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GASB Exposure Draft Tackles Fair Value

May 29, 2014

An Exposure Draft (ED), "Fair Value Measurement and Application," issued by the Governmental Accounting Standards Board (GASB) on May 15 addresses how fair value should be defined and measured, which assets should be measured at fair value, and the types of information about fair value that should be disclosed in the notes to the financial statements. The proposal 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.

The ED modifies the definition and focus of fair value found in GASB Statement No. 31, "Accounting and Financial Reporting for Certain Investments and for External Investment Pools." Statement 31 emphasizes certain types of assets in the governmental environment. The ED, on the other hand, proposes that fair value is market based, that relevant conditions and factors in the market influence measurement, and that investments would generally be measured at fair value. Alternative investments, for example, are not addressed in Statement 31. (Alternative investments frequently take the form of shares in hedge funds and limited partnerships, and such shares are not publicly traded.) Consequently, there has been a lack of authoritative guidance in GASB's literature concerning the fair value measurement of alternative investments—which have become a growing percentage of endowment assets held by public higher education institutions. Because the proposed guidance broadens the definition of an investment and the notion of a market, alternative investments are covered under the proposal.

An investment is defined as a security or other asset that a government holds primarily for the purpose of income and the present service capacity of which is based solely on its ability to generate cash (or to be sold to generate cash). The ED supersedes several paragraphs in Statement 31; the third paragraph of the proposal enumerates all current literature that would be superseded by guidance proposed in the ED.

In order to determine fair value measurement, a governmental entity such as a public college or university, would consider the unit of account of the asset or liability. The unit of account refers to the level at which an asset or liability is aggregated or disaggregated for measurement purposes. Fair value is essentially described as an exit price and several proposed valuation techniques—for which sufficient data are available in a given circumstance—would be used to determine fair value as follows:

  • A market approach uses information resulting from market transaction for identical or similar assets or liabilities
  • A cost approach bases fair value on the amount necessary to replace an asset's present service capacity
  • An income approach calculates fair value by converting future amounts to a single current amount

The valuation technique used would maximize the use of relevant observable inputs and minimize the use of unobservable inputs. Observable inputs are based on publicly available market data, such as quoted market prices. Unobservable inputs would not have easily identifiable or publicly available market information. In the ED the Board proposes using a three level hierarchy of inputs that is currently required by the Financial Accounting Standards Board (FASB):

  • Level 1 inputs are quoted prices from markets and need not be adjusted in any way.
  • Level 2 inputs are either directly observable or available from observable market information. Level 2 inputs are only used when level 1 inputs are not available.
  • Level 3 inputs are assumptions a government develops based upon the best information available to it. Level 3 inputs are only used when level 1 and 2 inputs are not available.

Similar to current FASB guidance, a government is permitted in certain circumstances to determine the fair value of an investment that does not have a readily determinable fair value by using the net asset value per share (or its equivalent) of the investment. The proposed guidance in the ED would also require measurement at acquisition value for donated capital assets, donated works of art, historical treasures, and similar assets and capital assets received in a service concession arrangement.

The proposal would require disclosures to be made about fair value measurements, valuation techniques, and inputs. It also would require additional disclosure information regarding investments in certain entities that calculate net asset value per share (or its equivalent). All requirements in the proposed Statement would be effective for financial statements for periods beginning after June 15, 2015, which is FY16 for the vast majority of public institutions.

The ED can be downloaded from GASB's Web site and comments are due by August 15. The proposal does not pose specific questions; rather comments are sought on all aspects of the proposed guidance. NACUBO encourages public institutions to submit comments directly to GASB or send comments to NACUBO for inclusion in the industry comment letter.