cash flows of the asset or liability being measured, it may be possible to derive
a discount rate using data for several comparable assets or liabilities in
conjunction with the risk-free yield curve (ie using a ‘build-up’ approach).
To illustrate a build-up approach, assume that Asset A is a contractual right to
receive CU800
1
in one year (ie there is no timing uncertainty). There is an
established market for comparable assets, and information about those assets,
including price information, is available. Of those comparable assets:
(a) Asset B is a contractual right to receive CU1,200 in one year and has a
market price of CU1,083. Thus, the implied annual rate of return (ie a
one-year market rate of return) is 10.8 per cent [(CU1,200/CU1,083) – 1].
(b)
Asset C is a contractual right to receive CU700 in two years and has a
market price of CU566. Thus, the implied annual rate of return (ie a
two-year market rate of return) is 11.2 per cent [(CU700/
CU566)^0.5 – 1].
(c)
All three assets are comparable with respect to risk (ie dispersion of
possible pay-offs and credit).
On the basis of the timing of the contractual payments to be received for Asset
A relative to the timing for Asset B and Asset C (ie one year for Asset B versus
two years for Asset C), Asset B is deemed more comparable to Asset A. Using
the contractual payment to be received for Asset A (CU800) and the one-year
market rate derived from Asset B (10.8 per cent), the fair value of Asset A is
CU722 (CU800/1.108). Alternatively, in the absence of available market
information for Asset B, the one-year market rate could be derived from Asset
C using the build-up approach. In that case the two-year market rate indicated
by Asset C (11.2 per cent) would be adjusted to a one-year market rate using
the term structure of the risk-free yield curve. Additional information and
analysis might be required to determine whether the risk premiums for
one-year and two-year assets are the same. If it is determined that the risk
premiums for one-year and two-year assets are not the same, the two-year
market rate of return would be further adjusted for that effect.
When the discount rate adjustment technique is applied to fixed receipts or
payments, the adjustment for risk inherent in the cash flows of the asset or
liability being measured is included in the discount rate. In some applications
of the discount rate adjustment technique to cash flows that are not fixed
receipts or payments, an adjustment to the cash flows may be necessary to
achieve comparability with the observed asset or liability from which the
discount rate is derived.
Expected present value technique
The expected present value technique uses as a starting point a set of cash
flows that represents the probability-weighted average of all possible future
cash flows (ie the expected cash flows). The resulting estimate is identical to
expected value, which, in statistical terms, is the weighted average of a
discrete random variable’s possible values with the respective probabilities as
B20
B21
B22
B23
1 In this IFRS monetary amounts are denominated in ‘currency units (CU)’.
IFRS 13
© IFRS Foundation A717