(The article featured below is a selection from International Securities and Financial Reporting Update, which is available to subscribers of that publication.)

IASB Will Propose Global Standard for Fair Value Converged with FASB and U.S. GAAP

The IASB plans to propose a single fair value standard for IFRS by mid-2009 and adopt an IFRS for fair value accounting in 2010 that will be converged with FASB SFAS 157. The IASB has already begun formulating the standard based on an earlier discussion paper and plans to hold roundtables in the fourth quarter of this year.

This is an important development in light of the fact that the issue of valuing asset-backed securities in illiquid markets is one of the factors contributing to the current market crisis. The IASB's push toward a single fair value standard is partially driven by the Financial Stability Forum's recommendations on the reform of fair value accounting. The Forum has called for guidance on the valuation of complex securities in inactive markets as part of a broad reform of the securitization process.

Since guidance on measuring fair value has been added to IFRS piecemeal over many years, current guidance on measuring fair value is dispersed across many IFRSs and is not always consistent. Further, the current guidance is incomplete in that it provides neither a clear measurement objective nor a robust measurement framework. The Board believes that this adds unnecessary complexity to IFRSs and contributes to diversity in practice. The Board's overarching goal is to establish a single source of guidance for all fair value measurements required or permitted by existing IFRSs and at the same time enhance disclosure about fair value to enable users of financial statements to assess the extent to which fair value is used to measure assets and liabilities and to provide them with information about the inputs used to derive those fair values.

While cautioning that its proposal may differ from SFAS 157, the Board assured that the project is part of the roadmap to convergence with FASB and U.S. GAAP. In that spirit, the Board said that SFAS 157 will be the starting point on the road to the issuance of a common standard.

The IASB's definition of fair value for financial instruments in IAS 32 is similar to that in SFAS 157. However, there are differences that must be resolved if the two boards are to issue a common standard requiring the fair value measurement of financial instruments. As part of the process, the Board has formed an expert advisory panel comprised of preparers and users of financial statements, as well as regulators and auditors, to assist it in developing an IFRS fair value standard.

One of the more significant differences between SFAS 157 and IFRS is that SFAS 157 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in a transaction between market participants at the measurement date. By comparison, fair value is generally defined in IFRSs as the amount for which an asset could be exchanged, or a liability settled, between willing parties in an arm's length transaction.

While there is a growing consensus that the goal of one consistent global standard on fair value accounting is desirable, some commenters to the IASB discussion paper had concerns. For example, PricewaterhouseCoopers is concerned about the reliability of market based exit prices in some circumstances, particularly where any determination of fair value is dependent on an assessment of a transaction in a hypothetical market.

While applauding the use of SFAS 157 as a starting point, PwC asked the Board to recognize that the circumstances in which fair value is used as a measurement basis differ between IFRS and U.S. GAAP. For example, IFRSs require or permit the use of fair values in situations which have no parallel in current U.S. GAAP. In addition, SFAS 157 defines how to measure fair value more narrowly than U.S. GAAP. PwC believes that the exit price concept underlying SFAS 157 is not relevant in many circumstances where the term fair value is used under IFRS. Thus, the firm recommends the elimination of the term fair value in each individual IFRS standard and the use of more precise terminology such as exit price, entry price etc.

Expressing similar concerns, KPMG advised the IASB not to pursue a solution based on a single definition of fair value using the exit price approach that is the basis of SFAS 157. KPMG also suggested replacing fair value with more specific descriptions, such as current exit price or current entry price.

The Institute of Chartered Accountants in England and Wales said that the main use of fair values in U.S. GAAP is for financial instruments, where an exit price methodology may have more relevance. Noting that IFRS requires or permits the use of fair values in situations that are not envisaged under present U.S. GAAP, the Institute is concerned that application of SFAS 157's exit price methodology to all kinds of assets and liabilities would lead to inappropriate measurements.

The Institute also said that SFAS 157 does not provide a suitable basis for harmonizing the various uses of fair value in IFRS. In particular, the Institute believes that fair value should not always be measured as an exit price. Also, it does not believe that transfer value will usually be the right way to measure the fair value of a liability.

A further problem with SFAS 157 could be in the meaning of observable inputs. This is important in distinguishing between the different levels in the measurement hierarchy, but is often unclear in practice. The Institute urged the IASB to consider either giving guidance on this question that is more specific than the guidance in SFAS 157 or requiring reporting entities to disclose how they have distinguished between observable and unobservable inputs in preparing fair value measurements in their own accounts.

In the view of the Institute, the final IFRS standard on fair value measurement must be principles-based. It would not be helpful to develop what is supposed to be a common approach to fair value, but which in practice, because it is not firmly based in principles, is subject to a growing list of exceptions for particular cases.

Echoing these themes, the German Accounting Standards Board noted that IFRSs require or allow fair value measurements in more situations and standards than U.S. GAAP, while at the same time the definition of fair value in SFAS 157 is narrower that that in IFRSs. The exit price definition of fair value in SFAS 157 includes a market perspective which is not contained in the IFRS definition, noted GASB, which involves a transaction price between two willing parties and does not necessarily require an active market. Like the global accounting firms, GASB urged replacing the more general term fair value with terms, such as current exit price that more closely reflect the measurement basis and underlying measurement objective for each situation. In this regard, the term fair value would be an umbrella definition, reasoned the German standard setter, and the relevant standard would state which of the different bases is to be applied.

"The current guidance is incomplete in that it provides neither a clear measurement objective nor a robust measurement framework."