Posted in Finance, Accounting and Economics Terms, Total Reads: 696
Definition: Fair Value Accounting
Fair value accounting is an accounting methodology that uses the fair value or the fair price of assets. The fair value of an asset is the current price of an asset i.e. the price at which the asset will be bought and sold today.
It is contrasted against the historic price where the original price of the asset at which it was bought is used. Using the fair price of the asset gives a more realistic idea of the financial position of the company. For example : if a property was bought for 1 Crore and its current price is Rs.10 Crore, using the current /fair price gives a fairer picture of the net worth and valuation of the company.
A fair value measurement requires an entity to determine all the following:
(a) the particular asset or liability that is the subject of the measurement (consistently with its unit of account).
(b) for a non-financial asset, the valuation premise that is appropriate for the measurement (consistently with its highest and best use).
(c) the principal (or most advantageous) market for the asset or liability.
(d) the valuation technique(s) appropriate for the measurement, considering 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 the level of the fair value hierarchy within which the inputs are categorised.
1) Market approach
The market approach uses costs and other applicable data created by business sector exchanges including indistinguishable or equivalent (i.e. comparable) resources, liabilities or a gathering of advantages and liabilities
2) Cost approach
The cost approach mirrors the sum that would be required at present to replace the service capacity of an underlying asset i.e. current replacement cost
From the viewpoint of a seller, the value that would be received for the benefit depends on the expense the buyer would require to buy an assets of same utility.
3) Income approach
The income approach changes over future sums (e.g. money streams or wage and costs) to a discounted value. At the point when the income approach is utilized, the reasonable quality estimation reflects current business sector assumptions about those future sums.