IFRS 13 European real estate survey – 2018 update: PwC In depth INT2018-16

Publication date: 28 Jan 2019

adobe_pdf_file_icon_32x32 IFRS 13 Real Estate publication - 2018 update - PwC In depth  

At a glance

IFRS 13, ‘Fair value measurement’, introduced in 2013, significantly expanded the disclosure requirements to provide users of financial statements with detailed quantitative and qualitative information about assumptions made and processes used when measuring assets or liabilities at fair value.

In both 2014 and 2016, we issued IFRS 13 European real estate survey. In those publications, we looked at how a sample of European real estate companies had responded to and complied with IFRS 13 disclosure requirements in relation to investment properties, specifically the quantitative information disclosed about significant unobservable inputs used in fair value measurement and the sensitivity of the fair value measurement to significant changes in those unobservable inputs.

This 2018 update of the IFRS 13 European real estate survey looks into how company disclosures have evolved over the last two years.

The sample of European real estate companies used within this publication consists of 50 (2016: 42) companies listed within the United Kingdom, Germany, France, Sweden, The Netherlands, Belgium, Italy, Norway and Switzerland.

Fair value hierarchy – Level 2 or Level 3

Publication date: 28 Jan 2019

Fair value measurements in IFRS 13 are categorised into a three-level hierarchy. The hierarchy is based on the type of inputs and is defined as follows:

  • Level 1 inputs are unadjusted quoted prices in active markets for items identical to the asset being measured. An entity uses that price without adjustment when measuring fair value. A quoted price in an active market is a Level 1 input.
  • Level 2 inputs are inputs other than quoted prices in active markets included within Level 1 that are directly or indirectly observable.
  • Level 3 inputs are unobservable inputs that are usually determined based on management’s assumptions. However, Level 3 inputs have to reflect the assumptions that market participants would use when determining an appropriate price for the asset.

Fair value measurements of real estate are categorised as Level 2 or Level 3 valuations. There are two significant reasons for this:

  • the nature of real estate assets (they are often unique and not traded on a regular basis); and
  • the lack of observable input data for identical assets.

Significant unobservable inputs

Publication date: 28 Jan 2019

Paragraph 93(d) of IFRS 13 requires the following disclosures for recurring and non-recurring fair value measurements categorised within Level 2 and Level 3 of the fair value hierarchy:

  • a description of the valuation technique(s) used; and
  • the inputs used in the fair value measurements.

An entity should provide quantitative information about the significant unobservable inputs used in fair value measurements categorised within Level 3 of the fair value hierarchy.

IFRS 13 states that the three widely used valuation techniques are the market approach, the cost approach and the income approach. The standard does not indicate a preferred valuation technique. The main aspects of those approaches are summarised in paragraphs B5–B11 of the standard.

IFRS 13 requires an entity to choose valuation techniques that are appropriate to the specific circumstances and that maximise the use of observable inputs. An income approach or a market approach will often be more suitable to measure fair value. This is because market participants would usually estimate the price of an investment property based on their expectations about future income. IFRS 13 encourages an entity to apply multiple valuation techniques if appropriate. The respective indications of fair value should be evaluated considering the reasonableness of the range of values indicated by those results.

Of the companies reviewed, 92% (2016: 86%) used only an income or only a market approach to determine fair value for all properties; 4% (2016: 7%) used both an income and a market approach to determine the fair value of different types of property; while the remaining 4% (2016: 7%) used an average of the fair values determined based on an income and a market approach to determine the fair values of each of their properties. These still demonstrate that an income approach or a market approach is considered the most suitable technique to measure fair value of investment properties.

valuation approaches


We have further analysed the quantitative information disclosed about the significant unobservable inputs used in the fair value measurement when companies used the income approach.

Income approach

Publication date: 28 Jan 2019

Consistent with our 2016 survey, the income capitalisation method and the discounted cash flow method are the most commonly used valuation techniques within the income approach category. These methods are types of present value technique. The fair value is determined on the basis of future income to be earned from the asset. We have noted a wide range in the number of quantitative inputs disclosed, ranging from two to nine (2016: one to nine) inputs.

real estate in depth 2


Most companies disclose three (2016: two) inputs as unobservable, being income, yield and discount rate (2016: income and yield), consistent with the nature of the income approach. The chart below sets out the nature of inputs disclosed by companies using the income approach. As noted, the three most popular inputs disclosed related to income, yield or discount rate, albeit a wide range of inputs was observed. In addition those specifically noted in the chart below, other inputs included expected lease term, void periods and physical condition of the property:

real estate in depth 3


We have also noted that the way in which such quantitative data is presented varies, with some companies disclosing an average, others a range, and some both an average and a range. The results below are broadly consistent with our 2016 survey:

ways companies present quantitative compared to 2016 survey results

Asset classes

Publication date: 28 Jan 2019

Paragraph 94 of IFRS 13 requires that:

“an entity shall determine appropriate classes of assets and liabilities on the basis of the following:

  1. The nature, characteristics and risks of the asset or liability; and
  2. The level of the fair value hierarchy within which the fair value measurement is categorised.

The number and classes are expected to be greater for fair value measurements categorised within Level 3 of the fair value hierarchy, because those measurements have a greater degree of uncertainty and subjectivity. Judgement is required for the determination of appropriate classes of investment property for which disclosures about fair value measurements should be provided.

For each of the companies within our survey, we compared the classes of properties used for the purposes of the IFRS 13 disclosures to the identified segments as reported in their segments note. Of the companies reviewed, 16% (2016: 31%) have disaggregated the classes of properties in accordance with their disclosed segments. This result suggests a continuing trend towards providing users with a greater level of detail.

Companies that disaggregated properties on the basis of something other than their disclosed segments used a variety of methods. However, 82% of these companies provided a greater level of disaggregation than their segment disclosures, compared to 79% in our 2016 survey, again showing a trend towards providing greater detail.

There is an increasing trend of providing disaggregated disclosure by geography and class of property, from 34% in 2016 to 44% in 2018 and this remains the most popular way of providing disaggregated information for all companies. For UK companies reviewed, the second most popular method for providing disaggregated disclosure is by class of property, with 12% (2016: 17%) of companies disclosing information in this way. On the other hand, for non-UK companies reviewed, the second most popular method for providing disaggregated disclosures is by geography, with 20% (2016: 12%) of companies disclosing information in such a way.

The following chart summarises the categories used by the companies within our sample to disclose their classes of assets for the purposes of IFRS 13:

real estate in depth 5


Note: Geographical categorisation includes categorisation by country, region and individual property location

Sensitivities

Publication date: 28 Jan 2019

Paragraph 93(h) of IFRS 13 requires the following disclosures to be provided for investment properties measured at fair value categorised within Level 3 of the fair value hierarchy:

“… a narrative description of the sensitivity of the fair value measurement to changes in unobservable inputs if a change in those inputs to a different amount might result in a significantly higher or lower fair value measurement. If there are interrelationships between those inputs and other unobservable inputs used in the fair value measurement, an entity shall also provide a description of those interrelationships and of how they might magnify or mitigate the effect of changes in the unobservable inputs on the fair value measurement. To comply with that disclosure requirement, the narrative description of the sensitivity to changes in unobservable inputs shall include at a minimum, the unobservable inputs disclosed when complying with (d).”

The guidance does not explicitly require a quantitative sensitivity analysis. However, such sensitivity analysis might be necessary in order to satisfy the requirements of IAS 1.

Paragraph 125 of IAS 1 requires that “an entity shall disclose information about the assumptions it makes about the future, and other major sources of estimation uncertainty at the end of the reporting period, that have a significant risk of resulting in a material adjustment to the carrying amounts of assets and liabilities within the next financial year. In respect of those assets and liabilities, the notes shall include details of: (a) their nature; and (b) their carrying amount as at the end of the reporting period”.

Where assumptions made in determining the fair value of investment property are significant assumptions in the context of IAS 1, further information must be provided within the financial statements, so that users understand the effect of estimation uncertainty. The disclosure of the sensitivity of carrying amounts to significant assumptions is an example of information to be provided in accordance with paragraph 129 of IAS 1.

Of the companies reviewed, 78% (2016: 67%) provided quantitative disclosure of sensitivities, and 8% (2016: 24%) provided qualitative disclosure of sensitivities. This shows an increasing trend in quantitative disclosure compared to our previous survey results, and perhaps it indicates an increasing recognition of the requirements of IAS 1 as set out above. Surprisingly, 14% (2016: 7%) did not provide any sensitivity analysis, and 8% (2016: 2%) provided qualitative disclosures for some unobservable inputs and quantitative disclosures for others. For those providing quantitative disclosure of sensitivities, the format of the disclosure varies significantly between companies, with 79% (2016: 73%) choosing to present the analysis in a tabular format, and others providing a summary narrative.

For each of the companies in the sample, we have compared the number of significant unobservable inputs disclosed to the number of sensitivities presented. As outlined above, IFRS 13 requires companies to include a narrative description of the sensitivity to changes in unobservable inputs; at a minimum, such a description should be provided for significant unobservable inputs used in the fair value measurement.

Of the companies reviewed, 68% (2016: 62%) disclosed fewer sensitivities than inputs, perhaps suggesting that not all unobservable inputs disclosed were considered ‘significant’ in the context of IFRS 13 and were disclosed to enhance users’ understanding of the valuation. A further 25% (2016: 24%) of companies disclosed the same number of sensitivities and inputs, suggesting that all inputs disclosed were considered significant. The remaining 7% (2016: 14%) of companies disclosed more sensitivities than inputs; these additional sensitivities are qualitative and provided as a narrative summary. The rationale for disclosing these additional sensitivities is unclear in all cases:

real estate in depth 6


Where companies provided quantitative sensitivities, the most commonly used sensitivities were a variation of 25 basis points for yield/discount rate and a 5% variation for income. Of the companies reviewed, 63% (2016: 69%) disclosed a variation of 25 basis points for yield/discount rate; and 30% (2016: 33%) used 5% variation for income. It was noted that more companies are now starting to disclose different variations, ranging from 1% to 10%, or even monetary increases in income, rather than percentages. Of the companies reviewed, 78% disclosed a variation ranging from 5 basis points to 50 basis points for yield/discount rate; and 43% of companies disclosed a variation ranging from 1% to 20% for income.

Key takeways

Four years after the adoption of IFRS 13, there have been some notable changes in disclosures made by entities in the real estate industry, specifically:

  • Entities have increased the level of disaggregation when disclosing information about different classes of property. Entities have continued moving away from disaggregation driven by segment reporting with further disaggregation by geography and type of property.
  • More entities are providing the disaggregation ‘by geography and type of property’, while disaggregation by location has an increasing trend among non-UK entities.
  • More entities are providing quantitative instead of qualitative disclosure of the required sensitivity analysis for significant inputs compared to previous surveys.
  • There continues to be a significant number of entities that have disclosed fewer sensitivities than inputs compared to 2016, suggesting that not all unobservable inputs disclosed were considered ‘significant’ in the context of IFRS 13.
 
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