Fair Value The Valuers Perspective

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Fair ValueThe Valuers Perspective
Chris Thorne FRICS FCIArb Board Member
IVSC Stanley Booton MA MRICS Chairman RICS
Valuation for Financial Statements Group
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Overview

• Nature and objectives of IVSC
• Valuation for financial reporting
• Where we are now
• Fair value and Market Value
• Other practical issues
• What do valuers need from IASB?

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What is IVSC?

• Formed in 1981 by various professional bodies
  involved in real estate valuation
• Members are professional bodies. Over 50
  countries now represented.
• Non Governmental Organisation member of UN
• Latest standards (7th edition) published early
  2005
• IVS now adopted or incorporated into national
  standards in many developed economies USA have
  agreed convergence of USPAP and IVS
• Membership and standards now extend beyond real
  estate to other classes of asset and liability

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IVSC funding

• Members pay a annual fee
• Majority of funding comes from sponsorship
  Current sponsors include
• larger professional institutes, e.g. RICS and
  Appraisal Institute (USA).
• Major firms of real estate valuers, e.g.
  Atisreal, CBRE, Cushman Wakefield, DTZ, Jones
  Lang LaSalle, King Sturge, Knight Frank,
• Users of real estate valuations, e.g. Verband
  Deutscher Hypothekenbanken.
• Funds committed from some accountancy firms for
  current business valuation project

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IVSC restructuring

• Current structure considered inappropriate for
  further development.
• Need to
• broaden scope of markets addressed
• Improve relevance to different applications
• Increase output
• All require additional funding
• Strategic review underway future structure may
  well be modeled on IASCF /IASB

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Role of IVSC

• IVSCs role is to produce, publish and promote
  valuation standards
• It is not a regulatory body
• It has no individual members
• It has no power to enforce or compel compliance
  with the standards
• Compliance with IVS is through the member
  organisations of IVS.
• Red Book is RICS regulatory document that
  requires members to adopt IVS, supported by
  monitoring and compliance powers.

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What are Standards?

• They ARE statements of
• recognised principles and concepts
• best practice in procurement and reporting
• accepted definitions
• They do NOT
• Prescribe specific methods of valuation for
  different purposes
• Teach valuers how to value!

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Valuation for Financial Reporting

• Accounting Standards were original motivation for
  Valuation Standards
• Although IVS cover valuation generally, principal
  driver remains IFRS
• In states such as UK and Australia, long
  tradition of valuation in financial statements
• Also long tradition of valuers liaising with
  national accounting standard setters
• In UK FRS 15 quotes RICS Red Book and vice versa

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Valuation for Financial Reporting

• IVSC has had more limited influence on IASB
• Although IAS /IFRS allowed valuation option, not
  widely adopted outside Commonwealth
• National standards, such as FRS 15, and
  equivalents in other countries had clear guidance
  on valuation bases and assumptions
• IAS in contrast just stipulate fair value, with
  only a definition and limited guidance on
  application
• Accordingly existing IVS guidance also vague

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Light at the end of the tunnel?

• IVSC welcomes both Canadian Measurement and FASB
  Fair Value projects
• Both shine light on some of the issues that have
  been troubling valuers and auditors, e.g.
• What is Fair Value?
• Is Fair Value the same as Market Value?
• Is FV always applied in the same context under
  different standards?
• How is Fair Value determined?

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Fair Value

• the amount for which an asset could be
  exchanged between knowledgeable, willing parties
  in an arms length transaction. (IAS 16 para.
  6)
• Currently no conceptual framework for
  application.
• IAS 16 and 1AS 40 provide some help by
  stipulating that normally determined having
  regard to market evidence or current market
  conditions, but
• In general use fair value is price that is fair
  to the particular parties in the transaction
• It reflects the advantages and disadvantages to
  them of the transaction synergistic value is
  expressly included
• Commonly used in share transfers and business
  combinations

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Other FV Definitions

• FASB October 05
• Fair value is the price that would be received
  for an asset or paid to transfer a liability in a
  current transaction between marketplace
  participants in the reference market for the
  asset or liability
• FASB March 06
• Fair value is the price that would be received
  for an asset or paid to transfer a liability in a
  transaction between market participants at the
  measurement date

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Market Value

• Market Value is the estimated amount for which
  a property should exchange on the date of
  valuation between a willing buyer and a willing
  seller in an arms-length transaction after
  proper marketing wherein the parties had each
  acted knowledgeably, prudently and without
  compulsion. (IVS 1)
• Supported by Conceptual Framework in IVS
• Definition well tested and now becoming
  established in regulation international e.g. EU
  Directive on Solvency Ratios

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Market Value

• Conceptual Framework highlights include
• estimated amount excludes any element of
  special value ie synergy gains available from a
  specific party have to be disregarded.
• a willing buyer is motivated but not compelled
  to buy
• a willing seller is neither over eager or
  forced but motivated to sell at whatever price is
  available in current market
• proper marketing means property has been
  exposed to market in most appropriate manner

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Definitions of ValueThe Valuers View
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Fair v Market Value

• In many cases price obtainable in the general
  market for that asset will be a price that is
  deemed fair by both parties
• However
• MV disregards any such synergistic value as this
  could only be realised if a specific party was
  willing to transact on date of valuation
• MV does not require price to be fair to either
  party it is simply the price determined by
  market participants generally
• FV is generally a broader concept than MV. For
  many purposes ignoring synergistic value and
  whether deal was right for the particular
  entity would be wholly inappropriate

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Fair v Market Value

• Fair Value and Market Value overlapping concepts
  but are NOT synonymous
• FASB had proposed in include in its Fair Value
  definition a direct comparison to a reference
  market.
• Also clear from Canadian paper that entity
  specific considerations should normally be
  disregarded.
• Is not obvious solution to stipulate that MV as
  defined in IVS as appropriate measure for
  financial reporting?

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Practical Issues Is asset measured under going
concern concept?

• IAS 1 stipulates that accounts prepared on going
  concern basis unless intention is to liquidate
• Measurement takes place at asset level not entity
  level
• Assets (or liabilities) can have markedly
  different market values depending on which
  assumption made
• that they are part of a transfer of the whole
  operation or,
• that they are sold away from the enterprise as a
  separate item

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Practical Issues Is asset measured under going
concern concept? - 2

• Potential conflict between IAS 16 and IAS 36
• Is Fair Value under revaluation option supposed
  to be the same as Fair Value in impairment test?
• Intention of IAS 36 appears to be to establish
  minimum carrying amount by comparing ViU of
  holding asset with net proceeds of liquidation
  (FV less costs)
• Same FV (without costs deduction) might be
  thought to be carrying amount under IAS 16.
  However, this figure then used to calculate
  depreciation under same standard, which assumes
  asset continuing useful life to entity.

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Practical IssuesReal Estate

• Real estate has characteristics that distinguish
  it from other types of asset and liability
• It has to be transacted in-situ if owner
  occupied the entity has to remove or relocate if
  not transferred as part of going concern
• Land does not normally depreciate
• Land and buildings may have potential for more
  valuable uses
• Buildings often adapted to suit particular
  operation
• These pose particular measurement questions

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Practical IssuesReal Estate Measurement
Questions - 1

• If land and buildings declared surplus
  liabilities for contamination may be triggered
  but not if transferred as part of going concern
• Land may have higher value for alternative use
  but this could not be realised without closure or
  relocation must be correct that potential is
  revealed in notes but
• is it logical that carrying amount reflects a use
  inconsistent with the going concern assumption?
• If carrying amount does reflect alternative use,
  how are costs consequential on realising the
  higher value reflected?

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Practical IssuesReal Estate Measurement
Questions - 2

• An entity may construct a building that is
  specialised for its operation includes
  buildings that are otherwise conventional but
  that are of abnormal size or in an abnormal
  location
• If valued on assumption that transfer of real
  estate interest is as part of transfer of whole
  entity the estimated price will reflect need of
  purchaser for that facility
• If valued without regard to going concern, ie as
  if surplus, there may be no identifiable
  purchaser at all, and price will reflect costs of
  redevelopment or reconfiguration for uses that
  would be in demand.

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Practical IssuesWhat do valuers need from
accounting standards?

• Stipulating Fair Value alone will not achieve
  consistency, transparency and credibility in IFRS
• Problems identified are not valuation problems
  valuers can provide answers under any of the
  alternative scenarios
• Standards need to clarify the measurement
  objective for different purposes e.g. initial
  recognition, subsequent recognition, depreciating
  accounting or assessing impairment write downs
• Valuation standards can then stipulate
  appropriate assumptions for each purpose

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Reasons to be Cheerful Part 1

• Canadian Project recognises some of the issues
  that can affect the assessment of value.
• IVSC generally in agreement with main
  conclusions, pleased to see that impact of
  different assumptions (value-affecting
  properties) is acknowledged and discussed
• Draft FASB Standard also advances debate.
  Clarifies that
• FV for Financial Reports should normally reflect
  MV
• Discusses affect of valuation premise on value

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Reasons to be Cheerful Part 2

• IVSC has recently met with both IASB and FASB
  Boards and Fair Value project teams
• Board level commitments to improve understanding
  of issues and produce suitable guidance
• IVSC broadening its scope and in dialogue with
  other groups interested in valuation of
  intangibles

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Fair ValueThe Valuers Perspective
Chris Thorne FRICS FCIArb Board Member
IVSC Stanley Booton MA MRICS Chairman RICS
Valuation for Financial Statements Group