CHAPTER FIVE

FAIRVALUE MEASUREMENT (IFRS 13)

IFRS 13 defines fair value as 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 asset or liability
A fair value measurement is for a particular asset or liability. Therefore, when measuring fair
value an entity shall take into account the characteristics of the asset or liability if market
participants would take those characteristics into account when pricing the asset or liability at the
measurement date. Such characteristics include, for example, the following:
(a) The condition and location of the asset; and
(b) Restrictions, if any, on the sale or use of the asset.

The effect on the measurement arising from a particular characteristic will differ depending on
how that characteristic would be taken into account by market participants.
The asset or liability measured at fair value might be either of the following:
(a) a stand-alone asset or liability (eg a financial instrument or a non-financial asset); or
(b) a group of assets, a group of liabilities or a group of assets and liabilities (eg a cash-
generating unit or a business).
The transaction
A fair value measurement assumes that the asset or liability is exchanged in an orderly
transaction between market participants to sell the asset or transfer the liability at the
measurement date under current market conditions.
A fair value measurement assumes that the transaction to sell the asset or transfer the liability
takes place either:
(a) In the principal market for the asset or liability; or
(b) In the absence of a principal market, in the most advantageous market for the asset or
liability.
An entity need not undertake an exhaustive search of all possible markets to identify the
principal market or, in the absence of a principal market, the most advantageous market, but it
shall take into account all information that is reasonably available. In the absence of evidence to
the contrary, the market in which the entity would normally enter into a transaction to sell the
asset or to transfer the liability is presumed to be the principal market or, in the absence of a
principal market, the most advantageous market.
Although an entity must be able to access the market, the entity does not need to be able to sell
the particular asset or transfer the particular liability on the measurement date to be able to
measure fair value on the basis of the price in that market.
Market participants
An entity shall measure the fair value of an asset or a liability using the assumptions that market
participants would use when pricing the asset or liability, assuming that market participants act
in their economic best interest.
In developing those assumptions, an entity need not identify specific market participants. Rather,
the entity shall identify characteristics that distinguish market participants generally, considering
factors specific to all the following:
(a) The asset or liability;
(b) The principal (or most advantageous) market for the asset or liability; and
(c) Market participants with whom the entity would enter into a transaction in that market.
The price
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an
orderly transaction in the principal (or most advantageous) market at the measurement date under
current market conditions (i.e. an exit price) regardless of whether that price is directly
observable or estimated using another valuation technique.
The price in the principal (or most advantageous) market used to measure the fair value of the
asset or liability shall not be adjusted for transaction costs.
Transaction costs are not a characteristic of an asset or a liability; rather, they are specific to a
transaction and will differ depending on how an entity enters into a transaction for the asset or
liability.
Transaction costs do not include transport costs. If location is a characteristic of the asset (as
might be the case, for example, for a commodity), the price in the principal (or most
advantageous) market shall be adjusted for the costs, if any, that would be incurred to transport
the asset from its current location to that market.
Application to non-financial assets
Highest and best use for non-financial assets
A fair value measurement of a non-financial asset takes into account a market participant’s
ability to generate economic benefits by using the asset in its highest and best use or by selling it
to another market participant that would use the asset in its highest and best use.
The highest and best use of a non-financial asset takes into account the use of the asset that is
physically possible, legally permissible and financially feasible, as follows:
(a) A use that is physically possible takes into account the physical characteristics of the asset
that market participants would take into account when pricing the asset (eg the location or size of
a property).
(b) A use that is legally permissible takes into account any legal restrictions on the use of the
asset that market participants would take into account when pricing the asset (eg the zoning
regulations applicable to a property).
(c) A use that is financially feasible takes into account whether a use of the asset that is
physically possible and legally permissible generates adequate income or cash flows (taking into
account the costs of converting the asset to that use) to produce an investment return that market
participants would require from an investment in that asset put to that use.
Application to liabilities and an entity’s own equity instruments
General principles
A fair value measurement assumes that a financial or non-financial liability or an entity’s own
equity instrument (eg equity interests issued as consideration in a business combination) is
transferred to a market participant at the measurement date. The transfer of a liability or an
entity’s own equity instrument assumes the following:
(a) A liability would remain outstanding and the market participant transferee would be required
to fulfill the obligation. The liability would not be settled with the counterparty or otherwise
extinguished on the measurement date.
(b) An entity’s own equity instrument would remain outstanding and the market participant
transferee would take on the rights and responsibilities associated with the instrument. The
instrument would not be cancelled or otherwise extinguished on the measurement date.
Fair value at initial recognition
When an asset is acquired or a liability is assumed in an exchange transaction for that asset or
liability, the transaction price is the price paid to acquire the asset or received to assume the
liability (an entry price). In contrast, the fair value of the asset or liability is the price that would
be received to sell the asset or paid to transfer the liability (an exit price). Entities do not
necessarily sell assets at the prices paid to acquire them. Similarly, entities do not necessarily
transfer liabilities at the prices received to assume them.
In many cases the transaction price will equal the fair value (eg that might be the case when on
the transaction date the transaction to buy an asset takes place in the market in which the asset
would be sold). When determining whether fair value at initial recognition equals the transaction
price, an entity shall take into account factors specific to the transaction and to the asset or
liability.
Valuation techniques
An entity shall use valuation techniques that are appropriate in the circumstances and for which
sufficient data are available to measure fair value, maximizing the use of relevant observable
inputs and minimizing the use of unobservable inputs.
The objective of using a valuation technique is to estimate the price at which an orderly
transaction to sell the asset or to transfer the liability would take place between market
participants at the measurement date under current market conditions. Three widely used
valuation techniques are the market approach, the cost approach and the income approach. An
entity shall use valuation techniques consistent with one or more of those approaches to measure
fair value.
Valuation techniques used to measure fair value shall be applied consistently.
However, a change in a valuation technique or its application (eg a change in its weighting when
multiple valuation techniques are used or a change in an adjustment applied to a valuation
technique) is appropriate if the change results in a measurement that is equally or more
representative of fair value in the circumstances. That might be the case if, for example, any of
the following events take place:
(a) New markets develop;
(b) New information becomes available;
(c) Information previously used is no longer available;
(d) Valuation techniques improve; or
(e) Market conditions change.
The following are three valuation techniques
Market approach
The market approach uses prices and other relevant information generated by market transactions
involving identical or comparable (ie similar) assets, liabilities or a group of assets and liabilities,
such as a business.
For example, valuation techniques consistent with the market approach often use market
multiples derived from a set of comparable. Multiples might be in ranges with a different
multiple for each comparable. The selection of the appropriate multiple within the range requires
judgments, considering qualitative and quantitative factors specific to the measurement.
Valuation techniques consistent with the market approach include matrix pricing. Matrix pricing
is a mathematical technique used principally to value some types of financial instruments, such
as debt securities, without relying exclusively on quoted prices for the specific securities, but
rather relying on the securities’ relationship to other benchmark quoted securities.
Cost approach
The cost approach reflects the amount that would be required currently to replace the service
capacity of an asset (often referred to as current replacement cost).
From the perspective of a market participant seller, the price that would be received for the asset
is based on the cost to a market participant buyer to acquire or construct a substitute asset of
comparable utility, adjusted for obsolescence. That is because a market participant buyer would
not pay more for an asset than the amount for which it could replace the service capacity of that
asset. Obsolescence encompasses physical deterioration, functional (technological) obsolescence
and economic (external) obsolescence and is broader than depreciation for financial reporting
purposes (an allocation of historical cost) or tax purposes (using specified service lives). In many
cases the current replacement cost method is used to measure the fair value of tangible assets that
are used in combination with other assets or with other assets and liabilities.
Income approach
The income approach converts future amounts (eg cash flows or income and expenses) to a
single current (ie discounted) amount. When the income approach is used, the fair value
measurement reflects current market expectations about those future amounts.
Inputs to valuation techniques
Valuation techniques used to measure fair value shall maximize the use of relevant observable
inputs and minimize the use of unobservable inputs.
Examples of markets in which inputs might be observable for some assets and liabilities (eg
financial instruments) include exchange markets, dealer markets, brokered markets and
principal-to-principal markets.
Inputs based on bid and ask prices
If an asset or a liability measured at fair value has a bid price and an ask price (eg an input from a
dealer market), the price within the bid-ask spread that is most representative of fair value in the
circumstances shall be used to measure fair value regardless of where the input is categorized
within the fair value hierarchy (i. e Level 1, 2 or 3). The use of bid prices for asset positions and
ask prices for liability positions is permitted, but is not required.
Fair value hierarchy
To increase consistency and comparability in fair value measurements and related disclosures,
IFRS establishes a fair value hierarchy that categorizes into three level inputs to valuation
techniques used to measure fair value. The fair value hierarchy gives the highest priority to
quoted prices (unadjusted) in active markets for identical assets or liabilities (Level 1 inputs) and
the lowest priority to unobservable inputs (Level 3 inputs).
Level 1 input
Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities
that the entity can access at the measurement date. A quoted price in an active market provides
the most reliable evidence of fair value and shall be used without adjustment to measure fair
value whenever available.
Level 2 inputs
Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for
the asset or liability, either directly or indirectly.
If the asset or liability has a specified (contractual) term, a Level 2 input must be observable for
substantially the full term of the asset or liability. Level 2 inputs include the following:
(a) Quoted prices for similar assets or liabilities in active markets.
(b) Quoted prices for identical or similar assets or liabilities in markets those are not active.
(c) Inputs other than quoted prices that is observable for the asset or liability, for example:
(i) Interest rates and yield curves observable at commonly quoted intervals;
(ii) Implied volatilities; and
(iii) Credit spreads.
Level 3 inputs
Level 3 inputs are unobservable inputs for the asset or liability.
Unobservable inputs shall be used to measure fair value to the extent that relevant observable
inputs are not available, thereby allowing for situations in which there is little, if any, market
activity for the asset or liability at the measurement date. However, the fair value measurement
objective remains the same, i.e an exit price at the measurement date from the perspective of a
market participant that holds the asset or owes the liability. Therefore, unobservable inputs shall
reflect the assumptions that market participants would use when pricing the asset or liability,
including assumptions about risk.
Disclosure
An entity shall disclose information that helps users of its financial statements assess both of the
following:
(a) For assets and liabilities that are measured at fair value on a recurring or non-recurring basis
in the statement of financial position after initial recognition, the valuation techniques and inputs
used to develop those measurements.
(b) For recurring fair value measurements using significant unobservable inputs (Level 3), the
effect of the measurements on profit or loss or other comprehensive income for the period.