Fair Value Under Ind AS 113: Hierarchy, Valuation Techniques & Disclosure Requirements

1. Scope and Applicability of Ind AS 113

Ind AS 113 does not independently mandate when fair value measurement is required. Instead, it provides the measurement framework whenever another Indian Accounting Standard requires or permits fair value. The standard was notified by the Ministry of Corporate Affairs (MCA) as part of the converged IFRS framework effective from 1 April 2016 for Phase I companies and subsequently extended to all companies meeting Ind AS applicability thresholds.

Key standards that invoke Ind AS 113 measurements include:

• Ind AS 36 (Impairment of Assets) — Fair value less costs of disposal is one of the two components of recoverable amount. When an entity determines that value in use is lower than fair value less costs of disposal, Ind AS 113 governs the measurement of the latter.
• Ind AS 38 (Intangible Assets) — The revaluation model under Ind AS 38 requires fair value measurement with reference to an active market for intangible assets, applying Ind AS 113 principles.
• Ind AS 109 (Financial Instruments) — Financial assets and liabilities measured at fair value through profit or loss (FVTPL) or fair value through other comprehensive income (FVOCI) rely on Ind AS 113 hierarchy and techniques.
• Ind AS 40 (Investment Property) — Entities using the fair value model for investment property apply Ind AS 113 measurement principles.
• Ind AS 103 (Business Combinations) — Purchase price allocation requires fair value measurement of identifiable assets acquired and liabilities assumed at acquisition date.

Exclusions from scope include Ind AS 102 (Share-based Payment) transactions, Ind AS 17/116 (Leases) measurements, and net realisable value under Ind AS 2 (Inventories), among others specified in para 6 of the standard.

2. The Exit Price Concept

A fundamental principle of Ind AS 113 is that fair value is an exit price, not an entry price. This distinction is critical in Indian practice. The measurement assumes an orderly transaction — not a forced liquidation or distress sale — between market participants who are knowledgeable, willing, and able to transact. The transaction is presumed to occur in the principal market (the market with the greatest volume and level of activity for the asset or liability) or, in the absence of a principal market, the most advantageous market.

For non-financial assets, Ind AS 113 introduces the concept of highest and best use. The fair value of a non-financial asset is measured based on its highest and best use by market participants, which may differ from the entity’s current use. Highest and best use considers what is physically possible, legally permissible, and financially feasible. This concept is particularly relevant in Indian contexts where land and property valuations often involve consideration of alternative uses permitted under local development regulations.

2.1 Unit of Account vs. Level of Aggregation

The unit of account — that is, what is being measured — is determined by the Ind AS standard requiring fair value measurement, not by Ind AS 113 itself. However, Ind AS 113 addresses situations where the unit of account may differ from the level at which fair value is measured. For instance, an entity holding a large block of equity shares (where the unit of account is each share) may consider whether a blockage discount is appropriate. Ind AS 113 prohibits blockage discounts for Level 1 instruments (para 69), but permits adjustments at other levels where market participants would account for characteristics of the holding.

3. The Three-Level Fair Value Hierarchy

The hierarchy is the backbone of Ind AS 113 and serves to prioritise the inputs used in valuation techniques. The classification into levels is based on the lowest level input that is significant to the entire fair value measurement.

3.1 Level 1 Inputs: Quoted Prices in Active Markets

Level 1 inputs are unadjusted quoted prices in active markets for identical assets or liabilities that the entity can access at the measurement date. These provide the most reliable evidence of fair value and shall be used without adjustment, with limited exceptions.

Practical application in India: Equity shares listed on BSE or NSE with regular trading volumes qualify as Level 1 measurements. Government securities quoted on the NDS-OM platform of the Reserve Bank of India similarly qualify. However, thinly traded securities on Indian exchanges — where the last traded price may be stale — may require reclassification to Level 2 or Level 3.

Ind AS 113 recognises that even within Level 1, practical issues arise. If an entity holds a position in a single asset or liability and the asset or liability is traded in an active market, the fair value is measured as the product of the quoted price for the individual instrument and the quantity held (para 80). No portfolio-level adjustment is permitted at Level 1.

3.2 Level 2 Inputs: Observable Inputs Other Than Quoted Prices

Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Examples include:

• Quoted prices for similar assets or liabilities in active markets
• Quoted prices for identical or similar assets or liabilities in markets that are not active
• Inputs other than quoted prices that are observable for the asset or liability — such as interest rates and yield curves observable at commonly quoted intervals, implied volatilities, and credit spreads
• Market-corroborated inputs — inputs derived principally from or corroborated by observable market data through correlation or other means

Practical application in India: Valuation of over-the-counter (OTC) derivatives such as interest rate swaps, where observable swap curves from FBIL (Financial Benchmarks India Limited) are available, typically falls under Level 2. Similarly, corporate bonds that do not trade frequently but whose yields can be derived from comparable traded bonds with adjustments for credit risk represent Level 2 measurements.

Adjustments to Level 2 inputs may be necessary for factors specific to the asset or liability, including the condition or location of the asset, the extent to which inputs relate to items comparable to the asset or liability, and the volume or level of activity in the market. A significant adjustment using unobservable inputs may result in reclassification to Level 3.

3.3 Level 3 Inputs: Unobservable Inputs

Level 3 inputs are unobservable inputs for the asset or liability. These are used when observable inputs are not available, reflecting the assumptions that market participants would use when pricing the asset or liability, including assumptions about risk. Level 3 measurements require the most extensive disclosures.

Practical application in India: Valuations of unlisted equity shares of private companies, intangible assets without active markets (brands, customer relationships, technology), and contingent consideration in business combinations are typically Level 3 measurements. Given that a significant proportion of Indian companies are unlisted, Level 3 measurements are extremely prevalent in Indian practice.

Ind AS 113 requires that Level 3 inputs be developed using the best information available in the circumstances. An entity may begin with its own data but must adjust that data if reasonably available information indicates that other market participants would use different data or if there is something particular to the entity that is not available to other market participants.

4. Valuation Techniques Under Ind AS 113

Ind AS 113 mandates the use of valuation techniques that are appropriate in the circumstances and for which sufficient data are available to measure fair value, maximising the use of relevant observable inputs and minimising the use of unobservable inputs. The standard identifies three principal valuation approaches.

4.1 Market Approach

The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets, liabilities, or a group of assets and liabilities. Techniques within the market approach include:

• Comparable company analysis (CCA): Using market multiples (EV/EBITDA, P/E, EV/Revenue) derived from publicly traded comparable companies, adjusted for differences in size, profitability, growth, and risk.
• Comparable transaction analysis: Using multiples derived from recent M&A transactions involving similar companies or assets.
• Matrix pricing: A mathematical technique used principally for debt securities that relies on the securities’ relationship to other benchmark quoted securities.

In Indian practice, the market approach is frequently applied for valuation of equity shares under Rule 11UA of the Income Tax Rules, business valuations under Ind AS 103, and IBC valuations where comparable transaction data is available.

4.2 Income Approach

The income approach converts future amounts (cash flows or income and expenses) to a single current (discounted) amount. The fair value measurement reflects current market expectations about those future amounts. Principal techniques include:

• Discounted cash flow (DCF) method: The most widely used income approach technique, projecting expected cash flows and discounting them at a rate reflecting the risk of those cash flows. Our analysis of the valuation paradox discusses the inherent challenges in DCF methodology.
• Multi-period excess earnings method (MEEM): Commonly used for intangible asset valuation, particularly customer relationships and technology assets in purchase price allocations.
• Relief-from-royalty method: Applied to brand and trademark valuations, estimating fair value based on hypothetical royalty payments saved by owning the intangible asset.
• Option pricing models: Including Black-Scholes and binomial models for financial instruments with option characteristics.

Ind AS 113, paras B12–B30, provides specific guidance on present value techniques, including adjustments for risk and the discount rate. The standard distinguishes between the discount rate adjustment technique (where risk is incorporated in the discount rate) and the expected present value technique (Method 1 using probability-weighted cash flows and Method 2 using certainty-equivalent cash flows).

4.3 Cost Approach

The cost approach reflects the amount that would be required currently to replace the service capacity of an asset (current replacement cost). From the perspective of a market participant seller, the price for the asset is based on the cost to a market participant buyer to acquire or construct a substitute asset of comparable utility, adjusted for obsolescence.

The cost approach is particularly relevant for specialised assets in India — purpose-built manufacturing facilities, specialised machinery, and assets for which neither the market approach nor the income approach yields reliable measurements. Adjustments for physical deterioration, functional obsolescence, and economic obsolescence are critical components of the cost approach.

5. Interaction with Ind AS 36: Impairment Testing

The intersection of Ind AS 113 and Ind AS 36 (Impairment of Assets) is one of the most practically significant areas in Indian financial reporting. Ind AS 36 requires that the recoverable amount of an asset or cash-generating unit (CGU) be the higher of its fair value less costs of disposal (FVLCD) and its value in use (VIU).

When FVLCD is determined using Ind AS 113 principles, the following considerations apply:

• Fair value measurement follows the Ind AS 113 hierarchy — Level 1 quoted prices are preferred, followed by Level 2 and Level 3 inputs.
• Costs of disposal are deducted from fair value but exclude restructuring costs, costs to reorganise a business, and income tax consequences.
• FVLCD differs from VIU in that FVLCD reflects market participant assumptions while VIU reflects entity-specific assumptions. Cash flow projections for VIU exclude financing activities and income tax effects, whereas fair value under Ind AS 113 may incorporate these as market participants would.
• Discount rates under VIU are pre-tax rates, whereas fair value DCF models under Ind AS 113 may use post-tax discount rates applied to post-tax cash flows, provided the result is the same as using pre-tax rates with pre-tax cash flows.

In our practice at Virtual Auditor, we frequently encounter situations where Indian companies default to VIU calculations without considering whether FVLCD might yield a higher recoverable amount, potentially resulting in unnecessary impairment charges.

6. Interaction with Ind AS 38: Intangible Assets

Ind AS 38 permits the revaluation model for intangible assets, but only if fair value can be determined by reference to an active market. Given the rarity of active markets for intangible assets in India, the revaluation model is seldom applied. However, Ind AS 113 fair value principles are critically important for:

• Initial recognition of intangible assets in business combinations — Ind AS 103 requires all identifiable intangible assets to be measured at fair value at the acquisition date, applying Ind AS 113 hierarchy and techniques.
• Impairment testing of intangible assets with indefinite useful lives — Annual impairment testing under Ind AS 36 requires FVLCD determination using Ind AS 113 principles.
• Intangible assets acquired separately — Where the cost of an intangible asset acquired in a separate transaction reflects the price paid, this typically represents fair value at initial recognition under Ind AS 113.

Common intangible assets requiring Ind AS 113 fair value measurement in Indian business combinations include brands and trademarks, customer relationships, non-compete agreements, technology and patents, and assembled workforce (though the last is not separately recognisable under Ind AS 38 and is subsumed into goodwill). Our team at Virtual Auditor has extensive experience in intangible asset valuation across these categories.

7. Disclosure Requirements

Ind AS 113 imposes rigorous disclosure requirements, structured by fair value hierarchy level. The objective is to enable users of financial statements to assess the valuation techniques and inputs used to develop fair value measurements and, for recurring Level 3 measurements, the effect of the measurements on profit or loss or other comprehensive income.

7.1 Disclosures for All Fair Value Measurements

• The fair value measurement at the end of the reporting period
• The level of the fair value hierarchy (Level 1, 2, or 3)
• For assets and liabilities held at the reporting date, the reasons for any transfers between Level 1 and Level 2
• The valuation technique(s) and inputs used

7.2 Additional Disclosures for Level 3 Measurements

Level 3 measurements attract the most onerous disclosure requirements, reflecting the subjectivity inherent in unobservable inputs:

• Reconciliation from opening to closing balances, showing separately gains and losses recognised in profit or loss and in OCI, purchases, sales, issues, settlements, and transfers into or out of Level 3
• Total gains or losses for the period included in profit or loss attributable to changes in unrealised gains or losses relating to assets and liabilities held at the end of the reporting period
• Quantitative information about significant unobservable inputs used
• A description of the valuation processes used by the entity
• A narrative description of the sensitivity of the fair value measurement to changes in unobservable inputs, and interrelationships between those inputs

In our experience, many Indian companies, particularly those transitioning to Ind AS, underestimate the extent of Level 3 disclosures required. The Institute of Chartered Accountants of India (ICAI) has issued guidance notes emphasising the importance of comprehensive fair value disclosures.

8. Fair Value in Special Situations

8.1 Fair Value at Initial Recognition

When an entity acquires an asset or assumes a liability in an exchange transaction, the transaction price (entry price) may equal the fair value (exit price) at initial recognition. However, Ind AS 113 acknowledges that the transaction price may not represent fair value in situations such as related party transactions, transactions under duress, different units of account between the transaction and the fair value measurement, and transactions in different markets.

This is particularly relevant under Indian regulations where transactions between group companies are common. The Securities and Exchange Board of India (SEBI) has emphasised arm’s length pricing in related party transactions for listed entities under the LODR Regulations.

8.2 Day-One Gains and Losses

When the transaction price differs from the fair value measured using a valuation technique, Ind AS 113 and Ind AS 109 interact to determine whether a day-one gain or loss is recognised. Under Ind AS 109, a day-one gain or loss on a financial instrument is recognised only if the fair value is evidenced by a quoted price in an active market for an identical instrument (Level 1) or is based on a valuation technique whose variables include only data from observable markets (Level 2). Otherwise, the difference is deferred and recognised over the life of the instrument or when the inputs become observable.

8.3 Fair Value of Liabilities and Equity Instruments

Ind AS 113 addresses the fair value measurement of liabilities and an entity’s own equity instruments. The measurement assumes the liability is transferred to a market participant at the measurement date (the liability continues and is not settled with the counterparty). When a quoted price for the transfer of an identical or similar liability is not available, and the identical item is held by another party as an asset, the entity measures the fair value of the liability from the perspective of a market participant that holds the identical item as an asset.

Non-performance risk, including the entity’s own credit risk, must be reflected in the fair value of a liability. This requirement has significant implications for Indian entities measuring financial liabilities at FVTPL, as deterioration in the entity’s own creditworthiness counterintuitively reduces the fair value of its liabilities.

9. Practical Challenges in Indian Context

9.1 Illiquid Markets and Lack of Comparable Data

A significant challenge for fair value measurement in India is the relative illiquidity of many markets. While the equity markets (BSE and NSE) are among the most active globally, markets for corporate bonds, real estate, private equity, and specialised assets remain comparatively illiquid. This results in a higher proportion of Level 3 measurements compared to developed markets.

9.2 Regulatory Valuation vs. Ind AS Fair Value

Indian entities frequently encounter situations where regulatory valuations differ from Ind AS 113 fair value. For instance, valuations under Rule 11UA for income tax purposes, valuations under the Insolvency and Bankruptcy Code (IBC), and FEMA valuations for FDI pricing each have specific methodological requirements that may not fully align with Ind AS 113. Our team at Virtual Auditor regularly assists clients in reconciling these different valuation requirements.

9.3 Use of Valuation Specialists

Ind AS 113 does not mandate the use of external valuation specialists, but the complexity of fair value measurements — particularly for Level 3 items — often necessitates specialist involvement. As an IBBI Registered Valuer firm, we provide independent fair value assessments that meet the requirements of Ind AS 113, ensuring that the valuation techniques and inputs are appropriate and adequately documented.

10. Audit Considerations

Auditors are required to evaluate the appropriateness of the entity’s valuation techniques, the reasonableness of significant assumptions and inputs, and the adequacy of disclosures. SA 540 (Revised), Auditing Accounting Estimates and Related Disclosures, issued by the ICAI, provides the framework for auditing fair value measurements. The auditor must assess whether the entity has appropriately applied the fair value hierarchy, whether inputs are correctly classified, and whether Level 3 disclosures are sufficient.

Common audit findings in Indian practice include misclassification between hierarchy levels (particularly Level 2 and Level 3), insufficient documentation of valuation processes for Level 3 measurements, failure to update valuation models for changed market conditions, and inadequate sensitivity disclosures.

Frequently Asked Questions

Virtual Auditor — AI-Powered CA & IBBI Registered Valuer Firm
Valuer: V. VISWANATHAN, FCA, ACS, CFE, IBBI/RV/03/2019/12333
Chennai (HQ): G-131, Phase III, Spencer Plaza, Anna Salai, Chennai 600002
Bangalore: 7th Floor, Mahalakshmi Chambers, 29, MG Road, Bangalore 560001
Mumbai: Workafella, Goregaon West, Mumbai 400062
Phone: +91 99622 60333 | Email: support@virtualauditor.in
Book a Free Consultation