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BICOL COLLEGE

Daraga, Albay

College of Accountancy

Fair Value Measurement: the Potential Manipulation

with regards to IAS 41

A synthesis paper

submitted to the faculty

of College of Accountancy

LINDSAY B. BONCODIN

BSA V

DR. JEAN C. DELA TORRE, CPA, MBA, Cat1/ CB

Dean

July 6, 2015
Introduction

Agriculture is an important sector in our economy. However, accounting for agriculture is not
a demand for standard issuers.

In the past years, various modifications called for the attention in the agriculture. One of the
main reason is the standardization in accounting for agriculture sector imposed by the regulatory
body. IAS 41 introduces the fair value method of accounting in the agriculture area. Its primary
objective is to establish standards of accounting for agricultural activities, management of biological
transformation of biological assets and biological produce.

The problem concerned in the implementation of the IAS is the fair value measurement of
the biological assets in the agriculture sector. Past researchers stated that use of fair value
accounting in the sector could possibly lead to manipulation. There is no problem encountered when
an active market exists for the assets. The reliability of the fair value accounting is the great problem
face especially in the implementation of IAS 41.

Keywords: fair value, agriculture, IAS 41, manipulation, biological assets

Fair Value and the Potential to Manipulation in Application of IAS 41

Fair Value as defined by International Accounting Standards Board is the price that would
be receive to sell an asset or to be paid to transfer a liability in an orderly transaction between
knowledgeable market participants at the measurement date.

One of the main arguments against the fair value accounting was the related manipulation
of earnings using this measurement basis. It includes increase in subjectivity comparing historical
costs, increase in fluctuation of unrealistic profit, increase volatility, increase magnitude of
expectations that turn out to be false and lack of reliability that it can be easily subject to manipulation.

IAS 41 constitutes the accounting treatment for the accounting of biological assets which is
the fair value measurement. Compared with the previous accounting treatment, which is the historical
cost accounting, fair value measurement is more controversial. Considering past research studies
regarding fair value, the main findings indicate a high potential for misleading.
The computations used in the fair value accounting for biological assets may come easier if
one similar attributes are present and can be compared. This is true when the market price can easily
be determined. Then, fair value is the best measurement. IAS 41 outlines the guidance on
measurement of fair value which comprises of the following directions: 1. 1) contract prices to sell at
a future date are not necessarily relevant in determining the fair value of a biological asset or
agricultural product, because fair value reflects the current market rate in which a willing buyer and
seller would enter into a transaction; 2) if an active market exists for a biological asset or agricultural
product then the quoted market price represents the most reliable basis for determining the fair value
of the asset. However, if there is no active market exists, the following alternatives are present: 3) in
some circumstances, market-determined prices or values may not be available for a biological asset
in its present condition. In these circumstances the present value of expected net cash flows should
be used, discounted at a current market determined pre-tax rate; 4) Cost may sometimes
approximate fair value when little biological transformation has taken place since initial cost
occurrence, or, the impact of the biological transformation on price is not expected to be material.

Problem arises when management lacks guidance in certain measurement. Due to this,
manipulative practices might arise without much difficulty. In some situation that fair value for
agricultural products cannot be reliably assessed, IAS 41 recommends the use of alternative use of
surrogate value in the active market. Since this circumstances is subjective in nature, management
has the greater opportunities in the manipulation because of the difficulty in establishing the fair value
of the biological assets.

Another involved difficulty in the IAS 41 is the estimation of the amount of fair value
especially if there is no observable prices on which fair value estimates can be taken. In this case,
the estimation might be too high or either low and might lack reliability and usefulness in the decision
making and through this management may opt to manipulative activities even though the regulations
specify how to estimate fair values.

Other potential shortcoming is the volatility in the reported profits or the allowance for
recognition in estimates that can result to significant adjustments in the next periods. IAS 41
encourages the use of high valuations since management possibly still consider the use of historical
measurement.
Conclusions

The application of IAS 41 entails many shortcomings specifically in the fair value recognition.

Due to the inherent characteristics of the biological assets, it is really hard to determine its valuation.
Lack of active market for the assets is the usual problem faced by the management. Generally, in
for an instance, fair value established by market forces do not reflect the real value of agricultural
products.

IAS 41 requires recognition of fair value less the estimated cost of sales. Changes
in fair value are immediately recognized in the profit or loss account with an instant impact on the
result. Fair value is considered an important departure from the convenient valuation and entail
serious downside for the agriculture sector, such as drawbacks in terms of credibility in financial
statements generated.

Recommendations

Although fair value measurement is controversial, industries in the agriculture sector must
comply with the standard. Management must strictly follow the guidelines set by the regulatory body
in the valuation method. The proper recording lies in the management team and numerous things
must be checked and considered to avoid manipulation of measurement with the biological assets.
With regards to the further development, comparison tests between samples of farms that use fair
value and historic cost for biological assets can be performed. Using income smoothing index fair
valuation increases due to accounting manipulation can be assessed.
References

BEATTRICE, V. A. (2013). FAIR VALUE MEASUREMENT IN AGRICULTURE AND THE POTENTIAL TO


MISLEAD . Annals of the „Constantin Brâncuşi” University of Târgu Jiu, Economy Series.

Elad, C. a. (2015, February 26). Research Gate. Retrieved from Implementing Fair Value
Accounting in the Agriculture Sector: :
https://www.researchgate.net/publication/43527448

Liliana Feleagă, N. F. (2012). IAS 41 Implementation Challenges- The Case of Romania . World
Academy of Scienc Engineering and Technology International Journal of Economics and
Management Engineering , 317.

NDUNG'U, J. K. (2012). THE EXTENT OF COMPLIANCE WITH IAS 41 BY LIMITED AGRICULTURAL


COMPANIES LISTED ON THE NAIROBI SECURITIES EXCHANGE .

Rayman, R. (2007). Fair value accounting and the present value fallacy: the need for an
alternative conceptual framework. In British Accounting Review (pp. 39, 211-225).

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