6.1 General
ASC 820-10
The Transaction
35-5 A
fair value measurement assumes that the transaction to sell
the asset or transfer the liability takes place either:
- In the principal market for the asset or liability
- In the absence of a principal market, in the most advantageous market for the asset or liability.
35-5A
A reporting entity need not undertake an exhaustive search
of all possible markets to identify the principal market or,
in the absence of a principal market, the most advantageous
market, but it shall take into account all information that
is reasonably available. In the absence of evidence to the
contrary, the market in which the reporting entity normally
would enter into a transaction to sell the asset or to
transfer the liability is presumed to be the principal
market or, in the absence of a principal market, the most
advantageous market.
35-6
If there is a principal market for the asset or liability,
the fair value measurement shall represent the price in that
market (whether that price is directly observable or
estimated using another valuation technique), even if the
price in a different market is potentially more advantageous
at the measurement date.
35-6A
The reporting entity must have access to the principal (or
most advantageous) market at the measurement date. Because
different entities (and businesses within those entities)
with different activities may have access to different
markets, the principal (or most advantageous) market for the
same asset or liability might be different for different
entities (and businesses within those entities). Therefore,
the principal (or most advantageous) market (and thus,
market participants) shall be considered from the
perspective of the reporting entity, thereby allowing for
differences between and among entities with different
activities.
35-6B
Although a reporting entity must be able to access the
market, the reporting entity does not need to be able to
sell the particular asset or transfer the particular
liability on the measurement date to be able to measure fair
value on the basis of the price in that market.
Pending Content (Transition Guidance: ASC
820-10-65-13)
35-6B Although a reporting entity must
be able to access the market, the reporting entity
does not need to be able to sell the particular
asset or transfer the particular liability on the
measurement date to be able to measure fair value
on the basis of the price in that market. For
example, an equity security that an entity cannot
sell on the measurement date because of a
contractual sale restriction shall be measured at
fair value on the basis of the price in the
principal (or most advantageous) market. A
contractual sale restriction does not change the
market in which that equity security would be sold
(see paragraphs 820-10-55-52 through 55-52A).
The Fair Value Measurement Approach
55-1
The objective of a fair value measurement is to estimate the
price at which an orderly transaction to sell the asset or
to transfer the liability would take place between market
participants at the measurement date under current market
conditions. A fair value measurement requires a reporting
entity to determine all of the following:
- The particular asset or liability that is the subject of the measurement (consistent with its unit of account)
- For a nonfinancial asset, the valuation premise that is appropriate for the measurement (consistent with its highest and best use)
- The principal (or most advantageous) market for the asset or liability
- The valuation technique(s) appropriate for the measurement, considering the availability of data with which to develop inputs that represent the assumptions that market participants would use when pricing the asset or liability and the level of the fair value hierarchy within which the inputs are categorized.
Underlying the fair value measurement objective in ASC 820 is the concept that an
entity would transact in the principal market for the asset, liability, or equity
instrument subject to the fair value measurement, or in the absence of a principal
market, the most advantageous market. The determination of the principal (or most
advantageous) market for an asset, liability, or equity instrument can affect the
fair value measurement since the exit price may differ from market to market. (See
Sections 6.2 and 6.3 for a discussion of the concepts of the
principal market and most advantageous market.) In evaluating which of two or more
accessible markets is the principal (or most advantageous) market, an entity must
apply the market-participant approach.
6.1.1 Access Considerations
For a market to represent the principal (or most advantageous) market, an entity
must have access to it as of the measurement date. However, ASC 820-10-35-6B
indicates that an entity is not required “to be able to sell the particular
asset or transfer the particular liability on the measurement date” in that
market. An example of a situation in which an entity has access to a market but
is unable to sell an asset in that market is one in which an entity is precluded
from transferring an asset as of the measurement date. See Section
10.2.2.2 for further discussion of restrictions on the sale or
use of an asset.
In a speech at the 2015 AICPA Conference on Current SEC and
PCAOB Developments, Kris Shirley, then a professional accounting fellow in the
SEC’s Office of the Chief Accountant, outlined certain factors that may prevent
an entity from accessing a particular price within a market as of the
measurement date:
The fair value measurement guidance also indicates a
reporting entity must have access to the principal or most advantageous
market at the measurement date. [Footnote omitted] If the reporting
entity cannot transact in a particular market on the measurement date,
then that market may not constitute the principal or most advantageous
market.
Being able to transact in a market on the measurement
date, I would like to point out, is something that may need to be
considered even when relying on observable pricing as an input into a
fair value measurement. An entity may need to consider any different
characteristics associated with its asset or liability being measured at
fair value and the observable pricing. Different characteristics may
prevent an entity from accessing the observable market on the
measurement date at the price observed within the market and may lead to
a different principal or most advantageous market for fair value
measurement purposes.
Some observations regarding common characteristics that
may prevent an entity from accessing a particular price within a market
include, but are not limited to, the following:
-
a reporting entity’s need to transform the asset or liability in some way to match the asset or liability in the observable market;
-
restrictions that may be unique to the reporting entity’s asset or liability that are not embedded in the asset or liability in the observable market; and
-
marketability or liquidity differences between the asset or liability in the observable market relative to the reporting entity’s asset or liability.
A reporting entity may not be precluded from using
observable prices from a particular market as one input into its fair
value measurement (even if the market does not constitute the principal
market); however, an entity may need to make appropriate adjustments to
the fair value measurement for any differences in the characteristics of
the asset or liability being measured and the price observed within a
market. For example, an entity that is measuring the fair value of a
loan may look to the securitization market when measuring the value of
the loan, but would need to make appropriate adjustments to the observed
securities prices to reflect the fact that the loan has not been
securitized as of the measurement date.
For purposes of determining the reporting entity’s
principal or most advantageous market, I would consider starting with
the initial transaction. There may be situations when the market in
which the initial transaction occurs is different than the principal or
most advantageous market. In those situations, a reporting entity may
need to consider whether it is able to access the principal or most
advantageous market for the asset or liability on the measurement
date.
Note that an entity would evaluate market access from its own perspective rather
than from a market-participant perspective. Example 4 in ASC 820-10-55-42
through 55-45A illustrates a scenario in which two entities measure the same
instrument differently because each entity identifies a different principal
market on the basis of its own activities. For further discussion, see Section 6.5.
Connecting the Dots
An entity’s determination of its principal (or most
advantageous) market will affect whether a Level 1 fair value
measurement must be used to value an asset, liability, or item
classified in stockholder’s equity that is subsequently measured at fair
value. While there is a presumption that a Level 1 fair value
measurement must be used, when available, to measure the fair value of
an item for which a Level 1 quote is available, if the entity does not
have access to the market in which such a quote is available, it would
not be required to use this quote as the determinative measure of fair
value.
6.1.2 Market-Participant Considerations
ASC 820-10
The Transaction
35-5A A reporting entity
need not undertake an exhaustive search of all possible
markets to identify the principal market or, in the
absence of a principal market, the most advantageous
market, but it shall take into account all information
that is reasonably available. In the absence of evidence
to the contrary, the market in which the reporting
entity normally would enter into a transaction to sell
the asset or to transfer the liability is presumed to be
the principal market or, in the absence of a principal
market, the most advantageous market.
35-6C Even when there is no
observable market to provide pricing information about
the sale of an asset or the transfer of a liability at
the measurement date, a fair value measurement shall
assume that a transaction takes place at that date,
considered from the perspective of a market participant
that holds the asset or owes the liability. That assumed
transaction establishes a basis for estimating the price
to sell the asset or to transfer the liability.
As noted in ASC 820-10-35-6C above, an entity needs to determine the fair value
of an asset, liability, or equity instrument from a market-participant
perspective. However, ASC 820-10-35-6C also points out that there may be
situations in which “there is no observable market to provide pricing
information about the sale of an asset or the transfer of a liability at the
measurement date.” When an observable market for an asset does not exist, an
entity must develop a hypothetical (assumed) transaction as of the measurement
date in accordance with the fair value objective in ASC 820. In doing so, an
entity must consider characteristics of potential market participants (the
entity does not have to identify specific market participants) that would
transact for the asset and, in the case of nonfinancial assets, maximize the
asset’s value. An entity may need to make adjustments to reflect factors
specific to an asset or liability (e.g., the location and condition of a
nonfinancial asset, synergies specific to the entity but not available to market
participants, growth rates, and risk adjustments). These adjustments would be
made on the basis of market-participant assumptions. See Section
10.2.2.1 for further discussion of the characteristics of an
asset or liability that market participants would consider in pricing the asset
or liability as of the measurement date.
6.1.3 Different Markets Within a Reporting Entity
The principal (or most advantageous) market for the same asset, liability, or
equity instrument might vary from entity to entity (and from business to
business within an entity) given that entities with different activities may
have access to different markets. The analysis of the principal (or most
advantageous) market does not differ for subsidiaries. A subsidiary identifies
its principal (or most advantageous) market when it measures the fair value of
assets and liabilities by considering both of the following:
-
Its own perspective on identifying markets that it can access.
-
Market participants’ perspectives on assessing which of two or more accessible markets is the principal (or most advantageous) market.
An entity should consider all markets that can be accessed
through its parent or related subsidiary, taking into account any restrictions
that prohibit the entity from transferring the asset or liability to its parent
or related subsidiary, including excessive transportation costs. That is, it
should not be assumed that a subsidiary can access a given market through its
parent or related subsidiary if there are legal restrictions against (1)
transferring the asset to that parent or subsidiary or (2) selling the asset in
that market. However, legal restrictions are not the only barriers to accessing
a given market. An entity must consider other relevant circumstances, such as
cost-prohibitive import tariffs or other transportation costs that make the
likelihood of accessing a different market less than reasonably possible. A
subsidiary should also consider the guidance in ASC 820-10-35-5A, which
indicates that an entity does not need to perform “an exhaustive search of all
possible markets” and that, in the absence of information to the contrary, it is
presumed that the market in which the transaction occurs would be its principal
market. See Example 6-4 for a scenario
involving multiple principal markets in an entity’s consolidated financial
statements.