The objectives of IFRS 13 are:

 to define fair value;

 to set out in a single IFRS a framework for measuring fair value; and
 to require disclosures about fair value measurements.

What is fair value?

Fair value is the price that would be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants at the measurement
date.

This is the notion of an exit price.

When an entity performs the fair value measurement, it must determine all of the
following:

 the particular asset or liability  that is the subject of the measurement

(consistently with its unit of account)
 for a non-financial asset, the valuation premise that is appropriate for the
measurement (consistently with its highest and best use)
 the principal (or most advantageous) market for the asset or liability
 the valuation techniques appropriate for the measurement, considering:
o 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
o the level of the fair value hierarchy within which the inputs are
categorized.

Asset or liability
The asset or liability measured at fair value might be either:

 a stand-alone (individual) asset or liability (for example, a share or a pizza oven)

 a group  of assets, a group of liabilities, or a group of assets and liabilities (for
example, controlling interest represented by more than 50% of shares in some company, or
cash-generating unit being pizzeria).

Whether the asset or liability is stand-alone or a group depends on its unit of

account. Unit of account is determined in accordance with the other IFRS standard that
requires or permits fair value measurement (for example, IAS 36 Impairment of Assets).

When measuring fair value, an entity takes into account the characteristics of the
asset or liability that a market participant would take into account when pricing the
asset or liability at measurement date.

These characteristics include for example:

 the condition and location of the asset

 the restrictions on the sale or use of the asset.

Transaction
A fair value measurement assumes that the asset or liability is exchanged in
an orderly transaction between market participants at the measurement date under
current market conditions.
Orderly transaction
The transaction is orderly when 2 key components are present:

 there is adequate market exposure in order to provide market participants the ability to
obtain knowledge and awareness of the asset or liability necessary for a market-based
exchange
 market participants are motivated to transact for the asset or liability (not forced).

Market participants
Market participants are buyers and sellers in the principal or the most advantageous
market for the asset or liability, with the following characteristics:

 independent
 knowledgeable
 able to enter into transaction
 willing to enter into transaction.

Principal vs. the most advantageous market

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; or

 in the absence of a principal market, in the most advantageous market for the asset or
liability.

Principal market is the market with the greatest volume and level of activity for the
asset or liability. Different entities can have different principal markets, as the
access of an entity to some market can be restricted (please watch the video below for
deeper explanation).

The most advantageous market is the market that maximizes the amount that would be
received to sell the asset or minimizes the amount that would be paid to transfer the
liability, after taking into account transaction costs and transport costs.

Application to non-financial assets

Fair value of a non-financial asset shall be measured based on its highest and best
use from a market participant’s perspective.

The highest and best use takes into account the use of the asset that is:

 physically possible − it takes into account the physical characteristics that market
participants would consider (for example, property location or size);
 legally permissible – it takes into account the legal restrictions on use of the asset
that market participants would consider (for example, zoning regulations); or
 financially feasible – it takes into account whether a use of the asset generates adequate
income or cash flows to produce an investment return that market participants would
require. This should incorporate the costs of converting the asset to that use.

The highest and best use of a non-financial asset may be on a stand-alone basis or may
be achieved in combination with other assets and/or liabilities (as a group).

When the highest and best use is in an asset/liability group, the synergies associated
with the asset/liability group may be reflected in the fair value of the individual
asset in a number of ways, for example, by some adjustments via valuation techniques.
Application to financial liabilities and
own equity instruments
A fair value measurement of a financial or non-financial liability or an entity’s own
equity instruments assumes it is transferred to a market participant at the
measurement date, without settlement, extinguishment, or cancellation at the
measurement date.

In the first instance, an entity shall set the fair value of the liability or equity
instrument by the reference to the quoted market price of the identical instrument, if
available.

If the quoted price of identical instrument is not available, then the fair value
measurement depends on whether the liability or equity instrument is held by other
parties as assets or not:

 If the liability or equity instrument is held by other party as an asset, then

o If there is the quoted price in an active market for the identical instrument held
by another party, then use it (adjustments are possible for the factors specific
for the asset, but not for the liability/equity instrument)
o If there is no quoted price in an active market for the identical instrument held
by another party, then use other observable inputs or another valuation technique
 If the liability or equity instrument is not held by other party as an asset, then use a
valuation technique from the perspective of market participant

Non-performance risk
The fair value of a liability reflects the effect of  non-performance risk – the risk
that an entity will not fulfill its obligation.

Non-performance risk includes, but is not limited to an entity’s own credit risk.

For example the risk of non-performance can be reflected in the different borrowing
rates for different borrowers due to their different credit rating. As a result, they
would need to discount the same amount with the different discount rate, thus the
present value of a liability would differ.

Transfer restrictions
An entity shall  not include a separate input or an adjustment to other inputs relating
to the potential restriction preventing the transfer of the item to somebody else.

Demand feature

The fair value of a liability with a demand feature  is not less than the amount
payable on demand discounted from the first date that the amount could be required to
be paid.

Financial assets and financial liabilities

with offsetting positions
IFRS 13 requires a market-based measurement, not for an entity-based measurement.
However, there is an exception to this rule:
If an entity manages a group of financial assets and financial liabilities on the
basis of its NET exposure  to market risks or counterparty risks, an entity can opt to
measure the fair value of that group on the net basis, and that is:

 The price that would be received to sell a net long position (asset) for particular risk
exposure, or
 The price that would be paid to transfer a net short position (liability) for particular
risk exposure.

This is an option and an entity does not necessarily need to follow it. In order to
apply this exception, an entity must fulfill the following conditions:

 It must manage the group of financial assets/liabilities based on its net exposure to
market/credit risk according to its documented risk management or investment strategy,
 It provides information on that basis about the group of financial assets/liabilities
to key management personnel,
 It measures those financial assets and liabilities at fair value in the statement of
financial position at the end of each reporting period (so not at amortized cost, or other
measurement basis).

Fair value at initial recognition

When an entity acquires an asset or assumes a liability, the price paid/received or
the transaction price is an entry price.

However, IFRS 13 defines fair value as the price that would be received to sell the
asset or paid to transfer the liability and that’s an exit price.

In most cases, transaction or entry price equals to exit price or fair value. But
there are some situations when transaction price is not necessarily the same as exit
price or fair value:

 The transaction happens between related parties

 The transaction takes place under duress or the seller is forced to accept the price in
the transaction
 The unit of account represented by the transaction price is different from the unit of
account for the asset or liability measured at fair value
 The market in which the transaction takes place is different from principal or the most
advantageous market.

If the transaction price differs from the fair value, then an entity shall recognize
the resulting gain or loss (“Day 1 profit“) to profit or loss unless another IFRS
standard specifies other treatment.

Valuation techniques
When determining fair value, an entity shall use valuation techniques:

 Appropriate in the circumstances

 For which sufficient data are available to measure fair value
 Maximizing the use of relevant observable inputs
 Minimizing the use of unobservable inputs.

Valuation techniques used to measure fair value shall be applied consistently.

However, an entity can change the valuation technique or its application, if the
change results in equally or more representative of fair value in the circumstances.

An entity accounts for the change in valuation technique in line with IAS 8 as for
a change in accounting estimate.

IFRS 13 allows 3 valuation approaches:

 Market approach: uses prices and other relevant information generated by market

transactions involving identical or comparable (ie similar) assets, liabilities, or a
group of assets and liabilities, such as a business
 Cost approach: reflects the amount that would be required currently to replace the service
capacity of an asset (often referred to as current replacement cost).
 Income approach: converts future amounts (e.g. cash flows or income and expenses) to a
single current (i.e. discounted) amount. The fair value measurement is determined on the
basis of the value indicated by current market expectations about those future amounts.

Fair value hierarchy

IFRS 13 introduces a fair value hierarchy that categorizes inputs to valuation
techniques into 3 levels. The highest priority is given to Level 1 inputs and the
lowest priority to Level 3 inputs.

An entity must maximize the use of Level 1 inputs and  minimize the use of Level 3
inputs.

Level 1 inputs
Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets
or liabilities that the entity can access at the measurement date.

An entity shall not make adjustments to quoted prices, only under specific circumstances, for
example when a quoted price does not represent the fair value (ie when significant event takes
place between the measurement date and market closing date).

Level 2 inputs
Level 2 inputs are inputs other than quoted prices included within Level 1 that are
observable for the asset or liability, either directly or indirectly.

Level 3 inputs
Level 3 inputs are unobservable inputs for the asset or liability.

An entity shall use Level 3 inputs to measure fair value only when relevant observable
inputs are not available.

The following scheme outlines the fair value hierarchy together with examples of
inputs to valuation techniques:
Disclosure
IFRS 13 requires extensive disclosure of sufficient information to asses:

 Valuation techniques and inputs used to develop fair value measurement for both recurring
and non-recurring measurements;
 The effect of measurements on profit or loss or other comprehensive income for recurring
fair value measurements using significant Level 3 inputs.

Recurring fair value measurements are those presented in the statement of financial

position at the end of each reporting period (for example, financial instruments).

Non-recurring fair value measurements are those presented in the statement of

financial position in particular circumstances (for example, an asset held for sale in
line with IFRS 5).

As the disclosures are really extensive, here, the examples of the minimum
requirements are listed:

 Fair value measurement at the end of the reporting period;

 The reasons for measurement (for non-recurring)
 The level in which they are categorized in the fair value hierarchy,
 Description of valuation techniques and inputs used;
 And many others.