ASC 820 Mark-to-Market

ASC 820 mark-to-market accounting creates a single definition of fair value for reporting and requires that companies market assets to market every quarter instead of allowing them to be held at cost as previously was allowed.

There are three primary areas of changes implemented by ASC 820 mark-to-market accounting to what was commonly prior practice.

• The definition of fair value is new and standardized across all accounting statements under GAAP. Fair value now defined to be the exit price of a transaction, not the entry price, which previously could be used.

• The assumptions and methods used to measure fair value are new or updated. A reporting entity must now use market based assumptions to determine fair value as opposed to using assumptions made by the reporting entity. ASC 820 establishes a three level fair value hierarchy for entities to use to classify investments based on how easy or hard it is to value an asset or liability using observable inputs. Level 1 is the easiest to measure by using quoted market prices (mark to market). Level 2 is a little more difficult to measure by using observable inputs such as prices for similar assets or liabilities in active markets or inputs that are not prices but are still observable such as yield curves or interest rates (mark to model), and Level 3 is the most difficult to measure because there are no observable inputs due to little or no market activity for the asset or liability at the measurement date so unobservable inputs must be developed based on the best information available, including assumptions about what market participants would use in pricing the asset or liability. In addition an entity must use one of three valuation methodologies to measure fair value: market, income and cost approaches.

• ASC 820 expands the disclosure requirements for assets/liabilities classified as Level 3 because they use a significant level of unobservable inputs to be measured. ASC 820 requires that entities must disclose the earnings impact on the Level 3 measurements and changes in Level 3 assets/liabilities must be reconciled between periods.

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Widespread use of Mark-to-Market Accounting

Mark-to-market accounting methodology primarily is used due to Section 475 of the IRS Taxation code. This section states that large financial center banks and broker dealers that choose mark to market treatment (most do) shall recognize gain or loss as if the financial instrument was sold for its fair market value on the last business day of the fiscal year. As a practical matter, most big banks and broker dealers mark to market their entire book internally on a daily basis for profit and loss tracking and risk management. The extension of mark to market accounting to smaller capital market participants is therefore a natural extension of already well-established practices.

DerivActiv provides mark-to-market valuations for investments in most asset classes and financial products. Our methods for determining fair value are approved by auditors, clients, traders, and asset managers and our credit and risk exposure adjustments utilize a risk management perspective. DerivActiv provides clients with values that can be used for quarterly and annual valuation reports as required by auditors.

If you are interested in learning more about ASC 820 (formerly FAS 157), you can download a ASC 820 white paper.