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Valuation of shares
Extract from FRS102: Section 26.10 – 26.11
26.10 An entity shall measure the fair value of shares (and the related goods or services received) using the following three-tier measurement hierarchy:
(a) If an observable market price is available for the equity instruments granted, use that price.
(b) If an observable market price is not available, measure the fair value of equity instruments granted using entity-specific observable market data such as:
(i) a recent transaction in the entity’s shares; or
(ii) a recent independent fair valuation of the entity or its principal assets.
(c) If an observable market price is not available and obtaining a reliable measurement of fair value under (b) is impracticable, indirectly measure the fair value of the shares using a valuation method that uses market data to the greatest extent practicable to estimate what the price of those equity instruments would be on the grant date in an arm’s length transaction between knowledgeable, willing parties. The entity’s directors shall use their judgement to apply a generally accepted valuation methodology for valuing equity instruments that is appropriate to the circumstances of the entity.
OmniPro comment
Generally there would be a presumption that the fair value can be reliably measured.
The highest priority is to the market price and works down from there. Where entities are not marketable a discount to the value should be applied.
Where a valuation method is used it should make use of as much external market data as possible and should use valuations generally used in the business. Any restrictions should also be considered in the valuation exercise.
Valuation of Share options and equity-settled share appreciation rights
26.11 An entity shall measure the fair value of share options and equity-settled share appreciation rights (and the related goods or services received) using the following three-tier measurement hierarchy:
(a) If an observable market price is available for the equity instruments granted, use that price.
(b) If an observable market price is not available, measure the fair value of share options and share appreciation rights granted using entity-specific observable market data such as for a recent transaction in the share options.
(c) If an observable market price is not available and obtaining a reliable measurement of fair value under (b) is impracticable, indirectly measure the fair value of share options or share appreciation rights using an alternative valuation methodology such as an option pricing model. The inputs for an option pricing model (such as the weighted average share price, exercise price, expected volatility, option life, expected dividends and the risk-free interest rate) shall use market data to the greatest extent possible. Paragraph 26.10 provides guidance on determining the fair value of the shares used in determining the weighted average share price. The entity shall derive an estimate of expected volatility consistent with the valuation methodology used to determine the fair value of the shares.
OmniPro comment
Where share options or share appreciation rights cannot be determined easily as they relate to private companies, most entities apply an option pricing model. Examples of an option pricing model include models such as:
- Black Scholes model
- Binominal and Monte Carlo model.
The inputs to these models should use market data to the greatest extent possible. All option pricing models take into the account the points in Section 26.11 above.
The model incorporates the intrinsic value of the option as well as the time value of an option. It tries to determine the price that a willing buyer would pay for the right to that option at the measurement date and not the value of the underlying share at a future date.
A change in the exercise price or its life has the greatest impact on value. The more the option price increases by the less value that is included in the option.
Further details in relation to the valuation models is beyond the scope of this manual.
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