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ACCT2011
Reporting on Business
Performance
Module 2: Measurement; Choice
of Accounting Methods
By Timothy Wang
Measurement; Choice of Accounting Methods
Text Readings:
– H&P Chapters:
– Ch 3 pp. 58 & 60-61;
– Ch 4 pp. 98-105; and
– Ch 5 pp. 118-139.
Other Readings:
– “Financial Reporting” 3rd ed, Loftus et al. (2020), pages
30-32
– AASB Conceptual Framework
– AASB 13: Fair Value Measurement
– AASB108: Accounting Policies, Changes in Accounting
Estimates and Errors
– Conceptual Framework for Financial Reporting, IFRS
Conceptual Framework Project Summary, March 2018
Learning objectives
Measurement & Fair Value:
1. Describe measurement in the context of accounting (H&P LO
3.4, H&P pages 58 & 60-61, Loftus et al pages 30-32 )
2. Describe the importance of fair value measurement (H&P LO
4.1, H&P pages 98-100)
3. Define fair value and describe its various components (H&P LO
4.2 – 4.2.4, H&P pages 100-105)
Learning objectives
Choice of Accounting Methods:
4. Explain the process used by accounting standard setters to
make choices between alternative accounting policies (H&P LO
5.1, H&P pages 118-122)
5. Discuss reasons why choices of accounting policies are
available to preparers of financial statements and the
attempts by Australian accounting standard setters to limit this
choice (H&P LO 5.2, H&P pages 122-123)
6. Explain ‘creative accounting’ by preparers of financial
statements (H&P LO 5.3, H&P pages 123-125), and
understand what is meant by ‘earnings management’
7. Discuss preparers of financial statements incentives to engage
in earnings management (H&P LO 5.4 & LO 5.5, H&P pages
(125-139)
Objective 1
Describe measurement in the
context of accounting*
(H&P LO 3.4, H&P pages 58 & 60-61, Loftus et al pages 30-32)
*The following information is based on the
AASB Conceptual Framework
Measurement in accounting
AASB Conceptual Framework
- Broad definition of measurement: “the assignment of numerals to
objects or events” (H&P p.58).
- Accountants use money to measure, so all accounting measures have
a dollar sign.
– Elements of financial statements could be measured in many ways:
– Historical cost;
– current (replacement cost);
– Fair value;
– Net realisable (settlement) value;
– present value.
Refer to Table 1.1 Loftus et al page 30
– .
Entry price
Exit price
Also called cost-based amount
Measurement in accounting
– AASB Conceptual Framework lists these measurement bases but
does not decide.
– These are all financial measures, but which should be used?
– But to be able to aggregate the measures, i.e. to add them, or
subtract them, the measures need to be the same.
– If, for example, we use historical cost for some items and
realisable value for others, the totals are not meaningful.
– In accounting practice, multiple different measures are used for
different types of elements (eg. Accounts receivable, plant and
equipment).
- Measurement basis is important - When you see a company’s
total assets, what does that total mean?
Measurement baseAccounts
Active Learning:
Inventory The lower of cost and net realisable value
Net accounts receivable Amortised cost/expected cash receipts
Property, plant and equipment Modified historical cost/cost-based amount
A mixed measurement system
Measurement in accounting
Example 1– Different measurement bases
Source: H&P page 61
Do 1 dollar in 2007 and 1 dollar in 2017 have the same purchasing power
Because of inflation?
Measurement in accounting
Factors to consider when choosing a measurement basis
AASB Conceptual Framework
– Choice of a measurement basis is a professional judgment based
on the facts and circumstances for each account balance
– For “relevant” consider characteristics of the asset or liability and
its related income/expense and contributions to future cash flows
– For “faithfully represent” consider consistency/inconsistency of
measurement basis between related asset and liability accounts,
will financial statement users find the information useful and does it
faithfully represent the underlying transactions
– Hans Hoogervorst, Chair of the IASB, provides an overview of the
RCF approach that has been adopted by the AASB
IASB Conceptual Framework - Measurement
Source: Conceptual Framework for Financial Reporting, IFRS Conceptual Framework Project Summary, March 2018
IASB Revised Conceptual Framework - Measurement
Source: Conceptual Framework for Financial Reporting, IFRS Conceptual Framework Project Summary, March 2018
Objective 2
Describe the importance of fair value
measurement
(H&P LO 4.1, pages 98-100)
Fair value
– Accounting standard setters have increasingly been using 'fair value'
as a measure in various accounting standards. (see list H&P p. 98).
– What is fair value?
– The exit or selling price of an asset (or the price paid to transfer
a liability) at the measurement date.
– Fair values change as market prices change.
– If changes in fair value are recognised in financial statements,
they will affect the financial performance and financial position
of the entity.
– Although fair values have been used in Australia for many years
for property, plant and equipment (Modules 3-4), standard-
setters’ efforts to apply fair values to financial instruments have
received significant attention and has been most controversial.
Criticisms of fair value
– Fair value can be unreliable, especially when there is no active
market to provide evidence of fair value.
– Fair values might not be relevant under some circumstances, and
so recognition of unrealised gains or losses might be misleading.
– During global financial crisis (GFC) of 2007-2009, it was
argued that fair value accounting caused the GFC. (Not correct,
but the accounting standard setters were placed under pressure
and made some changes).