Fair value measurement and disclosure support under ASC 820 and IFRS 13

The hierarchy ranks inputs, not instruments. A Level 1 input is an unadjusted quoted price in an active market for an identical asset or liability that the entity can access. A Level 2 input is observable for the item, directly or indirectly, and covers quoted prices for similar items, interest rates and yield curves at commonly quoted intervals, implied volatilities and credit spreads. A Level 3 input is unobservable and reflects the assumptions market participants would use, including assumptions about risk (IFRS 13 paragraphs 76, 81, 82, 86 and 87, which ASC 820 mirrors).

A single measurement often draws on inputs from more than one level. It is categorized in its entirety at the level of the lowest input that is significant to the whole measurement (paragraph 73). Judging significance is the step auditors press hardest, so the memo names the lowest-level input for every Level 2 and Level 3 item and says why it is or is not significant.

For nonfinancial assets, fair value takes into account the asset's highest and best use by a market participant (paragraph 27). Highest and best use is judged from the market participant's perspective even if the company intends a different use, although the company's current use is presumed to be the highest and best use unless market or other factors suggest otherwise (paragraph 29).

Not in full. ASU 2018-13, effective for fiscal years beginning after December 15, 2019, lets a nonpublic entity disclose transfers into and out of Level 3 and purchases and issues of Level 3 assets and liabilities in place of the complete rollforward. It also removed some disclosures for every entity. IFRS 13 keeps a heavier set.

Techniques and inputs for Level 2 and Level 3 items are still disclosed under both frameworks. The schedule that supports the nonpublic tables is small: a list of Level 3 items with opening balance, transfers, purchases and issues, and the closing balance. It becomes the first page of the audit file.

A contractual restriction on selling an equity security is not part of the security's unit of account and is therefore not considered in measuring its fair value. An entity also cannot recognize and measure the restriction as a separate unit of account (ASU 2022-03, June 2022). Before the update, some preparers applied a discount for the restriction and others did not.

The update also adds disclosures for equity securities with contractual sale restrictions that are measured at fair value: the fair value reflected on the balance sheet, the nature and remaining duration of the restriction, and the circumstances that could lapse it.

It takes effect for entities other than public business entities for fiscal years beginning after December 15, 2024, and for public business entities a year earlier. Apart from investment companies, it applies prospectively, with any adjustment recognized in earnings and disclosed at adoption. Shares received in a commercial deal, or shares held under a lock-up after a public offering, are examples. The memo records the restriction, confirms it was not discounted and drafts the disclosure.

ASC 820-10-35-59 allows certain investments in funds that calculate net asset value per share, or its equivalent, to be measured at fair value using that net asset value as a practical expedient. Investments measured this way carry their own disclosure by class under 820-10-50-6A: the fair value, the significant strategies of the investees, redemption terms and restrictions, and whether sale would probably be at an amount different from net asset value.

ASU 2018-13 narrowed one requirement. An entity discloses the timing of liquidation of an investee's assets, and the date when redemption restrictions might lapse, only if the investee has communicated the timing to the entity or announced it publicly.

IFRS 13 has no corresponding net asset value expedient in its text, so an IFRS reporter measures a fund interest by applying the standard's own hierarchy. A US subsidiary that holds a fund interest and reports to an IFRS parent therefore needs two measurement paths for the same investment. The memo documents both and the reconciling item between them, and the Level 3 schedule shows which basis each line uses.

The list is shorter than people expect, which is why a one-page inventory is the first deliverable.

• Contingent consideration and earnouts from an acquisition, remeasured every period. These are Level 3 because the inputs are forecasts of the acquired business, usually modeled with probability weights or simulation and discounted at a rate that reflects the risk of the payment.
• Derivatives, including swaps and forwards that are not hedge-designated, and warrant liabilities.
• Investments in equity securities with readily determinable fair values, and fund interests at net asset value.
• Nonrecurring measurements, such as an asset written down on impairment or a held-for-sale disposal group at fair value less costs to sell.
• Disclosure-only fair values, such as the fair value of long-term debt, when the company's financial statements require it.

Each item gets a line on the inventory with the standard that requires fair value, the level, the technique and the owner at the company. Items that are not remeasured stay off the list, with a one-line reason.