An entity owns a forest. The trees take approximately 27 years to mature, after which they can be cut down and sold. The average age of the trees in the forest is 15 years at the end of the reporting period. The current use of the forest is presumed to be its highest and best use.
There is no market for the trees in their current form. However, there is a market for the harvested timber from trees aged 27 years or older.
To measure the fair value of the forest, the entity uses an income approach and uses the price for 27 year-old harvested timber in the market today as an input.
However, since the trees are not yet ready for harvest, the cash flows must be adjusted for the costs a market participant would incur. Therefore, the estimated cash flows would include:
- Costs to manage the forest (including silviculture activities, such as fertilizing and pruning the trees) until the trees reach maturity;
- Costs to harvest the trees; and
- Costs to transport the harvested logs to the market.
The entity estimates these costs using market participant assumptions.
The entity also adjusts the value for a normal profit margin because a market participant acquiring the forest today would expect to be compensated for the cost and effort of managing the forest for the 12 years before the trees will be harvested and the timber is sold.