Applying present value techniques to liaApplying present value techniques to liabilities and an entity’s own equity instruments not held by other parties as assets (paragraphs 40 and 41)

Applying present value techniques to liabilities and an entity’s own equity instruments not held by other parties as assets (paragraphs 40 and 41)

B31 When using a present value technique to measure the fair value of a liability that is not held by another party as an asset (eg a decommissioning liability), an entity shall, among other things, estimate the future cash outflows that market participants would expect to incur in fulfilling the obligation. Those future cash outflows shall include market participants’ expectations about the costs of fulfilling the obligation and the compensation that a market participant would require for taking on the obligation. Such compensation includes the return that a market participant would require for the following:

(a) undertaking the activity (ie the value of fulfilling the obligation; eg by using resources that could be used for other activities); and

(b) assuming the risk associated with the obligation (ie a risk premium that reflects the risk that the actual cash outflows might differ from the expected cash outflows; see paragraph B33).

B32 For example, a non-financial liability does not contain a contractual rate of return and there is no observable market yield for that liability. In some cases the components of the return that market participants would require will be indistinguishable from one another (eg when using the price a third party contractor would charge on a fixed fee basis). In other cases an entity needs to estimate those components separately (eg when using the price a third party contractor would charge on a cost plus basis because the contractor in that case would not bear the risk of future changes in costs).

B33 An entity can include a risk premium in the fair value measurement of a liability or an entity’s own equity instrument that is not held by another party as an asset in one of the following ways:

(a) by adjusting the cash flows (ie as an increase in the amount of cash outflows); or

(b) by adjusting the rate used to discount the future cash flows to their present values (ie as a reduction in the discount rate).

An entity shall ensure that it does not double-count or omit adjustments for risk. For example, if the estimated cash flows are increased to take into account the compensation for assuming the risk associated with the obligation, the discount rate should not be adjusted to reflect that risk.