Fair value measurement
The Boards continued their discussion on the fair value measurement project. Discussions focused on the following topics:
- measuring the fair value of an entity's own equity instruments
- premiums and discounts in a fair value measurement
- the measurement uncertainty analysis disclosure
- measuring the fair value of a group of financial assets and liabilities.
The staff provided a Board's with a summary of the relevant proposals in the current proposed ASU on fair value measurement, as well as an overview of certain feedback received from respondents. The staff noted that some respondents indicated that measuring the fair value of a reporting entity's own equity should be consistent with measuring the fair value of liabilities, and asked the Board's to provide additional clarification in this regard. The staff then provided the Boards with its analysis of circumstances in which guidance for measuring the fair value of liabilities is equally applicable when measuring the fair value of a reporting entity's own instruments. The staff recommended to the Boards that the final fair value measurement standard acknowledge that although equity instruments are different from liabilities, the guidance for measuring their fair value is the same in some respects, as outlined in the staff agenda documents.
Both the IASB and FASB unanimously supported the staff's recommendation.
The staff provided the Board's with a summary of the relevant proposals in the current proposed ASU, as well as a summary of respondents' feedback pertaining to blockage factors and other premium and discount adjustments used in determining fair value. Staff noted that respondents generally supported the additional guidance the Boards provided on the meaning of a blockage factor, with some noting the term is often used broadly in practice to pertain to any discount or premium related to size or liquidity. Respondents also requested the Boards to provide additional clarity on multiple items, including (1) why an entity can apply a control premium but not a blockage factor when the application of both depend on the size of a holding, (2) distinguishing between blockage factors and adjustments for liquidity and concentration risk, and (3) whether it is appropriate to recognise a gain or loss at initial recognition when a premium or discount was priced into the transaction to buy an instrument but cannot be applied in the fair value measurement for accounting purposes to recognise a loss or gain upon an actual exit transaction. The staff then provided an overview of their additional analysis to the Boards, and recommended the Board take the following actions:
In discussing the staff's recommendations, one Board member requested clarification that the recommendation would remove the term blockage factor, and questioned if a user of the guidance would not have interest in guidance on the application of a blockage factor. The Board member believed that the guidance can, and has articulated the difference between a blockage factor and a control premium. In turn, staff further described its intent, stating that it wanted to avoid making definitions for specific terms (i.e., a control premium, what is in a discount for marketability, what is included or excluded in a blockage factor, etc.). The staff then provided the Board with an overview of the intended flow of applying the guidance when valuing a fair value instrument: a level 1 price quote should be used if available, if not, determine if there is clear unit of account guidance. If such guidance exists, determine what premiums or discounts a market participant would use in valuing that unit account. If such guidance does not exist, utilise a value maximisation principle. Multiple Board members indicated that such language could still be included in the guidance without being prescriptive, but rather to clarify and articulate the intent the staff discussed. One Board member suggested such views be expressed in the standard's basis for conclusions. By majority vote, both the IASB and FASB agreed with the staff's recommendations, subject to their recommended clarifications.
The third topic on the fair value measurement project was a discussion on the measurement uncertainty analysis disclosure included in the proposed standard, beginning with a summary of the feedback provided by respondents. The staff noted that most IFRS respondents' concerns focused on the scope of the disclosure and various practical questions, and also noted the respondents did not have particular disagreements with the overall disclosure. Conversely, the staff noted respondents currently following U.S. GAAP strongly disagreed with the overall proposal. The staff then presented the Boards with a proposed discussion plan, encouraging the Boards to first clarify its objective for such a disclosure, and to in turn discuss the best means to achieve the objective. The staff recommended the Boards specify the objective of a measurement uncertainty analysis as follows:
To provide a range of reasonable values (exit prices) that could have resulted from the use of other reasonable unobservable inputs in the fair value measurement.
Before opening the topic for general discussion, the staff then provided the Boards with three potential approaches to disclosing information about measurement uncertainty for Level 3 fair value measurements:
- Option 1: Proceed with a measurement uncertainty analysis disclosure, with some modifications to the proposal.
- Option 2: Proceed with a sensitivity analysis about fair value measurements, excluding the effect of inter-relationships between unobservable inputs (as required in IFRS 7 today, with some modifications)
- Option 3: Proceed with a disclosure of additional information about Level 3 fair value measurements.
The Boards then discussed at length the intended objectives of the disclosure, the merits and drawbacks of the options presented by the staff, and potential resolutions for the issue. Multiple FASB members expressed significant concern about the potential cost for preparers to provide the disclosures, and believed that not enough research and analysis had been performed for the Boards to appropriately understand such concerns. An IASB member also highlighted investors' perspectives, noting such disclosures would provide useful and needed information for an investor to make an informed investment decision. Many board members agreed that Option 1 represented an ideal outcome, but recognised the concerns posed over the cost/benefit of the disclosure. Most Board members also agreed that Option 3 represented a minimum disclosure that would be present regardless of the ultimate outcome.
The Boards discussed various proposals on how to proceed with this aspect of the project and how the staff could best perform additional analysis and outreach. Multiple Board members stated a desire that continued deliberations on the measurement uncertainty analysis disclosure should not delay other aspects of the project in which the Boards had already reached a consensus. The Boards instructed the staff to perform additional analysis, and agreed to perform the analysis as a separate part of the project to be finalised after completion of the standard.
After discussing the measurement uncertainty analysis disclosure, the staff initiated discussion on the proposal to permit an exception to fair value measurement requirements for measuring the fair value of a group of financial assets and financial liabilities that are managed on the basis of an entity's net exposure to a particular market risk(s) or to the credit risk of a particular counterparty. However, before providing an overview of its agenda documents, the staff asked the Board if there was a need to defer the topic in order to further discuss the interplay of presentation and measurement netting given the conclusions the Boards reached on the offsetting project during the November 17th meeting. The staff noted that some Board members may have concerns about how a decision to present financial instruments on a gross basis, except in limited circumstances, would affect the measurement of those instruments. The staff did not make a recommendation to the Boards on the matter, but asked if the proposed fair value guidance on portfolios should be amended given the previous decisions on offsetting.
The Boards discussed the staff's question, with multiple Board members expressing a viewpoint that the presentation of a financial instrument should not impact how that instrument is measured, and that changing fair value guidance as a result of the offsetting decisions would create more significant issues in practice. After further discussion, both the IASB and FASB decided that deferring the topic to further consider the interplay between presentation and measurement was unnecessary, and agreed to proceed with the discussion as originally planned.
The staff then provided the Boards with an overview of their analysis, including a summary of the current proposal, and a summary of the feedback received from respondents. The staff indicated that respondents provided positive feedback on the decision to include the exception for portfolios of financial assets and financial liabilities that are managed as a group, noting such treatment is consistent with current practice and guidance. Accordingly, respondents suggested various clarifications be included in the final standard. In turn, the staff provided the Boards with multiple recommendations:
- Permit the application of the exception when financial instruments are managed on the basis of an entity's net exposure to a particular market risk or to the credit risk of a particular counterparty.
- Permit the application of the exception only to financial instruments measured at fair value in the statement of financial position, and not to those financial instruments that are not measured at fair value in the statement of financial position, but whose fair value is required to be disclosed.
- Require entities to make a consistently applied accounting policy decision to use the exemption (and disclosure that policy).
- Require that when there is a Level 1 instrument within a portfolio, an entity must use that quoted price without adjustment, even when the exception is used.
- Require that market risk that are being offset must be substantially the same (and provide an example)
- Clarify that a fair value measurement using the exception should reflect arrangements that mitigate credit risk exposure when such arrangements are legally enforceable.
- Clarify that a calculation of the credit adjustment should take into account the life of the potential exposure to credit risk.
- Not to require a particular method of allocation of the bid-ask and credit adjustments to the unit of account, but require that such allocations should be done on a reasonable, non-arbitrary and consistent basis.
After discussing each of the staff's analysis, the Boards agreed with the recommendations of the staff, noting they had appropriately addressed the comments received from constituents. With regard to the final recommendation, the Boards noted the staff should not draft too prescriptive guidance, but rather provide examples which describe common methodologies.