best use for non-financial assets

• Fair value considers a market participant’s ability to
generate economic benefits by using the asset in its
highest and best use.
• Highest and best use considers a use that is:
– Physically possible
– Legally permissible –Town and Country Planning Act
– Financially feasible
• Highest and best use is always considered when measuring
fair value, even if the entity intends a different use.
 Measurement

Highest and best use for non-financial assets (cont.)

Can be either:(valuation premise)

• On a stand-alone basis
• In combination with other assets
– Assumed the complementary assets are available
to market participants
– Assumptions must be consistent for all assets of
the relevant group
 Measurement

Example : highest and best use

Land acquired in a business combination is currently developed for
industrial use as a site for a manufacturing facility. Nearby sites were recently
developed for residential high-rise flats. It was determined that the land
could be used to develop residential high-rise flats.
How is highest and best used determined?

• In this case, the highest and best use is determined from the higher of:
a) The value of the land used in the manufacturing operation
b) The value of the land as a vacant site for residential use
• Note that transformation costs (e.g., costs to demolish the manufacturing
facility) would be considered in the value of land as a vacant site.
 Measurement
Valuation techniques
• Use valuation techniques that:
– Are appropriate in the circumstances
– Have sufficient available data
– Maximise use of relevant observable inputs
– Minimise use of unobservable inputs
• IFRS 13 describes three valuation techniques
– Market approach (prices and other information for identical or comparable
assets)
– Income approach (present value i.e discounted future cash flows; option
pricing models e.g Black Scholes Merton or binomial; excess earnings) (IFRS 13)
– Cost approach (current replacement cost)
• One or several valuation techniques might be used
– If a range of values are indicated, select the point within that range most
representative of fair value

ICPAK
 Measurement

Valuation techniques (cont.)

• Apply valuation techniques consistently
• Change in valuation technique needed if:
– New markets develop
– New information becomes available
– Information previously used is no longer available
– Valuation techniques improve
– Market conditions change
• Change in valuation technique = change in estimate
 The fair value hierarchy
Is there a quoted price in an
active market for an identical
Yes No
asset or liability?
(Level 1 input)
Are there any observable
Use the Level 1 input = inputs* other than quoted
Level 1 measurement prices for an identical
Must use without asset or liability?
adjustment Yes No

* Maximise the use of relevant No use of significant

observable inputs. Observable
inputs include market data unobservable Use of significant
(prices and other information) (Level 3) inputs‡ = unobservable
that is publicly available
Level 2 (Level 3) inputs‡ =
‡
Unobservable inputs include measurement Level 3
the entity’s own data (eg measurement
budgets, forecasts), which
must be adjusted if market
participants would use
different assumptions
 Disclosure 18

• Information about an entity’s valuation processes is

required for fair value measurements categorised within
Level 3 of the fair value hierarchy.

• A narrative discussion is required about the sensitivity

of a fair value measurement categorised within Level 3.

• Quantitative sensitivity analysis is required for financial

instruments measured at fair value.
 Judgements and estimates 19

• An entity must take all information that is reasonably available to

search for a principal market.

• determining fair value and the highest and best-use.for a non-

financial asset.
• Assumptions that a market participant would use (including
assumptions about risk).
• Determining the correct valuation technique to use and the inputs
to the techniques, particularly on the income approach, require a
wide range of estimates as:
• discount rates
• future cash flows
• risks and uncertainty
 Judgements and estimates Cont… 20

• The inputs used in the valuation techniques should

primarily be based on observable inputs (where
possible) to minimise the use of unobservable inputs.
Thank you

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