What Are the ASC 820 Disclosure Requirements?

Accounting Standards Codification (ASC) 820, Fair Value Measurement, governs how companies define, measure, and disclose fair value. The standard creates a consistent framework for this process, enhancing transparency and comparability in financial reporting. Its disclosure requirements are designed to provide clear information about the inputs used to arrive at fair value measurements and the effect these measurements have on a company’s earnings and financial position.

The Fair Value Hierarchy

ASC 820 establishes a three-level framework to categorize the inputs used in valuation techniques for measuring fair value. This hierarchy is based on the observability of the inputs, which directly correlates with the reliability of the measurement. The standard requires that companies classify each fair value measurement into one of these three levels, providing insight into the degree of judgment involved.

Level 1 inputs are the most reliable because they are unadjusted quoted prices in active markets for identical assets or liabilities. An active market is one where transactions occur with sufficient frequency and volume to provide ongoing pricing information. A common example is a stock actively traded on a major exchange, valued by multiplying the shares held by the closing price on the measurement date.

Level 2 inputs are observable inputs other than Level 1 quoted prices. This includes quoted prices for similar assets in active markets, quoted prices for identical or similar assets in inactive markets, and market-corroborated data like interest rates, yield curves, and credit spreads. A corporate bond that trades infrequently or an interest rate swap is valued using Level 2 inputs, as its value is derived from observable market data.

Level 3 inputs are unobservable and reflect an entity’s own assumptions about what market participants would use in pricing. These inputs are used when there is little, if any, market activity for the asset or liability. Developing Level 3 inputs requires significant judgment, making them the least reliable. Examples include investments in private companies, complex derivatives, or unique assets where valuation depends on internal forecasts of future cash flows.

Required Quantitative Disclosures

The quantitative disclosure requirements of ASC 820 provide a numerical breakdown of a company’s assets and liabilities measured at fair value. A primary requirement is a table showing the fair value measurements for each class of asset and liability, segregated by the three levels of the fair value hierarchy (Level 1, 2, and 3). This format allows for analysis of the extent to which a company relies on market-based versus model-based valuations.

The standard requires recurring and non-recurring fair value measurements to be disclosed separately. Recurring measurements are remeasured at fair value each reporting period, such as marketable securities or derivatives. Non-recurring measurements occur in specific circumstances, such as an asset impairment write-down. Disclosing these separately clarifies the nature and frequency of the fair value adjustments.

For assets and liabilities measured using significant unobservable inputs (Level 3), the standard mandates a detailed “roll-forward” reconciliation of the beginning and ending balances each period. This reconciliation must separately disclose total gains or losses for the period, distinguishing between amounts in net income and, for recurring measurements, changes in unrealized gains or losses in other comprehensive income. It also requires disclosure of purchases, sales, issuances, and settlements, as well as any transfers of assets or liabilities into or out of Level 3. The requirements for nonpublic entities are less extensive, as they only need to disclose transfers and the purchases and issues of Level 3 items in lieu of the full reconciliation.

Required Qualitative Disclosures

Alongside the numerical data, ASC 820 requires narrative disclosures that explain the context behind the fair value measurements. For measurements categorized within Level 2 and Level 3, a company must disclose the valuation techniques it used, such as a market, income, or cost approach. It must also describe the specific inputs used in these models to provide a clearer picture of how the fair value was determined.

For Level 3 measurements, an entity must provide quantitative information about the significant unobservable inputs used in the valuation. For example, if a company used a discounted cash flow model to value a private investment, it would need to disclose the discount rate and revenue growth rate assumptions. Public business entities must also disclose the range and weighted average of these inputs, which helps users assess the sensitivity of the fair value measurement.

Disclosures for Items Not Measured at Fair Value

ASC 820 also mandates fair value disclosures for certain financial instruments carried at amortized cost. This requirement provides users with insight into the current market value of these instruments, even if that value is not reflected in the primary financial statements. The purpose is to offer a more complete picture of an entity’s financial position and risk exposure.

This disclosure requirement applies to common financial instruments such as loans receivable, notes payable, and other forms of long-term debt. For these items, a company calculates their fair value for disclosure purposes only. This allows investors and creditors to compare the carrying amount of the instrument to what it is currently worth in the market.

When disclosing the fair value of these instruments, a company must specify the corresponding level within the fair value hierarchy (Level 1, 2, or 3). The disclosure must also include the valuation techniques and significant inputs used to arrive at the fair value estimate. A full roll-forward reconciliation, as required for recurring Level 3 items, is not necessary for these instruments.