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4.7 Premiums and discounts
Publication date: 31 Mar 2022
us Fair value guide
ASC 820 includes restrictions on the application of premiums and discounts related to the size of a position of financial instruments held when measuring fair value. ASC 820-10-35-36B distinguishes between premiums or discounts related to the size of the reporting entity’s holding (such as a blockage factor for an equity investment), which are prohibited unless using the portfolio exception, as opposed to those related to a characteristic of the asset or liability (for example, a control premium on a subsidiary), which is permitted under certain circumstances.
4.7.1 Level 1 measurements
ASC 820-10-35-36B states that there should be no adjustment to Level 1 inputs. In accordance with ASC 820-10-35-44, the fair value of a position for an investment in a financial instrument in an active market should be calculated as the product of the quoted price for the individual instrument times the quantity held (commonly referred to as “P times Q”). Refer to FV 4.5 for further detail on the fair value hierarchy.
Excerpt from ASC 820-10-35-36B
In all cases, if there is a quoted price in an active market (that is, a Level 1 input) for an asset or liability, a reporting entity shall use that quoted price without adjustment when measuring fair value …
ASC 820-10-35-40 through ASC 820-10-35-46 discuss other considerations when using Level 1 inputs.
4.7.1.1 Blockage factors
A blockage factor is a discount applied to reflect the inability to trade a block of the security because the market for the security, although an active one, cannot absorb the entire block at one time without adversely affecting the quoted market price. When measuring the fair value of a financial instrument that trades in an active market, ASC 820-10-35-36B prohibits the use of a blockage factor. However, when using the portfolio exception, because the unit of measurement is the net position of the portfolio, size is an attribute of the portfolio being valued, and consequently, a premium or discount based on size is appropriate if incorporated by market participants.
4.7.1.2 Control premiums
A control premium is an amount a buyer is willing to pay over the current market price of a publicly traded company to acquire a controlling interest in that company. ASC 820-10-35-36B indicates that control premiums are also not permitted as adjustments to Level 1 measurements.
4.7.1.3 Level 2 and Level 3 measurements
Certain premiums or discounts are permitted for instruments that are not classified as Level 1. When determining whether it is appropriate to include a premium or discount in a Level 2 or Level 3 fair value measurement, reporting entities should consider the following:
- Market participant assumptions
- The unit of account as defined by other guidance for the asset or liability being measured
- The unit of measurement
- Whether the premium or discount is related to the size of the entity’s holding of the asset or liability or reflective of a characteristic of the asset or liability itself
- Whether the impact of the premium or discount is already contemplated in the valuation
While the determination of fair value, including the application of premiums and discounts, is rooted in market participant assumptions, such application cannot contradict the unit of account prescribed in other guidance for the asset or liability being measured.
PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.
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