In response to stakeholders requesting more clarity regarding Fair Value standards, GASB developed new guidance by issuing Statement No. 72. The new guidance is designed to provide additional information regarding the measurement of Assets and Liabilities and to help financial statement readers make better, more informed decisions. GASB Statement No. 72, Fair Value Measurement and Application, 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.” Currently, state and local governments are required to disclose how the value of an asset or liability is determined or measured. Statement No. 72, however, now requires governments, for periods beginning after June, 15, 2015, to categorize Fair Values based on the criteria of the Fair Value Hierarchy.
GASB 72 requires governments to use a consistent valuation technique based on one of following three approaches: the market approach, the cost approach, or the income approach. The market approach uses quoted market prices for identical or similar assets and liabilities in most instances, but additional techniques such as the multiples and matrix techniques can also be applied. The cost approach is a technique that considers the dollar amount to replace the asset with a similar asset or substitute. Lastly, the income approach considers the future amounts of revenue or cash flows and converts the amounts to a single value with techniques such as the discounted present value, the option pricing model, and the multi-period excess earnings technique. The Statement specifies that the selected approach should be used consistently, but changes may be appropriate depending on the circumstances.
The Fair Value Hierarchy is categorized into three levels based on reliability. The first and most reliable level, Level 1 inputs, are quoted prices for assets or liabilities in active markets that governments can access at a particular date. The second level, Level 2 inputs, are inputs that are directly or indirectly observable but lack quoted prices in active markets. The lowest level of reliability, Level three inputs, are prices that cannot be observed. It is important to note that if an asset or liability is measured using more than one input, the government must categorize the item at the lowest of the inputs used.
Due to the need for increased transparency in government reporting, GASB Statement No. 72 addresses the issues related to Fair Value reporting and provides guidance for governments on measuring assets and liabilities and the reliability of those measurements. Financial statement readers will now be able to determine how the values of the government’s assets and liabilities were measured and how reliable the measurements are.
More information regarding this topic can be found on the GASB.org website or by contacting Henry & Horne .
By Chris Hardison