Among the accounting concepts, fair value is one of the best known and most widespread in the financial world. Therefore, as far as fair value measurement is concerned, the responsible international accounting standard is IFRS 13.
From the commercial opening of markets and borders around the world, mainly for foreign companies, globalization has changed the global capital market. Thus, this whole process has led to a decrease in international tariffs and the growth of foreign investors.
However, there was a lack of homogeneity in the accounting language as each country created and postulated its own norms and rules. And this fact was a problem that hindered investments and transactions that would take place outside a country.
To help companies, problems, and everyone involved in the accounting market, international standards have been created. These aim to unify accounting, its rules, reports and statements so that companies and different nations can talk to each other.
In Brazil, especially since the 90’s, there has been an increase in its commercial openness due to globalization. Because of these facts, the country needed to adapt to the International Accounting Standards to be in harmony and unity with the rest of the countries.
The International Accounting Standards have the acronym IFRS, which comes from the English International Financial Reporting Standards. They are characterized by encompassing several international accounting pronouncements, each responsible for a specific aspect of accounting.
In addition, the IASB, International Accounting standards Board, is responsible for reviewing and issuing them. Because of the international norms, the analysis of accounting procedures was standardized, whether in Brazil or in any other country, since more than 140 countries follow them.
IFRS 13 summary
With the aim of unifying accounting procedures around the world, IFRSs were created and are used in almost 150 different countries. In this way, essential accounting aspects for the market and good company management are created and presented by these standards.
One of the main accounting methods that concerns values within a market is fair value. Fair value is the price the company receives when selling an asset or transferring a liability. This activity involves two parties where neither party benefits and relates to the current market conditions at the time this transaction takes place.
Thus, IFRS 13 aims to measure a company’s fair value by applying some requirements when a market becomes less active. And always without changing any requirements or the time at which fair value should be used.
Therefore, IFRS 13 unites in a single standard information about fair value that was dispersed. It is intended to assist the company’s decision making as to how they should apply fair value. As well as how to calculate an asset or liability by this method and all the requirements for disclosing this information.
Get to know IFRS 13
It was in May 2011, the International Accounting Standards Board issued IFRS 13 – Fair Value Measurement. And that is to assist countries with regard to a recurring and important concept in accounting which is fair value. Since only individual standards existed and this IFRS came along to replace them.
Thus, the international accounting standard IFRS 13 defines what fair value is and how to measure it. Therefore, the IFRS presents clear definitions about this concept, about how to calculate it, and also the correct way that companies must follow to disclose the measurements of this value.
All the data and information that IFRS 13 presents are essential for users of financial statements. This shows the importance of this IFRS for accounting and its agents.
Therefore, IFRS 13 has a well-defined structure of what it should present to its users and how it is set up:
- The definition of fair value that differs from the general conception of this term;
- It presents a conceptual framework on how to calculate fair value and not on any transaction;
- It demonstrates various evidence regarding the constituent elements of this value.
Objective of this international accounting standard
IFRS 13 has three main objectives to convey to society and to those interested in the accounting world. They are:
- Define the idea of what fair value is;
- Establish in a single IFRS a framework for measuring this value;
- Demonstrate the disclosures about fair value measurements and require that they need to be presented.
When does IFRS 13 apply?
The application of IFRS 13 is somewhat different from other accounting standards. This is because it applies when another IFRS requires or permits fair value measurements or disclosures about these calculations. However, there are some exceptions to the application of IFRS 13:
- Share-based payment transactions within the scope of IFRS 2 – Share-based Payment;
- Leasing transactions under IAS 17 – Leases;
- Measurements that have some similarities to fair value, but are not fair value. For example, the net realizable value postulated in IAS 2 – Inventories or value in use in IAS 36 – Impairment of Assets;
What does IFRS 13 not define?
Although IFRS 13 deals with fair value, its measurement and disclosure, this standard does not define these requirements. However, this is only the case for payment transactions that are based on the recoverable value of assets.
Recoverable value of assets
The recoverable value of assets appears in IFRS 13. To understand it, there is CPC 01 that postulates on this subject and presents its definition.
Thus, this type of value is defined as the value that is greater between the net sales price of the asset and its value in use. If the book value of an asset is greater than its recoverable value, the asset is impaired. Otherwise, there is no devaluation.
Definition of fair value by IFRS 13
Understanding fair value is fundamental for the manager of a company to be able to prepare, review, and analyze its financial statements. Especially after these definitions became mandatory because of Law n. 11.638/07.
Thus, this value, according to IFRS 13, is defined as the price to be received by a company on the sale of an asset. So is the amount to be paid to pass a liability. And this in an unforced transaction that takes place between market participants. And that is when measurement occurs. Thus, fair value is also called exit value.
This conception of fair value diverges somewhat from its old definition that IAS 39 postulated. In the older concept, fair value is defined as the exchange value of an asset or the liquidation value of a liability. In which the portions are knowledgeable and willing to such transactions where there is no favoritism.
Other important concepts for IFRS 13
In addition to the idea of fair value, IFRS 13 presents other terms that need to be understood in order for this standard to apply in its entirety.
An active market is one in which transactions that take place with assets or liabilities occur frequently. Thus, they allow for price information to be continuously available.
This price is what the company receives when it sells its assets. Or that it acquires when a liability is transferred.
Greater and better use
The term “highest and best use” refers to the use of a non-financial asset by market participants. These will maximize the value of the asset or a set of assets and liabilities, but always by considering them within the use of the asset.
More advantageous market
When a market is more advantageous, it means that it enhances the price that you would receive when selling an asset. Or that this market minimizes the amount one would pay to pass on the liability. However, the market considers transaction and transportation costs in its final amount.
Finally, the core market, as the name suggests, is the sector that contains the highest capacity and activity level for the assets or liabilities.
Fair Value Hierarchy Levels
There are several ways to measure and disclose fair value. So to expand the density and comparability of these measurements, IFRS 13 created a fair value hierarchy. This hierarchy is responsible for categorizing the value entries by means of evaluations on three levels.
However, there are some rules for prioritizing this concept. The hierarchy prioritizes prices that do not match in the market for assets or liabilities, only they need to be identical. The lowest priority is for data that cannot be observed.
If the hierarchy refers to the data that measures this value, it can be categorized into different hierarchical levels. So that the estimation of this value will be categorized in its entirety.
Level 1 is characterized as the prices that active markets quote for their identical assets or liabilities. Companies are able to access these values at their measurement date to obtain reliable evidence for the fair value.
The second level shows other than the prices that the market quotes and that fall under level 1. Whether they are direct or indirect.
The inputs that have level 3 are those that are unobservable, either for assets or for liabilities. As far as fair value is concerned, it uses this unobservable data in its measurement if observable data is not available.
How to measure Fair Value?
IFRS 13 demonstrates about the calculation of fair value. For this to happen, the company has to use the same premises as the other market participants. With this, it is verified what the conditions are at that moment in the market for liabilities and assets to price correctly. And with considerations about market risks.
Therefore, when calculating fair value one estimates the price at which an unforced financial transaction with an asset sale characteristic or liability transfer characteristic would take place between market components at the exact moment of measurement. And this under current market conditions.
In order to be able to properly measure fair value, a company must determine:
- What is the asset or liability being measured;
- For a non-financial asset, the appropriate valuation premise for the measurement is important;
- The main market;
- The valuation techniques considered for the calculation. However, one needs to consider the availability of data and the fair value hierarchy level.
The requirements of IFRS in determining fair value
There are some requirements in IFRS 13 to calculate the fair value of each asset, liability, or a group of both. Therefore, a manager needs to consider some characteristics of the assets and liabilities to determine this type of value. After all, he will be able to find this value by comparing his data with that of other companies in the market.
- Restrictions on use or sale;
- Historical data of assets and liabilities;
Learn about the techniques created to assess fair value
An entity will always use valuation techniques appropriate to the circumstances. In other words, when collecting the data, it must be sufficient for the fair value calculation to take place. With this, these techniques will have to maximize the use of relevant observable data and reduce the use of unobservable data.
When using any valuation technique, it will provide an approximate calculation of the price at which an unforced transaction to sell an asset or transfer a liability would occur. And this among market participants and when considering current market conditions. Thus, there are three widely used evaluation techniques.
This method uses prices and any relevant information that is generated by market transactions. These must involve identical or comparable assets and liabilities. Besides a group of assets and liabilities.
The cost approach shows the present value that would be essential for replacing the service competence of an asset.
Finally, the income approach is responsible for converting future cash flows, revenues or expenses into a single, discounted present value. Thus, this method shows what the market’s expectations are regarding the future values of this company.
Which CPC corresponds to IFRS 13?
Most of the CPCs that exist in Brazilian accounting relate to some international accounting standard. The CPC that corresponds to IFRS 13 is CPC 46, this one that was approved in 2012 and reports on fair value measurement.
With Law 11.638/2007 and its approval, companies have the possibility to value their assets by any method they wish. And one of these methods is fair value, which has its definition, measurement, and characteristics exposed by CPC 46.
By basing themselves on the market, and not on business criteria, companies and their managers opt for fair value. And this is because of the ease with which it is the value of liability sales transactions. Or asset transfer.
Therefore, it is essential that companies and their managers are fully aware of IFRS 13 and CPC 46. And that’s for the knowledge about fair value, what it is and how to measure it. However, many companies need help in dealing with not only fair value issues, but also other accounting aspects.
With more than a decade of experience in consulting, whether in Brazil or throughout the Americas, the CPCON group has specialized and experienced professionals in financial management. By hiring CPCON, the manager will succeed in reaching his profit and growth objectives in the market. Besides preserving your financial health.
Don’t waste time and contact CPCON today to ensure your company’s success!