What's fair? FASB moves closer to fair value consistency and comparability.

• Author: Davis, A. Christine
• Position: FAIRVALUE

CPAs have long been familiar with the term "fair value," a measurement required in accounting for business combinations, goodwill impairment assessments and most financial instruments. But until recently, there were different definitions of fair value, which created inconsistencies in applying generally accepted accounting principles, and limited guidance for applying such definitions.

To remedy the situation, FASB has long considered the need for increased consistency and comparability in fair value measurements and is a step closer to that goal as two of its three most recent standards--FAS 157 and FAS 159--deal with fair value.

FAS 157, "Fair Value Measurements," and FAS 159, "The Fair Value Option for Financial Assets and Financial Liabilities, Including an Amendment of FASB Statement No. 115," are effective for fiscal years beginning after Nov. 15, 2007, with early adoption already completed by some 60 companies. Much attention has been given to these principles-based standards by accountants, investment bankers and regulators, but for different reasons.

FAS 157 has been viewed as helpful in clarifying the application of fair value in accounting, while there is concern that FAS 159, also known as the FVO Statement, may be used by some companies in a manner that is inconsistent with the FASB's objective of improving financial reporting.

HIGHLIGHTS OF FAS 157

FAS 157, issued in September and applicable to assets and liabilities permitted or required by GAAP to be measured at fair value, provides a single definition of fair value, a framework for measuring fair value and expands disclosures about fair value measurements.

The provisions of FAS 157 are encompassing, as evidenced by the 28 pronouncements amended or affected, including the long-standing ABP Opinion No. 21, "Interest on Receivables and Payables," and the more recent FAS 156, "Accounting for Servicing of Financial Assets."

Investment companies in particular have paid great attention to FAS 157, as have entities that have goodwill on their financial statements.

FAIR VALUE DEFINED

FAS 157 defines fair value as "the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date." While this definition sounds familiar enough, FAS 157 further defines every key word or phrase, signaling a precise definition of fair value not seen before.

While retaining the exchange price notion in previous definitions of fair value, FAS 157 clarifies that "price" is the "exit price," which is expected to be different from the "entry price" or the price that would be paid to acquire the asset or received to assume the liability.

The exit price is the result of an "orderly transaction," which is a hypothetical transaction at the measurement date from the perspective of a market participant that holds the asset or owes the liability. An orderly transaction is distinguished from a "forced transaction," such as a forced liquidation or distress sale.

Key to FAS 157 is the emphasis on a market-based measurement, as opposed to an entity-specific measurement, since fair value is based on assumptions that "market participants" would use to price the asset or liability. FAS 157 also states that an orderly transaction "assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets or liabilities."

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It is possible for the fair value measurement to be different from the price the reporting entity itself would otherwise pay for the...