Valuation Bases & Conceptual Framework

Valuation Bases Under Conceptual Framework

• Historical cost refers to assets recorded at the amount of cash or cash equivalents paid, or the fair value of consideration, when acquired
• Liabilities are recorded at the proceeds received in exchange for the obligation, or the cash/cash equivalents expected to satisfy the liability
• Current cost refers to assets carried at the cash/cash equivalents that would be paid if an equivalent asset was acquired currently
• Liabilities are carried at the undiscounted cash/cash equivalents required to settle the obligation currently
• Realisable (settlement) value refers to assets carried at the cash/cash equivalents obtained by selling the asset in an orderly disposal
• Liabilities are carried at their settlement values, which is the undiscounted cash/cash equivalents expected to satisfy the liabilities
• Present value refers to assets carried at the present discounted value of future net cash inflows the item is expected to generate
• Liabilities are carried at the present discounted value of the future net cash outflows expected to settle the liabilities

Objectives of MFRS 13/IFRS 13

• Defines fair value
• Sets out a single MFRS framework for measuring fair value
• Requires disclosures about fair value measurements

Scope of MFRS 13/IFRS 13

• The measurement and disclosure requirements do not apply to share-based payment transactions within the scope of MFRS 2
• They also do not apply to leasing transactions within the scope of MFRS 117
• Does not apply to measurements that have some similarities to fair value but are not, like net realisable value in MFRS 102 Inventories, or value in use in MFRS 136 Impairment of Assets.
• Disclosures are not required for plan assets measured at fair value in accordance with MFRS 119 Employee Benefits
• Are not required for retirement benefit plan investments measured at fair value in accordance with MFRS 126
• Also not for assets where the recoverable amount is fair value less costs of disposal per MFRS 136

Definition of Fair Value

• Fair value constitutes the price that would be received to sell an asset or paid to transfer a liability
• The transaction is orderly and takes place between market participants at the measurement date
• MFRS 13 uses a hierarchical approach to measuring fair value
• It considers the principal or most advantageous market, which is the largest market where the asset/liability is traded, alongside the highest and best use of an asset

Most Advantageous Market

• This market provides the best price for selling an asset or the least amount for transferring a liability (exit price)
• This is determined after considering transaction and transport costs

Highest and Best Use (Non-Financial Assets)

• This is the use that maximises the asset's value, determined from a market participant perspective
• Consider land with a warehouse, valued at RM2 million (land) and RM1 million (building)
• If demolished for a parking lot, land value increases to RM4.5 million

Valuation Techniques

• The market approach uses prices and other relevant information from market transactions involving identical or comparable assets/liabilities
• The cost approach reflects the amount to replace an asset's service capacity, which is considered the current replacement cost
• The income approach converts future amounts to a single, discounted current amount, reflecting market expectations

Valuation Techniques: Income Approach

• Income approach includes present value techniques
• Involves option pricing models like Black-Scholes-Merton method
• Also includes the multi-period excess earnings method (abnormal earnings method)

Inputs to Valuation Techniques

• Valuation techniques should maximise the use of relevant, observable inputs and minimise unobservable inputs

Level 1 Inputs

• Level 1 inputs are unadjusted quoted prices in active markets for identical assets or liabilities
• An instance of this is unadjusted quoted prices of equity shares in a listed company
• A quoted price in an active market gives the most reliable evidence of fair value
• It should be used without adjustment whenever possible

Level 2 Inputs

• Encompass inputs other than the quoted prices in Level 1
• They are observable for the asset or liability, directly or indirectly
• If an asset or liability has a specified term, the Level 2 input must be observable for its full term
• Quoted prices for similar assets/liabilities in active markets are Level 2.
• Quoted prices for identical/similar assets/liabilities in inactive markets are Level 2
• Non-quoted but observable prices are Level 2 and inputs derived or corroborated by observable market data
• As an example, the price per square meter derived from observable market data from comparable buildings can be used to measure buildings fair value

Level 3 Inputs

• Level 3 inputs are unobservable and apply when there's little market activity
• Entities use their own data, with market participant assumptions, to develop these inputs
• If an entity measures the fair value of a cash generating unit, it may use its own financial forecast for cash flows

Input for Fair Value Measurements

• If there is a quoted market, use without adjustments (Level 1).
• If no quoted market, but an identical item, use FV of identical item (Level 2).
• if no identical item, use valuation techniques with unobservable data (Level 3)

Disclosure

• Any valuation techniques and inputs used to develop assets' and liabilities' fair value must be disclosed
• Measurements using significant unobservable inputs (Level 3) must disclose the effect on profit/loss
• Disclosure aspects include reconciliation from opening to closing balance, quantitative information about inputs, valuation processes, and sensitivity to changes in inputs