includes a structuring fee, the retail counterparty would likely recognise a loss when
measuring the fair value of the derivative. Because the transaction price includes the
price for the derivative instrument, as well as the fee paid by the retail counterparty to
the dealer for structuring the transaction, the unit of account represented by the
transaction price differs from the unit of account for the instrument being measured, as
discussed in paragraph B4(c) of IFRS 13. [IFRS 13.B4(c)].
13.2.2
Day one gains and losses when entry and exit markets for the
transaction are deemed to be the same
IFRS 13 contains no explicit prohibitions on the recognition of day one gains or
losses, even in situations where the entry and exit markets are the same. For
example, it may be acceptable in certain situations for a dealer to recognise a day
one gain or loss on a transaction where the entry and exit markets are deemed to be
the same (e.g. inter-dealer market). A difference in the price within the bid-ask
spread at which a dealer could exit a transaction versus where it entered the
transaction could be one reason to record an inception gain or loss. IFRS 13 clarifies
that the exit price within the bid-ask spread that is most representative of fair value
in the circumstances should be used to measure fair value, regardless of where in
the fair value hierarchy the input falls (pricing within the bid-ask spread is discussed
further at 15.3 below).
Notwithstanding the guidance in IFRS 13, IFRS 9 provide specific requirements in
relation to the recognition of any day one gains or losses. For example, where fair value
is not measured using a quoted price in an active market (without adjustment),
recognition of day one gains or losses is generally prohibited (see Chapter 45).
13.3 Related party transactions
As discussed at 7 above, the definition of market participants makes it clear that buyers
and sellers for the item being measured are not related parties (as defined in IAS 24).
That is, the hypothetical transaction used to determine fair value in IFRS 13 is assumed
to take place between market participants that are independent from one another.
However, IFRS 13 indicates that the price in a related party transaction may be used as
an input into a fair value measurement if there is evidence the transaction was entered
into at market terms. The Boards believe such an approach is consistent with the
requirements of IAS 24. As with disclosures made in accordance with IAS 24, evidence
to support that a related party transaction was executed at market terms may be difficult
to substantiate absent corroborating market data from transactions between
independent parties.
1032 Chapter 14
14 VALUATION
TECHNIQUES
There are two key distinctions between the way previous IFRSs considered valuation
techniques and the approach in IFRS 13. On adoption of the standard, these distinctions,
in and of themselves, may not have changed practice. However, they may have required
management to reconsider their methods of measuring fair value.
Firstly, IFRS 13’s requirements in relation to valuation techniques apply to all methods
of measuring fair value. Traditionally, references to valuation techniques in IFRS have
indicated a lack of market-based information with which to value an asset or liability.
Valuation techniques as discussed in IFRS 13 are broader and, importantly, include
market-based approaches.
Secondly, IFRS 13 does not prioritise the use of one valuation technique over another,
unlike existing IFRSs, or require the use of only one technique (with the exception of
the requirement to measure identical financial instruments that trade in active markets
at price multiplied by quantity (P×Q)). Instead, the standard establishes a hierarchy for
the inputs used in those valuation techniques, requiring an entity to maximise
observable inputs and minimise the use of unobservable inputs (the fair value hierarchy
is discussed further at 16 below). [IFRS 13.74]. In some instances, the approach in IFRS 13
may be consistent with previous requirements in IFRS. For example, the best indication
of fair value continues to be a quoted price in an active market. However, since IFRS 13
indicates that multiple techniques should be used when appropriate and sufficient data
is available, judgement will be needed to select the techniques that are appropriate in
the circumstances. [IFRS 13.61].
14.1 Selecting appropriate valuation techniques
IFRS 13 recognises the following three valuation approaches to measure fair value.
• Market approach: based on market transactions involving identical or similar assets
or liabilities;
• Income approach: based on future amounts (e.g. cash flows or income and
expenses) that are converted (discounted) to a single present amount; and
• Cost approach: based on the amount required to replace the service capacity of an
asset (frequently referred to as current replacement cost).
IFRS 13 requires that an entity use valuation techniques that are consistent with one or
more of the above valuation approaches (these valuation approaches are discussed in
more detail at 14.2 to 14.4 below). [IFRS 13.62]. These approaches are consistent with
generally accepted valuation methodologies used outside financial reporting. Not all of
the approaches will be applicable to all types of assets or liabilities. However, when
measuring the fair value of an asset or liability, IFRS 13 requires an entity to use
valuation techniques that are appropriate in the circumstances and for which sufficient
data is available. As a result, the use of multiple valuation techniques may be required.
[IFRS 13.61, 62].
The determination of the appropriate technique(s) to be applied requires: significant
judgement; sufficient knowledge of the asset or liability; and an adequate level of
expertise regarding the valuation techniques. Within the application of a given
approach, there may be a number of possible valuation techniques. For instance, there
Fair value measurement 1033
are a number of different techniques used to value intangible assets under the income
approach (such as the multi-period excess earnings method and the relief-from-royalty
method) depending on the nature of the asset.
As noted above, the fair value hierarchy does not prioritise the valuation techniques to be
used; instead, it prioritises the inputs used in the application of these techniques. As such,
the selection of the valuation technique(s) to apply should consider the exit market (i.e.
the principal (or most advantageous) market) for the asset or liability and use valuation
inputs that are consistent with the nature of the item being measured. Regardless of the
technique(s) used, the objective of a fair value measurement remains the same – i.e. an
exit price under current market conditions from the perspective of market participants.
Selection, application, and evaluation of the valuation techniques can be complex. As
such, reporting entities may need assistance from valuation professionals.
14.1.1
Single versus multiple valuation techniques
The standard does not contain a hierarchy of valuat
ion techniques because particular
valuation techniques might be more appropriate in some circumstances than in others.
Selecting a single valuation technique may be appropriate in some circumstances, for
example, when measuring a financial asset or liability using a quoted price in an active
market. However, in other situations, more than one valuation technique may be
deemed appropriate and multiple approaches should be applied. For example, it may
be appropriate to use multiple valuation techniques when measuring fair value less costs
of disposal for a cash-generating unit to test for impairment.
The nature of the characteristics of the asset or liability being measured and the
availability of observable market prices may contribute to the number of valuation
techniques used in a fair value analysis. For example, the fair value of a business is often
estimated by giving consideration to multiple valuation approaches; such as an income
approach that derives value from the present value of the expected future cash flows
specific to the business and a market approach that derives value from market data (such
as EBITDA or revenue multiples) based on observed transactions for comparable assets.
On the other hand, financial assets that frequently trade in active markets are often valued
using only a market approach given the availability and relevance of observable data.
Even when the use of a single approach is deemed appropriate, entities should be aware
of changing circumstances that could indicate using multiple approaches may be more
appropriate. For example, this might be the case if there is a significant decrease in the
volume and level of activity for an asset or liability in relation to normal market activity.
Observable transactions that once formed the basis for the fair value estimate may cease
to exist altogether or may not be determinative of fair value and, therefore, require an
adjustment to the fair value measurement (this is discussed further at 8.3 above). As
such, the use of multiple valuation techniques may be more appropriate.
14.1.2
Using multiple valuation techniques to measure fair value
When the use of multiple valuation techniques is considered appropriate, their
application is likely to result in a range of possible values. IFRS 13 requires that
management evaluate the reasonableness of the range and select the point within the
range that is most representative of fair value in the circumstances. [IFRS 13.63].
1034 Chapter 14
As with the selection of the valuation techniques, the evaluation of the results of
multiple techniques requires significant judgement. The merits of each valuation
technique applied, and the underlying assumptions embedded in each of the techniques,
will need to be considered. Evaluation of the range does not necessarily require the
approaches to be calibrated to one another (i.e. the results from different approaches
do not have to be equal). The objective is to find the point in the range that most reflects
the price to sell an asset or transfer a liability between market participants.
If the results from different valuation techniques are similar, the issue of weighting multiple
value indications becomes less important since the assigned weights will not significantly
alter the fair value estimate. However, when indications of value are disparate, entities
should seek to understand why significant differences exist and what assumptions might
contribute to the variance. Paragraph B40 of IFRS 13 indicates that when evaluating results
from multiple valuation approaches, a wide range of fair value measurements may be an
indication that further analysis is needed. [IFRS 13.B40]. For example, divergent results
between a market approach and income approach may indicate a misapplication of one or
both of the techniques and would likely necessitate additional analysis.
The standard gives two examples that illustrate situations where the use of multiple
valuation techniques is appropriate and, when used, how different indications of value
are assessed.
Firstly, an entity might determine that a technique uses assumptions that are not
consistent with market participant assumptions (and, therefore, is not representative of
fair value). This is illustrated in Example 14.22 below, where the entity eliminates use of
the cost approach because it determines a market participant would not be able to
construct the asset itself. [IFRS 13.IE15-17].
Example 14.22: Multiple valuation techniques – software asset
An entity acquires a group of assets. The asset group includes an income-producing software asset internally
developed for licensing to customers and its complementary assets (including a related database with which the
software asset is used) and the associated liabilities. To allocate the cost of the group to the individual assets
acquired, the entity measures the fair value of the software asset. The entity determines that the software asset would
provide maximum value to market participants through its use in combination with other assets or with other assets
and liabilities (i.e. its complementary assets and the associated liabilities). There is no evidence to suggest that the
current use of the software asset is not its highest and best use. Therefore, the highest and best use of the software
asset is its current use. (In this case the licensing of the software asset, in and of itself, does not indicate that the fair value of the asset would be maximised through its use by market participants on a stand-alone basis.)
The entity determines that, in addition to the income approach, sufficient data might be available to apply the
cost approach but not the market approach. Information about market transactions for comparable software
assets is not available. The income and cost approaches are applied as follows:
(a) The income approach is applied using a present value technique. The cash flows used in that technique
reflect the income stream expected to result from the software asset (licence fees from customers) over
its economic life. The fair value indicated by that approach is CU 15 million.
(b) The cost approach is applied by estimating the amount that currently would be required to construct a
substitute software asset of comparable utility (i.e. taking into account functional and economic
obsolescence). The fair value indicated by that approach is CU 10 million.
Through its application of the cost approach, the entity determines that market participants would not be able
to construct a substitute software asset of comparable utility. Some characteristics of the software asset are
unique, having been developed using proprietary information, and cannot be readily replicated. The entity
determines that the fair value of the software asset is CU 15 million, as indicated by the income approach.
Fair value measurement 1035
Secondly, as is illustrated in Example 14.23 below, [IFRS 13.IE11-14], an entity considers the
possible range of fair value measures and considers what is most representative of fair
value by taking into consideration that:
• one valuation technique may be more representative of fair value than others;
• inputs used in one valuation technique may be more readily observable in the
marketplace or require fewer adjustments (inputs are discussed further at 15 below);
• the resulting ran
ge in estimates using one valuation technique may be narrower
than the resulting range from other valuation techniques; and
• divergent results from the application of the market and income approaches would
indicate that additional analysis is required, as one technique may have been
misapplied, or the quality of inputs used in one technique may be less reliable.
Example 14.23: Multiple valuation techniques – machine held and used
An entity acquires a machine in a business combination. The machine will be held and used in its operations.
The machine was originally purchased by the acquired entity from an outside vendor and, before the business
combination, was customised by the acquired entity for use in its operations. However, the customisation of
the machine was not extensive. The acquiring entity determines that the asset would provide maximum value
to market participants through its use in combination with other assets or with other assets and liabilities (as
installed or otherwise configured for use). There is no evidence to suggest that the current use of the machine
is not its highest and best use. Therefore, the highest and best use of the machine is its current use in
combination with other assets or with other assets and liabilities.
The entity determines that sufficient data are available to apply the cost approach and, because the
customisation of the machine was not extensive, the market approach. The income approach is not used
because the machine does not have a separately identifiable income stream from which to develop reliable
estimates of future cash flows. Furthermore, information about short-term and intermediate-term lease rates
for similar used machinery that otherwise could be used to project an income stream (i.e. lease payments over
remaining service lives) is not available. The market and cost approaches are applied as follows:
(a) The market approach is applied using quoted prices for similar machines adjusted for differences
between the machine (as customised) and the similar machines. The measurement reflects the price that
would be received for the machine in its current condition (used) and location (installed and configured
for use). The fair value indicated by that approach ranges from CU 40,000 to CU 48,000.
(b) The cost approach is applied by estimating the amount that would be required currently to construct
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