FAR · Select transactions · 6 practice questions
Fair Value: Principal vs. Most Advantageous Market
Fair value uses the accessible principal market, or the most advantageous market if none exists, less transportation when location affects pricing but not transaction costs. The calculation below shows why commissions can select a market without reducing fair value.
Try one first
Hint
Distinguish adjustments that reflect the asset's characteristics (for example, location) from costs of selling; remember that transaction costs are excluded from fair value and that observable adjustments to a quoted price affect the fair value hierarchy.
Answer A. Under ASC 820 fair value is an exit price. The $100 quote applies at the exchange delivery point, but location is a characteristic market participants would consider, so the quoted price is adjusted by observable freight of $4 to reflect the exit price ($100 − $4 = $96). Transaction costs (broker commissions and exchange fees) are excluded from fair value. Because the needed adjustment is based on observable market information, the measurement uses observable inputs and is classified as Level 2 rather than Level 1 or Level 3.
Why not B: This is tempting because an unadjusted active-market quote is Level 1 and transaction costs are excluded, but the inventory is not at the exchange delivery point; an observable location adjustment is required, so the unadjusted $100 does not represent the exit price for MinerCo's holdings.
Why not C: This distractor correctly includes the location adjustment but incorrectly treats broker commissions and exchange fees as part of fair value; such transaction costs are excluded under ASC 820, so deducting them understates the exit price.
Why not D: Candidates may overgeneralize that any adjustment means unobservable inputs and Level 3 classification. Here the $4 freight adjustment is based on observable market data, so the measurement relies on observable inputs and is Level 2, not Level 3.
Worked example
Cove Co. measures one commodity unit at fair value. Location affects pricing. Both active markets are accessible at the measurement date; no principal market exists. Quotes are for identical units delivered to each market. Market A: $240 price, $20 freight, $30 commission. Market B: $230 price, $10 freight, $10 commission. Freight inputs are observable and significant. No other adjustments apply.
| 1 | Market A net proceeds$240 - $20 freight - $30 commission | $190 |
| 2 | Market B net proceeds$230 - $10 freight - $10 commission | $210 |
| 3 | Select the most advantageous market$210 > $190 | Market B |
| 4 | Measure fair value without deducting commission$230 - $10 freight | $220 |
Cove Co. reports fair value of $220 for the unit, classified as Level 2.
Check: Market B's $210 net proceeds plus its $10 commission equals $220 fair value.
Key points
- The principal market has the greatest volume and activity for the asset.
- An accessible principal market controls even when another market offers higher net proceeds.
- A significant observable freight adjustment to an active-market quote produces Level 2, not Level 1.
How the exam traps you
- Choosing the highest net proceeds despite an accessible principal market. Use the principal market first; compare net proceeds only when no principal market exists.
- Reporting net proceeds as fair value. Commissions help select the most advantageous market, but do not reduce fair value.
- Using the market quote without adjusting for the asset's location. Subtract freight to the selected market when location is a pricing characteristic.
Question 2
| Item | Amount |
|---|---|
| Market A quoted selling price | $119 |
| Market A selling commission | $1 |
| Market A transport cost to market | $2 |
| Market B quoted selling price | $124 |
| Market B selling commission | $5 |
| Market B transport cost to market | $1 |
Hint
First identify which market ASC 820 says to use when no principal market exists. Then separate costs used to choose the market from costs that affect the measurement itself.
Answer D. Because no principal market exists, ASC 820 requires Rho to identify the most advantageous market (the market that maximizes the amount received after considering transaction and transport costs). Netting quoted price less commission and transport gives Market A = $119 - $1 - $2 = $116 and Market B = $124 - $5 - $1 = $118, so Market B is the most advantageous. Fair value is then based on the quoted price in Market B adjusted for transport cost (location is a characteristic), but not reduced for transaction costs such as selling commissions. Therefore, fair value per unit = $124 - $1 = $123.
Why not A: Tempting because it equals Market A's quoted price less both commission and transport. However, those net amounts are used only to identify the most advantageous market, and Market A is not the most advantageous here.
Why not B: This reflects choosing the correct market (Market B) but incorrectly measuring fair value by subtracting both commission and transport. Under ASC 820, transaction costs (like selling commissions) are not deducted from the fair value measurement itself.
Why not C: This would be correct only if transport costs were irrelevant. The stem states location is a characteristic market participants consider, so transport must be reflected in the measurement, reducing the quoted market price by $1.
Question 3
Hint
First determine whether the valuation should use the principal market or another market. Then separate transaction costs from costs that relate to the asset's location.
Answer D. When a principal market exists, fair value is based on the quoted price in that principal market. ASC 820 excludes transaction costs (costs to sell) from the fair-value measurement but includes costs to transport the asset when location is a characteristic market participants consider. Therefore, the most supportable fair value is $120 (principal market price) less $4 transport cost = $116.
Why not A: This reflects the higher quoted price in Market M adjusted for transport ($123 − $8 = $115). However, when a principal market exists, fair value should be based on that principal market rather than another accessible market.
Why not B: This subtracts the transaction cost ($3) from the principal market price. ASC 820 excludes transaction costs from fair value, so subtracting the transaction cost is incorrect.
Why not C: This uses the unadjusted quoted price from the principal market but ignores that market participants consider the asset's location; transport costs should be reflected when location is a characteristic.
Question 4
Hint
First decide which market ASC 820 requires you to use. Then separate transportation costs from transaction costs before deciding the hierarchy level.
Answer B. Because Market A is the principal market, GrainCo should base fair value on Market A's quoted price of $6.20 per bushel. Adjust for the observable transportation cost of $0.30 per bushel (a location-based adjustment), but do not deduct the $0.05 selling commission because transaction costs are excluded from fair value. The resulting fair value is $6.20 - $0.30 = $5.90 per bushel, or $29,500 for 5,000 bushels. Because an observable location adjustment is required, the inputs are Level 2 rather than an unadjusted Level 1 quote.
Why not A: This comes from using Market B's higher quoted price and adjusting only for transportation ($6.40 - $0.45 = $5.95), then multiplying by 5,000. It is tempting because it yields better economics, but ASC 820 requires use of the principal market (Market A) when one exists.
Why not C: This equals Market A's quoted price less both transportation and the selling commission ($6.20 - $0.30 - $0.05 = $5.85). The error is including the selling commission in the fair value measurement; commissions are transaction costs and are excluded under ASC 820.
Why not D: This uses the unadjusted Market A quoted price ($6.20 × 5,000) and classifies it as Level 1. Because the asset is not at the market location and an observable transportation adjustment is required, the measurement is not an unadjusted Level 1 quote, Level 2 is appropriate.
Question 5
Hint
Separate the analysis into two steps: first choose the correct market, then determine which costs affect the fair value amount and which only affect market selection.
Answer A. No principal market exists, so Pine selects the most advantageous market by comparing net proceeds (quoted price less transaction and transport costs). Market B is most advantageous (98 - 1 - 2 = 95 vs. 100 - 3 - 8 = 89). Transaction costs are excluded from the fair value measurement itself, but transport (a location-related, observable input) requires adjusting the quoted price, so fair value = 98 - 2 = 96 and the measurement is Level 2.
Why not B: Tempting because it correctly identifies Market B as most advantageous, but it incorrectly presents the fair value as net proceeds after transaction costs. Transaction costs are used only to determine the most advantageous market and are excluded from the fair value amount.
Why not C: Attractive to those who recall that active-market quoted prices are Level 1, but because location is a characteristic of the asset, an adjustment for transport is required. The adjusted price is not the unmodified quoted price and therefore is not Level 1.
Why not D: This mixes up which cost affects the fair value amount: subtracting only the transaction cost from Market B's quoted price yields $97, but transaction costs are excluded from fair value. The correct adjustment is transport only, giving $96.
Question 6
Hint
Decide whether the quoted price is used unadjusted; if it is adjusted, are the adjustment inputs observable (Level 2) or unobservable (Level 3)?
Answer C. Under ASC 820 the quoted price from the principal market is the starting point; transaction costs such as broker commissions are excluded from fair value. Because location is a characteristic of this inventory and Ridge would incur an observable $4 freight to deliver the units to the principal market, the quoted price is adjusted by that observable freight (100 - 4 = 96). The measurement is no longer an unadjusted quoted price (so it is not Level 1); because the adjustment is based on observable market information it is classified as Level 2. Level 3 would apply only if the adjustment relied on significant unobservable inputs.
Why not A: Tempting because identical units trade at $100 in an active market, but Level 1 requires using an unadjusted quoted price; the observable $4 freight tied to the asset's location requires an adjustment, so it is not an unadjusted Level 1 measurement.
Why not B: This subtracts the $1 broker commission, but broker commissions are transaction costs excluded from fair value under ASC 820. It also incorrectly keeps Level 1 despite adjusting the quoted price.
Why not D: This correctly adjusts the quoted price for freight but misclassifies the hierarchy: the $4 freight is described as an observable market-based input, so the adjusted measurement is Level 2. Level 3 would be appropriate only if the adjustment were based on significant unobservable inputs.
Common questions
What is the difference between the principal and most advantageous market under ASC 820?
The principal market has the greatest volume and activity for the asset. Use it if accessible; only when none exists, select the accessible market with the highest proceeds after transportation and transaction costs.
Are transaction costs and transportation costs deducted from fair value?
Transaction costs, such as selling commissions, do not reduce fair value. Transportation reduces the selected market's quoted price when location is a characteristic of the asset.
Does a transportation adjustment make fair value Level 2?
A quoted price adjusted for significant observable freight is Level 2, not Level 1, when no significant unobservable inputs are used. Significant unobservable inputs require Level 3.
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