1. Fair value measurement
Gianluca Russo
Rome, 16th March 2019

2. Agenda Overview and definition; Measurement and its hierarchy;
Fair value measurement framework;
Fair value measurement framework: unit of account;
Valuation: approaches and techniques;
Fair value measurement for tangible assets;
Fair value measurement for intangible assets;
Final questions.
16th March 2019
Fair value measurement

3. Overview and definition
IFRS 13 provides a principles-based framework for measuring fair value in IFRS. This is based on a number of key concepts including unit of account; exit price; valuation premise; highest and best use; principal market; market participant assumptions and the fair value hierarchy;
IFRS 13.9 states ”Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date”
The definition of fair value in IFRS 13 is based on an exit price notion, which incorporates the following key concepts:
Fair value is the price to sell an asset or transfer a liability, and therefore represents an exit price, not an entry price.
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Fair value measurement

4. Overview and definition
The exit price for an asset or liability is conceptually different from its transaction price (an entry price). While exit and entry price may be identical in many situations, the transaction price is not presumed to represent the fair value of an asset or liability on its initial recognition;
Fair value is an exit price in the principal market i.e., the market with the highest volume and level of activity. In the absence of a principal market, it is assumed that the transaction would occur in the most advantageous market. This is the market that would maximise the amount that would be received to sell an asset or minimise the amount that would be paid to transfer a liability, taking into consideration transport and transaction costs. In either case, the entity must have access to the market on the measurement date;
Fair value is a market-based measurement, not an entity-specific measurement. When determining fair value, management uses the assumptions that market participants would use when pricing the asset or liability. However, an entity need not identify specific market participants;
Fair value measurements should not be adjusted for transaction costs;
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Fair value measurement

5. Measurement and its hierarchy
The fair value hierarchy classifies the inputs used to measure fair value into three levels, which are described below:
Level 1
Level 2
Level 3
Definition
Quoted prices (unadjusted) in active markets for identical assets or liabilities that the entity can access at the measurement date
Inputs other than quoted prices included within level 1 that are observable for the asset or liability, either directly or indirectly
Unobservable inputs for the asset or liability
Example
The price for a financial asset or financial liability for the identical asset is traded on an active market (e.g., London Stock Exchange)
Interest rates and yield curves observable at commonly quoted intervals, implied volatilities, and credit spreads
Projected cash flows used in a discounted cash flow calculation
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Fair value measurement

6. Measurement and its hierarchy
Valuation techniques used to measure fair value must maximise the use of relevant observable inputs and minimises the use of unobservable inputs. The best indication of fair value is a quoted price in an active market (i.e., “a market in which transactions for the asset or liability take place with sufficient frequency and volume to provide pricing information on an ongoing basis”);
The fair value hierarchy focuses on prioritising the inputs used in valuation techniques, not the techniques themselves. While the availability of inputs might affect the valuation technique(s) selected to measure fair value, IFRS 13 does not prioritise the use of one technique over another (with the exception of the requirement to measure identical financial instruments that trade in active markets at PxQ). The determination of the valuation technique(s) to be used requires significant judgement and will be dependent on the specific characteristics of the asset or liability being measured and the principal (or most advantageous) market in which market participants would transact for the asset or liability;
It is important to understand that the determination of the hierarchy level in which the fair value measure falls is based on the fair value measurement for the specific item being measured, which will be dependent on the unit of account for the asset or liability.
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Fair value measurement

7. Debrief: polling question 1
As a result of first glance to IFRS 13 and Fair Value Measurement, which statement(s) is (are) correct?
The fair value is not an entry price;
The fair value is an exit price;
The fair value hierarchy is a list linked to input to be adopted by the entity in order to ensure a best indication of fair value;
One of the limit of fair value measurement is that give – as result – only a single amount (and not a range of data);
All the above
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Fair value measurement

8. Fair value measurement framework
In addition to providing a single definition of fair value, IFRS 13 (par.B2) also includes a framework for applying this definition to financial reporting. Many of the key concepts used in the fair value framework are interrelated and their interaction should be considered in the context of the entire approach. The following diagram illustrates our view of the interdependence of the various components of the fair value measurement framework in IFRS 13.
IFRS 13 clarifies that the concepts of ‘highest and best use’ and ‘valuation premise’ are only applicable when determining the fair value of non-financial assets. Therefore, the fair value framework is applied differently to non-financial assets versus other items, such as financial instruments, non-financial liabilities and instruments classified in a reporting entity’s shareholders’ equity
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Fair value measurement

9. Fair value measurement framework: unit of account
The identification of exactly what asset or liability is being measured is fundamental to determining its fair value. Fair value may need to be measured for either:
A stand-alone asset or liability (e.g., a financial instrument or an operating asset), or;
A group of assets, a group of liabilities, or a group of assets and liabilities (e.g., a cash- generating unit or a business)
The unit of account defines what is being measured for financial reporting purposes. It is an accounting concept that determines the level at which an asset or liability is aggregated or disaggregated for the purpose of applying IFRS 13, as well as other standards.
IFRS 13 does specify the unit of account to be used when measuring fair value in relation to a reporting entity that holds a position in a single asset or liability that is traded in an active market (including a position comprising a large number of identical assets or liabilities, such as a holding of financial instruments). In this situation, IFRS 13 requires an entity to measure the asset or liability based on the product of the quoted price for the individual asset or liability and the quantity held (price x quantity, PxQ).
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Fair value measurement

10. Valuation: approaches and techniques
The valuation techniques adopted by the entities to determine the amount of fair value are various and linked to the approach chosen. As mentioned before, the techniques is totally independent from inputs used that are classified in the hierarchy included in the standard.
The following table shows generally adopted techniques linked to related approach
Valuation approaches
Valuation techniques
Market approach
Transaction price paid for an identical or a similar instrument of an investee
Comparable company valuation multiples
Income approach
Discounted cash flow (DCF) method
Dividend discount model (DDM)
Constant-growth DDM
Capitalisation model
A combination of approaches may be used
Adjusted net asset method
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Fair value measurement

11. Fair value measurement for tangible assets
Tangible assets in a single financial statements could fall in two separate standards depending on the allocation given:
IAS 40 - Investment Property applies to the accounting for property (land and/or buildings) held to earn rentals or for capital appreciation (or both). Investment properties are initially measured at cost and, with some exceptions may be subsequently measured using a cost model or fair value model, with changes in the fair value under the fair value model being recognised in profit or loss;
IAS 16 - Property, Plant and Equipment outlines the accounting treatment for most types of property, plant and equipment. Property, plant and equipment is initially measured at its cost, subsequently measured either using a cost or revaluation model, and depreciated so that its depreciable amount is allocated on a systematic basis over its useful life.
Fair value
IAS 40
Fair value measured each year
IAS 16
Fair value measured only in case of impairment indicator (IAS 36)
Book Value
Market value
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Fair value measurement

12. Fair value measurement for tangible assets Example 1
In year N, a company has purchased a building for 200,000 €, €, depreciated on straight-line basis over 50 years, a plant for € and a machinery for 20,000 useful for 10 years, and office equipment for 3,000 €, depreciated over 3 years.
What is the book value of each of those assets in N+1 and N+2 assuming they are depreciated on a straight line basis ?
Knowing that the N+1 market values are: 200,000€ for the building, 72,000 € for the plant, 12,000€ for the machinery and 1,500 € for the office equipment, applying the revaluation model can the company revaluate at fair value some assets? If yes, which and for what amount?
Knowing that the N+2 market values are: 200,000€ for the building, 66,000€ for the plant, 10,000€ for the machinery and 1,000€ for the office equipment, applying the revaluation model can the company revaluate at fair value some assets? If yes, which and for what amount?
Please, indicate the value which should be recorded for each of those asset during the 2 years (that is the carrying amount in the balance sheet at the end of N+1 and N+2)
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Fair value measurement

13. Fair value measurement for tangible assets Example 1
Cost
Time horizon
Yearly
Depreciation
BV N+1
BV N+2
Building
200,000 € 50
4,000 €
196,000 €
192,000 €
Plant
80,000 € 10
8,000 €
72,000 €
64,000 €
Machinery
20,000 €
2,000 €
18,000 €
16,000 €
Office equipment
3,000 € 3
1,000 €
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Fair value measurement

14. Fair value measurement for tangible assets Example 1
Year 1 
BV N+1
Fair value
Carrying amount (balance sheet)
Revaluation/
Impairment
Building
196,000 €
200,000 €
4,000 €
Plant
72,000 € -
Machinery
18,000 €
Office equipment
2,000 €
1,500 €
(500 €)
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Fair value measurement

15. Fair value measurement for tangible assets Example 1
Year 2 
BV N+2
Fair value
Carrying amount (balance sheet)
Revaluation/
Impairment
Building
192,000 €
200,000 €
8,000 €
Plant
64,000 €
66,000 €
2,000 €
Machinery
16,000 €
10,000 €
(6,000 €)
Office equipment
1,000 €
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Fair value measurement

16. Fair value measurement for tangible assets Example 1
Carrying amount N
Carrying amount (N+1)
Carrying amount (N+2)
Building
200,000 €
Plant
80,000 €
72,000 €
66,000 €
Machinery
20,000 €
18,000 €
10,000 €
Office equipment
1,000 €
1,500 €
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Fair value measurement

17. Fair value measurement for intangible assets Example 2
In year N, a company has purchased software licenses for an amount of € 250,000 which will be amortized on a straight-line basis in five years. Each year the company determine the recoverable amount* of mentioned licenses
Please determine, for each year, the carrying amount to be included in balance sheet based on following information:
* Recoverable amount is the higher between value in use and fair value less cost of disposal.
Amounts in Euro
Fair value year N
200,000
Fair value year N+1
180,000
Fair value year N+2
120,000
Fair value year N+3
60,000
Fair value year N+4
35,000
Fair value year N+5
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Fair value measurement

18. Fair value measurement for intangible assets Example 2
Year  
Carrying amount
Amortization
Net book value
Fair value N
250,000
50,000
200,000
N+1
150,000
180,000
N+2
100,000
90,000
N+3
30,000
60,000
N+4
35,000
N+5 -
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Fair value measurement

19. Final questions When an asset has to been impaired?
When the useful life is > 5 years;
When the fair value is lower than the carrying amount;
When the recoverable amount is lower than the carrying amount;
All the above;
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Fair value measurement

20. Final questions
Which level of fair value hierarchy include quoted prices in active markets?
Level 1;
Level 2;
Level 3;
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Fair value measurement

21. Final questions
When the concept of «highest and best use» is applicable?
For valutation of fair value related to non-financial assets;
For valuation of fair value of financial assets;
Both A and B are correct;
Based on experience of entity’s Directors
16th March 2019
Fair value measurement