Practical guide to IFRS

Fair value measurement – unifying the

concept of ‘fair value’

At a glance − A requirement for the fair value of

October 2011 all liabilities, including derivative
• The IASB released IFRS 13, ‘Fair liabilities, to be determined based
Introduction 2 value measurement’, on 12 May 2011. on the assumption that the liability
Scope 2 IFRS 13 consolidates fair value will be transferred to another
measurement guidance from across party rather than otherwise settled
Measurement 2
various IFRSs into a single standard. or extinguished;
Considerations 8 IFRS 13 does not change when fair − The removal of the requirement
specific to non- value can or should be used. to use bid and ask prices for
financial assets: • In our view, many of the actively-quoted financial assets
highest and requirements codified in IFRS 13 and financial liabilities respectively.
best use are largely consistent with valuation Instead, the most representative
Considerations 9 practices that already operate today. price within the bid-ask spread
specific to As such, IFRS 13 is unlikely to result should be used; and
liabilities and in substantial change in many cases. − The introduction of additional
equity However, IFRS 13 introduces a few disclosures related to fair value.
changes: • IFRS 13 is effective for annual periods
Considerations 13 − The introduction of a fair value beginning on or after 1 January 2013;
specific to hierarchy for non-financial assets earlier application is permitted.
financial and liabilities, similar to what
instruments • Management will need to evaluate
IFRS 7 currently prescribes for
the impact of the standard on their
Valuation 15 financial instruments;
existing valuation processes.
techniques
Fair value 19
hierarchy
Inactive 26
markets and
non-orderly
transactions
Disclosures 28
Effective date 35
Potential 35
business
impacts
More 35
information

A practical guide to IFRS – Fair value measurement 1

 Introduction Scope
The IASB issued IFRS 13 as a common IFRS 13 applies to all fair value
framework for measuring the fair measurements or disclosures that are
value when required or permitted by either required or permitted by other
another IFRS. standards, except:
(a) share-based payments under IFRS 2;
IFRS 13 defines fair value as “The price that
(b) leases under IAS 17; and
would be received to sell an asset or paid to
(c) measures that are similar to but are
transfer a liability in an orderly transaction
not fair value, including the net
between market participants at the
realisable value measure in IAS 2,
measurement date.” [IFRS 13.9]. The key
‘Inventories’, and the value-in-use
principle is that fair value is the exit price
measure in IAS 36, ‘Impairment
from the perspective of market participants
of assets’.
who hold the asset or owe the liability at
[IFRS 13.6].
the measurement date. It is based on the
perspective of market participants rather IFRS 13 applies to the following items,
than just the entity itself, so fair value but the disclosure requirements of IFRS 13
is not affected by an entity’s intentions need not be met:
towards the asset, liability or equity item (a) defined benefit plan assets measured
that is being fair valued. at fair value under IAS 19, ‘Employee
benefits’;
PwC observation: This key principle is (b) retirement benefit plan investments
unlikely to result in significant valuation measured at fair value under
changes, as most entities should already IAS 26, ‘Accounting and reporting by
be applying this principle in practice. retirement benefit plans’; and
(c) Impaired assets measured at fair value
A fair value measurement requires less costs to sell (FVLCTS) under
management to determine four aspects: IAS 36.
the particular asset or liability that is the [IFRS 13.7].
subject of the measurement (consistent
IFRS 13 applies to initial and subsequent
with its unit of account); the highest and
measurements at fair value. [IFRS 13.8].
best use for a non-financial asset; the
principal (or most advantageous) market;
and the valuation technique. [IFRS 13.B2]. PwC observation: The term ‘fair value’
is used throughout IFRSs; given that
IFRS 13 addresses how to measure fair there are so few scope exclusions,
value but does not stipulate when fair IFRS 13 is pervasive.
value can or should be used.

PwC observation: The issue of when Measurement

fair value should be used as a
IFRS 13 stipulates the following factors
measurement basis in IFRS is
that should be considered in fair value
controversial; hence the IASB did
measurement:
not introduce any new fair value
(a) the asset or liability,
measurement requirements as a result
(b) the market,
of issuing IFRS 13. On the contrary,
(c) market participants, and
the IASB did consider whether each
(d) the price.
use of the term fair value in IFRS was
consistent with an exit price definition. In addition, there are considerations that
Where this was not the case, the IASB are specific to:
made either scope changes to IFRS 13 (a) non-financial assets,
or used another measurement basis in (b) liabilities,
other IFRSs as appropriate. (c) equity, and
(d) financial instruments.

2 A practical guide to IFRS – Fair value measurement

The asset or liability specific characteristics if market participants
consider these characteristics when pricing
Characteristics the asset or liability. These characteristics
A fair value measurement relates to a could include condition, location and
particular asset or liability. It should restrictions, if any, on sale or use as of the
therefore incorporate the asset or liability’s measurement date. [IFRS 13.11].

Example – Restriction on the sale of an equity instrument [IFRS 13.IE28]

An entity holds an equity instrument (a financial asset) for which sale is legally or
contractually restricted for a specified period (for example, such a restriction could limit
sale to qualifying investors). The restriction is a characteristic of the instrument and would
therefore be transferred to market participants. In this case, the fair value of the instrument
would be measured on the basis of the quoted price for an otherwise identical unrestricted
equity instrument of the same issuer that trades in a public market, adjusted to reflect
the effect of the restriction. The adjustment would reflect the amount market participants
would demand because of the risk relating to the inability to access a public market for
the instrument for the specified period. The adjustment will vary depending on all the
following:
• the nature and duration of the restriction;
• the extent to which buyers are limited by the restriction (for example, there might be a
large number of qualifying investors); and
• qualitative and quantitative factors specific to both the instrument and the issuer.
Example – Restrictions on the use of an asset [IFRS 13.IE29]
“A donor contributes land in an otherwise developed residential area to a not-for-profit
neighbourhood association. The land is currently used as a playground. The donor specifies
that the land must continue to be used by the association as a playground in perpetuity. Upon
review of relevant documentation (e.g. legal and other), the association determines that the
fiduciary responsibility to meet the donor’s restriction would not be transferred to market
participants if the association sold the asset, i.e. the donor restriction on the use of the land is
specific to the association. Furthermore, the association is not restricted from selling the land.
Without the restriction on the use of the land by the association, the land could be used as a
site for residential development. In addition, the land is subject to an easement (i.e. a legal
right that enables a utility to run power lines across the land). Following is an analysis of the
effect on the fair value measurement of the land arising from the restriction and the easement:
(a) Donor restriction on use of land. Because in this situation the donor restriction on the use
of the land is specific to the association, the restriction would not be transferred to market
participants. Therefore, the fair value of the land would be the higher of its fair value used
as a playground (i.e. the fair value of the asset would be maximised through its use by
market participants in combination with other assets or with other assets and liabilities)
and its fair value as a site for residential development (i.e. the fair value of the asset would
be maximised through its use by market participants on a stand-alone basis), regardless of
the restriction on the use of the land by the association.
(b) Easement for utility lines. Because the easement for utility lines is specific to (i.e. a
characteristic of) the land, it would be transferred to market participants with the land.
Therefore, the fair value measurement of the land would take into account the effect of the
easement, regardless of whether the highest and best use is as a playground or as a site for
residential development.”

PwC observation: This example is, easement for utility lines) do affect
illustrates two points: fair value.
(a) Investor-specific restrictions (that (b) Restrictions that are easily
is, donor restriction) do not affect fair circumvented (that is, by selling the
value; asset-specific restrictions (that land) are unlikely to affect fair value.

A practical guide to IFRS – Fair value measurement 3

 Unit of account Most advantageous market
Under IFRS 13, fair value measurement The most advantageous market is the
may be applied to a stand-alone asset or market that maximises the amount that
liability (for example, an equity security, would be received to sell the asset or
investment property or an intangible minimises the amount that would be
asset) or a group of related assets and/ paid to transfer the liability, after
or liabilities (for example, a business), taking into account transaction costs
depending on the circumstances. and transport costs (definition of ‘most
The determination of how fair value advantageous market’ in IFRS 13
measurement applies depends on the Appendix A).
unit of account. The unit of account is
To determine the most advantageous
determined based on the level at which
market, management evaluates all
the asset or liability is aggregated or
potential markets in which it could
disaggregated in accordance with the IFRS
reasonably expect to sell the asset or
requirements applicable to the particular
transfer the liability. For non-financial
asset or liability being measured; it is not
assets, the identification of potential
generally determined by IFRS 13 itself.
markets will be based on the ‘highest
See also ‘Fair value at initial recognition’
and best use’ valuation premise, from
below.
the perspective of market participants.
The market [IFRS 13.31]. In order to determine the
highest and best use of a non-financial
Under IFRS 13, management determines asset, the reporting entity may need to
fair value based on a hypothetical consider multiple markets.
transaction that would take place in the
principal market or, in its absence, the PwC observation: In practice, most
most advantageous market. [IFRS 13.16]. non-financial assets are employed in
Principal market their ‘highest and best use’, so this
The principal market is the market with requirement is not as onerous as it
the greatest volume and level of activity may seem.
for the asset or liability. [IFRS 13 Appendix
A]. To determine the principal market, Market accessibility
management needs to evaluate the level In evaluating principal or most
of activity in various different markets. advantageous markets, IFRS 13 restricts
However, the entity does not have to the eligible markets to only those that the
undertake an exhaustive search of all entity can access at the measurement date.
possible markets in order to indentify the As different reporting entities may have
principal or most advantageous market; it access to different markets, the principal
should take into account all information or most advantageous markets could vary
that is readily available. In the absence between reporting entities. [IFRS 13.19].
of evidence to the contrary, the market
in which an entity normally transacts is Although an entity must be able to access
presumed to be the principal market or the the market, it does not need to be able
most advantageous market in the absence to sell the particular asset or transfer the
of a principal market. The entity’s principal particular liability on the measurement
market is the market that it has access date to be able to measure fair value on
to that has the greatest volume and level the basis of the price in that market
of activity for the asset or liability, even [IFRS 13.20]. This is illustrated in the
if the prices in other markets are more following example.
advantageous. [IFRS 13.18].

4 A practical guide to IFRS – Fair value measurement

 Example
A commodities trader has a reporting date of 31 December 20X0, which falls on a Saturday.
The commodities trader holds commodity X for which it has access to both retail and
wholesale markets. The principal market is the wholesale market because that is the market
with the greatest volume and level of activity for the commodity; however, the retail market
selling prices are usually higher. The wholesale market only trades on weekdays, whereas
the retail market trades also on Saturdays.
The commodities trader is not allowed to use the higher retail price as the fair value of
the commodities merely because the wholesale (principal) market does not trade on the
measurement date.

Transaction costs the disposal of an asset or the transfer of

IFRS 13 prohibits adjustment of fair a liability and meet both of the following
value for transaction costs (see ‘The criteria:
price’ below), but it does require such (a) They result directly from and are
transaction costs to be considered in the essential to that transaction.
determination of the most advantageous (b) They would not have been incurred by
market. Transaction costs are defined as: the entity had the decision to sell the
“The costs to sell an asset or transfer asset or transfer the liability not been
a liability in the principal (or most made (similar to costs to sell, as defined
advantageous) market for the asset or in IFRS 5).”
liability that are directly attributable to [IFRS 13 Appendix].

Example
An entity has an asset that is sold in two different markets with similar volume of
activities but with different prices. The entity enters into transactions in both markets
and can access the price in those markets for the asset at the measurement date. There
is no principal market for the asset.
Market A Market B
Price 27 25
Transport costs -3 -2
24 23
Transaction costs -3 -1
21 22

In market A, the price that would be received is C27; transaction costs in that market
are C3; and the costs to transport the asset to that market are C3 (that is, the net
amount that would be received in market A is C21).
In market B, the price that would be received is C25; transaction costs in that market
are C1; and the costs to transport the asset to that market are C2 (that is, the net
amount that would be received in market B is C22).
If market A had been the principal market for the asset (that is, the market with the
greatest volume and level of activity for the asset), the fair value of the asset would
be measured using the price that would be received in that market, after taking into
account transport costs (C24). The same applies for market B (C23).
(Continued)

A practical guide to IFRS – Fair value measurement 5

 Example (continued)
As a principal market for the asset does not exist, the fair value of the asset would be
measured using the price in the most advantageous market. The most advantageous
market is the market that maximises the amount that would be received to sell the
asset, after taking into account transaction costs and transport costs (that is, the net
amount that would be received in the respective markets).
The entity would maximise the net amount that would be received for the asset in
market B (C22), so the fair value of the asset is measured using the price in that
market (C25), less transport costs (C2), resulting in a fair value measurement of C23.
Although transaction costs are taken into account when determining which market
is the most advantageous, the price used to measure the fair value of the asset is not
adjusted for those costs (although it is adjusted for transport costs).

No observable market all available information, including

There may be no known or observable information that might be obtained
market for an asset or liability. For through due diligence efforts that are
example, there may be no specific market usual and customary.
for the sale of a cash-generating unit • Able to transact in the asset or liability.
or intangible asset. In such cases, the • Willing to transact in the asset or
management should first identify potential liability – transaction counterparties
market participants (for example, strategic are motivated but not forced or
and financial buyers) and then develop a otherwise compelled to transact.
hypothetical market based on the expected [IFRS 13 Appendix A].
assumptions of those market participants.
Market participants seek to maximise the
Market participants fair value of an asset or minimise the fair
value of a liability in a transaction to sell
IFRS 13 emphasises that a fair value the asset or to transfer the liability in the
measurement should be based on the principal (or most advantageous) market
assumptions of market participants (that is, for the asset or liability. [IFRS 13.22].
it is not an entity-specific measurement).
[IFRS 13.22]. Market participants are The entity is not required to identify
buyers and sellers in the principal (or most specific market participants; instead it
advantageous) market for the asset or should develop a profile of potential
liability that are: market participants. The profile should
• Independent – the transaction consider factors specific to the asset
counterparties are not related parties or liability, the principal (or most
as defined in IAS 24,’Related party advantageous) market for the asset or
disclosures’. However, this does not liability, and market participants with
preclude related-party transaction whom the entity would transact in that
prices from being used as valuation market.
inputs if there is evidence that the
In the absence of an observable market,
transactions were on market terms.
fair value is determined by considering the
• Knowledgeable – transaction characteristics of market participants who
counterparties have a reasonable would enter into a hypothetical
understanding about the asset or transaction for the asset or liability.
liability and the transaction using [IFRS 13.23c].

6 A practical guide to IFRS – Fair value measurement

 PwC observation: The determination PwC observation: The IASB deliberated
of potential market participants is a carefully before arriving at the conclusion
critical step in the determination of fair to use an exit price. There are arguments
value due to the emphasis on the use against the use of exit prices. For
of market participant assumptions. The example, one might argue that exit price
identification of market participants is not relevant when an entity intends to
may be straightforward if there is use rather than sell an asset.
general knowledge of the types of
However, even if an entity intends
participants in a particular market. In
to use the asset, exit price is still
certain other cases, management
appropriate in a fair value measurement.
may need to make assumptions about
This is because the exit price reflects
the type of market participants that
expectations about future cash flows
may be interested in a particular asset
by selling it to a market participant
or liability. Market participants can
that would use it in the same way. This
include strategic and financial investors.
is because a market participant will
Key considerations in developing only pay for benefits that it expects to
market participant assumptions may generate from the use or sale of the
include the specific location, condition asset. [IFRS 13.BC39]. A similar logic
and other characteristics of the asset or applies to liabilities, in that a market
liability (for example, assumed growth participant would reflect expectations
rates, whether certain synergies are about cash outflows necessary to fulfil
available to all market participants, and an obligation. [IFRS 13.BC40].
risk premium assumptions). For
The IASB did a standard-by-standard
example, there may be no apparent
review to assess whether exit price
exit market for customer relationship
was the interpretation taken in those
intangible assets. In this case,
circumstances where ‘fair value’ is
management may consider whether
mentioned in IFRSs. The intention
there are strategic buyers in the
was that if the exit price was not the
marketplace that would benefit from
interpretation, the IASB would change
the customer relationships that are
the term ‘fair value’ to something else.
being valued. Most entities seek to
[IFRS 13.BC41]. This review led the IASB
build up their customer base as they
to conclude that a current entry price
grow their businesses, so the entity
and current exit price should be equal if
can look to potential participants in its
they relate to the same asset or liability
industry that may be seeking
on the same date in the same form in the
additional growth and from there
same market. The IASB did not therefore
determine a hypothetical group of
consider it necessary to make a
market participants
distinction between a current entry price
and a current exit price in IFRSs with a
The price market-based measurement objective
(that is, fair value); instead it decided to
Under IFRS 13, fair value is based on the retain the term fair value and define it as
exit price (the price that would be received a current exit price. [IFRS 13.BC44].
to sell an asset or paid to transfer a
liability) [IFRS 13.24], not the transaction The IASB has scoped out of this
price or entry price (the price that was guidance those IFRSs where fair
paid for the asset or that was received to value measurement requirements are
assume the liability). Conceptually, entry inconsistent with exit price.
and exit prices are different. The exit price [IFRS 13.BC45]. (See ‘Scope’ above.)
concept is based on current expectations
about the sale or transfer price from the IFRS 13 prohibits adjustment of fair value
perspective of market participants. for transaction costs, which are accounted
for in accordance with other IFRSs.
However, transaction costs do not include
transport costs under IFRS 13. Fair value
should be adjusted for transport costs if
location is a characteristic of the asset (for
example, a commodity). [IFRS 13.25].

A practical guide to IFRS – Fair value measurement 7

 Considerations specific PwC observation: When determining
to non-financial assets: highest and best use, management
should include all costs that market
highest and best use participants would incur in the
IFRS 13 requires the fair value of a non- circumstances.
financial asset to be measured based on For example, if a parcel of land is
its highest and best use from a market currently used for farming, the fair value
participant’s perspective. [IFRS 13.27]. (assuming the highest and best use is
This requirement does not apply to to continue to use it for farming) should
financial instruments, liabilities or equity. reflect the benefits of continuing to
This concept of ‘highest and best use’ is not operate the land for farming, including
new to IFRS valuations, although it has any tax credits that could be realised by
not explicitly been part of IFRS literature. market participants.
Before IFRS 13, the basis of conclusions in
IAS 40 − in discussing the fair valuation However, if it is determined that
of investment properties − made reference market participants would consider
to the International Valuation Standards an alternative use for the land to be
(IVS), which include this as a general its highest and best use (for example,
valuation concept. The specific inclusion of commercial or residential use), the
this concept in IFRS therefore aligns IFRS fair value should include all costs (for
with valuation practices. example, legal costs, viability analysis,
traffic studies), associated with re-zoning
Under IFRS 13, the highest and best use the land to the market participant’s
takes into account the use of the asset intended use. In addition, demolition and
that is: other costs associated with preparing
• physically possible − takes into account the land for a different use should be
the physical characteristics that market included in the estimate of fair value.
participants would consider (for This concept is illustrated in IFRS 13.IE8
example, property location or size); (Example 2). An effort to re-zone land
• legally permissible − takes into contains an element of uncertainty
account the legal restrictions on use related to whether the proposed re-
of the asset that market participants zoning obtains approval. The fair value
would consider (for example, zoning of the land should therefore reflect this
regulations); or uncertainty. Re-zoning should not be
• financially feasible − takes into account considered if it is not feasible or it is
whether a use of the asset generates unlikely to succeed.
adequate income or cash flows to
produce an investment return that However, IFRS 13 allows management to
market participants would require. presume that its current use of an asset is
This should incorporate the costs of the highest and best use unless market or
converting the asset to that use. other factors suggest otherwise.
[IFRS 13.28]. [IFRS 13.29].
Highest and best use is determined from PwC observation: The IASB concluded
the perspective of market participants. that an entity that seeks to maximise
[IFRS 13.29]. It does not matter whether the value of its assets would use those
the entity intends to use the asset assets at their highest and best use;
differently. For example, the entity could it would therefore be necessary for
have made a defensive acquisition of a management to consider alternative
competing brand that it does not intend uses of those assets only if there was
to use, in order to maintain or promote evidence that the current use of the
the competitive position of its own brand. assets is not their highest and best
Despite its intentions, the entity measures use. In many cases, it would be unlikely
the fair value of the competing brand for an asset’s current use not to be its
assuming its highest and best use by highest and best use. The most common
market participants. [IFRS 13.30]. examples are described in IE7 to IE9 and
include assets being held defensively
and land.

8 A practical guide to IFRS – Fair value measurement

The highest and best use of a non-financial • Adjustment via the valuation technique
asset may be on a stand-alone basis or may might be appropriate “when using the
be achieved in combination with other multi-period excess earnings method to
assets and/or liabilities. In the latter case: measure the fair value of an intangible
• Fair value is based on the use of the asset because that valuation technique
asset in such an asset/liability group. specifically takes into account the
It is assumed that the asset would be contribution of any complementary
used within such a group and that the assets and the associated liabilities in the
other assets and liabilities would be group in which such an intangible asset
available to market participants. would be used.” [IFRS 13.B3d].
• The asset/liability group cannot • Allocation of fair value adjustments to
include liabilities that are used to fund individual assets might be appropriate
assets outside the asset/liability group. “in more limited situations, when an
• Assumptions about highest and best entity uses an asset within a group of
use should be consistent for all assets, the entity might measure the
non-financial assets in such an asset at an amount that approximates
asset/liability group. its fair value when allocating the fair
• Such an asset/liability grouping value of the asset group to the
does not have to be consistent with individual assets of the group. That
the level of aggregation or might be the case if the valuation
disaggregation specified in other involves real property and the fair
IFRSs because the market participant value of improved property (i.e.
is assumed to have the other assets. an asset group) is allocated to its
component assets (such as land and
[IFRS 13.31, 32]. improvements).” [IFRS 13.B3e].
When the highest and best use is in
an asset/liability group, the synergies Considerations specific to
associated with the asset/liability group
may be factored into the fair value of the
liabilities and equity
individual asset in a number of ways, Transfer of liabilities
depending on circumstances.
• Direct adjustments to fair value IFRS 13.34 stipulates (underlines added):
might be appropriate “if the asset “A fair value measurement assumes that
is a machine and the fair value a financial or non-financial liability or
measurement is determined using an an entity’s own equity instrument (e.g.
observed price for a similar machine equity interests issued as consideration in
(not installed or otherwise configured a business combination) is transferred to a
for use), adjusted for transport and market participant at the measurement
installation costs so that the fair value date. The transfer of a liability or an
measurement reflects the current entity’s own equity instrument assumes
condition and location of the machine the following:
(installed and configured for use).” (a) A liability would remain outstanding
[IFRS 13.B3b]. and the market participant transferee
• Adjustment to market participant would be required to fulfil the
assumptions might be appropriate obligation. The liability would not
“for example, if the asset is work in be settled with the counterparty
progress inventory that is unique and or otherwise extinguished on the
market participants would convert the measurement date.
inventory into finished goods, the fair (b) An entity’s own equity instrument
value of the inventory would assume would remain outstanding and the
that market participants have market participant transferee would
acquired or would acquire any take on the rights and responsibilities
specialised machinery necessary to associated with the instrument. The
convert the inventory into finished instrument would not be cancelled
goods.” [IFRS 13.B3c]. or otherwise extinguished on the
measurement date.”

A practical guide to IFRS – Fair value measurement 9

 PwC observation: The transferral additional risk premium above the
concept for liabilities clarifies the expected payout may be required
previous IFRS definition of fair value because of uncertainty about the
(for example, in IAS 32, IAS 41, ultimate amount of the liability (for
IFRS 5), which required fair value for example, asbestos liabilities and
liabilities to be “the amount for which performance guarantees). The risk
a liability could be settled, between premium paid to a third party may
knowledgeable willing parties…” differ from the settlement value that the
As liabilities could be ‘settled’ by direct counterparty would be willing to
extinguishing them or transferring accept. In addition, the party assuming
them to another party, it was not clear a liability may have to incur certain
whether settlement value referred to costs to manage the liability or may
transfer value or the extinguishment require a profit margin.
value. IFRS 13 clarifies that the fair
In practice, there may be significant
value is the transfer value rather than
differences between settlement
the extinguishment value.
value and transfer value. Among the
Extinguishment value is not differences is the impact of credit
necessarily the transfer value, as risk, which is often not considered
demonstrated in the example in the in the settlement of a liability, as
box below. In some instances, an demonstrated in the following example.

Example
A bank holds a debt obligation with a face value of C100,000 and a market value of
C95,000. Market interest rates are consistent with the amount in the note; however,
there is a C5,000 discount due to market concerns about the risk of non-performance.
Settlement value
Except for in exceptional circumstances, we expect that the counterparty (counterparty
A) would be required to pay the full face value of the note to settle the obligation, as
the bank may not be willing to discount the note by the market discount or the credit
risk adjustment. The settlement value would therefore be equal to the face amount of
the note.
Transfer value
In order to calculate the transfer value, counterparty A must construct a hypothetical
transaction in which another party (counterparty B), with a similar credit profile, is
seeking financing on terms that are substantially the same as the note. Counterparty B
could choose to enter into a new note agreement with the bank or receive the existing
note from counterparty A in a transfer transaction.
Counterparty B should be indifferent to obtaining financing through a new bank note
or assumption of the existing note in transfer for a payment of C95,000. The transfer
value would therefore be C95,000; C5,000 less than the settlement value. This amount
is the value ascribed by a market participant holding the identical liability as an asset,
consistent with the guidance in IFRS 13.37.

Liability and equity instruments As a result the quoted price reflects the
held by other parties as assets exit price for the investor rather than
the issuer. IFRS 13 distinguishes such
In comparison to assets, observable active situations from the situation in which an
markets for liabilities and equities are exit market exists directly for the liability
much less likely to exist due to contractual or equity instrument. When a quoted
and legal restrictions on liability and transfer price is not available for the issuer
equity transfers. Even for quoted debt but the instrument is held by another
or equity securities, the market serves as investor as an asset, management should
an exit mechanism for the counterparty measure fair value from the perspective of
security holders rather than for the issuer. the investor. [IFRS 13.37].

10 A practical guide to IFRS – Fair value measurement

 PwC observation: The IASB decided Using quoted prices and observable
to use the fair value from the investor’s inputs
perspective to measure the fair value A quoted asset price may have to be
of the liability when there is no active adjusted to derive the fair value of
market for the liability transfer. The the corresponding liability or equity
IASB believes that the fair value from instrument if there are asset-specific factors
the viewpoints of investor and issuer that are not applicable to the liability or
should be the same in an efficient equity instrument. For example, a quoted
market, otherwise arbitrage would debt security may be secured by a third-
result. [IFRS 13.BC89]. party guarantee. The quoted price of such
The IASB considered whether these a security would reflect the value of the
different viewpoints could result in guarantee. The issuer should exclude the
different fair values because the asset effect of the guarantee from the quoted
is liquid but the liability is not. The asset price if the issuer is measuring only the
holder could easily sell the asset to fair value of its own liability and the
another party, whereas the liability unit of account excludes the guarantee.
issuer will usually find it more difficult [IFRS 13.39b]. If the management uses
to transfer the liability to another party. In the quoted price for a similar (but not
the end, the IASB decided that identical) debt or equity instrument to
there was no conceptual reason why a value its own debt, it would have to adjust
different fair value should result, given for any differences between the debt or
that both parties are measuring the equity instruments. [IFRS 13.39a]. The
same instrument with identical price of the asset used to measure the
contractual terms. fair value of the corresponding liability or
equity instrument should not reflect the
effect of a restriction preventing the sale of
In such cases, the fair value of the liability the asset. [IFRS 13.39].
or equity instrument is derived by:
(a) using the quoted price in an active Liabilities not held by other parties
market for the identical liability held as assets
by another party as an asset (for
example, actively-quoted debt There are certain liabilities that are not
security prices); held by another party as an asset. An
(b) using other observable inputs if the example is a decommissioning liability.
price in (a) is not available, such as the [IFRS 13.B31]. In such cases, the fair value
quoted price in an inactive market for of the liability would have to be measured
the identical liability held by another from the perspective of the liability issuer.
party as an asset (for example, quoted If a market is not available for the liability,
debt security prices in less active a valuation technique is required to
markets). measure the fair value from the perspective
(c) using another valuation technique if of the liability issuer. [IFRS 13.40].
the observable inputs in (b) are not These valuation techniques can include
available, such as: a present value technique that considers
(i) an income approach − this either:
approach uses a present value • the future cash outflows that a market
technique that takes into account participant would expect to incur in
the future cash outflows that a fulfilling the obligation, including
market participant would expect the compensation that a market
to receive from holding the participant would require for taking on
liability or equity instrument as an the obligation; or
asset; and
• the amount that a market participant
(ii) a market approach − under this
would receive to enter into or issue an
approach, fair value is determined
identical liability instrument, using the
using quoted prices for similar
assumptions that market participants
liabilities held by other parties as
would use when pricing the identical
assets.
item (for example, having the same

A practical guide to IFRS – Fair value measurement 11

 credit characteristics) in the principal
PwC observation: The above
(or most advantageous) market for
requirements appear complicated.
issuing a liability with the same
However, the overriding objective is
contractual terms.
to determine what a potential market
[IFRS 13.41]. participant would require as
When using such present value calculations, compensation to take on the liability.
the calculations should reflect the future For example, a factory is built on leased
cash outflows that market participants land that has to be returned to the owner
would expect to incur in fulfilling the in five years’ time without the factory
obligation. These cash outflows should building. The decommissioning liability
include: would be the liability associated with
• market participants’ expectations about the costs of tearing down the factory.
the costs of fulfilling the obligation; and The fair value of the decommissioning
• the compensation that a market liability might simply be the market rate
participant would require, which that a demolition services provider would
should include a return for: charge in order to agree, today, to take
− undertaking the activity − the down the factory in five years’ time.
market participant would expect The above requirements are aimed at
a compensation for fulfilling the determining this charge.
obligation, as the participant will
use valuable resources for this Non-performance risk
purpose; and
− assuming the risk associated IFRS 13 requires the fair value of a
with the obligation − for liability to reflect the effect of non-
assuming the obligations, the performance risk, which is the risk that
market participant would an entity will not fulfil an obligation. Non-
usually require a risk premium to performance risk includes the effect of
compensate for the risk that actual credit risk, as well as any other factors that
cash outflows might differ from influence the likelihood of fulfilling
those expected. the obligation.
[IFRS 13.42].
Such risk premiums can be included by
adjusting either the cash flows or the PwC observation: Before IFRS 13,
discount rate. However, the risk should there were different interpretations
not be double-counted (for example, by about how an entity’s own credit risk
adjusting both cash flows and discount should be reflected in the fair value of
rate for the same risk). [IFRS 13.B33]. a liability using the settlement notion in
Non-financial liabilities may not have a the previous definition of fair value. It
contractual rate of return or an is unlikely that the counterparty would
observable market yield. When accept an amount different from the
measuring such liabilities at fair value, contractual amount as settlement of the
the various components of return will obligation if the entity’s credit standing
sometimes be indistinguishable (for changed; consequently, those using the
example, when using the price a third- counterparty settlement interpretation
party contractor would charge on a fixed of fair value did not find a significant
fee basis). In other cases, the various impact from changes in their own credit
components may require separate risk when fair valuing their liabilities.
estimation (for example, when using the This could result in a change for entities
price a third-party contractor would that have not included own credit risk in
charge on a cost plus basis). the fair value of their financial liabilities
[IFRS 13.B32]. previously (for example, derivative
financial liabilities).

12 A practical guide to IFRS – Fair value measurement

IFRS 13 assumes that non-performance risk
fair value whereas the liability issuer
is the same before and after the transfer of
does not. However, IFRS 13 does not
the liability. This concept assumes that the
specify whether the credit enhancement
liability would transfer to a credit-equivalent
should or should not be accounted
entity. [IFRS 13.42].
for separately from the liability. That is
determined based on other IFRSs.
PwC observation: The basis for
conclusions sets out why this is the Restrictions on transfer of issuer’s
case. It states: although such an own liability or equity instrument
assumption is unlikely to be realistic for
an actual transaction (because in most There could be contractual or legal
cases the reporting entity transferor restrictions on transfers of liabilities or
and the market participant transferee equity instruments by the issuer. However,
are unlikely to have the same credit management should not make separate
standing), it is necessary because: adjustments in relation to such restrictions.
• A market participant taking on the IFRS 13 assumes that the effect of such a
obligation would not enter into a restriction has been implicitly or explicitly
transaction that changes the non- included in the initial transaction price on
performance risk associated with the the basis that transaction counterparties
liability without reflecting that change have accepted the transaction price with
in the price. full knowledge of such a restriction.
• Without specifying the credit standing [IFRS 13.45, 46].
of the entity taking on the obligation,
there could be fundamentally different
Considerations specific to
fair values for a liability depending financial instruments
on an entity’s assumptions about
the characteristics of the market Inputs based on bid and ask prices
participant transferee. Bid and ask prices are common within
• Those who might hold the entity’s markets for securities, financial instruments
obligations as assets would consider and commodities. In these markets, dealers
the effect of the entity’s credit risk stand ready to buy at the bid price and
and other risk factors when pricing sell at the ask price. If an input within the
those assets. [IFRS 13.BC94]. fair value hierarchy is based on bid prices
and ask prices, the price within the bid-
The level of non-performance risk imputed ask spread that is most representative of
into fair value should be consistent with fair value in the circumstances is used to
the unit of account. For example, in measure fair value. [IFRS 13.70].
determining the fair value of a liability, the
effect of third-party credit enhancements This is one of the changes introduced by
should be excluded if the credit IFRS 13. Previously, IFRS required the use of
enhancement is accounted for separately bid prices for asset positions and ask prices
from the liability. [IFRS 13.44]. for liability positions. These prices can still
be used if they are most representative of
PwC observation: The reason for fair value in the circumstances, but they are
excluding a third-party credit no longer required.
enhancement is that the liability issuer IFRS 13 does not preclude the use of mid-
does not get the benefit of the third- market pricing or other pricing
party credit enhancement, whereas conventions that are used by market
the asset holder does. The issuer has participants as a practical expedient for
to pay the entire liability unless it goes fair value. Once management has
bankrupt, irrespective of the third-party established which convention it is using,
credit enhancement. So the asset holder it should follow its accounting policy
gets to consider the enhancement in its consistently. [IFRS 13.71].

A practical guide to IFRS – Fair value measurement 13

 Offsetting positions in market or risk exposure on a five-year financial
counterparty credit risk instrument within a group made up of
IFRS 13 allows an exception whereby if an only those financial assets and financial
entity manages a group of financial assets liabilities measures the fair value of the
and financial liabilities on the basis of exposure to 12-month interest rate risk
its net exposure to either market risks or on a net basis and the remaining interest
counterparty risks (as defined in IFRS 7), rate risk exposure (ie years 2–5) on a
it can opt to measure the fair value of that gross basis.”
group on the basis of the net position (that
If the exception is applied, the fair value of
is, the net position is the unit of account
the net position is measured using IFRS 13
that is being measured at fair value,
principles. For example:
not the individual financial assets and
liabilities). [IFRS 13.48]. • For market risks, fair value of the net
position is the price within the bid-ask
Although this exception is new, it was spread that is most representative of
already a common valuation practice prior fair value in the entity’s circumstances.
to IFRS 13. This new exception is not [IFRS 13.53].
therefore expected to have a significant • For credit risk, fair value of such
effect on existing valuation practices. a group should consider credit
This exception is permitted only if an enhancements (such as master
entity: netting agreements and collateral
• manages the financial asset/liability requirements) and expectations
group based on its net exposure to about the legal enforceability of such
market/credit risk in accordance with enhancements. [IFRS 13.56].
its documented risk management or The above exception does not permit net
investment strategy; presentation of assets and liabilities within
• provides information about the the group. Presentation is dealt with in
financial asset/liability group on a net other IFRSs. Where gross presentation is
basis to key management personnel as required, the fair value of the group should
defined in IAS 24; and be allocated to the assets and liabilities
• measures those financial assets and within the group on a reasonable and
liabilities at fair value in the statement consistent basis (for example, using the
of financial position on a recurring relative fair value approach). [IFRS 13.50].
basis.
The use of the exception, along with any
[IFRS 13.49] policies for allocating bid-ask and credit
Other conditions on the use of the adjustments, is regarded as an accounting
exception are that it: policy decision that should be applied
• applies only to financial assets and consistently from period to period for a
liabilities within the scope of IAS 39 given portfolio. [IFRS 13.51].
and IFRS 9. [IFRS 13.52];
• applies only to financial assets and PwC observation: If an entity has a
liabilities that are exposed to identical, portfolio of financial assets and liabilities
or at least substantially similar, market that qualify for the ‘portfolio exception’
risks. If the risks are not identical, the for the purposes of applying IFRS 13
differences should be considered (and only for the purpose of IFRS 13), its
when allocating the group’s fair value unit of account is the portfolio − that is,
to component assets and liabilities. the net open risk position. This is the unit
[IFRS 13.54]; and of account on which you determine what
• applies only to exposures of a similar a market participant would pay for it. In
duration. IFRS 13.55 provides the other words, the question is: if you were
following example: “… an entity to transfer the net open risk position, how
that uses a 12-month futures contract much would you be paid/have to pay.
against the cash flows associated with As a result, size would be considered an
12 months’ worth of interest rate attribute of what you are valuing.

14 A practical guide to IFRS – Fair value measurement

Valuation techniques price requirements. Prices of completed
transactions are sometimes available.
General principles in selection of Brokered markets include electronic
valuation techniques communication networks, in which
buy and sell orders are matched, and
The valuation technique should be: commercial and residential real estate
• appropriate based on the circumstances markets.
[IFRS 13.61, 62]; d) Principal-to-principal markets - In
• a technique for which sufficient data is a principal-to-principal market,
available [IFRS 13.61]; transactions, both originations and
• maximise the use of relevant resales, are negotiated independently
observable inputs and minimise the use with no intermediary. Little information
of unobservable inputs [IFRS 13.61]; about those transactions may be made
• consistent with the objective of available publicly.”
estimating the price at which an It may be appropriate to use multiple
orderly transaction to sell the asset valuation techniques; in which case,
or to transfer the liability would take the reasonableness of the results of the
place between market participants at various measurement techniques will
the measurement date under current have to be evaluated, and a point within
market conditions [IFRS 13.62); and that range will have to be selected that
• the market, income or cost approach is most representative of fair value in the
[IFRS 13.62]. circumstances. [IFRS 13.63].
Examples of markets in which inputs might If management determines that the
be observable include exchange markets, transaction price is fair value at initial
dealer markets, brokered markets and recognition (see ‘Fair value at initial
principal-to-principal markets, which are recognition’ below) and the valuation
explained in IFRS 13.B34: technique uses unobservable inputs, the
a) “Exchange markets - In an exchange valuation technique should be calibrated so
market, closing prices are both readily that, at initial recognition, the result of the
available and generally representative of valuation technique equals the transaction
fair value. An example of such a market price. This ensures that subsequent usage
is the London Stock Exchange. of this valuation technique does not
b) Dealer markets - In a dealer market, result in a fair value that is inconsistent
dealers stand ready to trade (either buy with the initial fair value. Subsequently,
or sell for their own account), thereby the entity should continue to ensure
providing liquidity by using their capital that such valuation techniques using
to hold an inventory of the items for unobservable inputs continue to reflect
which they make a market. Typically bid observable market data (for example, the
and ask prices (representing the price at price for a similar asset or liability) at the
which the dealer is willing to buy and measurement dates. [IFRS 13.64].
the price at which the dealer is willing
to sell, respectively) are more readily Valuation techniques should be applied
available than closing prices. Over-the- consistently unless alternative techniques
counter markets (for which prices are provide an equally or more representative
publicly reported) are dealer markets. indication of fair value. This applies as well
Dealer markets also exist for some other to the weights given to multiple valuation
assets and liabilities, including some techniques when multiple techniques are
financial instruments, commodities and used. Any changes are regarded as changes
physical assets (e.g. used equipment). in accounting estimates, although the IAS 8
c) Brokered markets - In a brokered disclosures are not required. [IFRS 13.66].
market, brokers attempt to match buyers The following events may necessitate
with sellers but do not stand ready to changes in techniques/weights:
trade for their own account. In other • new markets develop;
words, brokers do not use their own • new information becomes available;
capital to hold an inventory of the items • information previously used is no
for which they make a market. The longer available;
broker knows the prices bid and asked • valuation techniques improve; or
by the respective parties, but each party • market conditions change.
is typically unaware of another party’s [IFRS 13.65].

A practical guide to IFRS – Fair value measurement 15

 Types of valuation technique for the specific securities, but rather
relying on the securities’ relationship
IFRS 13 describes three classes of valuation
to other benchmark quoted securities.
technique:
[IFRS 13.B7].
Market approach
Income approach
IFRS 13 defines this as “A valuation
IFRS 13 defines this as “Valuation
technique that uses prices and other
techniques that convert future amounts (e.g.
relevant information generated by market
cash flows or income and expenses) to a
transactions involving identical or
single current (i.e. discounted) amount. The
comparable (ie similar) assets, liabilities,
fair value measurement is determined on
or a group of assets and liabilities, such as
the basis of the value indicated by current
a business.” Examples are:
market expectations about those future
• valuation techniques using market amounts.” Examples include:
multiples derived from comparable
• Multi-period excess earnings method
transactions [IFRS 13.B6]; and
(MEEM)
• matrix pricing – a mathematical MEEM is useful where the asset being
technique used principally to value valued only generates income with
some types of financial instruments, a group of other assets. This method
such as debt securities, without isolates the cash flows arising from the
relying exclusively on quoted prices assets as illustrated below.

MEEM valuation steps

1. Derive future cash flows for asset group.

2. Subtract tax expenses.

3. Apply contributory asset charges.

4. Calculate present value of future cash flows.

5. Compute the tax amortisation benefit.

6. Result is the MEEM.

• Relief-from-royalty (RFR) method model (that is, a lattice model) that

RFR is commonly used for intangible incorporate present value techniques
assets that could be licensed. Fair and reflect both the time value and the
value under RFR is the present value intrinsic value of an option.
of licence fees avoided by owning • Cost approach
an asset. IFRS 13 defines this as “A valuation
• With-and-without method technique that reflects the amount that
This method is useful where revenue would be required currently to replace
generation is driven by other assets the service capacity of an asset (often
but the asset being valued provides referred to as current replacement
an incremental benefit that increases cost).” This assumes that fair value
revenue or decreases cost. is the cost to acquire or construct a
Fair value is the difference between substitute asset of comparable utility,
the value of the business with all adjusted for obsolescence (including
assets in place, and the value of the physical deterioration, functional
business with all assets except the (technological) obsolescence and
asset being valued. economic (external) obsolescence).
[IFRS 13.B9]. The following
• Option pricing models
flowchart illustrates the application
These include the Black-Scholes-
of the cost approach.
Merton formula and a binomial

16 A practical guide to IFRS – Fair value measurement

 Application of cost approach

Identify new cost of modern

equivalent asset

Adjust for age/economic

obsolescence/deterioration

Depreciated replacement
cost/fair value

PwC observation: In our view, the cost approach should only be used when the
other approaches are not available.

Fair value at initial recognition • The transaction does not take place
in the principal or most advantageous
Transaction prices may not equal fair market – for example, a retail market
value. Fair value under IFRS 13 is based price would not represent fair value
on an exit price concept. Transaction prices for a dealer if this principal or most
are not always representative of exit prices advantageous market is the dealer
[IFRS 13.57], although in many cases they market.
are. [IFRS 13.58]. [IFRS 13.B4].
In determining whether a transaction price
is representative of fair value, management PwC observation: One common
should consider factors specific to the criticism of IAS 39 is its treatment of
transaction and the asset or liability [IFRS the difference between fair value and
13.59], as well as whether any of the transaction price upon initial recognition,
conditions below are applicable. commonly referred to as ‘day-one profit
• The transaction is between related or loss’. IAS 39 prohibits immediate
parties. However, such a transaction recognition of day-one profit or loss in
may be considered in a fair value the income statement unless specific
measurement if there is evidence that criteria are met. Unfortunately, IFRS 13
it was conducted at market terms. does not address this criticism. IFRS 13
• The transaction takes place under states that “If another IFRS requires or
duress or the price is forced upon the permits an
seller (for example, due to financial entity to measure an asset or a liability
difficulty). initially at fair value and the transaction
• The unit of account in the transaction price differs from fair value, the entity
is different from the asset or liability to shall recognise the resulting gain or loss
be fair valued. For example: in profit or loss unless that IFRS specifies
otherwise.” Entities will therefore still be
− the asset or liability being fair
prohibited from recognising a day-one
valued is only one of the elements
profit or loss under IAS 39 (or IFRS 9)
in the transaction (for example, in
unless the fair value of that instrument
a business combination);
is evidenced by comparison with other
− the transaction includes unstated observable current market transactions
rights and privileges that are in the same instrument (that is, without
measured separately in accordance modification or repackaging) or based on
with another IFRS; or a valuation technique whose variables
− the transaction price includes include only data from observable
transaction costs. markets. [IAS 39.AG76]. This remains a
key difference with US GAAP.

A practical guide to IFRS – Fair value measurement 17

 Valuation premiums and discounts not permitted for premiums or
discounts that reflect size as a
Valuation adjustments such as premiums characteristic of the entity’s holding.
and discounts may be necessary to reflect Specifically, IFRS 13 prohibits
certain characteristics of the asset or adjustments for blockage factors that
liability being fair valued. Examples are adjust the quoted price of an asset or
control premiums or non-controlling a liability because the market’s
interest discounts. There are two caveats to normal daily trading volume is not
consider when using such adjustments: sufficient to absorb the quantity held
• Adjustments are not permitted for by an entity. See also ‘unit of
premiums or discounts that are account’ above.
inconsistent with the unit of account • In all cases, if there is a quoted price
for the asset or liability being in an active market (that is, a Level
measured; and 1 input) for an asset or a liability,
• Adjustments are permitted only when management should use that price
they reflect a characteristic of an without adjustment when
asset or liability (for example, control measuring fair value.
premium). Adjustments are [IFRS 13.69]

Example
An entity holds a position in a single asset that is traded in an active market. If the
entity sells its entire holding in a single transaction, the market’s normal daily trading
volume would not be sufficient to absorb the quantity held. That single transaction
would affect the quoted price and result in the entity receiving a lower selling price.
Should the entity adjust the fair value of that asset to reflect this?
No. The unit of account is a single share therefore the fair value of the asset or liability
should continue to be measured as the product of the quoted price and the quantity
held by the entity. The same applies to a liability, or a position comprising a large
number of identical assets or liabilities, such as a holding of financial instruments.
[IFRS 13.80]. The same answer holds regardless of whether or not it trades in an
active market.

The flowchart below illustrates the above requirements.

Level 1 Do not adjust

Yes

Adjustment for size Consistent with unit of account

No

Level 2 + 3 Adjust

Adjustment for other

factors

18 A practical guide to IFRS – Fair value measurement

 Example
Investor X holds a 10% investment in private company Y. The investment is classified
as an available-for-sale investment under IAS 39. X fair values Y using a market
multiple of comparable listed entity Z. Should this valuation be adjusted for:
• illiquidity of Y’s shares, as compared to Z?
• the lower price X is likely to get if X sold the entire 10% investment in a single
transaction rather than if it sold its shares in Y in smaller batches?
X should adjust for the Y’s illiquidity because this is a characteristic of Y’s shares. Y’s
shares are not listed; Z’s are listed.
However, X should not adjust the valuation to reflect the likely outcome that if it sold
all of Y in a single transaction, it might receive a lower price. This is because the unit
of account in IAS 39 is a single instrument. The fair value in IAS 39 therefore reflects
the fair value of each financial instrument in Y.
Example
Entity A holds 100% of the shares in an unlisted company B. B is a cash-generating
unit that is being tested for impairment under IAS 36 using the fair value less costs to
sell (FVLCTS) method. Entity A fair values B using a market multiple of a comparable
listed entity.
If A assumes the sale of B’s shares in a single transaction, it is likely to receive a
different price due to the size of the sale compared to selling the shares in smaller
portions (say in units of 1,000 each time). For the purposes of determining FVLCTS,
should A assume the sale of B’s shares in a single or multiple transactions?
As the unit of account being fair valued is the cash-generating unit under IAS 36, the
fair value that should be considered is the aggregate fair value of the CGU. Entity A
should therefore assume the sale of B’s shares in aggregate.
Example
Entity C holds 100% of the shares in company D, which is a cash-generating unit being
tested for impairment under IAS 36 using FVLCTS. C fair values D using a discounted
cash flow method based on D’s underlying cash inflows (for example, from sales) and
outflows (for example, from expenses), and the industry cost of capital. Should C
adjust the output of the discounted cash flow valuation model for a control premium?
C should not make this adjustment. The control premium has already been imputed by
the use of the business cash flows discounted at the weighted average cost of capital.
This method of valuation implicitly assumes control. No further adjustment for control
premium is therefore required.

Fair value hierarchy fair value hierarchy as the lowest-

level input that is significant to the
IFRS 13 contains a fair value hierarchy entire measurement. An input is
that is similar to the hierarchy established significant if that input can result
under IFRS 7. The highest priority is given in a significantly different fair value
to Level 1 inputs; Level 3 inputs get the measurement. [IFRS 13.79]. IFRS 13
lowest priority. [IFRS 13.72]. requires consideration of factors specific
to the asset or liability. [IFRS 13.73].
A fair value measurement is categorised
in its entirety in the same level of the

A practical guide to IFRS – Fair value measurement 19

 The fair value hierarchy ranks fair value
PwC observation: Determining the
measurements based on the type of inputs;
significance of a particular input to a
it does not depend on the type of valuation
fair value measurement is a matter of
techniques used. [IFRS 13.74].
judgement. A starting point is to have
a basic understanding of all of the Level 1 inputs are quoted prices
inputs that factor into the fair value (unadjusted) in active markets for identical
measurement, the relative significance assets or liabilities that the entity can
of each of the inputs, and whether those access at the measurement date. [IFRS
inputs are externally verifiable or are 13.76]. IFRS 13 highlights the following
derived through internal estimates. points in relation to Level 1 inputs:
• The principal (or if unavailable, the
There are no bright lines for
most advantageous) market should be
determining significance; two different
used [IFRS 13.78].
entities may reach different conclusions
in the same fact pattern. We believe • The transacting entity should be able
management should consider the to transact in the chosen market at
impact of lower-level inputs on the fair measurement date [IFRS 13.78].
value measurement at the time the • The quoted price should be used
measurement is made, as well as their without adjustment whenever available
potential impact on future movements [IFRS 13.77], except in the following
in the fair value. situations:
− IFRS 13 provides a practical
In assessing the significance of
expedient for the fair value
unobservable inputs to an asset or
measurement of a large number
liability’s fair value, management
of similar assets or liabilities (for
should: (1) consider the sensitivity of
example, debt securities) for which
the asset or liability’s overall value to
quoted prices in active markets are
changes in the data, and (2) reassess
available but not readily accessible.
the likelihood of variability in the data
A reporting entity may therefore
over the life of the asset or liability.
measure fair value by using an
Additionally, we believe that the
alternative pricing method (for
assessment should be performed on
example, matrix pricing) instead
both an individual and an aggregate
of obtaining quoted prices for each
basis when more than one item of
individual security. If an alternative
unobservable data (or more than one
pricing method is used as a
parameter) is used to measure the
practical expedient, the resulting
fair value of an asset or liability. This
fair value measurement will be
assessment will depend on the facts and
Level 2.
circumstances specific to a given asset
− In some situations, significant
or liability and will require significant
events (for example, principal-to-
professional judgement.
principal transactions, brokered
Given the level of judgement that may trades and announcements) may
be involved, management should occur after the close of a market
document its rationale when the but before the measurement
determination of the classification of date. When that is the case, a
inputs in the fair value hierarchy is not quoted market price may not be
straightforward. In addition, it should representative of fair value on the
develop and consistently apply a policy measurement date. Management
for determining significance. should establish and consistently
apply a policy for identifying and
Things that are not part of fair value incorporating events that may
but for which other literature requires affect fair value measurements. In
management to include in measurement addition, if management adjusts
are not considered when determining the quoted price, the resulting
the hierarchical level – for example, costs measurement will not be classified
to sell in FVLCTS. [IFRS 13.73]. in Level 1 but will be a lower-level
measurement.

20 A practical guide to IFRS – Fair value measurement

PwC observation: The measurement • Level 2: a single broker quote may be
date, as specified in each accounting supported as a Level 2 input if there
standard requiring or permitting fair is observable market information on
value measurements, is the ‘effective’ comparables to support the single
valuation date. A valuation should broker quote, and/or the broker stood
therefore reflect only facts and willing to transact in the security at
circumstances that exist on the that price.
specified measurement date (these • Level 3: a single broker quote is
include events occurring before frequently a Level 3 input if there are
the measurement date or that were no comparables and the quote was
reasonably foreseeable on that date) provided as an indicative value with
so that the valuation is appropriate no commitment to actually transact
for a transaction that would occur on at that price (for example, information
that date. In addition, changes in fair obtained under an agreement to
value after the measurement date are provide administrative pricing support
subsequent events and do not adjust the to a fund for a security purchased
fair value but are only disclosed. from that broker). Such information
will require additional follow-up or
− Consider an entity that is due diligence procedures when used
measuring the fair value of in financial reporting.
its quoted liability or equity
Management should specifically
instrument using the quoted
consider the underlying facts associated
price for the asset. [IFRS 13.79].
with each valuation input in assessing
However, the quoted price may
the appropriate classification in the fair
reflect factors that do not apply to
value hierarchy.
the liability or equity instrument
(see ‘Using quoted prices and
observable inputs’ above). In such Level 2 inputs are inputs other than quoted
cases, the fair value should be prices included within Level 1 that are
adjusted for these factors, and the observable for the asset or liability, either
resulting fair value measurement directly or indirectly. [IFRS 13.81]. Level 2
would be classified in a lower level. inputs include:
• quoted prices for similar assets or
liabilities in active markets;
PwC observation: In certain situations,
• quoted prices for identical or similar
management may only have access to a
assets or liabilities in markets that are
single price source or quote. Apart from
not active;
where the source is transactions on an
• inputs other than quoted prices are
exchange, a single source would not
observable for the asset or liability, for
generally be a Level 1 input, as a single
example:
market-maker would almost by definition
− interest rates and yield curves,
suggest an inactive market. However, in
observable at commonly quoted
some rare cases, a single market-maker
intervals,
dominates the market for a particular
− implied volatilities,
security such that trading in that security
− credit spreads; and
is active but all the activity flows through
• market-corroborated inputs.
that market-maker. In those limited
[IFRS 13.82]
circumstances, a Level 1 determination
may be supported if the broker is IFRS 13.B35 provides the following
standing ready to transact at that price. examples of level 2 inputs:
“(a) Receive-fixed, pay-variable interest rate
In all cases other than the above fact
swap based on the London Interbank
pattern, management should determine
Offered Rate (LIBOR) swap rate. A
if the single broker quote represents a
Level 2 input would be the LIBOR swap
Level 2 or Level 3 input. Key
rate if that rate is observable at
considerations in making this
commonly quoted intervals for
assessment include the following:
substantially the full term of the swap.

A practical guide to IFRS – Fair value measurement 21

 (b) Receive-fixed, pay-variable interest (f) Finished goods inventory at a retail
rate swap based on a yield curve outlet. For finished goods inventory
denominated in a foreign currency. A that is acquired in a business
Level 2 input would be the swap rate combination, a Level 2 input would
based on a yield curve denominated in be either a price to customers in a
a foreign currency that is observable retail market or a price to retailers
at commonly quoted intervals for in a wholesale market, adjusted for
substantially the full term of the differences between the condition
swap. That would be the case if the and location of the inventory item
term of the swap is 10 years and and the comparable (ie similar)
that rate is observable at commonly inventory items so that the fair value
quoted intervals for 9 years, provided measurement reflects the price that
that any reasonable extrapolation would be received in a transaction to
of the yield curve for year 10 would sell the inventory to another retailer
not be significant to the fair value that would complete the requisite
measurement of the swap in its selling efforts. Conceptually, the fair
entirety. value measurement will be the same,
(c) Receive-fixed, pay-variable interest whether adjustments are made to
rate swap based on a specific bank’s a retail price (downward) or to a
prime rate. A Level 2 input would be wholesale price (upward). Generally,
the bank’s prime rate derived through the price that requires the least amount
extrapolation if the extrapolated values of subjective adjustments should be
are corroborated by observable market used for the fair value measurement.
data, for example, by correlation with (g) Building held and used. A Level 2 input
an interest rate that is observable over would be the price per square metre
substantially the full term of the swap. for the building (a valuation multiple)
(d) Three-year option on exchange-traded derived from observable market data,
shares. A Level 2 input would be the eg multiples derived from prices
implied volatility for the shares derived in observed transactions involving
through extrapolation to year 3 if both comparable (ie similar) buildings in
of the following conditions exist: similar locations.
(i) Prices for one-year and two-year (h) Cash-generating unit. A Level 2 input
options on the shares are would be a valuation multiple (eg
observable. a multiple of earnings or revenue
(ii) The extrapolated implied volatility or a similar performance measure)
of a three-year option is derived from observable market data,
corroborated by observable market eg multiples derived from prices
data for substantially the full term in observed transactions involving
of the option. comparable (ie similar) businesses,
In that case the implied volatility could taking into account operational,
be derived by extrapolating from the market, financial and non-financial
implied volatility of the one-year and factors.”
two-year options on the shares and
corroborated by the implied volatility IFRS 13 highlights the following points in
for three-year options on comparable relation to Level 2 inputs:
entities’ shares, provided that • If the asset or liability has a specified
correlation with the one-year and two- (contractual) term, a Level 2 input
year implied volatilities is established. must be observable for substantially
(e) Licensing arrangement. For a the full term of the asset or liability
licensing arrangement that is [IFRS 13.82].
acquired in a business combination
• Adjustments to Level 2 inputs should
and was recently negotiated with
include factors such as the condition
an unrelated party by the acquired
and/or location of the asset or the
entity (the party to the licensing
liability on the measurement date and
arrangement), a Level 2 input would
the volume and level of activity in
be the royalty rate in the contract
the markets within which the inputs
with the unrelated party at inception
are observed. Adjustments are also
of the arrangement.

22 A practical guide to IFRS – Fair value measurement

 required to the extent that inputs
Argentinean interest rate yield curve
do not fully relate to items that are
is correlated to the Chilean interest
comparable to the asset or liability
rate yield curve. Also assume that the
(including those factors in the second
Argentinean yield curve is observable
and third sets of bullets under ‘Inputs
for three years, but the Chilean yield
based on bid and ask prices’ above).
curve is observable for only two years.
An adjustment that is significant to
Management could extrapolate the third
the fair value measurement may place
year of the Chilean yield curve based
the measurement in Level 3 in the fair
on the extrapolation of the Chilean yield
value hierarchy.
curve from years one and two and the
correlation of the third-year Argentinean
PwC observation: Certain inputs
yield curve. In this example, the Chilean
derived through extrapolation or
yield for year three would be considered
interpolation may be corroborated by
a Level 2 input. However, extrapolating
observable market data (for example,
short-term data to measure longer term
extrapolating observable one- and
inputs may require assumptions and
five-year interest rate yields to derive
judgements that cannot be corroborated
three-year yields) and would be
by observable market data and,
considered a Level 2 input.
therefore, may represent a Level 3 input.
For example, assume that the

Example
How would the fair value measurement of a foreign exchange contract be classified in
the fair value hierarchy if it is based on interpolated information?
Assume that the entity prepares its fair value measurement based on interpolation
of observable market data. Key considerations in determining the appropriate
classification within the fair value hierarchy include the following:
• A spot foreign exchange (FX) rate that can be observed through market data as
being active is a Level 1 input.
• A fair value measurement that can be interpolated using externally quoted sources
would generally be a Level 2 valuation. For example, assume that there are
forward prices available for 30- and 60-day FX contracts that qualify as Level 1
inptus and the entity is measuring a 50-day contract. If the price can be derived
through simple interpolation, the resulting measurements is a Level 2 valuation.
However, if the contract length is three years and prices are only available for the
next two years, any extrapolated amount would be considered a Level 3 valuation
(on the assumption that this is significant to the valuation) if there was no other
observable market information to corroborate the pricing inputs in the third year.
Unlike the Chilean interest rates in the previous example, which were corroborated by
the Argentinean yield curve, the FX rate for the third year is not corroborated by any
observable market information in this case.

Level 3 inputs are unobservable inputs for a currency swap are the swap rates
the asset or liability [IFRS 13.86]. calculated from the respective countries’
yield curves.
IFRS 13.B36 provides the following
examples of level 3 inputs: (b) Three-year option on exchange-traded
shares. A Level 3 input would be
“(a) Long-dated currency swap. A Level 3
historical volatility, ie the volatility
input would be an interest rate in a
for the shares derived from the shares’
specified currency that is not observable
historical prices. Historical volatility
and cannot be corroborated by
typically does not represent current
observable market data at commonly
market participants’ expectations
quoted intervals or otherwise for
about future volatility, even if it is the
substantially the full term of the
only information available to price an
currency swap. The interest rates in
option.

A practical guide to IFRS – Fair value measurement 23

 (c) Interest rate swap. A Level 3 input • Level 3 inputs should be developed
would be an adjustment to a mid- using the best information available in
market consensus (non-binding) price the circumstances, which might include
for the swap developed using data an entity’s own data. However, the
that are not directly observable and entity’s own data should be adjusted
cannot otherwise be corroborated by if reasonably available information
observable market data. indicates that other market
(d) Decommissioning liability assumed participants would use different
in a business combination. A Level data. For example, an entity should
3 input would be a current estimate not factor in entity-specific synergies
using the entity’s own data about that are not available to market
the future cash outflows to be paid to participants. An entity need not
fulfil the obligation (including market undertake exhaustive efforts to obtain
participants’ expectations about the information about market participant
costs of fulfilling the obligation and assumptions [IFRS 13.89].
the compensation that a market IFRS 13 permits the use of prices quoted
participant would require for taking by third parties (for example, pricing
on the obligation to dismantle the services and brokers), subject to the
asset) if there is no reasonably following:
available information that indicates
• The reporting entity should determine
that market participants would use
that these prices are developed in
different assumptions. That Level 3
accordance with IFRS 13 requirements
input would be used in a present value
[IFRS 13.B45], including those
technique together with other inputs,
requirements regarding significant
e.g. a current risk-free interest rate or
decrease in the volume/level of activity
a credit-adjusted risk-free rate if the
[IFRS 13.B46];
effect of the entity’s credit standing on
the fair value of the liability is reflected • Less weight is placed on quotes that
in the discount rate rather than in the do not reflect the result of transactions
estimate of future cash outflows. [IFRS 13.B46]; and
(e) Cash-generating unit. A Level 3 input • The nature of a quote (for example,
would be a financial forecast (e.g. of whether it is an indicative price or a
cash flows or profit or loss) developed binding offer) should be considered;
using the entity’s own data if there is more weight is given to binding offers.
no reasonably available information [IFRS 13.B47].
that indicates that market participants
would use different assumptions.” PwC observation: Many reporting
IFRS 13 highlights the following points in entities obtain information from pricing
relation to level 3 inputs: services − such as Bloomberg,
Interactive Data Corporation, Loan
• Used only when observable inputs are
Pricing Corporation, Markit’s Totem
not available [IFRS 13.87].
Service, broker pricing information and
• Fair value measurement objective similar sources − for use as inputs in
is to derive an exit price at the their fair value measurements. The
measurement date from the information provided by these sources
perspective of a market participant that could be any level in the fair value
holds the asset or owes the liability. hierarchy, depending on the source of
Fair value measurements should the information for a particular security.
therefore reflect the assumptions that Classification within the hierarchy is
market participants would use when further discussed as follows:
pricing the asset or liability, including
assumptions about risk [IFRS 13.87]. Level 1 inputs
• Both the risk inherent in a particular Generally, for a price or other input
valuation technique used to measure to qualify as Level 1 in the fair value
fair value (such as a pricing model) hierarchy, management should be able
and the risk inherent in the inputs to obtain the price from multiple sources.
to the valuation technique should be Level 1 inputs relate to items traded on
considered [IFRS 13.88].

24 PwC – A practical guide to new IFRSs for 2011

an exchange or an active index/market to support classification of an input
location. as Level 2. A broker quote for which
the broker does not stand ready to
Level 2 and Level 3 inputs
transact cannot be corroborated with an
In some cases, reporting entities may internal model populated with Level 3
rely on pricing services or published information, or with additional indicative
prices that represent a consensus broker quotes to support a Level 2
reporting of multiple brokers. It may classification. However, there may be
not be clear if the prices provided can other instances where pricing information
be transacted upon. In order to can be corroborated by market evidence,
support an assertion that a broker resulting in a Level 2 input.
quote or information obtained from a
Other considerations
consensus pricing service represents a
Level 2 input, the management should Ultimately, it is management’s
typically perform due diligence to responsibility to determine the
understand how the price was appropriateness of its fair value
developed, including understanding the measurements and their classification
nature and observability of the inputs in the fair value hierarchy, including
used to determine that price. Additional instances where pricing services are
corroboration could include: used. Therefore, reporting entities
• Discussions with pricing services, that use pricing services will need to
dealers or other companies to understand how the pricing information
obtain additional prices of has been developed and obtain sufficient
identical or similar assets to information to be able to determine
corroborate the price; where instruments fall within the fair
value hierarchy and that it was computed
• Back-testing of prices to determine in a manner that represents an exit price.
historical accuracy against actual
transactions; or Examples

• Comparisons to other external or A pricing service could provide quoted

internal valuation model outputs. prices for an actively traded equity
security, which would be Level 1 inputs if
The level of due diligence performed corroborated by the reporting entity. The
is highly dependent on the facts and same pricing service may also provide
circumstances, such as the type and a corporate bond price based on matrix
complexity of the asset or liability pricing, which may constitute a Level
being measured, as well as its 2 or Level 3 input depending on the
observability and liquidity in the information used in the model.
marketplace. Generally, the more
unique the asset or liability being In another example, a reporting entity
measured and the less liquid it is, the may obtain a price from a broker for a
more due diligence will be necessary to residential mortgage-backed security.
corroborate the price in order to support The reporting entity may be fully aware
classification as a Level 2 input. of the depth and liquidity of the security’s
trading in the marketplace based on
When performing due diligence, its historical trading experience. In
management should clearly document addition, the pricing methodology for
the assessment performed in arriving the security may be common and well
at its conclusions. Without additional understood (for example, matrix pricing),
supporting information, prices and therefore less due diligence may be
obtained from a single or multiple required. However, a similar conclusion
broker sources or a pricing service may not be appropriate in all instances
are indicative values or proxy quotes; (for example, a collateralised debt
we believe such information generally obligation that is not frequently traded
represents Level 3 inputs. and does not have liquidity in
Finally, management must have some the marketplace).
higher-level (that is, observable) data

PwC – A practical guide to new IFRSs for 2011 25

 Inactive markets and non- market data about credit and other
non-performance risk for the asset or
orderly transactions liability.
Measuring fair value when the • There is a wide bid-ask spread or
volume or level of activity for an significant increase in the bid-ask
asset or a liability has significantly spread.
decreased • There is a significant decline in
The flowchart below highlights the the activity of, or there is an
considerations in determining the level of absence of, a market for new issues
reliance on market prices. (that is, a primary market) for the
asset or liability or similar assets
The following factors should be considered or liabilities.
in determining whether there has been a • Little information is publicly
significant decrease in the volume or level available (for example, for
of activity (relative to the normal market transactions that take place in a
activity): principal-to-principal market).
• There are few recent transactions. [IFRS 13.B37]
• Price quotations are not developed
using current information. PwC observation: Many of the factors
• Price quotations vary substantially noted above that are indicative of
either over time or among market- significant decreases in market volume
makers (for example, some brokered and activity levels are also listed in a
markets). non-authoritative Expert Advisory Panel
published by the IASB in October 2008.
• Indices that were previously highly
The whitepaper describes practices
correlated with the fair values of the
for measuring the fair value of financial
asset or liability are demonstrably
instruments when markets are no longer
uncorrelated with recent indications of
active and the fair value disclosures that
fair value for that asset or liability.
could be made in those situations.
• There is a significant increase in
implied liquidity risk premiums, yields
If there has been a significant decrease
or performance indicators (such as
in the volume or level of activity, further
delinquency rates or loss severities)
analysis is needed. The entity may
for observed transactions or quoted
conclude that:
prices when compared with the
entity’s estimate of expected cash • The transaction or quoted price still
flows, taking into account all available represents fair value. A decline in

Significant decrease in No
Transaction price is fair value
volume/level of activity

Yes
Transaction price is considered
in fair value. However changes
Yes in valuation techniques, multiple
Orderly transaction ? valuation techniques, changes
in fair value weightings, or ad-
ditonal adjustments may be
necessary.
No Cannot
determine
Consider transaction price, but
Little or no weight on
place more weight on other
transaction price
orderly transactions.

26 PwC – A practical guide to new IFRSs for 2011

 volume/activity, on its own, may not Identifying transactions that are not
indicate that the quoted price does not orderly
represent fair value.
It is not appropriate to conclude that all
• The transaction or quoted price does
transactions in a market are not orderly
not represent fair value. In such cases,
simply due to a significant decrease in
an adjustment is required if:
volume/level of activity. Indications that
− those prices are still used as the
transactions are not orderly include:
basis for measuring fair value and
the adjustment may be significant • There was inadequate exposure
to the fair value measurement; and to the market for a period before
− other circumstances necessitate the the measurement date to allow for
adjustment – for example, when marketing activities that are usual and
a price for a similar asset requires customary for transactions involving
significant adjustment to make such assets or liabilities under current
it comparable to the asset being market conditions.
measured or when the price is • There was a usual and customary
stale. marketing period, but the seller
• The transaction is not orderly. marketed the asset or liability to a
[IFRS 13.B38]. single market participant.
When the decrease in volume/activity • The seller is in or near bankruptcy
necessitates an adjustment, IFRS 13 or receivership (that is, the seller is
requires the following: distressed).
• Appropriate risk adjustments should be • The seller was required to sell to meet
included for the uncertainty inherent regulatory or legal requirements (that
in the cash flows, even when such is, the seller was forced).
adjustments are difficult to determine. • The transaction price is an outlier
[IFRS 13.B39]. when compared with other recent
• A change in valuation technique or the transactions for the same or a similar
use of multiple valuation techniques asset or liability.
may be appropriate in such situations. [IFRS 13.B43].
When multiple techniques result in IFRS 13 does not require exhaustive
a wide range of fair values resulting, efforts to determine whether a transaction
further analysis may be required. is orderly, but reasonably available
[IFRS 13.B40]. information should not be ignored. If
• The objective of a fair value the entity is a party to a transaction, it is
measurement remains the same − presumed to have sufficient information
that is, to determine the price that to conclude whether the transaction is
would be received to sell an asset orderly. [IFRS 13.B44].
or paid to transfer a liability in an
Little, if any, weight is given to
orderly transaction between market
transactions that are not orderly. The
participants at the measurement date
amount of weight placed on an orderly
under current market conditions
transaction price will depend on
[IFRS 13.B41].
transaction volume, comparability of the
However, IFRS 13 does not specify a transaction to the asset or liability being
methodology for making such adjustments measured, proximity of the transaction
[IFRS 13.B39]. to the measurement date, and other facts
and circumstances. If there is insufficient
An entity’s intention to hold an asset
information to conclude whether or not a
or settle a liability is not considered in
transaction is orderly, the transaction price
measuring fair value, as fair value is a
is considered but given a lower weighting
market-based measurement, not an entity-
than other, orderly, transactions.
specific measurement. [IFRS 13.B42].
[IFRS 13.B44].

PwC – A practical guide to new IFRSs for 2011 27

 Disclosures ‘Classes’ of asset and liability

Disclosure objectives Similar to IFRS 7, IFRS 13 requires

disclosures by ‘classes of assets and
IFRS 13 requires disclosure of sufficient liabilities’. Grouping assets and liabilities
information to help financial statement into classes is a judgemental exercise
users to assess: based on:
• valuation techniques and inputs used • the nature, characteristics and risks
to develop both recurring and non- of the asset or liability; and
recurring measurements of assets and • the level of the fair value hierarchy
liabilities carried at fair value after within which the fair value
initial recognition; and measurement is categorised.
• the effect on profit or loss or other [IFRS 13.94]
comprehensive income of recurring
level 3 fair value measurements. In addition, IFRS 13 states that:
[IFRS 13.91]. • More classes may be required for
Level 3 fair value measurements as
Recurring fair value measurements of those fair values are exposed to
assets or liabilities are those that other more uncertainty and subjectivity.
IFRSs require or permit in the statement
• IFRS 13 classes will often be more
of financial position at the end of each
disaggregated than balance sheet
reporting period (for example, financial
line items.
instruments in IAS 39 or biological assets
in IAS 41). • Sufficient information should be
provided to permit reconciliation to
Non-recurring fair value measurements balance sheet line items.
of assets or liabilities are those that
• If another IFRS specifies the classes,
other IFRSs require or permit in the
those classes may be used if they
statement of financial position in particular
meet the above requirements (for
circumstances (for example, when an
example, IFRS 7).
entity measures an asset held for sale at
fair value less costs to sell in accordance [IFRS 13.94].
with IFRS 5). Minimum disclosures
Additional disclosures beyond the The following are the minimum
minimum requirements may be required to disclosures for each class of asset and
meet these objectives. The reporting entity liability measured at fair value after
should also consider: initial recognition [IFRS 13.93]:
• the level of detail necessary; (a) for recurring and non-recurring
• the level of emphasis on each fair value measurements, the fair
requirement; value measurement at the end of
• the degree of aggregation or the reporting period (see table ‘Fair
disaggregation; and value measurements at the end of the
reporting period’ below);
• whether or not additional information
is needed to evaluate the quantitative
disclosures.
[IFRS 13.92].

28 A practical guide to IFRS – Fair value measurement

Example − Fair value measurements at the end of the reporting
(CU in millions) Fair value measurements at the end of the reporting period using
Quoted prices in
active markets for Significant other Significant Total
identical assets observable inputs unobservable gains
Description 31/12/X9 (Level 1) (Level 2) inputs (Level 3) (losses)
Recurring fair value measurements
Trading equity securities(a):
Real estate industry 93 70 23
Oil and gas industry 45 45
Other 15 15
Total trading equity securities 153 130 23
Other equity securities(a):
Financial services industry 150 150
Healthcare industry 163 110 53
Energy industry 32 32
Private equity fund investments(b) 25 25
Other 15 15
Total other equity securities 385 275 110
Debt securities:
Residential mortgage-backed securities 149 24 125
Commercial mortgage-backed 50 50
securities
Collateralised debt obligations 35 35
Risk-free government securities 85 85
Corporate bonds 93 9 84
Total debt securities 412 94 108 210
Hedge fund investments:
Equity long/short 55 55
Global opportunities 35 35
High-yield debt securities 90 90
Total hedge fund investments 180 90 90
Derivatives:
Interest rate contracts 57 57
Foreign exchange contracts 43 43
Credit contracts 38 38
Commodity futures contracts 78 78
Commodity forward contracts 20 20
Total derivatives 236 78 120 38

Investment properties:
Commercial − Asia 31 31
Commercial − Europe 27 27
Total investment properties 58 58
Total recurring fair value measurements 1,424 577 341 506

Non-recurring fair value measurements

Assets held for sale(c) 26 26 (15)
Total non-recurring fair value
measurements 26 26 (15)

(a) On the basis of its analysis of the nature, characteristics and risks of the securities, the entity has determined that presenting
them by industry is appropriate.
(b) (b) On the basis of its analysis of the nature, characteristics and risks of the investments, the entity has determined that
presenting them as a single class is appropriate.
(c) (c) In accordance with IFRS 5, assets held for sale with a carrying amount of CU35 million were written down to their fair
value of CU26 million, less costs to sell of CU6 million (or CU20 million), resulting in a loss of CU15 million, which was
included in profit or loss for the period.
(Note: A similar table would be presented for liabilities unless another format is deemed more appropriate by the entity.)

A practical guide to IFRS – Fair value measurement 29

 (b) for non-recurring fair value be deemed to occur on the date of the
measurements, the reasons for the event or change in circumstances that
measurement; caused the transfer, the beginning of
(c) for recurring and non-recurring fair the reporting period or the end of the
value measurements, the level in which reporting period. [IFRS 13.95].
they are categorised in the fair value (e) for recurring/non-recurring Level
hierarchy; 2 and 3 fair value measurements, a
(d) for assets and liabilities held at the description of the valuation techniques
end of the reporting period that are and the inputs used;
measured at fair value on a recurring (f) changes in valuation technique (for
basis, the amounts of any transfers example, changing from market to
between Level 1 and Level 2, reasons income approach, or using additional
for those transfers and the policy for valuation techniques) and reasons for
determining when those transfers the change;
occur. Transfers into each level should (g) quantitative information about
be disclosed and discussed separately significant unobservable inputs used
from transfers out of each level. For in Level 3 fair values, unless those
this disclosure and in (h) below, the inputs are not developed by the
policy for determining timing of reporting entity when measuring fair
transfers between fair value levels value (for example, when an entity
should be consistently followed uses unadjusted prices from prior
and disclosed. The policy should be transactions or third-party pricing
consistent between transfers into and information) and are not reasonably
out of each level. Such transfers could available to the reporting entity;

30 A practical guide to IFRS – Fair value measurement

Example – Valuation techniques and inputs [IFRS 13.IE63-IE64]
An entity might disclose the information in the table below for assets to comply with the requirement
above to disclose the significant unobservable inputs used in the fair value measurement:
Quantitative information about fair value measurements using significant unobservable inputs (Level 3)
(CU in millions)
Fair value Valuation Range (weighted
Description at 31/12/X9 technique(s) Unobservable input average)
Other equity securities:
Healthcare industry 53 Discounted cash flow Weighted average cost of capital 7%-16% (12.1%)
Long-term revenue growth rate 2%-5% (4.2%)
Long-term pre-tax operating margin 3%-20% (10.3%)
Discount for lack of marketability(a) 5%-20% (17%)
Control premium(a) 10%-30% (20%)
Market-comparable EBITDA multiple(b) 10-13 (11.3)
companies Revenue multiple(b) 1.5-2.0 (1.7)
Discount for lack of marketability(a) 5%-20% (17%)
Control premium(a) 10%-30% (20%)
Energy industry 32 Discounted cash flow Weighted average cost of capital 8%-12% (11.1%)
Long-term revenue growth rate 3%-5.5% (4.2%)
Long-term pre-tax operating margin 7.5%-13% (9.2%)
Discount for lack of marketability(a) 5%-20% (10%)
Control premium(a) 10%-20% (12%)
Market- comparable EBITDA multiple(b) 6.5-12 (9.5)
companies Revenue multiple(b) 1.0-3.0 (2.0)
Discount for lack of marketability(a) 5%-20% (10%)
Control premium(a) 10%-20% (12%)
Private equity fund
investments 25 Net asset value(c) n/a n/a
Debt securities:
Residential mortgage- 125 Discounted cash flow Constant prepayment rate 3.5%-5.5% (4.5%)
backed securities Probability of default 5%-50% (10%)
Loss severity 40%-100% (60%)
Commercial mortgage- 50 Discounted cash flow Constant prepayment rate 3%-5% (4.1%)
backed securities Probability of default 2%-25% (5%)
Loss severity 10%-50% (20%)
Collateralised debt
obligations 35 Consensus pricing Offered quotes 20-45
Comparability adjustments (%) -10% to +15% (+5%)
Hedge fund investments:
High-yield debt securities 90 Net asset value(c) n/a n/a
Derivatives:
Credit contracts 38 Option model Annualised volatility of credit(d) 10%-20%
Counterparty credit risk(e) 0.5%-3.5%
Own credit risk(e) 0.3%-2.0%
Investment properties:
Commercial – Asia 31 Discounted cash flow Long-term net operating income 18%-32% (20%)
Cap rate 0.08-0.12 (0.10)
Market- comparable $3,000-$7,000
approach Price per square metre (USD) ($4,500)
Long-term net operating
Commercial – Europe 27 Discounted cash flow income margin 15%-25% (18%)
Cap rate 0.06-0.10 (0.80)
Market comparable
approach Price per square metre (EUR) 4,000-12,000 (8,500)

a) Represents amounts used when the entity has determined that market participants would take into account these
premiums and discounts when pricing the investments.
b) Represents amounts used when the entity has determined that market participants would use such multiples when pricing
the investments.
c) The entity has determined that the reported net asset value represents fair value at the end of the reporting period.
d) Represents the range of the volatility curves used in the valuation analysis that the entity has determined market
participants would use when the pricing contracts
e) Represents the range of the credit default swap spread curves used in the valuation analysis that the entity has determined
market participants would use when pricing the contracts.
(Note: A similar table would be presented for liabilities unless another format is deemed more appropriate by the entity.)
(Continued)

PwC – A practical guide to new IFRSs for 2011 31

 (Continued)
In addition, an entity should provide additional information that will help users of its
financial statements to evaluate the quantitative information disclosed. An entity
might disclose some or all the following to comply with IFRS 13.92:
• The nature of the item being measured at fair value, including the characteristics
of the item being measured that are taken into account in the determination of
relevant inputs. For example, for residential mortgage-backed securities, an entity
might disclose the following: (i) the types of underlying loans (for example,
prime loans and sub-prime loans); (ii) collateral; (iii) guarantees or other credit
enhancements; (iv) seniority level of the tranches of securities; (v) the year of
issue; (vi) the weighted-average coupon rate of the underlying loans and the
securities; (vii) the weighted-average maturity of the underlying loans and the
securities; (viii) the geographical concentration of the underlying loans; and (ix)
information about the credit ratings of the securities.
• How third-party information such as broker quotes, pricing services, net asset
values and relevant market data was taken into account when measuring fair
value.

(h) for recurring Level 3 fair values, a iii. purchases, sales, issues and
reconciliation from the opening to settlements (each disclosed
the closing balances, disclosing separately);
separately the following changes iv. amounts of any transfers into
during the period: and out (inward and outward
i. total gains/losses in profit or loss, transfers separately disclosed)
and the line items in which they of Level 3, the reasons for those
are recognised; transfers, and the entity’s policy
ii. total gains/losses in other for determining when transfers
comprehensive income, and between levels are deemed to
the line items in which they are have occurred;
recognised;

32 PwC – A practical guide to new IFRSs for 2011

Example – Reconciliation of fair value measurements categorised within Level 3 of the fair
value hierarchy [IFRS 13.IE61-62]

An entity might disclose the following for assets to comply with the above requirement to disclose the
reconciliation:
Gains and losses included in profit or loss for the period (above) are presented in financial income and in
non-financial income as follows:
Debt Hedge fund Investment
Other equity securities securities investments Derivatives properties
Residential Commercial
Private mortgage mortgage- Collateral- High-
Healthcare Energy equity -backed backed ised debt yield debt Credit
industry industry fund securities securities obligations securities contracts Asia Europe Total
Opening balance: 49 28 20 105 39 25 145 30 28 26 495
Transfers into
Level 3 60(a)/(b) 60
Transfers out of
Level 3 (5)(b)/(c) 5
Total gains or
losses for the
period
− Included in
profit or loss 5 (23) (5) (7) 7 5 3 1 (14)
− Included
in other
comprehensive
income 3 1 4
Purchases,
issues, sales and
settlements:
− Purchases 1 3 16 17 18 55
− Issues
− Sales (12) (62) (74)
− Settlements (15) (15)
Closing balance: 53 32 25 125 50 35 90 38 31 27 506
Change in unrealised gains or
losses for the period included
in profit or loss for assets held
at the end of the reporting
period 5 (3) (5) (7) (5) 2 3 1 (9)

(a) Transferred from Level 2 to Level 3 because of a lack of observable market data, resulting from a decrease in market activities
for the securities.
(b) The entity’s policy is to recognise transfers into and transfers out of Level 3 as of the date of the event or change in
circumstances that caused the transfer.
(c) Transferred from Level 3 to Level 2 because observable market data became available for the securities.
(Note: A similar table would be presented for liabilities unless another format is deemed more appropriate by the entity.)

(C in millions) Financial income Non-financial income

Total gains or losses for the period included in profit or loss (18) 4

Change in unrealised gains or losses for the period included in the profit
or loss for assets held at the end of the reporting period (13) 4

(Note: A similar table would be presented for liabilities unless another format is deemed more appropriate by the entity.)

(i) for recurring Level 3 fair values, (j) for recurring and non-recurring
amount of unrealised gains/losses Level 3 fair values, a description of
in profit or loss, and the line items valuation processes (including how
in which those unrealised gains/ an entity decides its valuation policies
losses are recognised; and procedures and analyses periodic
changes in fair value measurements);

PwC – A practical guide to new IFRSs for 2011 33

 Example – Valuation processes [IFRS 13.IE65]
An entity might disclose the following to comply with the requirement to disclose a
description of the valuation processes used by the entity:
• for the group within the entity that decides the entity’s valuation policies and
procedures: (i) its description; (ii) to whom that group reports; and (iii) the
internal reporting procedures in place (for example, whether and, if so, how
pricing, risk management or audit committees discuss and assess the fair value
measurements);
• the frequency and methods for calibration, back-testing and other testing
procedures of pricing models;
• the process for analysing changes in fair value measurements from period to
period;
• how the entity determined that third-party information, such as broker quotes or
pricing services, used in the fair value measurement was developed in accordance
with the IFRS; and
• the methods used to develop and substantiate the unobservable inputs used in a
fair value measurement.

(k) for recurring Level 3 fair values: liabilities significantly, disclose:

i. a narrative description of the • that fact;
sensitivity to unobservable inputs • the effect of those changes; and
that significantly affect the fair • how the effect of a change to
value; reflect a reasonably possible
ii. description of interrelationships alternative assumption was
between unobservable inputs and calculated.
how these affect the sensitivity; Significance is judged with respect
iii. if changing unobservable inputs to profit or loss, and total assets or
to reasonably possible alternatives total liabilities, or, when changes in
would change the fair values fair value are recognised in other
of financial assets and financial comprehensive income, total equity;

Example – Information about sensitivity to changes in significant unobservable

inputs [IFRS 13.IE66]
An entity might disclose the following about its residential mortgage-backed securities
to comply with the above requirement (that is, to provide a narrative description of the
sensitivity of the fair value measurement to changes in significant unobservable inputs
and a description of any interrelationships between those unobservable inputs):
“The significant unobservable inputs used in the fair value measurement of the entity’s
residential mortgage-backed securities are prepayment rates, probability of default and
loss severity in the event of default. Significant increases (decreases) in any of those
inputs in isolation would result in a significantly lower (higher) fair value measurement.
Generally, a change in the assumption used for the probability of default is accompanied
by a directionally similar change in the assumption used for the loss severity and a
directionally opposite change in the assumption used for prepayment rates.”

34 PwC – A practical guide to new IFRSs for 2011

(l) the fact that the highest and best use comparative information relating to
of a non-financial asset differs from periods before initial application are
current use, if this is the case, and the not required.
reason for such difference;
(m) an accounting policy decision to fair Potential business
value financial assets and liabilities
with offsetting positions on a net basis
impacts
(see ’Offsetting positions in market or In many cases, entities should not
counterparty credit risk’ above) experience significant measurement
[IFRS 13.96]; changes as a result of IFRS 13, because
(n) for each class of assets and liabilities most of IFRS 13 is a codification of
not measured at fair value but for existing valuation practices. However,
which fair value is disclosed, the where an entity is affected, the change to
information required by above fair value amounts could impact both the
paragraphs (c), (e), (f) and (l) only recognised amounts in profit and loss (for
[IFRS 13.97]; example, revenues and expenses), as well
(o) when a liability measured at fair as the balance sheet presentation.
value is issued with an inseparable
third-party credit enhancement, the IFRS 13 introduces significant increases in
existence of that credit enhancement disclosure requirements. Reporting entities
and whether it is reflected in the fair need to examine the additional disclosure
value of the liability [IFRS 13.98]; and requirements and put in place systems
(p) the quantitative disclosures required and processes to capture the required
above are presented in a tabular information for such disclosures.
format unless another format is more
appropriate. [IFRS 13.99]. More information
The final standard, illustrative
Effective date examples and basis of conclusions, as
IFRS 13 has an effective date of 1 January well as a summary of all decisions
2013 and is applied prospectively. Early reached by the board throughout the
application is permitted but should project, can be found on the IASB website
be disclosed. IFRS 13 disclosures for at www.iasb.org/home.

PwC – A practical guide to new IFRSs for 2011 35