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(This chapter deals with non-financial aspects of assets and liabilities only)
Introduction
Non-financial assets do not arise from contracts and, therefore, do not give rise to a present
right to receive cash or another financial asset. Example are property, plant and equipment,
intangible assets, leased assets and deferred tax assets.
Non-financial liabilities arise from contracts that represent delivery of future goods or services
(eg, deferred revenue, warranty obligations and decommissioning liability). Otherwise, they are
not contractual (eg, constructive obligation and deferred tax liabilities).
Entities do not necessarily
sell assets at the price paid to acquire them; and
fulfill/cancel/transfer liabilities at the prices received to assume them.
Fair value
The definition of fair value focuses on assets and liabilities, because income and expenses
recognised in Statement of Profit or Loss are based on the amount of the assets and liabilities
recognised in Statement of Financial position. For example, depreciation expense is based on
the cost or fair value of the related asset.
Fair value is the price that would be received to sell an asset or paid to fulfill/cancel/transfer
a liability in an orderly transaction in the principal (or most advantageous) market between
market participants at the measurement date under current market conditions (ie an exit
price) regardless of whether that price is directly observable or estimated using another
valuation technique.
Orderly transaction
A transaction that assumes exposure to the market for a period before the measurement
date to allow for marketing activities that are useful and customary for transactions involving
such assets or liabilities; it is not a forced transaction (eg, forced liquidation or distressed
sale).
Circumstances that may indicate that a transaction is not orderly include the following :
There was
not adequate exposure to the market for a period before the measurement date
to allow for marketing activities that are usual and customary for transactions
involving such assets or liabilities under current market conditions.
a usual and customary marketing period, but the seller marketed the asset or
liability to a single market participant.
The seller
is in or near bankruptcy or receivership (ie, the seller is distressed).
was required to sell to meet regulatory or legal requirements (ie, the seller was
forced).
willing to enter into a transaction for the asset or liability, ie they are motivated but
FAIR VALUE MEASUREMENT (IFRS 13)
not forced or otherwise compelled to do so.
Market participants buyers are generally representative of both
strategic buyers (eg, competitors); and
financial buyers (eg, private equity or venture capital).
Exit price
The price that would be received to sell an asset or paid to fulfill/cancel/transfer a liability.
Entry price
The price paid to acquire an asset or receive to assume a liability in an exchange transaction.
Valuation technique
An entity shall use valuation techniques that are appropriate in the circumstances are
for which sufficient data are available to measure fair value maximising the use of
relevant observable inputs and minimising the use of unobservable inputs.
Observable inputs are those that are developed using market data, such as publicly
available information about actual events or transactions, and that reflect the
assumptions that market participants would use when pricing the asset or liability.
Unobservable inputs are those for which market data are not available and that are
developed using the best information available about the assumptions that market
participants would use when pricing the asset or liability.
3 widely used valuation techniques are
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.
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).
Income approach converts the 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.
Measurement
A fair value measurement requires an entity to determine all the following :
The particular asset or liability that is the subject of the measurement consistently with
its unit of account which is the level at which an asset or a liability is aggregated or
disaggregated in an IFRS for recognition purposes . The asset or liability measured at fair
value might be either of the following
a stand-alone asset or liability (eg, a financial instrument or a non-financial asset); or
a group of assets, a group of liabilities or a group of assets and liabilities (eg, cash
generating unit or a business).
For a non-financial asset, the valuation premise that is appropriate for the measurement
consistently with its highest and best use which is the use of a non-financial asset by
risk that the actual outflows of resources might ultimately differ from those expected.
Examples are
payment of cash;
transfer of other assets;
provision of services;
replacement of that obligation with another obligation; or
conversion of the obligation to equity.
amount that the entity would have to pay for the obligation to
cancel (creditor waiving or forfeiting its rights); and
transfer to a third party (financial guarantee contract).
A fair value measurement of a liability assumes that the liability is transferred to a market
participant at the measurement date (ie, the liability would remain outstanding and the market
participant transferee would be required to fulfill the obligation; it would not be settled with
the counterparty or otherwise extinguished on the measurement date).
The fair value of a liability reflects the effect of non-performance risk. It is the risk that an
entity will not fulfill the obligation. Non-performance risk includes, but may not be limited to,
the entitys own credit risk (the risk that one party to a financial instrument will cause a
financial loss for the other party by failing to discharge the obligation).
When measuring the fair value of a liability, an entity shall take into account the effect of its
credit risk (credit standing), and any other factors that might influence the likelihood that the
obligation will or will not be fulfilled. That effect may differ depending on the liability, for
example:
whether the liability is an obligation to deliver
cash; or
goods or services.
the terms of the credit enhancements related to the liability, if any.
Example 1
An entity owns a group of assets comprises Assets A, B and C. Asset C is used in conjunction with Assets A and B (the related
assets).
As discussed below, differences between the indicated fair values of the individual assets relate principally to the use of the assets
by those market participants within different asset groups.
Strategic buyer asset group The entity determines that strategic buyers have related assets that would enhance the value of the
group within which the assets would be used (synergies). Those assets include a substitute asset for Asset C and, therefore,
Asset C would not be used for its full remaining life. The indicated fair values are :
A 36 B 26 C3 Cash-generating unit 65
Financial buyer asset group The financial buyers do not have substitute assets that would enhance the value of the group within
which the assets would be used. The indicated fair values are :
A 30 B 20 C 10 Cash-generating unit 60
The fair value of Assets A, B and C would be determined on the basis of the use of the assets as a group within the strategic buyer
group, (36,26 and 3), which maximises the fair value of the asset as a group (65).
Example 3
An entity has a R&D project which it does not intend to complete to prevent its competitors from obtaining access to the technology.
If completed, the project would compete with one of its project (to provide the next generation of the entitys commercialised
technology). Locking up the project is expected to improve the prospects for the entitys own competing technology. To measure the
fair value of the project at initial recognition, the highest and best use (HBU) of the project would be determined on the basis of its use
by market participants (MPs). For example:
The HBU of the project would be to That might be the case if MPs
Example 4
An entity acquires a machine which was originally purchased from an outside vendor and, was customised by the 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 (ie, lease payments
over remaining service lives) is not available. The market and cost approaches are applied as follows
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 40 to 48.
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 comparables. Multiples might
be in ranges with a different multiple for each comparable. The selection of the appropriate multiple within the range requires
judgement, considering qualitative and quantitative factors specific to the measurement.
The cost approach is applied by estimating the amount that would be required currently to construct a substitute (customised)
machine of comparable utility. The estimate takes into account the condition of the machine and the environment in which it
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Example 5
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 (ie, 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
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 15.
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.
The cost approach is applied by 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 10.
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 15, as indicated by the
income approach.
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FUNDAMENTALS OF IFRS 1.9
Example 7
A donor contributes land in an otherwise developed residential area to a not-for-profit neighbourhood association. The land is currently
used as a playground. The donor specifies that the land must continue to be used by the association as a playground in perpetuity.
Upon review of relevant documentation (eg, legal and other), the association determines that the fiduciary responsibility to meet the
donors restriction would not be transferred to market participants if the association sold the asset, ie, the donor restriction on the use
of the land is specific to the association. Furthermore, the association is not restricted from selling the land. Without the restriction on
the use of the land by the association, the land could be used as a site for residential development. In addition, the land is subject to
an easement (ie, a legal right that enables a utility to run power lines across the land). Following is an analysis of the effect on the
fair value measurement of the land arising from the restriction and the easement
Donor restriction on use of land Because in this situation the donor restriction on the use of the land is specific to the association,
the restriction would not be transferred to market participants. Therefore, the fair value of the land would be the higher of its fair
value used as a playground (ie, the fair value of the asset would be maximised through its use by market participants in
combination with other assets or with other assets and liabilities) and its fair value as a site for residential development (ie, the
fair value of the asset would be maximised through its use by market participants on a stand-alone basis), regardless of the
restriction on the use of the land by the association.
Easement for utility lines Because the easement for utility lines is specific to (ie, a characteristic of) the land, it would be
transferred to market participants with the land. Therefore, the fair value measurement of the land would take into account the effect
of the easement, regardless of whether the highest and best use is as a playground or as a site for residential development.
Example 8
An entity uses the expected present value technique to measure the fair value of a decommissioning liability to dismantle and remove
an offshore oil platform at the end of 10 years, which the entity was contractually allowed to transfer to a market participant.
When estimating the price, a market participant would use all the following probability-weighted inputs :
labour costs;
allocation of overhead costs (80% of expected labour costs);
compensation for undertaking the activity and for assuming risk associated to fulfill the obligation includes the following
profit on labour and overhead cost (20% mark-up); and
the risk that the actual cash outflows might differ from those expected (5% including the effect of inflation);
effects of inflation on estimated costs and profits (4% for 10 years);
time value of money, represented by the risk-free rate (5%)
non-performance risk relating to the risk that the entity will not fulfill the obligation, including the entitys own credit risk
(3.5%).
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