Intermediate Accounting

Volume 1 Twelfth Canadian Edition

Kieso ● Weygandt ● Warfield ● Wiecek ● McConomy
Prepared by Ilene M Gilborn MCE, FCPA (FCMA)

Chapter 3

Measurement
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Chapter 3: Measurement
After studying this chapter, you should be able to:
1. Use valuation techniques to measure financial statement
elements.
2. Use IFRS 13 to measure fair value.
3. Understand and apply present value concepts.
4. Identify differences in accounting between ASPE and IFRS, and
what changes are expected in the near future.

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Measurement
Measuring Fair
Measuring Financial Value Using IFRS Present Value IFRS/ASPE
Statement Elements 13 Concepts Comparison
• Valuation • Measuring fair • The nature of • A comparison of
techniques value interest IFRS and ASPE
• Value in use • Fundamental • Looking ahead
measurements variables in present
• Disclosures value calculations
relating to • Different ways to
measurement perform the
calculations
• Some additional
calculations

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Measuring Financial Statement Elements

• How we measure financial statement elements

significantly affects income and key ratios
• Measurement required:
o On initial recognition
o On subsequent valuation

• Currently use a mixed-attribute measurement model

• Combination of cost-based models (e.g. historical cost)
and current value (e.g. fair value) measurement models

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Measurement Categorization (1 of 2)
• Cost-based measures
o Property, plant, equipment carried at cost or book value
o Financial instruments carried at cost or amortized cost
(using effective interest or straight-line methods)
o Inventory using various cost flow assumptions

• Current value measures

o Financial instruments/investments carried at fair value
o Biological assets
o Investment properties

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Measurement Categorization (2 of 2)
• Hybrid measures
o Impaired property, plant, and equipment measured at
the recoverable amount (higher of the value in use and
fair value)
o Inventory measured at the lower of cost and net
realizable value
o Impaired notes receivable measured using
management’s best estimate of revised cash flows

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Disclosures Relating to Measurement
• Note disclosure is extremely important because of the
judgements involved in measurement, including
o Sources of measurement uncertainty
o Accounting policies related to measurement
o Assumptions made about the future
o Other information regarding the “softness” of the numbers

• Sources of measurement uncertainty: assumptions about

o Future cash flows when determining impairments
o Amount recoverable for obsolete inventory
o Outcome of litigation settlements
o Interest rates

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Valuation Techniques (1 of 2)
• There are various techniques for measuring value
o Income model—widely used; includes PV and cash
flows
o Market model—uses publicly available values from
similar market transactions
o Cost model—reflects the amount required to replace an
asset’s service capacity
• Models have three components

• The quality of the measure (output) depends on the

quality of the information used (inputs) and the model
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Valuation Techniques (2 of 2)
• When measuring the value of a financial statement
element, an accountant must ask:
o Which model or technique should be used?
o Which inputs should be used?
o Does the resulting measurement result in useful
information?

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Which Model?
• It depends on the item being measured
o Unique items may not have a comparable in the market
o Input information might not be readily available
o Income models frequently used in practice
• Examples of PV-based measurements
o Valuing non-current receivables that carry no stated interest
o Determining the value of goodwill in business combinations
o Valuing investments at amortized cost
o Valuing assets to be capitalized under leases
o Determining the amount of future obligations for asset
retirements
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Which Inputs?
• Inputs and assumptions that are more reliable
• Amounts (like interest rates) that are readily available
• Inputs for income-based models include
o Estimates of cash flows—may require assumptions on how
the asset is used
o Time value of money—an interest rate for discounting cash
flows
o Uncertainty or risk—mitigated by adjusting either the cash
flows or the interest rate; applying probabilities

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Resulting Quality?
• Measurement should provide useful information to the
users of financial statements
• Must be relevant and faithfully represent the assets or
liabilities being valued
• Provide the best information possible within the
cost/benefit constraint

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“Values in Use” Measurements
• Entity-specific measure based on the entity’s plans for
using the assets not the market participant view
• Used when determining asset impairment: when
carrying amount is greater than recoverable amount
• Recoverable amount is the greater of the asset’s fair
value less cost to dispose and its value in use (IFRS)
• Can also be used for valuing intangibles
• To calculate value in use
1. Estimate the future cash flows
2. Calculate the present value of these flows

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Measuring Fair Value (1 of 3)
• Fair value under IFRS is an exit price
• Fair value measurement would look at the value potential
buyers would attribute
• It’s the selling price from the company’s perspective
• According to IFRS, in order to measure fair value an entity
must determine:
1. The item being measured
2. How the item would be or could be used by market participants
3. The market in which the item would be bought and sold
4. What model is being used to measure fair value

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Measuring Fair Value (2 of 3)
1. The asset being measured:
• Specific nature
• Condition—old, damaged, obsolete
• Location
2. How the item could be/would be used by the market
• Value based on the highest and best use, regardless of how
it is currently being used
• Must consider all possible uses that are
o Physically possible (size, location, condition)
o Legally permissible (zoning, by-laws)
o Financially feasible (yields sufficient positive cash flows)

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Measuring Fair Value (3 of 3)
3. The market:
• Value based on the market the entity is in (principal market)
• Usually is the market in which the price would be highest (most
advantageous market)
4. The valuation technique/model
• Most accurate is the liquid market
• Models introduce estimates, and measurement uncertainty
• Models require highest-quality inputs
o Fair value hierarchy—ranking according to objectivity
• Lower the level of input—greater the required disclosures
• Use the model that provides the best-quality value measure
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Present Value Concepts (1 of 19)
• The value of one dollar today is not equal to the value
of one dollar in the future.
• Money today can be invested and interest can be
earned over time.
• The more risk involved in the investment, the higher
the interest rate.

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Present Value Concepts (2 of 19)
• There are three fundamental variables in PV
calculations:
o Principal: The amount borrowed or invested
o Interest Rate: A percentage applied to the
outstanding principal. Generally stated as an annual
rate.
o Time: The duration or number of periods

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Present Value Concepts (3 of 19)
• The simple interest calculation is: Interest = p × i × n
p = Principal
i = rate of interest for a single period
n = number of periods
• The compound interest calculation is similar except …
• The principal for the current period is the principal
from the previous period plus the interest earned
during the previous period

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Present Value Concepts (4 of 19)
• There are different ways to calculate present values,
including the following:
o Present value formulas
o Present value tables
o Financial calculators
o Spreadsheets (Excel)

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Present Value Concepts (5 of 19)
Example (PV of a Single Future Amount)
Assume you want to invest a sum of money at 5% in order
to have $1,000 at the end of one year. The amount that
you would need to invest today is called the present value
of $1,000 discounted for one year at 5%

$952.38 × 1.05 = $1,000.00 (rounded)

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Present Value Concepts (6 of 19)
Example – Present Value Formula
Assume you want to invest a sum of money at 5% in order to
have $1,000 at the end of one year. The amount that you
would need to invest today is called the present value of
$1,000 discounted for one year at 5%
Future Value (FV)
Present Value (PV) =
(1 + i)n
$1,000
PV =
1 + 5% 1
$1,000
=
1.05
= $952.38
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Present Value Concepts (7 of 19)
Example – Present Value Table
Assume you want to invest a sum of money at 5% in order
to have $1,000 at the end of one year. The amount that
you would need to invest today is called the present value
of $1,000 discounted for one year at 5%

Present Value (PV) = $1,000 × 0.95238*

= $952.38
* PV factor from the “Present value of 1” Table A.2

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Present Value Concepts (8 of 19)
Example – Financial Calculators
Assume you want to invest a sum of money at 5% in order
to have $1,000 at the end of one year. The amount that
you would need to invest today is called the present value
of $1,000 discounted for one year at 5%

PV = Present Value ?
I = Interest Rate 5% Present value
N = Number of Periods 1 = $952.38
FV = Future Value $1,000

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Present Value Concepts (9 of 19)
Example – Spreadsheets (Excel)
Assume you want to invest a sum of money at 5% in order
to have $1,000 at the end of one year. The amount that
you would need to invest today is called the present value
of $1,000 discounted for one year at 5%

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Present Value Concepts (10 of 19)
Example – Spreadsheets (Excel)
Inputs:
PV = to be calculated
Rate = 0.05 or 5%
Nper = 1
Pmt = 0
FV = $−1,000
Type = Type of Annuity

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Present Value Concepts (11 of 19)
Example – Spreadsheets (Excel)
Inputs:
PV = to be calculated
Rate = 0.05 or 5%
Nper = 1
Pmt = 0
FV = $−1,000
Type = Type of Annuity

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Present Value Concepts (12 of 19)
Example (PV of a Series of Future Cash Flows)
Assume you will pay $1,000 cash annually for three years
(at the end of the year) and that the discount rate is 4%

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Present Value Concepts (13 of 19)
Example – Present Value Formula
Assume you will pay $1,000 cash annually for three years
(at the end of the year) and that the discount rate is 4%

Future Value (FV)

Present Value (PV) 
1 + i
n

$1,000 $1,000 $1,000

  
1  4%  1  4%  1  4% 3
1 2

 $961.54  $924.56  $889.00

 $2,775.10
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Present Value Concepts (14 of 19)
Example – Present Value Table
Assume you will pay $1,000 cash annually for three years
(at the end of the year) and that the discount rate is 4%

Future Value × PV Factor (4%) = Present Value

$1,000 (one year away) × 0.96154 = $961.54
$1,000 (two years away) × 0.92455 = $924.55
$1,000 (three years away) × 0.88900 = $889.00
Total 2.77509 = $2,775.09*

* rounding

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Present Value Concepts (15 of 19)
Example – Present Value Annuity Table
Assume you will pay $1,000 cash annually for three years
(at the end of the year) and that the discount rate is 4%

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Present Value Concepts (16 of 19)
Example – Financial Calculators
Assume you will pay $1,000 cash annually for three years
(at the end of the year) and that the discount rate is 4%

PV = Present Value ? Present value

= $2,775.09
I = Interest Rate 4%
N = Number of Periods 3
PMT = Payment −$1,000

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Present Value Concepts (17 of 19)

Example – Spreadsheets (Excel)

Inputs:
PV = to be calculated
Rate = 0.04 or 4%
Nper = 3
Pmt = −1,000
FV = n/a
Type = 0

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Present Value Concepts (18 of 19)

Example – Spreadsheets (Excel)

Inputs:
PV = to be calculated
Rate = 0.04 or 4%
Nper = 1
Pmt = −$1,000
FV = 0
Type = Type of Annuity = 0

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Present Value Concepts (19 of 19)
• Using time periods of less than one year
o Convert the annual interest rate to the applicable time frame
(6% annual = 3% semi-annual = 0.5% monthly)
• Interpolation
o Determining discount factors not on the table
o Use the fraction and the difference between the factors on
the table (5.25%: add 1/4 of the difference between factors at
5% and 6% to the factor at 5%)
• Calculating interest rate or payment
o Use the formula with the interest rate or the payment amount
as the unknown (x)
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IFRS/ASPE Comparison
Measurement of Fair Value
• I FR S
o Conceptual Framework for Financial Reporting, IFRS 13
o Guidance is concentrated in IFRS 13

• A SPE
o C P A Canada Handbook, Part II, Section 1000
o Guidance is spread throughout the ASPE standards

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Copyright
Copyright © 2019 John Wiley & Sons, Canada, Ltd.
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