In financial reporting, especially in countries like Singapore that largely adhere to International Financial Reporting Standards (IFRS), understanding the distinctions between fair value and market value is crucial for accurate valuation and decision-making. While these terms are often used interchangeably, they serve different purposes and are applied in varying contexts within financial statements.

Additionally, frameworks such as SFRS(I) 13 (which aligns with IFRS 13) and IVS (International Valuation Standards) provide essential guidance in defining and applying these valuation methods in both financial reporting and practical transactions. Recognizing the distinctions and applications of these standards can enhance the accuracy of financial reporting and improve the transparency of asset valuations.

Defining Fair Value and Market Value

Fair value is defined 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. This is outlined under SFRS(I) 13, which adopts the same definition as IFRS 13. It assumes the transaction occurs under the most advantageous market conditions, with both buyer and seller knowledgeable, willing, and acting without compulsion.

In contrast, IVS defines market value as “the estimated amount for which an asset or liability should exchange on the valuation date between a willing buyer and a willing seller in an arm’s-length transaction after proper marketing, where the parties have each acted knowledgeably, prudently, and without compulsion.” Market value reflects the actual price that would be realized in an open market under prevailing conditions, which may fluctuate due to economic cycles, market liquidity, or urgency of the transaction.

Key Differences Between Fair Value and Market Value

The primary distinction is that fair value, as defined under SFRS(I) 13, assumes ideal market conditions and rational participants, while market value, as defined by IVS, reflects actual market conditions and may vary based on external factors such as market volatility or distress.

Applications in Financial Reporting

Fair Value Applications

Fair value is extensively used in financial reporting under SFRS(I) 13 for assets and liabilities that must be re-measured at reporting dates. Some common areas where fair value is applied include:

Financial Instruments

Under SFRS(I) 13, financial instruments are often measured at fair value, either through profit or loss or other comprehensive income. This ensures that the company’s financial position accurately reflects the current market conditions and risks.

Impairment Testing

In asset impairment assessments, the recoverable amount is measured using fair value, particularly when the carrying amount of an asset exceeds its estimated future cash flows.

Business Combinations

In mergers and acquisitions, companies measure acquired assets and liabilities at their fair value to provide an accurate reflection of the transaction’s economics.

Market Value Applications

While market value is not commonly used for financial reporting under SFRS(I) 13, it plays a significant role in transactional contexts, particularly in:

Real Estate Valuation

Market value is relevant in real estate transactions where properties are sold based on actual market prices. The transaction price reflects the asset’s current market value, considering the real estate sector’s demand and supply conditions.

Securities Pricing

For publicly traded securities, market value refers to the price at which shares are traded in an open market. This real-time price provides an accurate reflection of market dynamics and investor sentiment.

Valuation Hierarchies and Inputs

Fair value measurements under SFRS(I) 13 follow a three-level hierarchy:

• Level 1: Based on quoted prices in active markets for identical assets or liabilities, reflecting observable market transactions.
• Level 2: Involves inputs other than quoted prices but still observable, such as prices for similar assets.
• Level 3: Uses unobservable inputs, often based on internal data or models when no active market exists.

IVS focuses primarily on observable data, emphasizing market value as derived from market inputs, particularly Level 1 data in the hierarchy. However, fair value under SFRS(I) 13 may also incorporate unobservable data (Level 3), allowing a broader valuation perspective when market data is insufficient or unavailable.

The Role of Market Participants

Fair value measurement under SFRS(I) 13 assumes knowledgeable, rational market participants acting without compulsion, leading to an idealized price under orderly conditions. Conversely, IVS-defined market value reflects real-world market conditions, where urgency, lack of liquidity, or distress could influence participants’ actions, causing market value to deviate from fair value, particularly in periods of economic instability.

Implications for Financial Reporting in Singapore

In Singapore, where SFRS(I) 13 is the standard for financial reporting, the application of fair value is essential for compliance and accuracy in financial statements. This has several implications:

• Financial Statement Precision: Fair value ensures that assets and liabilities are valued accurately, providing a clear reflection of the company’s financial health. This is particularly important in areas like financial instruments, business combinations, and impairment testing.
• Market Volatility: Market value’s reflection of real-world pricing can introduce volatility into financial statements, especially during times of economic instability or in industries such as real estate and commodities, where prices fluctuate frequently.

By understanding the distinctions between fair value (under SFRS(I) 13) and market value (under IVS), companies in Singapore can ensure their financial reporting reflects both international standards and real-world market dynamics.

Conclusion

While fair value and market value are both critical in the financial landscape, they serve different purposes. Fair value, as used in financial reporting under SFRS(I) 13, provides a standardized valuation based on ideal market conditions, making it essential for regulatory compliance. Market value, as defined by IVS, reflects real-world transactions and market dynamics, making it more relevant in asset sales and other market-related transactions.

For companies in Singapore, recognizing the difference between these two bases of value is essential for ensuring accurate financial reporting, complying with regulatory requirements, and making informed financial decisions. By understanding how and when to apply fair value or market value, businesses can provide stakeholders with clearer insights into their financial standing and future prospects.

Share via