 Hello and welcome to the session in which I explain how to figure out the fair value of financial assets or financial liabilities as it appears on the CPA exam. Now bear in mind, I am not discussing the fair value of property, plant and equipment, which will have slightly different rules. I will have a separate recording for property, plant and equipment. Fair value is an important topic on the CPA exam. It's a little bit confusing for students. Therefore, I'm going to approach it, explain it from a market perspective or no principal market perspective or no principal market perspective. I believe that's the easiest way to explain this concept. So really, you don't want to walk into the exam not knowing how to determine the fair value of a financial asset or a financial liability. Usually most of the time they'll ask you about financial assets. Now, before we start, I would like to remind you that whether you are an accounting student or a CPA candidate, I strongly suggest you take a look at my website, farhatlectures.com. I don't replace your CPA review course whether you are taking back a Roger, Gleam, Wiley or any other course. Please keep them. I am a useful addition. I explain the material differently. That's going to help you with your CPA review course, which in turn will help you succeed on the exam. Your risk to try me is one month of subscription. You can give it a try. If you find it's helpful, keep it. If not, canceled. So that's your risk. Your potential gain is actually passing. And my material is a line to mirror image your CPA review course. So it's easy to switch between my material and your CPA review course. It's on purpose so it make it easier for you. And if not for anything, take a look at my website to find out how well or not well your university doing on the CPA exam. I do have resources for other college courses. So please take a look at my website if you are an accounting student. If you haven't connected with me on LinkedIn, please do so. Take a look at my LinkedIn recommendation, like this recording, share it with other, connect with me on Instagram, Facebook, Twitter and Reddit. So how do we determine the fair value of an asset, financial asset or financial liability? Well, it starts very easy. If we have a principal market, if we are told in the problem or if you are hinted and we're going to determine how to find out whether you have a principal market or not, it's easy. If you have a principal market, you'll go with the principal market price. Now, how do we determine or what type of hints do they give us that there's a principal market? Well, they'll tell you, for example, this market has the greatest value. It means most activity, the highest level of activity for that asset or liability is on that market. Then it's easy. Then whatever that principal market price is, then you go with that price. Very easy. You ignore the most advantageous market. They may tell you the principal market price is $50 or let's say $100. They will say the principal market price is $100. But there's the most advantageous market and the price is $105. Well, I don't care. If I have a principal market, I will go with my principal market. Now, what is the most advantageous market? We're going to talk about that in a moment. But the point is, if you are told the principal market, which somehow told in the problem as the greatest volume or the highest level of activities, where there's the most volume of buyers and sellers, you'll go with that market and you will ignore transaction costs. So if there's a principal market, it's easy to deal with the problem. I'll go with that price. The most advantage, the best price, I'm sorry, the price of the principal market. Very easy. And I'm going to illustrate this as an example. Let's assume there's no principal market. In other words, this stock or this liability is traded on several exchanges and there's no principal market. We don't know what the principal market is. Now what we have to do, we have to determine the most advantageous market. Now, how do we determine the most advantageous market? This is the question becomes. Now it becomes you have to kind of know the rules. Well, you have to find what is the best price for the asset or the lowest price to settle the liability. Just think about assets, okay? Because most of the time they ask you, what's the fair value of the asset, but if they're dealing with liability, you just kind of reverse the process, say, what is the lowest price I can pay to settle the liability? Now, how do I determine the most advantageous market? I have to take into account the transaction cost you consider. So when you are determining the most advantageous market, you have to consider the transaction cost to determine the most advantageous market. And notice what I said. You don't consider transaction cost when you're answering fair value. What does that mean? It means, okay, I'm going to take into account my transaction cost in determining my most advantageous market. Once I determine my most advantageous market, I no longer use transaction cost to determine the fair value. Don't worry. I'm going to show you an example on the next slide. But this is what you need to know. So let's look at an example. That's the best way to do it. So let's assume we have a company that have a financial asset that's actively traded in two markets, Milan, Italy, and Japan, Tokyo. So they company transact in both market. The price of the asset in Milan is $50. If the company sells the asset, they will incur a transaction cost of $4. That's in Italy. The price of the asset in Tokyo is $48. And if the company sells the asset, they incur a transaction cost of $1. And the question is, what's the fair value of the financial asset? Now, I'm going to show you three different scenarios because here you are not told which one is if there's a principal market or there's no principal market. I'm going to make the first assumption. If we're going to assume Milan is the principal market, if you are told in the problem on the market in Milan, that's the most volume, then that's it. It's easy. Then you would look at Milan. If Milan is the principal market, well, the fair value is $50. Easy. If Milan is the principal market, if you are told in the problem, Tokyo is the principal market or you are hinted in the problem that Tokyo is the principal market, well, guess what? If Tokyo is the principal market, then that's easy. I will focus on the Tokyo and the price in Tokyo is $48. So notice the price in Tokyo is not the most advantageous. It's lower than Milan. But since we are assuming it's the principal market, we'll go with the principal market price because the principal market has the highest activities. It means it's reflecting the true price. That's why I said, if there's a principal market, it's easy. You'll go with the principal market price. Now let's assume there's no principal market for this asset. So Milan is not the principal market, Tokyo is not the principal market and there's no principal market. Here we have to take a look at what's the most advantageous market. So now we are dealing with this side here. There's no principal market. Now we have to determine what is the most advantageous market and determining the most advantageous market we have to take into account transaction costs. So let's come back here. So what's the most advantageous market? Well, let's take a look at Milan first. So if we're looking at Milan and Tokyo, the price is $50. Now you take into account transaction cost minus $4. It's going to give us $46. Tokyo, the price is $48 minus $1. Give us $47. So which one is the most advantageous market? Well, the most advantageous market is where I can sell the asset at a higher price. Well, the most advantageous market is Tokyo. Now the question is, what's the fair value of the asset? Because the question is asking, what's the fair value of the asset? The fair value of the asset is $48. I don't take into account the transaction cost when I'm determining the fair market value because the question is asking about the fair value. If the question was, what is the most advantageous market? I would say Tokyo is the most advantageous market. But that's not the question. The question is, what's the fair value of the asset? The fair value of the asset, since there is no principal market, is the price on the most advantageous market, which is Tokyo, which is $48, not $47. So notice I used the transaction cost here to determine the most advantageous market, not to determine the fair market value. And this is where students, they get tripped by selecting $47 as the price. No, it's the fair value, not the most advantageous market. I hope this recording will help you clarify this point. At the end of this recording, I'm going to remind you again to visit farhatlectures.com. Again, I don't replace your CPA review course. I have many lessons that goes hand in hand with your CPA review course that's going to help you explain the material differently. If you like it, please subscribe. You invest for your CPA once in your lifetime. Take advantage of it. Don't shortchange yourself. Pass the exam, move on with your life. Good luck, study hard, and of course, stay safe.