Chapter 6 — The Principal or Most Advantageous Market

6.2 The Principal Market

ASC 820-10 — Glossary

Principal Market

The market with the greatest volume and level of activity for the asset or liability.

An entity identifies the principal market for an asset, liability, or equity instrument by first identifying all markets that it can access to sell the asset or transfer the liability or equity instrument. The principal market is the market that, from a market-participant perspective, has the greatest volume or level of activity. While there will generally be a principal market, in the absence of a principal market, the entity identifies the most advantageous market, which is the market that maximizes the fair value of the asset or minimizes the fair value of the liability.

The glossary in ASC 820-10 gives several examples of markets that could be the principal market for an entity.

ASC 820-10 — Glossary

Brokered Market

A market in which brokers attempt to match buyers with sellers but do not stand ready to trade for their own account. In other words, brokers do not use their own capital to hold an inventory of the items for which they make a market. The broker knows the prices bid and asked by the respective parties, but each party is typically unaware of another party’s price requirements. Prices of completed transactions are sometimes available. Brokered markets include electronic communication networks, in which buy and sell orders are matched, and commercial and residential real estate markets.

Dealer Market

A market in which dealers stand ready to trade (either buy or sell for their own account), thereby providing liquidity by using their capital to hold an inventory of the items for which they make a market. Typically, bid and ask prices (representing the price at which the dealer is willing to buy and the price at which the dealer is willing to sell, respectively) are more readily available than closing prices. Over-the-counter markets (for which prices are publicly reported by the National Association of Securities Dealers Automated Quotations systems or by OTC Markets Group Inc.) are dealer markets. For example, the market for U.S. Treasury securities is a dealer market. Dealer markets also exist for some other assets and liabilities, including other financial instruments, commodities, and physical assets (for example, used equipment).

Exchange Market

A market in which closing prices are both readily available and generally representative of fair value. An example of such a market is the New York Stock Exchange.

Principal-to-Principal Market

A market in which transactions, both originations and resales, are negotiated independently with no intermediary. Little information about those transactions may be made available publicly.

An entity is not required to perform an exhaustive search to identify all markets that could potentially be the principal market. In fact, unless contradictory evidence exists, it is presumed that the market in which the entity normally transacts is the principal market for the asset or liability. This concept is discussed in paragraph BC23 of ASU 2011-04, which states:

In addition, the Boards concluded that a reporting entity normally enters into transactions in the principal market for the asset or liability (that is, the most liquid market, assuming that the reporting entity can access that market). As a result, the Boards decided to specify that a reporting entity can use the price in the market in which it normally enters into transactions, unless there is evidence that the principal market and that market are not the same. Consequently, a reporting entity does not need to perform an exhaustive search for markets that might have more activity for the asset or liability than the market in which that reporting entity normally enters into transactions. Thus, the amendments address practical concerns about the costs of searching for the market with the greatest volume and level of activity for the asset or liability.

In a speech at the 2009 AICPA Conference on Current SEC and PCAOB Developments, Evan Sussholz, then a professional accounting fellow in the SEC’s Office of the Chief Accountant, addressed questions for entities to consider in determining the principal (or most advantageous) market. Specifically, Mr. Sussholz stated:

Question #1: What are the potential exit markets for an asset and what is the asset’s principal or most advantageous market?

For an actively-traded financial asset, the principal (or most advantageous) market may simply be an exchange such as the NYSE or NASDAQ. However, for many assets such as non-financial assets, determining the principal (or most advantageous) market could be more difficult as the market for these assets may be inactive or non-existent and observable pricing information may not be readily available. Furthermore, certain defining characteristics of individual markets may have an impact on the timing and ultimate selling price of an asset. When performing an analysis of each potential exit market, it may be important for a reporting entity to understand the following:

Is the market for the asset active, inactive, or has it recently become inactive?
Are there distinct groups of potential market participants in that market such as strategic buyers and financial buyers? Within these groups, are there clusters of potential participants (i.e. small vs. large, profitable vs. unprofitable, etc.)
What is the competitive nature of the market (i.e. perfect competition, monopolistic or oligopolistic competition, fragmented markets)?

To begin our example, let’s assume that there are two potential exit markets for the customer related intangible asset being measured including the customer list broker market and the mergers and acquisitions (M&A) market. Each of these markets has defining characteristics such as level of activity, groups of market participants, and differing levels of competitiveness. While a reporting entity may be able to obtain some pricing information from both markets, significant adjustments may be required to determine an estimated selling pricing for the specific customer related intangible asset being measured.

In most cases, the principal market is the same as the most advantageous market. Entities would generally change markets, unless impractical, if there was a more advantageous market. However, if there is a principal market, the fair value measurement should represent the fair value in that market even if the fair value in a different market is potentially more advantageous.

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This publication provides comprehensive guidance; however, it does not address all possible fact patterns, and the guidance is subject to change. Consult a Deloitte & Touche LLP professional regarding your specific issues and questions.