Appendix F (AASB13_08-15_COMPdec22_01-24)

AASB 13 Fair Value Measurement incorporates International Financial Reporting Standard IFRS 13 Fair Value Measurement, issued by the International Accounting Standards Board. Consequently, the text of AASB 13 is generally expressed from the perspective of for-profit entities. The AASB prepared this appendix to explain and illustrate the application of the principles of paragraphs 61, 62, 89, B8 and B9 of the Standard by not-for-profit public sector entities in relation to fair value measurement of non-financial assets not held primarily for their ability to generate net cash inflows. This appendix does not apply to for-profit entities or not-for-profit private sector entities or affect their application of AASB 13.

Paragraph 22 requires an entity to measure the fair value of an asset using the assumptions that market participants would use when pricing the asset, assuming that market participants act in their economic best interest. Paragraph 23 states that, in developing those assumptions, an entity need not identify specific market participants.

Unobservable inputs are defined as inputs for which market data are not available and that are developed using the best information available about the assumptions that market participants would use when pricing the asset or liability. Paragraph 87 states that unobservable inputs shall be used to measure fair value to the extent that relevant observable inputs are not available, thereby allowing for situations in which there is little, if any, market activity for the asset or liability at the measurement date. Paragraph 89 states that, in developing unobservable inputs, an entity:

(a) may begin with its own data, but it shall adjust those data if reasonably available information indicates that other market participants would use different data or there is something particular to the entity that is not available to other market participants (eg an entity-specific synergy); and

(b) need not undertake exhaustive efforts to obtain information about market participant assumptions.

Various non-financial assets of not-for-profit public sector entities not held primarily for their ability to generate net cash inflows, especially some that are specialised, do not have observable market selling prices or other observable market data because entities seldom sell those assets until their economic life has expired (ie there is little market activity for the asset or comparable assets at the measurement date). Consequently, in applying the requirement of paragraph 61 for fair value estimates to maximise the use of relevant observable inputs, it may nonetheless be necessary to develop unobservable inputs to estimate their fair value. Moreover, for assets that are unique to a government, observable evidence of assumptions of other market participants, if any, is unlikely to differ from the entity’s own assumptions.

Accordingly, when applying the principles in paragraphs 61 and 62 to measure the fair value of a non-financial asset of a not-for-profit public sector entity not held primarily for its ability to generate net cash inflows, if both the market selling price of a comparable asset and some market participant data required to measure the fair value of the asset are not observable, the entity shall use its own assumptions as a starting point in developing unobservable inputs and adjust those assumptions to the extent that reasonably available information indicates that other market participants (including, but not limited to, other not-for-profit public sector entities) would use different data.

For the purposes of paragraph F5, exhaustive efforts need not be undertaken to identify whether relevant information about other market participant assumptions is reasonably available or whether the entity’s own data should be adjusted. However, when information about market participant assumptions is reasonably available, an entity cannot ignore that information. To the extent that relevant information about other market participant assumptions is not reasonably available, the entity shall use its own assumptions in measuring the fair value of the asset.

For the purposes of paragraphs F5 and F6, for assets with various inputs to their fair value estimate, observable market data might be reasonably available for some inputs, in which instances unobservable inputs would be used for the remainder of the asset’s fair value estimate. For example, the land component of a self-constructed specialised facility might have comparable land with an observable market price, but entity-specific data might be needed to measure the fair value of some or all of the improvements on that land included in the fair value estimate for the facility.

Paragraphs B8 and B9 state that the cost approach reflects the amount that would be required currently to replace the service capacity of an asset (often referred to as current replacement cost), based on the cost to a market participant buyer to acquire or construct a substitute asset of comparable utility, adjusted for obsolescence.

Accordingly, when measuring the fair value of a non-financial asset of a not-for-profit public sector entity not held primarily for its ability to generate net cash inflows (the subject asset) using the cost approach, an entity shall: 

(a) estimate the cost currently required for a market participant buyer to acquire or construct a reference asset (ie the replacement cost of a reference asset) in accordance with paragraphs F11–F15; and

(b) adjust the estimate in (a) for any:

(i) differences between the current service capacity of the reference asset and the subject asset (for example, where the modern equivalent asset is engineered to a higher standard than the subject asset, such as where the subject asset is a building and the modern equivalent building has superior fire safety features and a greater number of lifts than the subject building); and

(ii) obsolescence (physical deterioration, functional obsolescence and economic obsolescence).

A reference asset is a suitable alternative to the subject asset that the market participant buyer would consider in developing its pricing assumptions about the subject asset. Identifying the most appropriate reference asset involves the application of judgement and, on occasion, detailed valuation assessments in the circumstances of the subject asset. A reference asset could be a modern equivalent asset or a replica asset (where the utility offered by the subject asset could be provided only, or more cheaply, by a replica rather than a modern equivalent asset). A modern equivalent asset is an asset that provides similar function and equivalent utility to the subject asset, but is of a current design and constructed or made using current cost-effective materials and techniques.

For the purposes of paragraph F9(a), when estimating the replacement cost of a reference asset, an entity:

(a) assumes the reference asset will be acquired or constructed at the subject asset’s existing location; and

(b) where paragraph F5 applies, shall use its own assumptions as a starting point in developing unobservable inputs to measure the costs currently required to acquire or construct a reference asset and adjust those assumptions to the extent that reasonably available information indicates that other market participants would use different data.

When applying paragraphs F9(a) and F11, the entity shall, subject to paragraph F14, include the following costs (among other costs) in the reference asset’s replacement cost if they are judged to be necessarily incurred in the hypothetical acquisition or construction of the reference asset at the measurement date:

(a) costs required to restore another entity’s asset, if the asset that would need restoration existed at the measurement date and would be disturbed in a hypothetical acquisition or construction of the reference asset. However, such costs are excluded if they relate to restoration of an asset of another entity included in the consolidated group (if any) to which the entity belongs;

(b) other disruption costs that would hypothetically be incurred when acquiring or constructing the reference asset at the measurement date (eg costs of redirecting traffic when replacement of the reference asset, such as a drainage pipe, disrupts the operation of a road); and

(c) if the subject asset is fixed to a parcel of land, site preparation costs for the reference parcel of land on which the reference asset would hypothetically be constructed, unless those site preparation costs are reflected (explicitly or implicitly) in the fair value measurement of the subject parcel of land.

For the purposes of paragraph F12(c), site preparation costs include, but are not limited to:

(a) costs required to prepare the land (eg earthworks) for the hypothetical construction of the reference asset; and

(b) costs required to remove and dispose of any unwanted existing structures on the land to make way for the hypothetical construction of the reference asset.

An entity applies judgement in determining which costs would necessarily be incurred in the hypothetical acquisition or construction of a reference asset with the same service capacity and condition as the subject asset at the measurement date. An entity need not undertake exhaustive efforts to obtain information about the costs referred to in paragraphs F12 and F13. However, an entity shall include all such costs for which data are reasonably available.

When applying the cost approach in accordance with paragraph F9(a) to measure the fair value of a heritage asset of a not-for-profit public sector entity not held primarily for its ability to generate net cash inflows, to the extent that its heritage features are an essential part of its service capacity, the replacement cost of the reference asset generally means the cost of replicating the heritage and other features of the subject asset (ie reproduction cost). Replication would assume reconstruction using modern cost-effective materials and processes, but sympathetic with the original heritage design and structure to the extent feasible.

For the purposes of paragraph B9 and paragraph F9(b)(ii), when a non-financial asset of a not-for-profit public sector entity not held primarily for its ability to generate net cash inflows has suffered a reduction in demand for its services, the identification of ‘economic (ie external) obsolescence’ does not require a formal decision to have been made to reduce the physical capacity of that asset.

When an asset described in paragraph F16 apparently has surplus capacity in view of current demand for its services, economic obsolescence is not identified for that asset if that ‘surplus capacity’ is necessary for stand-by or safety purposes (eg to deal with contingencies), even if it seldom or never is actively utilised. An example of an asset with stand-by capacity that is necessary for operational purposes, and would be replaced in full by a market participant buyer, is an electricity generation plant that maintains a generating capacity buffer that is typical of the industry to cater for periods of peak demand.

An example of a strong indicator that economic obsolescence of assets would be identified when applying the principles in paragraphs F16 and F17 is a public school’s buildings that have a capacity for 500 students but, due to demographic changes, a school for 100 students would meet current and reasonably foreseeable requirements, including a buffer needed for any temporary or underestimated student demand. In this example, based on these assumed facts alone (for simplicity), the school buildings’ gross replacement cost would be based on the school’s needed capacity (for 100 students), from which any other accumulated obsolescence related to the condition of the school buildings (eg physical obsolescence) would be deducted. Consistent with paragraph F16, the conclusion reached would not depend on whether a formal decision has been made to reduce the school buildings’ capacity.

Where an asset or a facility that is not held primarily for its ability to generate net cash inflows suffers a significant reduction in demand for its services, any economic obsolescence identified would not necessarily (and frequently would not) exhibit a linear relationship with that reduced level of demand. This is due to economies of scale causing some parts of an asset or a facility potentially needing replacement in full, or almost in full, despite a significant fall in demand for the services provided by the asset or facility, in which case the needed physical capacity of the asset or facility would not reduce linearly with the reduction in the level of demand for that asset’s or facility’s services. In the school example in paragraph F18, the administration office, canteen, toilet blocks, library and gymnasium might need replacing even for 100 students, although perhaps on a slightly smaller scale.