Fair Value Framework

Question 1

Fair Value

Answer 1

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

Market-based measurement; single or group

Should consider specific item being measured

NOT based on buyers unique perspective

Question 2

Hypothetical Transaction “orderly transaction”

Answer 2

• Assumed to occur at the measurement date
• Assumed to occur under current market conditions
• Not assumed to occur in a forced liquidation or distressed sale
• Assumed in principal market or most advantageous market for the item to which the entity has access
• DO NOT add in transactions costs e.g. incremental direct cost to execute transfer/sale but some TRANSPORTATION costs are

Question 3

Non-financial Asset

Answer 3

highest/best use by market participants, even if it will be used in some other capacity.

So, base it off how the market would use it

Question 4

Entry Price

Answer 4

Amount paid to acquire an asset or received to assume a liability ; the price when initially recognized;

may or may not be fair value

Question 5

Exit Price (FV)

Answer 5

Price that would be received to sell an asset or paid to transfer a liability

Question 6

Accounting Treatment

Answer 6

If the transaction price (entry) is different from the fair value (exit) then a GAIN/LOSS is recognized

Determine CV and FV and the difference between the 2; what is on your books vs the fair value; WRITE the item up or down in current earnings

IF a GAIN: Dr: asset Cr: unrealized gain fv option

Question 7

Market Approach (FV determination)

Answer 7

Uses prices generated by real market transactions for identical or similar items

Question 8

Income Approach (FV determination)

Answer 8

Discounts future amounts to a current present value

Taking future cash flows and discounting them back to a current value

Question 9

Cost Approach (FV determination)

Answer 9

Uses current amount required to replace the service value of an existing asset

replacement cost
more likely for a non-financial asset

Question 10

Single Approach

Answer 10

Sometimes this is appropriate and adequate - e.g. share of Apple stock

Question 11

Multiple approaches

Answer 11

This may also be appropriate in some cases - e.g. valuing an entire business

Question 12

Fair Value Option

Answer 12

An entity can elect to measuring the following at FV:

1. Recognized financial assets & liabilities e.g. equity method investment (20-50%)
2. Firm commitments not otherwise recognized that involve only financial instruments
3. Written loan commitments
4. Rights/obligations under warranties & insurance contracts that can be settled by paying a 3rd party

Question 13

Can NOT use FV Option for

Answer 13

1. Investments in entities to be consolidated
2. Obligations or assets related to pension or other employee-oriented plans
3. Lease-related financial assets/liabilities
4. Demand deposits of financial institutions
5. Instruments that are components of SE

Question 14

CAN use FV Option for

Answer 14

1. When he item is first recognized
2. When an eligible firm commitments occurs
3. When the accounting treatment of an investment in another entity changes
4. Investment becomes subject to equity method acct.
5. An event that requires the item to be measured at FV - business combination/significant modifications to debt instruments

Question 15

Observable Inputs

Answer 15

Used in pricing an asset, liability, or equity item that is developed based on market data obtained from sources independent of the reporting entities

Question 16

Unobservable Inputs

Answer 16

Reflect the reporting entities own assumptions used in procong the asset, liability, or equity item that are developed based on the best information available in the circumstances

Question 17

Level 1:

Answer 17

Unadjusted quoted prices in active markets for a/l identical to those being valued that the entity can obtain at the measurement date
**most reliable, should always be used when available; only liquidity discount adjustment permitted

Question 18

Level 2:

Answer 18

Observable for a/l/ or e either directly or indirectly, other than L1 quoted prices

• QP in active market similar items
• QP markets that are not active
• observable other than QP that are relevant to the item being valued

Question 19

Level 3:

Answer 19

Unobservable inputs
lowest level, least desireable
May use reporting firm’s internal data
- Based on assumtions or inferenced that market participants would make

e.g. closely held share of stock - mom n pop

Question 20

Disclosure Requirements - RECURRING

Answer 20

In interim/annual stmnts for each major category of a/l measured at FV must disclose:

• Level of fv hierarchy
• Transfers in and out of each level of hierarchy
• anything in level 3 reconciliation of begend balances
• Description of level 3 valuation process, info on unbservbale iputs, g/l, sensitivity to changes

Question 21

Disclosure Requirements - NON-RECURRING

Answer 21

In interim/annual stmnts for each major category of a/l measured at FV must disclose:

• Reasons for FV measurement
• Level
• Anything in 2 or 3 a description of any techniques
• Level 3 effect of measurement on earnings, quantitative info/inputs
• if other than highest and best use explain why

Question 22

Disclosure for FV Option

Answer 22

Identify which items apply to the FV option and the reasons for electing it

Provide info so users understand how evaluation is being applied; must disclose gains/losses and where they are being recognized