Fair value measurement Handbook US GAAP and IFRS® Standards December 2020 home.kpmg Contents Contents Measuring fair value in unsettled times 1 About the standards 2 About this publication 4 A. An introduction to fair value measurement 7 B. Scope 9 C. The item being measured and the unit of account 20 D. Market participants 30 E. Principal and most advantageous markets 33 F. Valuation approaches and techniques 41 G. Inputs to valuation techniques 51 H. Fair value hierarchy 62 I. Fair value at initial recognition 71 J. Highest and best use 76 K. Liabilities and own equity instruments 80 L. Portfolio measurement exception 89 M. Inactive markets 95 N. Disclosures (before adopting ASU 2018-13) 99 N. Disclosures (after adopting ASU 2018-13) 113 O. Application issues: Derivatives and hedging 131 P. Application issues: Investments in investment funds 151 Q. Application issues: Practical expedient for investments in investment companies 157 Appendix: Index of questions and answers 166 Appendix: Effective dates – US GAAP 175 Acknowledgments 177 Keeping in touch 178 Measuring fair value in unsettled times Measuring fair value can present significant challenges for preparers of financial statements even in the best of times because it may involve judgment and estimation. It is even more difficult now due to the impact of COVID-19. The global pandemic has been labelled ‘a crisis like no other’ by the International Monetary Fund, and many countries have seen decreases in economic activity that are unprecedented in modern times. This stressed environment is testing the principles of ASC Topic 820 Fair Value Measurement and IFRS 13 Fair Value Measurement and how companies can apply them consistently and transparently. Rapid changes in market perceptions and economic projections create challenges when determining fair value based on the information available to market participants at the measurement date. Greater estimation uncertainty and less observable market data may require companies to change valuation techniques and use more judgments and assumptions, which may lead to more Level 3 measurements. All of these factors increase the importance of providing disclosures around the key assumptions and judgments used, to help users of financial statements understand the impact of COVID-19 on a company’s fair value measurements. We are pleased to share our insight and practical guidance in the fifth edition of our Fair value measurement handbook. The publication will help you apply the principles of Topic 820 and IFRS 13 during these challenging times and understand the key differences between US GAAP and IFRS Standards. Kimber Bascom and Mahesh Narayanasami Chris Spall and Avi Victor Department of Professional Practice KPMG International KPMG in the US Standards Group © 2020 KPMG LLP, a Delaware limited liability partnership and a member firm of the KPMG global organization of independent member firms affiliated with KPMG International Limited, a private English company limited by guarantee. All rights reserved. © 2020 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved. 2 | Fair value measurement handbook About the standards Chronology and objective The Financial Accounting Standards Board (FASB) originally issued Topic 820 as FASB Statement of Financial Accounting Standards No. 157 (FASB Statement 157) in September 2006. The International Accounting Standards Board (IASB® Board) issued the IFRS Standards equivalent, IFRS 13, in May 2011. At the same time, the FASB issued ASU 2011-04, Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in US GAAP and IFRSs. The ASU amended US GAAP to achieve the Boards’ objectives of a converged definition of fair value and substantially converged measurement and disclosure guidance. Subsequently, the FASB has issued various amendments to Topic 820, most notably: – ASU 2015-07, Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent), issued May 2015; and – ASU 2018-13, Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement, issued August 2018. Certain of these amendments have resulted in further divergence between the standards (see the summary of key differences between US GAAP and IFRS Standards below). Despite these differences, Topic 820 and IFRS 13 remain aligned in that they define fair value, establish a framework for measuring fair value and a fair value hierarchy based on the source of the inputs used to estimate fair value, and require disclosures about fair value measurements. The standards do not establish new requirements for when fair value is required or permitted, but provide a single source of guidance on how fair value is measured. In general, this guidance is applied when fair value is required or permitted by other applicable GAAP. Summary of key differences Throughout this publication, we highlight what we believe are significant differences between US GAAP and between US GAAP and IFRS Standards. However, many of these differences do IFRS Standards not arise from the fair value measurement standards but because of the interaction of those standards with other requirements of US GAAP or IFRS Standards. For example, Question C90 discusses a difference related to ‘unit of account’, which is prescribed by other US GAAP that requires or permits the fair value measurement. Further, under US GAAP, certain requirements apply to nonpublic entities only. Unlike US GAAP, the requirements of IFRS 13 apply to all entities, regardless of their public status. Content in this book that is specific to nonpublic entities is marked with a and is not relevant to users of IFRS Standards. © 2020 KPMG LLP, a Delaware limited liability partnership and a member firm of the KPMG global organization of independent member firms affiliated with KPMG International Limited, a private English company limited by guarantee. All rights reserved. © 2020 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved. Fair value measurement handbook | 3 About the standards | This table summarizes what we believe are the key differences in the measurement and disclosure of fair value between US GAAP and IFRS Standards. US GAAP IFRS Standards section N, Disclosures (after adopting ASU 2018-13) ASU 2018-13 eliminated and modified certain fair value disclosure requirements under Topic 820. The ASU also exempted nonpublic entities from certain disclosure requirements. Consequently, the ASU resulted in further divergence in the fair value disclosure requirements under US GAAP and IFRS Standards. These differences are highlighted throughout section N, Disclosures (after adopting ASU 2018-13), particularly in Question N20, which summarizes the fair value disclosure requirements under the standards. section Q, Application issues: Practical expedient for investments in investment companies There is a practical expedient to measure Unlike US GAAP, there is no practical the fair value of these investments at net expedient for these investments. asset value if certain criteria are met. Effective dates Generally, new standards and interpretations issued by the IASB Board have a single effective date. In contrast, those issued by the FASB usually have at least two effective dates – e.g. one for public business entities and another for all other entities. This may be further nuanced by requiring certain entities (e.g. employee benefit plans that file or furnish their financial statements with the SEC) to follow the effective date requirements for public business entities. This means that the implementation dates of new accounting standards can be spread over two or even three years. Appendix: Effective dates – US GAAP includes a table of effective dates to help you navigate new requirements that are not yet (fully) effective that may affect the commentary in this publication. © 2020 KPMG LLP, a Delaware limited liability partnership and a member firm of the KPMG global organization of independent member firms affiliated with KPMG International Limited, a private English company limited by guarantee. All rights reserved. © 2020 KPMG IFRG Limited, a UK company, limited by guarantee. All rights reserved. 4 | Fair value measurement handbook About this publication Purpose The purpose of this publication is to assist you in understanding the requirements of, and the differences between, Topic 820 and IFRS 13. Organization of the text Each section of this publication includes a short overview, followed by questions and answers. The questions and answers are numbered in steps of 10 so that future questions and answers can be added without breaking the flow of the commentary. Our commentary is referenced to the FASB Accounting Standards Codification® (or Codification) and to IFRS Standards, where applicable. References to the relevant literature are included in the left-hand margin, with the references to IFRS Standards in square brackets below the US GAAP references. For example, 820‑10‑35‑9 is paragraph 35-9 of ASC Subtopic 820-10; and [IFRS 13.22] is paragraph 22 of IFRS 13. The main text is written in the context of US GAAP. To the extent that the requirements of IFRS Standards are the same, the references in the left-hand margin include US GAAP and IFRS Standards. However, if the requirements of IFRS Standards are different from US GAAP, or a different wording might result in different interpretations in practice, a box at the end of that answer discusses the requirements of IFRS Standards and