Fair Value of Operational Assets, Uncertainty, and Information

Abstract

Generally, the fair value of an asset is its sales price. For a non-financial asset, however, a fair value measurement is performed by identifying the highest value-in-use (IFRS 13, § 27; SFAS 157, § 12). This assessment includes the sales price obtainable by selling the asset to another market participant, who will use the asset in its highest and best use. Thus, the fair value of an operational asset is the highest value of the asset owner’s best use and the implicit sales price, which reflects the best external use. The expected fair value of an operational asset is shown to be the probability-weighted average of the expected values in use and for sale. There is also an expected value of the uncertainty caused by the requirement to switch reporting from the operational value to the sales value if the latter is higher or vice versa, corresponding to the time value of an option to exchange one asset use for another. Consequently, the expected fair value of an operational asset is higher than the maximum of the expected operational value and the expected sales price. The fair value changes as information arrives about the sales and operational values. As the precision of the information increases, the expected fair value approaches the highest of the expected operational and sales value, and the expected value of uncertainty falls to zero. When for example the measurement of the operational value is perfect, the expected fair value will be higher if the sales value remains uncertain.