On September 30, staff from the Securities and Exchange Commission and the Financial Accounting Standards Board issued interpretive guidance in question and answer form on the application of fair value measurements in accordance with FASB Statement No. 157, Fair Value Measurements (FAS 157). The guidance is being issued to provide immediate assistance, given the current turbulence in market conditions; the FASB is expected to issue more extensive interpretive guidance on FAS 157 in the coming week. The following is a summary of the Q & A. Please see the release below for full text of the responses.
Can management’s internal assumptions (e.g., expected cash flows) be used to measure fair value when relevant market data does not exist?
Yes. FAS 157 discusses numerous valuation techniques, including expected cash flows from an asset, to estimate fair value when relevant market data is unavailable. The staff notes that in some instances (e.g., when market conditions require significant adjustments to level 2 observable inputs) it may be more appropriate to estimate an asset’s value using primarily unobservable inputs or a combination thereof.
How should the use of “market” quotes be considered when assessing the mix of information available to measure fair value?
In weighing a broker quote as an input to fair value, less reliance should be placed on quotes that do not reflect the result of actual market transactions (e.g., where a broker quote is based upon models with inputs obtained using information available only to the broker). In addition, the nature of the quote (e.g., whether the quote is an indicative price or a binding offer) should be considered.
Are transactions that are determined to be disorderly representative of fair value? When is a distressed sale indicative of fair value?
Distressed or forced liquidation sales are not orderly transactions, and the fact that the transaction was distressed or forced should be considered when weighing the evidence of value. Preparers must use judgment in determining whether a particular transaction is forced or disorderly.
Can transactions in an inactive market affect fair value measurements?
Yes. Orderly transactions in inactive markets may be inputs when measuring fair value, but would likely not be determinative. Where the price in an inactive market does not reflect the current price for the same or similar assets, adjustments will be required. Factors to consider in determining whether a market is inactive include a significant increase in the bid-ask spread, or the presence of a relatively small number of “bidding” parties.
What factors should be considered in determining whether an investment is other-than-temporarilyimpaired?
Factors to consider include (i) the length of time and extent to which the market value has been less than cost, (ii) the financial condition and near-term prospects of the issuer, and (iii) the intent and ability of the holder to retain its investment for a period of time sufficient to allow for any anticipated recovery in market value.