Poland Financial Reporting Technical
Assistance Program (FRTAP)
financed by a grant from Switzerland through the Swiss Contribution
to the enlarged European Union
IFRS Community of Practice in Warsaw
Workshop 2, 2 December 2011
Fair Value Measurement How?
David Cairns
Putting IFRS 13 into Practice
What is the asset or liability?
Which valuation technique is appropriate?
What inputs should be used in valuation
techniques?
http://go.worldbank.org/4ABQSZP4F0
Fair Value - Definitions
Asset
Fair value is the price that would be
received to sell an asset in an orderly
transaction between market participants at
the measurement date
Liability
Fair value is the price that would be paid to
transfer a liability in an orderly transaction
between market participants at the
measurement date
http://go.worldbank.org/4ABQSZP4F0
What is the Asset or Liability?
Stand-alone asset or liability – for example


a financial asset
an intangible asset
Group of assets or liabilities – for example


a cash generating unit
a business
Depends on unit of account

level at which an asset or liability is aggregated
or disaggregated for recognition purposes under
other IFRS
http://go.worldbank.org/4ABQSZP4F0
Which Valuation Technique(s)?
Objective

estimate price at which an orderly transaction to
sell the asset or transfer a liability would take
place between market participants at the
measurement date under current market
conditions
Use valuation technique(s)




appropriate to the circumstances
sufficient data available to measure fair value
maximise use of relevant observable inputs
minimise use of unobservable inputs
http://go.worldbank.org/4ABQSZP4F0
Valuation Techniques
Market approach

prices and other relevant information generated
by market transactions involving identical or
comparable (similar) assets or liabilities
Cost approach

amount required currently to replace the service
capacity of an asset (current replacement cost)
Income approach

converts future cash flows/income and expenses
to a single current (discounted) amount (DCF, Black
Scholes, multi-period excess earnings method, etc)
http://go.worldbank.org/4ABQSZP4F0
Which Inputs?
Inputs which are consistent with
characteristics of the asset or liability that
market participants would take into account
in a transaction for the asset or liability, for
example





condition, location etc of asset
restrictions on sale or use of asset
control premiums
non-controlling interest discounts
age, remaining economic life, etc.
http://go.worldbank.org/4ABQSZP4F0
Which Inputs?
Observable inputs in preference to unobservable inputs
Observable inputs


developed using
market data
reflect assumptions
that market
participants would
use when pricing
asset or liability
Unobservable inputs


market data not
available
best information
available about the
assumptions that
market participants
would use when
pricing asset or
liability
http://go.worldbank.org/4ABQSZP4F0
Which Inputs? Hierarchy
Level 1 inputs

unadjusted quoted prices in active markets for
identical assets or liabilities (observable inputs)
Level 2 inputs


other directly or indirectly observable inputs for
the asset or liability
must be observable for substantially full term of
asset or liability with specified (contractual) term
Level 3 inputs

unobservable inputs for the asset or liability
http://go.worldbank.org/4ABQSZP4F0
Level 1 Inputs
Unadjusted quoted prices in active markets for identical
assets or liabilities
An active market is

a market in which transactions for the asset or
liability take place with sufficient frequency
and volume to provide pricing information on
an ongoing basis
http://go.worldbank.org/4ABQSZP4F0
Level 2 Inputs
Other directly observable inputs for the asset or liability
Quoted prices for similar assets or liabilities in
active markets
Quoted price for identical or similar assets or
liabilities in markets that are not active
Other observable inputs, for example:



interest rates/yield curves
implied volatilities
credit spreads
Other inputs derived principally from, or
corroborated by, observable market data by
correlation or other means
http://go.worldbank.org/4ABQSZP4F0
Level 2 Inputs
Other directly observable inputs for the asset or liability
Make adjustments for




condition of asset
location of asset
extent to which inputs relate to items that are
comparable to the asset or liability
volume or level of activity in markets within
which inputs are observed
Adjustments may result in level 3 inputs
http://go.worldbank.org/4ABQSZP4F0
Level 3 Inputs
Unobservable inputs for the asset or liability
Use only to extent that relevant
observable inputs are not available

use best information available in the
circumstances
Market participant assumptions about risk
include risk inherent in the valuation
technique
http://go.worldbank.org/4ABQSZP4F0
Fair Value Measurement Case Studies
You have been asked to measure the fair value of the following
assets at 31 December 2011:

10,000 ordinary shares in Nestlé (assume that the principal market
is the Swiss stock exchange and that the market for Nestlé shares
is active)?

an unlisted debt security with a nominal value of €10,000, a fixed
interest rate of 5% payable on 31 December each year and
repayment at par on 31 December 2015?

an office building built in 2005 in a major city which is currently let
to tenants at rents set in 2006 under leases which expire in 2015?
What valuation approach and valuation techniques would you
use?
What is the nature of the inputs that you would you use in those
techniques?
http://go.worldbank.org/4ABQSZP4F0
Poland Financial Reporting Technical
Assistance Program (FRTAP)
financed by a grant from Switzerland through the Swiss
Contribution to the enlarged European Union
IFRS Community of Practice in Warsaw
Workshop 2, 2 December 2011
Fair Value Measurement How?
David Cairns