Corporate Fair Value Reporting: Investigating Two ASX Listed Companies

Difference with historical costing method

Evolution has been an integral part of accounting landscape ever since its inception. The objective of accounting is to maintain the records of all financial transactions whether of an entity or individual, in a summarized and classified manner to make sure that the books of accounts reflect true implications of these transactions. Over the years as mentioned the subject, i.e. accounting has undergone number of changes. At the very beginning accounting was primarily about keeping simple and plain records of financial transactions. With passage of time new and important concepts were introduced in accounting and financial reporting to improve the efficiency and effectiveness of book keeping system.

Majority of the people are aware with the term Fair Value Accounting, here in after to be mentioned as FVA in the document. It is the method to disclose the value of goods, assets and liabilities at potential market prices. It is often described as an unbiased method to estimate the value of goods, services, assets and liabilities (Amel-Zadeh, Barth & Landsman, 2017).

Recent accounting scandals including one of the most sought after accounting scandals in the history, the fall of Enron, has raised number of questions as to the ability of the concept to disclose the true and fair picture of an organization’s performance and financial position (Lachmann, Stefani & Wöhrmann, 2015).

It is difficult to determine the market prices of assets that do not have an established market place. FVA is used to ascertain the market value of an asset or a liability based on certain conditions. In case of liability it is the amount of expected to be paid in the future to discharge the same. In case of an asset, the fair value is the expected amount to be received from sale of such asset less any expenditures necessary to make the sale. Fair value concept is based on certain assumptions and these must hold true in the future to ensure proper valuation of assets and liabilities are made using FVA. Only if the underlying assumptions are correct FVA will reflect the correct and true value of different assets and liabilities that have been valued using the concept of fair value (Magnan, Menini & Parbonetti, 2015).

The difference between historical cost basis accounting and fair value accounting is quite significant. In historical costing the assets and liabilities are measured and valued at cost, i.e. in case of assets, these are valued at the amount paid to acquire as on the date of acquisition. In case of liabilities, these are valued at the amount it was denominate at the time of incurring the liabilities (Demerjian, Donovan & Larson, 2016). Thus, the difference between the two methods can be understood from the simple valuation methods that the two concepts used. Both methods though are different but none are without flaws. Historic and traditional method of accounting does not take into consideration the time value of money when valuing the assets and liabilities of an organization. Whereas in FVA though the time value of money is considered but the underlying assumptions such as presence of perfect competitive conditions is not realistic in different circumstances (Goh, Li, Ng & Yong, 2015).

Importance of using fair value reporting

In corporate reporting use of FVA is the way forward to disclose the true and fair values of assets and liabilities of an organization in the financial statements. Whether it is public sector organization or private sector organization the use of FVA is the only way to disclose true and fair values of assets and liabilities in the financial statements. The corporate accounting scandals including the Enron collapse cannot be used as an excuse to deny the usefulness of FVA in disclosing true and fair values of assets and liabilities organizations (Campbell, D’Adduzio & Duchac, 2016). The integrity of management of an organization is of utmost importance and irrespective of the accounting method used if the management is involved in fraudulent practices then accounting scandals cannot be restricted by the use of any particular accounting methods. Thus, the subprime and other crises in the world cannot be blamed on any particular accounting method (Schaltegger & Burritt, 2017). The purpose of accounting is to report the actual position and performance by correctly recording the financial transactions of an organization (Barth & Landsman, 2018). The FVA is the only method that correctly discloses the value of assets and liabilities however, the concept is far from perfect and requires continuous evolution to improve the financial reporting by using the method. Hence, the argument of Laux and Leuz (2009) is quite correct that debate of fair value is far from over and much needs to be done on the concept.

The two Australian companies chosen to complete the verification of fair value disclosures made in the financial statements are Queste Communications Limited and TPG telecom Limited. Both the companies are listed in Australian Securities Exchange (ASX).

Queste Communications Limited: An ASX listed entity, Queste is in the business of telecommunication industry. The fair value disclosures made in the annual report 2017 of the company shall be evaluated here.

TPG Telecom Limited: The Company is quite established in the telecommunication market in Australia. The annual report shall be verified independently to evaluate the financial disclosures made by the company.  

Queste Communication has issued a completed set of financial statements in its annual report. Notes to accounts which is one of the most important elements of financial statements contain all necessary information about the fair value disclosures of the company. The company except trade receivables has measured its financial assets using fair value plus method (Singh, 2015). The financial assets that have not been valued using fair value measures has been valued through profit and loss account by using transaction cost. The company has used AASB 9 for recognition and measurement of financial instruments. Fair value through profit or loss (FVTPL) has been used to value debt instruments of the company. The company used fair value through profit or loss to recognize equity instruments (Yao, Percy & Hu, 2015).

Queste Communications Limited

Net gain and loss on financial assets at FVTPL of the company is provided in the table below:

In case of TPG Limited the company has valued assets and liabilities acquired through business combinations financial instruments using fair value. In determination of fair values, the company has followed the following method:

Property, plant and equipment: To determine the fair value of PPE the quoted market price of similar assets as and when available has been used. Apart from that depreciation replacement cost has also been use to provide for physical deterioration of assets (Palea, 2014).

Intangible assets: The royalty amounts receivable for brands have been discounted to determine the fair value of intangible assets. Apart from that other intangible assets have also been valued by discounting the expected future cash flows from such assets (Zeff, 2016).

Inventories: In case of inventories the estimated selling price of such inventory in ordinary course of business has been reduced by the estimated cost to make such sales to determine the fair value.

Trade and other receivables have been valued by using discounting method to discount future cash flows. The quoted closing bid price of equity and debt instruments have been used to determine the fair value of these instruments (Ellul, Jotikasthira, Lundblad & Wang, 2015).

References:

Amel-Zadeh, A., Barth, M. E., & Landsman, W. R. (2017). Erratum to: The contribution of bank regulation and fair value accounting to procyclical leverage. Review of Accounting Studies, 22(3), 1455-1457.

Barth, M. E., & Landsman, W. R. (2018). Using Fair Value Earnings to Assess Firm Value. Accounting Horizons.

Campbell, J., D’Adduzio, J., & Duchac, J. (2016). The use of fair value accounting in risk management in non-financial firms. Book chapter in.

Demerjian, P. R., Donovan, J., & Larson, C. R. (2016). Fair value accounting and debt contracting: Evidence from adoption of SFAS 159. Journal of Accounting Research, 54(4), 1041-1076.

Ellul, A., Jotikasthira, C., Lundblad, C. T., & Wang, Y. (2015). Is historical cost accounting a panacea? Market stress, incentive distortions, and gains trading. The Journal of Finance, 70(6), 2489-2538.

Goh, B. W., Li, D., Ng, J., & Yong, K. O. (2015). Market pricing of banks’ fair value assets reported under SFAS 157 since the 2008 financial crisis. Journal of Accounting and Public Policy, 34(2), 129-145.

Lachmann, M., Stefani, U., & Wöhrmann, A. (2015). Fair value accounting for liabilities: Presentation format of credit risk changes and individual information processing. Accounting, Organizations and Society, 41, 21-38.

Magnan, M., Menini, A., & Parbonetti, A. (2015). Fair value accounting: information or confusion for financial markets?. Review of Accounting Studies, 20(1), 559-591.

Palea, V. (2014). Fair value accounting and its usefulness to financial statement users. Journal of Financial Reporting and Accounting, 12(2), 102-116.

Schaltegger, S., & Burritt, R. (2017). Contemporary environmental accounting: issues, concepts and practice. Routledge.

Singh, J. P. (2015). Fair Value Accounting: A Practitioner’s Perspective. IUP Journal of Accounting Research & Audit Practices, 14(2).

Yao, D. F. T., Percy, M., & Hu, F. (2015). Fair value accounting for non-current assets and audit fees: Evidence from Australian companies. Journal of Contemporary Accounting & Economics, 11(1), 31-45.

Zeff, S. A. (2016). Forging accounting principles in five countries: A history and an analysis of trends. Routledge.

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