Fair Value Measurement vs. Exchange
This statement raises question regarding the utility of fair value information about assets, which are held for use, instead of exchange. With AASB 13 in place, concerns could be observed among the standard setters with the ways of measuring fair value, instead of when fair value measures are needed. As mentioned in the exposure draft, there are a number of respondents that have questioned IASB whether fair value measurement is required to be prescribed before the ascertainment of the measurement section of the framework (Efrag.org 2019). Potentially, the ways in which the users intend to use fair values for undertaking decisions might have an impact on the ways of ascertaining fair value.
For instance, in case of the land on which the factory is built for which there is better and effective use in terms of residential property, the issue of whether the factory would have a fair value of zero might be of concern. In this context, it could be argued that if the factory is measured at fair value, decision-useful information would not be provided at the time an organisation is utilising that factory in its operations (Barker and Schulte 2017).
According to “Paragraph B35 (e) of AASB 13”, the price needing the lowest amount of subjective adjustments has to be used for measuring fair value (Aasb.gov.au 2019). Therefore, measuring the fair value of the site is another complex issue. In particular, the users might want to view the determination of a depreciation component in order to analyse the consumption of economic resources at the time of generating the process of cash flows. Therefore, the above evaluation makes it apparent that if fair value is used in this scenario, it might not be possible to provide the most decision useful information. However, on the contrary, if the factory is recorded at nil or no amount, it would provide a signal to the users of the financial reports that land and factory could be utilised for alternative purpose as well. Thus, in terms of measurement, large differences could be observed in information purpose as well as its determination for the fair value of a site used for production and for retail purposes.
As commented by Peters and Taylor (2017), capital expenditure could be defined as expense providing a benefit for future years. The amount incurred for acquiring the land (cost of acquisition) needs to be capitalised and categorised in the form of land, which is a non-depreciable asset. As tearing down the small factory is readying the land for intended use, its cost is a portion of the cost of land and hence, it needs to be capitalised and classified in the form of land. Therefore, there would be no depreciation on this cost, as it would be classified with the capitalised building cost. Moreover, rock blasting and sol removal is needed, which is a portion of the cost of land and thus, they should be capitalised and categorised with the capitalised building cost. According to “Paragraph 1.1 of Guidelines of Capital Expenditure for Property, Plant and Equipment”, the material parts of assets need to be recognised separately and those assets need to be depreciated over shorter useful lives (Arp.nsw.gov.au 2019). Hence, the above cost requires to be depreciated over the estimated useful building life.
Capitalisation of Expenditures
In accordance with “Paragraph 10 of AASB 116”, an organisation is needed to evaluate all costs related to property, plant and equipment when they are incurred and the costs include acquisition or construction cost and incidental cost (Aasb.gov.au 2019). If the machine is sold, the incidental cost of $17,500 would be recognised as depreciation expense over the useful asset life.
According to “Paragraph 15 of AASB 116”, it is necessary to measure an item of property, plant and equipment at historical cost (Aasb.gov.au 2019). However, if there is any change considerable than carrying value, it might be revised. Thus, all costs associated with acquisition and installation of machine amounting to $17,500 would be capitalised and machinery needs to be recorded at $167,500 ($150,000 + $17,500).
Interest could be capitalised only for construction or in-house asset production. Since the asset has been purchased, capitalisation of interest is not possible.
Requirement 1:
From the provided information, it has been found that Scooters Limited, a listed organisation, has undertaken a research and development in July 2019, which is expected to be finished within June 2020 and the organisation has applied a patent in relation to the design. For this project, the organisation has incurred different types of expenses. In this context, “Paragraph 42 of AASB 138” states that research or development expense is associated with an in-process project of research and development acquired separately or in business combination and it is realised in the form of intangible asset (Aasb.gov.au 2019). In addition, this cost is incurred after project acquisition.
The cost of time incurred for detecting and analysing alternative materials has been $100,000, which would be recognised as expense in accordance with “Paragraph 43 (a) of AASB 138”. The costs related to time design and training would be added to the carrying amount of the concerned research and development project, as they are development expenditures fulfilling the criteria mentioned in “Paragraph 57 of AASB 138”. The carrying amount could be defined as either fair value or value in use, whichever is lower (Hu, Percy and Yao 2015). In case of Scooters Limited, the value in use amounts to $4,000,000, while fair value amounts to $3,000,000. Therefore, the carrying amount would be fair value of the design, which would be accounted in the financial statements of the organisation.
Requirement 2:
According to AASB 138, goodwill is no longer required to be amortised, as it is considered in the form of intangible asset with useful life. Instead, goodwill would be tested for impairment and accordingly, there would be recognition of impairment loss (Yao, Percy and Hu 2015). Moreover, this standard does not allow reversal of impairment loss for goodwill, if it is found that there is recovery of goodwill. Such permanent goodwill impairment fails to provide decision useful information to the users, which would have adverse impact on market to book value of equity. Along with this, AASB 138 has restricted the recognition of internally generated intangible assets and this has restricted the business organisations from providing decision usefulness to the users.
In AASB 138, internally generated goodwill is not disclosed to the financial information users, since purchased goodwill is realised only in the financial statements. Thus, there is gross understatement of goodwill, which would mislead the investors in undertaking important decisions. The impairment of goodwill depends on the existing value of future cash flows, which could not be verified, as they rely on several assumptions regarding the ability of discount rates and cash generating units. As a result, there has been significant reduction in the comparability of financial statements by AASB 138.
Requirement 3:
To,
The Chief Executive Officer,
Scooters Limited
Date: 11/01/2019
Subject: Understanding of AASB 138
Under AASB 138, there is definition of intangible asset, which incorporates IAS 38. This standard specifically focuses on the ways of recognising intangible assets, the techniques of gauging intangible assets along with representing the requirements for the disclosure of intangible assets. Initially, all assets under this standard should be measured at historical cost (Russell 2017). Therefore, it is necessary to formulate a clause, which would need reporting organisations to develop adjusted income statement. This would assist in ensuring decision usefulness information to the users as part of the financial statement items to be reported from the end of the taxpaying organisations. Moreover, Scooters Limited is needed to provide adequate training to the staffs and managers so that they could prepare the financial statements accordingly. Hence, it would assist the investors in better comparison of the financial statements of the organisation and thus, accurate decisions could be undertaken by the organisation.
Requirement 1:
In this case, Hoof Limited owes an amount of $40,000 for services provided during June 2019. This event could be categorised in the form of liability, as it comes under the reporting period and certainty could be observed in both certainty and timing.
Requirement 2:
In this situation, it is estimated that costs of $26,000 would be incurred in order to relocate a staff from the head office location of Claw Limited to another city. The staff would relocate physically in August 2019. This event could not be categorised into provision or liability, as the amount is future cost (Hennes 2014).
Requirement 3:
This event could be identified as current obligation and there is occurrence of obligating event and thus, it is a liability. However, it is not easy to measure the amount reliably, since the projected range is too high. Therefore, this needs to be disclosed in the form of contingent liability. Contingent liability could be defined as the liability, which does not meet the recognition criteria of reliable measurement (Biondi and Soverchia 2014).
Requirement 4:
In this case, although a client of Claw Limited have claimed an amount of $3 million for damages, the lawyers of the organisation have suggested that the claimed amount is extortionate and it has high chance of winning the case. However, if the organisation loses the case, it would have to incur $500,000 in the form of costs and damages. Therefore, this event could be recognised as provision, since it is expected to be settled at a future date, if occurred.
References:
Aasb.gov.au., 2019. [online] Available at: https://www.aasb.gov.au/admin/file/content105/c9/AASB13_08-15.pdf [Accessed 11 Jan. 2019].
Aasb.gov.au., 2019. [online] Available at: https://www.aasb.gov.au/admin/file/content105/c9/AASB116_08-15_COMPoct15_01-18.pdf [Accessed 11 Jan. 2019].
Aasb.gov.au., 2019. [online] Available at: https://www.aasb.gov.au/admin/file/content105/c9/AASB138_08-15_COMPoct15_01-18.pdf [Accessed 11 Jan. 2019].
Arp.nsw.gov.au., 2019. [online] Available at: https://arp.nsw.gov.au/sites/default/files/tpp06_6.pdf [Accessed 11 Jan. 2019].
Barker, R. and Schulte, S., 2017. Representing the market perspective: Fair value measurement for non-financial assets. Accounting, Organizations and Society, 56, pp.55-67.
Biondi, Y. and Soverchia, M., 2014. Accounting rules for the European Communities: A theoretical analysis. Accounting, Economics and Law, 4(3), pp.179-214.
Efrag.org., 2019. [online] Available at: https://www.efrag.org/Assets/Download?assetUrl=%2Fsites%2Fwebpublishing%2FProject%20Documents%2F166%2F3.3%20FI_Fair%20Value%20Measurement_IASB%20ED.pdf&AspxAutoDetectCookieSupport=1 [Accessed 11 Jan. 2019].
Hennes, K.M., 2014. Disclosure of contingent legal liabilities. Journal of Accounting and Public Policy, 33(1), pp.32-50.
Hu, F., Percy, M. and Yao, D., 2015. Asset revaluations and earnings management: Evidence from Australian companies. Corporate Ownership and Control, 13(1), pp.930-939.
Peters, R.H. and Taylor, L.A., 2017. Intangible capital and the investment-q relation. Journal of Financial Economics, 123(2), pp.251-272.
Russell, M., 2017. Management incentives to recognise intangible assets. Accounting & Finance, 57, pp.211-234.
Yao, D.F.T., Percy, M. and Hu, F., 2015. Fair value accounting for non-current assets and audit fees: Evidence from Australian companies. Journal of Contemporary Accounting & Economics, 11(1), pp.31-45.
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