By Zubair Saleem

Scope IFRS 13 applies to any situation where

Purpose of IFRS 13 IFRS requires or permits fair value
( para 5)
measurements or disclosures about fair
value measurements
define fair value;

share based payment transactions within

the scope of IFRS 2; or
set out a single framework for
measuring fair value Lease contracts within the scope of IFRS
16

specify disclosures about fair These are

value measurement. measurements such as net realisable
Not Fair
value (IAS 2 Inventories)
values
or value in use (IAS 36 Impairment of
Assets) which have some similarities to
IFRS -13 fair value but are not fair value.
Out side the disclosure requirement
IAS 19, IAS 26 & ias 36 if recoverable value is the fair value less
Assets Liabilities Own equity instruments
cost to sell
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 Independent of each other;
knowledgeable, having a
Definition of fair value reasonable
understanding,willing,ability to
Fair value: enter in transaction

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 (i.e. it is an exit price).

This definition emphasizes that fair value is a market-based measurement, not an entity-specific
measurement.
Example

IFRS -13

Assets Liabilities Own equity instruments

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 Valuation techniques
IFRS 13 requires that one of three valuation techniques must be used:
• market approach – uses prices and other relevant information from market
transactions involving identical or similar assets and liabilities;

• cost approach – the amount required to replace the service capacity of an asset
(also known as the current replacement cost);

• income approach – converts future amounts (cash flows, profits) to a single current
(discounted) amount.

An entity must use a valuation technique that is appropriate in the circumstances and for which sufficient data
is available to measure fair value, maximizing the use of relevant observable inputs and minimizing the use of
unobservable inputs.

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The asset or liability
• A fair value measurement is for a particular asset or liability.
Whether the fair value guidance in IFRS 13 applies to a stand-alone asset or liability or to a group of assets, a
group of liabilities or to a group of assets and liabilities depends on the unit of account for the item being fair
valued.

Unit of account
• The level at which an asset or a liability is aggregated or disaggregated in an IFRS for recognition purposes.
• The unit of account for the asset or liability must be determined in accordance with the IFRS that requires or
permits the fair value measurement.
Other considerations
• An entity must use the assumptions that market participants would use when pricing the asset or
liability under current market conditions when measuring fair value.
• The fair value must take into account all characteristics that a market participant would consider
relevant to the value. These characteristics might
include:
• the condition and location of the asset; and
• restrictions, if any, on the sale or use of the asset.
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Fair value of non-financial assets – highest and best use
Highest and best use: The use of a non-financial asset by market participants that would maximize the value
of the asset or the group of assets and liabilities (e.g. a business) within which the asset would be used.
• This must take into account use of the asset that is:
physically possible,
legally permissible; ( legal approval at measurement date is not required)
and financially feasible.
• The current use of land is presumed to be its highest and best use unless market or other factors suggest a
different use.

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Highest & best use

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 Valuation techniques
illustrative example-4
Machine held and used
a. Similar machine with minor differences are traded on market
ranges od prices is Rs.40 to Rs.48
b. Cost required to construct a substitute machine would be Rs.40 to Rs.52

c. Income approach is not applicable as separately identifiable cashflows are not available

we will pick highest and best use Rs.52 as fair value

now if data is not reliably available in order to apply any approach then the approach with more reliable data
will be preferable

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 Valuation techniques
illustrative example-4
Software
a. information about market transactions for comparable software assets is not available

b. The cash flows used in that technique reflect the income stream expected to result from
the software asset (license fees from customers) over its economic life. The fair value
indicated by that approach is CU15 million.

c. estimating the amount that currently would be required to construct a substitute

software asset of comparable utility (ie taking into account functional and economic
obsolescence). The fair value indicated by that approach is CU10 million.

Some characteristics of the software asset are unique, having been developed using proprietary information,
and cannot be readily replicated so it would be difficult to apply cost approach .
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Income Approach & IAS 41

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 Inputs to valuation technique
• A valuation technique should be used to maximise the use of relevant observable inputs and
minimise the use of unobservable inputs.
Definition: Inputs
• Inputs: The assumptions that market participants would use when pricing the asset or
liability, including assumptions about risk, such as the following:

(a) the risk inherent in a particular valuation technique used to measure fair value (such
as a pricing model); and
(b) the risk inherent in the inputs to the valuation technique.

• Quoted price in an active market provides the most reliable evidence of fair value and must
be used to measure fair value whenever available.

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Fair value hierarchy
IFRS 13 establishes a fair value hierarchy to categories inputs to valuation techniques
into three levels.
• Level 1 Quoted prices in active markets for identical assets or liabilities that the Fair value will be
entity can access at the measurement date from principle market but if unadjusted quoted
principle market is not available then from most advantageous market prices unless
exception applies
example: Share price quoted on Pakistan stock exchange.
• Level 2 Inputs other than quoted prices included within Level 1 that are
observable for the asset or liability, either directly or indirectly. from
principle market but if principle market is not available then from most
advantageous market
examples: Quoted price of a similar asset to the one being valued, Quoted interest rate.
price per square meter, price to retailer or to customers, multiple of earning or sale
• Level 3 Unobservable inputs for the asset or liability using entity own assumptions.
examples: Cashflow projections, entity own assumptions

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 Question
• The market with the greatest
volume and level of activity for the
principal market asset or liability.
(must be accessible)

• The market that maximizes the

most amount that would be received to sell
the asset or minimizes the amount
advantageous that would be paid to transfer the
market liability, after taking into account
transaction costs and transport costs.

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Bid /Offer prices
• For some assets (liabilities) markets quote prices that differ depending on whether the asset is being sold to or
bought from the market.

• The price at which an asset can be sold to the market is called the bid price (it is the amount the market bids
for the asset).

• The price at which an asset can be bought from the market is called the ask or offer price (it is the amount the
market asks for the asset or offers to sell it for)

• The price within the bid-ask spread that is most representative of fair value in the circumstances must be used
to measure fair value.

• Previously, bid price had to be used for financial assets and ask price for financial liabilities but this is no longer
the case.

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Liabilities
Fair value measurement assumes the transfer of an item to a market participant at the measurement date.
The fair valuation of a liability assumes that it will not be settled with the counterparty at the measurement
date but would remain outstanding. In other words, the market participant to whom the liability could be
transferred would be required to fulfil the obligation.
Non-performance risk(entity own credit risk)
For example,
assume that Entity X and Entity Y each enter into a contractual obligation to pay cash (CU500) to Entity Z in
five years. Entity X has a AA credit rating and can borrow at 6 per cent, and Entity Y has a BBB credit rating
and can borrow at 12 per cent.
Entity X will receive about CU374 in exchange for its promise (the present value of CU500 in five years at 6
per cent).
Entity Y will receive about CU284 in exchange for its promise (the present value of CU500 in five years at 12
per cent). The fair value of the liability to each entity (ie the proceeds) incorporates that entity’s credit
standing.

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Example 11—Decommissioning liability Refer: paragraphs 40–46
• Question • Answer
• On 1 January 20X1 assume decommissioning liability in a business • Entity A uses the expected present value technique to
combination to dismantle and remove an offshore oil platform measure the fair value of the decommissioning liability.
after 10 years . •
• Estimate of labor cost today
•

• overheads (80 per cent of expected labor costs).

• A third-party contractor typically adds a mark-up on labor and
allocated internal costs to provide a profit margin on the job. The
profit margin used (20 per cent)
• Entity A estimates the amount of that premium to be 5 per cent
of the expected cash flows, including the effect of inflation.
• Entity A assumes a rate of inflation of 4 per cent over the 10-year
period on the basis of available market data
• The risk-free rate of interest for a 10-year maturity on 1 January
20X1 is 5 per cent. Entity A adjusts that rate by 3.5 per cent to
reflect its risk of non-performance (ie the risk that it will not fulfil
the obligation), including its credit risk [Refer: paragraph 43].
Therefore, the discount rate used to compute the present value
of the cash flows is 8.5 per cent.

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Example 12—Debt obligation: quoted price [Refer: paragraphs 37–39, 42–44
and 72–90]
Question
On 1 January 20X1 Entity B issues at par a CU2 million BBB-rated exchange-traded five-year fixed rate debt instrument
with an annual 10 per cent coupon. Entity B designated this financial liability as at fair value through profit or loss.
On 31 December 20X1 the instrument is trading as an asset in an active market [Refer: Appendix A (definition of an active
market)] at CU929 per CU1,000 of par value after payment of accrued interest.

Answer
Entity B uses the quoted price of the asset in an active market as its initial input into the fair value measurement of its
liability (CU929 × [CU2 million ÷ CU1,000] = CU1,858,000).
It should be adjusted if there is any difference between assets and liability
Entity B evaluates whether the quoted price of the asset includes the effect of factors not applicable to the fair value
measurement of a liability, for example, whether the quoted price of the asset includes the effect of a third-party credit
enhancement if that credit enhancement

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Example 13—Debt obligation: present value technique [Refer: paragraphs
37–39, 42–44 and B12–B30]Liabilities

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• own equity instrument
• The fair valuation of an entity’s own equity instrument assumes that the
market participants to whom the instrument could be transferred would take
on the rights and responsibilities associated with the instrument.

• The same guidance that applies to the fair value of assets also applies to the
fair value of liabilities and an entity’s own equity instruments including that:
1. An entity must maximize the use of relevant observable inputs and
minimize the use of unobservable inputs; and
2. quoted price in an active market must be used to measure fair value
whenever available.
• In the absence of an active market there might be an observable market for
items held by other parties as assets.
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Liabilities and equity instruments held by other parties as
assets
• If this is the case fair value is measured as follows:

• using the quoted price in an active market (if available) for the identical item
held by another party as an asset; or failing that

• using other observable inputs (e.g. quoted price in a market that is not active
for the identical item held by another party as an asset); or failing that

• another valuation technique (e.g. using quoted prices for similar liabilities or
equity instruments held by other parties as assets (market approach).
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Adjustments to quoted price

• There might be factors that are specific to the asset held by the third party that
are not applicable to the fair value of the liability or entity’s own equity.

• The quoted price of such items is adjusted for such factors. For example, a
quoted price might relate to a similar (but not identical) liability or equity
instrument held by another party as an asset.

• However, the price of the asset must not reflect the effect of a restriction
preventing the sale of that asset.

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 Liabilities and equity instruments not held by other
parties as assets

• In this case fair value is measured from the perspective of a market participant
that owes the liability or has issued the claim on equity.

• For example, when applying a present value technique an entity might take
into account the future cash outflows that a market participant would expect
to incur in fulfilling the obligation (including the compensation that a market
participant would require for taking on the obligation).

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 Financial assets and financial liabilities managed
on a net basis
• An entity might manage a group of financial assets and financial liabilities on
the basis of its net exposure to either market risks or credit risk.
• In this case the entity is allowed to measure the fair value net position (i.e. a
net asset or a net liability as appropriate).
• This is an exception to the general rules in IFRS 13 which would otherwise
apply separately to the asset and the liability. It applies only to financial assets
and financial liabilities within the scope of IFRS 9: Financial instruments.

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The exception is only allowed if the entity does all the following:

• It manages the group of financial assets and financial liabilities on the basis of
the entity’s net exposure to a particular risk (market risk or credit risk of a
particular counterparty) in accordance with its documented risk management
or investment strategy;

• It provides information on that basis about the group of financial assets and
financial liabilities to the entity’s key management personnel; and

• It measures those financial assets and financial liabilities at fair value in the
statement of financial position at the end of each reporting period.

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