FOR YOUR INFORMATION

Transcription

1 FOR YOUR INFORMATION In September 2006, the Financial Accounting Standards Board ( FASB ) issued a statement on Financial Accounting Standards No. 157 ( FAS 157 ), Fair Value Measurements which is now called Topic ASC 820. This standard established an authoritative definition of fair value, set out a framework for measuring fair value and required additional disclosures about fair value measurements. It is applicable to both profit and not-for profit entities that prepare financial statements under US GAAP. ASC 820is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. Union Bank in its continuing effort to provide you with information regarding the responsibility that you or your company has where reporting and disclosures are concerned in regards to ASC 820has prepared the following: - Asset Type by Suggested Fair Value Level Hierarchy Document - ASC 820 Question and Answer Document ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (i.e., the exit price) in an orderly transaction between market participants at the measurement date. Some assets are readily valued, while others are more difficult and in some cases, no current market price may be available. ASC 820 establishes a hierarchy of three levels for assets. This hierarchy ranks the quality and reliability of the information (i.e. observable and unobservable inputs) used to determine fair values. Inputs to fair value determinations refer broadly to the assumptions that market participants would use to price an asset or liability and its risk. ASC 820 describes inputs as observable or unobservable, and directs statement preparers to maximize the use of observable inputs and minimize the use of unobservable inputs. Below is a description of the difference between these two inputs: 1. Observable inputs reflect market participants assumptions in pricing the asset or liability based on market data obtained from sources independent of the reporting entity. 2. Unobservable inputs reflect the reporting entity s own assumptions about the market participants assumptions that they would use to price an asset or liability based on the best information available under the circumstances. ASC 820 establishes a fair value hierarchy with three levels for these input valuations. The three levels are defined below: Level 1: Valuations are based on quoted prices in active markets for identical assets or liabilities. Since valuations are based on quoted prices that are readily and regularly available in an active market, valuation of these products does not entail a significant degree of judgment. Examples would be securities with prices derived from the major exchanges. Level 2: Valuations are based on quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-based valuations for which all significant assumptions are observable or can be corroborated by observable market data. Examples would be securities with prices derived from market corroborated sources such as indices and yield curves; and matrix pricing, such as for most debt securities.

2 Level 3: Valuations are based on unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Values are determined using pricing models and discounted cash flow models and includes management judgment and estimation which may be significant. Examples would be prices derived from investment managers or other advisors for securities such as private equities, hedge funds, and private placements. Union Bank utilizes pricing services that deliver current market values and security information which is input into our trust accounting systems. A security will be valued on the basis of valuations provided by a pricing service vendor if it has a substantial public market (i.e. is not thinly traded), and is freely tradable without restriction, has a valid CUSIP or SEDOL and resides on one of the depositories FED, DTC or Euroclear, etc. Based on your direction, Union Bank will continue to obtain valuations for all other securities and assets, for which we do not receive a pricing feed and/or descriptive information from our pricing service vendors, from various sources independent of Union Bank, including from you or your agents to the extent available. If no current market value price is available from our pricing service vendors and neither you nor your agents have provided Union Bank with pricing information, Union Bank will show the value of the asset at such value as Union Bank shall determine, such value to be for administrative purposes only and not be any indication of any market value. Please Note: This document is not intended as legal or accounting advice and is subject to change without notice. It is a general overview of the new requirements that the reporting entity must adhere to under ASC 820. Union Bank is not the reporting entity under ASC 820. Any reporting entity that utilizes the information provided to establish an accounting and financial reporting process for determining fair value measurements should seek legal and financial advice. In addition, it is important to note that the banks Suggested Fair Value Hierarchy Levels are based on asset class and is for your consideration only. If you need any additional information regarding pricing and valuations of assets, please visit Interactive Data s website: Please feel free to call your Union Bank account administrator or relationship manager with any questions regarding this matter.

3 ASC When is ASC 820 effective and do I have to worry about it? Question and Answers ASC 820 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. It is applicable to both profit and not-for profit entities that prepare financial statements under U.S. GAAP. 2. What is the objective of Fair Value? The objective of fair value measurement is to determine the price that would be received to sell the asset or paid to transfer the liability at the measurement date (an exit price). 3. What are the concepts of principal and most advantageous markets? 4. If quoted prices in an active market are available and readily accessible, is it permissible to use a lower level of measurement? If there is a principal market, one assumes the transaction occurs in the principal market. This is the market with the greatest level of activity for the asset or liability. If no principal market exists, one would assume the transaction occurs in the most advantageous market for which to sell the asset or transfer the liability with the price that maximizes the amount that would be received for the asset or minimizes the amount that would be paid to transfer the liability. No. For identical instruments that are actively traded where a price is available and the entity has the ability to access that price at the measurement date, any fair value measurement performed should equal market price by quantity. 5. What is considered an active market? ASC 820 defines an "active market" as one in which transactions for the asset or liability occur with sufficient frequency and volume to provide pricing information on an ongoing basis. 6. How are assets and liabilities fair valued under ASC 820? They can be fair valued as a stand-alone asset or liability or a group of assets and/or liabilities depending on the unit of account which is determined in accordance with other applicable accounting standards. For example, the asset is the fund where a mutual fund is concerned under ASC 820, not the underlying assets of the fund. 7. What are the ASC 820 Hierarchy Levels? ASC 820 establishes a fair value hierarchy with three levels for these input valuations. The three levels are defined below: Level 1: Valuations are based on quoted prices in active markets for identical assets or liabilities. Since valuations are based on quoted prices that are readily and regularly available in an active market, valuation of these products does not entail a significant degree of judgment. Level 2: Valuations are based on quoted prices for similar instruments in active markets, quoted

4 prices for identical or similar instruments in markets that are not active and model-based valuations for which all significant assumptions are observable or can be corroborated by observable market data. Level 3: Valuations are based on unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Values are determined using pricing models and discounted cash flow models and includes management judgment and estimation which may be significant. 8. Are the ASC 820 Hierarchy Levels ranked according to market risk of the investments? 9. What are the valuation techniques under ASC 820? 10. What is the difference between observable and unobservable inputs where ASC 820 is concerned? No, the Fair Value Hierarchy is based on valuation techniques. The following are the standard valuation techniques allowable under ASC 820. Market approach. This method uses prices and other relevant information generated by market transactions involving identical or comparable assets. Income approach. This method uses valuation techniques to convert future amounts (for example, cash flows or earnings) to a single present amount and is based on the value indicated by current market expectations about those future amounts Cost approach. The cost approach is based on the amount that currently would be required to replace the service capacity of an asset (replacement cost). Entities may use one of these or a combination of these if they deem this appropriate. ASC 820 defines "inputs" to be used as either "observable" or "unobservable," with the provision that the valuation technique used shall maximize the use of observable inputs and minimize the use of unobservable inputs. Observable inputs reflect assumptions market participants would use in pricing the asset or liability and are developed based on market data obtained from sources independent of the reporting entity. Unobservable inputs reflect the reporting entity's own assumptions about the assumptions market

5 ASC 820 Suggested Fair Value Hierarchy Levels participants would use in pricing the asset or liability. 11. How was the Union Bank Suggested Fair Value Hierarchy Level document developed? 12. Are all prices obtained from your pricing vendor considered a Level 1? 13. Does Union Bank utilize price as the determining factor when assigning the ASC 820 Hierarchy Level? 14. Why are so many of the Commingled Funds, Collective Funds and GICs a Level 3? 15. Are the Union Bank ASC 820 Hierarchy Levels to be used for reporting by clients? The expected ASC 820 level by asset type was assigned based on information provided to us from our primary pricing vendor, industry data, and ASC 820 forums. No, our pricing vendor uses numerous inputs to obtain their fair value measurements including pricing feeds, broker pricing information, matrix pricing, and other market data. Not entirely, Union Bank has utilized the asset class to determine the ASC 820 Hierarchy Level along with current industry consensus concerning the input sources of the pricing of the asset class. ASC 820 requires the Level assigned based on the accounting unit and pricing methodology not the underlying assets. No, this is a guide for you and your auditors to use when preparing your fair value tables. Control and ownership of these ultimately are with the reporting entity. You should seek legal and financial advice if these tables are used for reporting purposes. 16. What does UR mean next to an asset? This indicates unrated or when Union Bank does not have sufficient information to provide a suggested ASC level ranking.

6 Level 1 American Depository Receipts (ADRs) Common Stock Exchange-Traded Funds (ETFs) Exchange-Traded Options (ETOs) Exchange Traded Partnerships Futures Mutual Funds Preferred Stock Unit Investment Trusts (UTI)s U.S. Treasury Bills, Bonds, and Notes Level 2 Auction Rate Preferred Stock Bank Deposits Certificates of Deposit (CD) Collateralized Debit Obligations (CDOs) Collateralized Mortgage Obligations (CMOs) Commercial Paper Regulated Commingled Funds Regulated Common Trust Funds Convertible Preferred Stock Corporate Bonds Currency Forwards Government Obligations Master/Demand Notes Money Market Funds Municipal Notes and Bonds Real Estate Mortgage Investment Conduits (REMICS) Repurchase Agreements (REPO) Rights and Warrants Supranational Obligations Time Deposits Level 3 Closely Held Business Non-regulated Commingled Funds Non-regulated Common Trust Funds Guaranteed Investment Contracts (GICs) Guaranteed Annuity Contracts (GACs) Insurance Policies Limited Partnerships Loans Master Trusts Mineral & Royalty Interests Mortgage/Notes/Contracts Options Private Equity Issues Private Partnership Issues Real Property/Real Estate