FASB Shows “Sensitivity” to Fair Value

The board will propose a requirement for companies to disclose more about their sketchiest valuations of their assets and liabilities.

The Financial Accounting Standards Board voted on Wednesday to issue a proposal requiring companies to describe how vulnerable their sketchiest valuations are to changes in the factors they use to price their assets and liabilities.

Overruling a suggestion by its staff to omit such information from a FASB proposal to update its controversial standard on fair-value measurements, the board ruled that the proposed update should require companies to supply information “about the sensitivity of certain fair value measurements.”

The staff had wanted to delay sensitivity disclosures until the board made “sufficient progress” in its project on the recognition and measurement of financial instruments. Instead, the board decided to press forward with a proposal that will say: “If a change in one or more of the significant inputs to a Level 3 fair value measurement would significantly change the fair value, the reporting entity would state that fact and disclose the effect of those changes.”

Under FASB’s much-debated standard No. 157, Fair Value Measurements, Level 3 estimates apply to assets and liabilities that are marked to what is, essentially, a nonexistent or illiquid market. In such cases, fair value can be determined only through “unobservable inputs” — information that reflects a company’s own notions about the assumptions market participants would use in their valuations of the asset or liability.

In contrast, the values of assets slotted in Levels 1 and 2 represent, respectively, a quoted price in an active market and “observable market data” other than a quoted market price. At its meeting Wednesday, the board also voted to propose a requirement that companies disclose information about transfers in and/or out of Levels 1 and 2. Under the requirement, a company “would disclose information about significant transfers in and out of Levels 1 and 2 and the reasons for the transfers,” according to FASB.

Besides the standards board, the Securities and Exchange Commission has shown an interest in more reporting on the issue. Recent SEC comment letters addressed to either chief executives or CFOs have asked them to justify their companies’ movement between valuations based on observable and unobservable inputs.

In a third move, FASB voted to propose that under the update of its fair-value measurement standard, “Information about purchases, sales, issuances, and settlements, included in the reconciliation of Level 3 fair value measurements, would be presented on a gross basis rather than a net basis.”

 

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