MASTER OF BUSINESS

University of Kelaniya

Measurement Issues in Financial Reporting

1
• According to paragraph 4.54 of the IASB Conceptual Framework for
Financial Reporting:
Measurement is the process of determining the monetary
amounts at which the elements of the financial statements are
to be recognised and carried in the balance sheet and income
statement. This involves the selection of the particular basis of
measurement.

• Measurement is obviously a very fundamental issue in financial

accounting. Measurement allows us to attribute numbers to the
items that appear in financial reports
 Different Measurement bases
• There are various bases of measurement that
could be used, including:
– historical cost
– current costs
– realisable value
– present value
– deprival value
 Choosing between alternative
measurement bases
• Determining how an asset or liability should be measured should ideally
be linked to the perceived objectives of general purpose financial
reporting
• According to paragraph OB2 of the IASB Conceptual Framework for
Financial Reporting, the objective of general purpose financial reporting is:
to provide financial information about the reporting
entity that is useful to existing and potential
investors, lenders and other creditors in making
decisions about providing resources to the entity.
Those decisions involve buying, selling or holding
equity and debt instruments, and providing or
settling loans and other forms of credit.
• The above perspective is often referred to as a ‘decision usefulness’
perspective
 Decision usefulness versus
stewardship functions
• ‘Decision usefulness’ and ‘stewardship’ are two terms that are often used
in relation to the role of financial information

• The ‘decision usefulness’ criterion is considered to be satisfied if particular

information is useful (decision-useful) for making particular decisions,
such as decisions about the allocation of scarce resources

• Decision usefulness appears to be the focus of financial reporting

currently embraced by the IASB

• An alternative focus other than ‘decision usefulness’ would be

‘stewardship’
 What attributes should financial information
have for it to be ‘decision useful’?
• According to the IASB Conceptual Framework, to fulfill the requirement
that information is ‘decision useful’, financial information should be both
‘relevant’ and ‘representationally faithful’ and allow financial statement
readers to make informed resource allocation decisions

• The IASB and FASB’s ultimate selection of a particular measurement base

will supposedly be tied to whether a particular measurement approach
enables the above objective of general purpose financial reporting to be
satisfied

• The IASB has identified three fundamental principles of measurement that

flow from the objective of financial reporting
 Three fundamental principles of
measurement
• As IASB (paragraph 5, 2013b) states:
The following three fundamental principles of measurement are derived from the objectives of
financial reporting and the qualitative characteristics of useful financial information as
described in Chapters 1 and 3 of the Conceptual Framework.
• Principle 1 The objective of measurement is to represent faithfully the most
relevant information about the economic resources of the reporting entity, the
claims against the entity, and how efficiently the entity’s management and
governing board have discharged their responsibilities to use the entity’s resources
• Principle 2 Although measurement generally starts with an item in the statement of
financial position, the relevance of information provided by a particular
measurement method also depends on how it affects the statement of
comprehensive income and if applicable, the statements of cash flows and of equity
and the notes to the financial statements
• Principle 3 The cost of a particular measurement must be justified by the benefits of
that information to existing and potential investors, lenders, and other creditors of
reporting that information
 The use of fair value – good for assessing
stewardship?
• Based on the increasing use of fair value in various newly-released accounting
standards it appears that the IASB considers that measuring many classes of assets
at fair value will provide more relevant and representationally faithful information
than measuring all assets at ‘cost’

• However, if by contrast, the primary objective of general purpose financial

reporting was considered to be ‘stewardship’, rather than decision usefulness,
then there is some argument that historical cost provides a clearer perspective
about what management has done with the funds that were entrusted to it

• Demonstrating how funds have been used is a key component of stewardship.

However, there is also an argument that in assessing the stewardship of
management, interested parties would not only want to know about the original
amounts spent by managers, but also about how monies spent have increased in
value, and historical cost accounting might be deficient in this respect
 Variety of measurement bases
frequently used
• To this point we should understand that the
accounting standards issued by the IASB, and
therefore used within many countries globally, use a
variety of measurement bases

– for example, historical cost, fair value, present

value

• This has been referred to as a mixed measurement

model of accounting

– creates issues associated with additivity

 One measurement option:
historical cost
• Under historical cost

– assets are recorded at the amount of cash or cash

equivalents paid, or the fair value of the consideration
given, to acquire them at the time of their acquisition

– liabilities are recorded at the amount of proceeds received

in exchange for the obligation, or in some circumstances
(for example, income taxes), at the amounts of cash or
cash equivalents expected to be paid to satisfy the liability
in the normal course of business
 Limitations of historical cost in
times of rising prices
• Historical cost assumes money holds a constant
purchasing power

• Three aspects of the economy which make the

assumption less valid than when historical cost was
developed

– specific price level changes (shifts in consumer

preference; technological advances)

– general price level changes (inflation)

– fluctuation in exchange rates

 Limitations of historical cost in
times of rising prices (cont.)
• Problem of relevance in times of rising prices

– asset’s current value may be different from

historical cost
• Problem of additivity (adding together assets bought at different
times)

• Can overstate profits in times of rising prices, with distribution of

profits leading to an erosion of operating capacity

• Including holding gains which accrued in previous periods in current

year’s income distorts the current year’s operating results
 Support for historical cost
accounting
• Predominant method used for many years so tended to
maintain support of profession
• If not found useful, business entities would have abandoned it
• Nevertheless, recent accounting standards being released
have embraced ‘fair values’ as the basis of measurement.
However, various assets are still measured on an historical
cost basis
– e.g. inventory, which is measured at the lower of cost and
net realisable value; property, plant and equipment where
the ‘cost model’ and not the ‘fair-value model’ has been
adopted; many intangible assets
 Definition of income
• How we measure assets will be influenced by how we define
income
• Income has been defined as the maximum amount that can
be consumed during the period, while still expecting to be as
well off at the end of the period as at the beginning of the
period (Hicks 1946)
• Consideration of ‘well-offness’ requires the stipulation of a
notion of capital maintenance
• Different notions of capital maintenance will provide different
perspectives of income
– different notions of ‘capital maintenance’ have
implications for how assets are measured
 Capital maintenance perspectives
• Financial capital maintenance
– perspective taken in historical cost accounting
– profit earned only if money capital at the end of the period
is more than money capital at the beginning of the period
• Purchasing power maintenance
– historical cost accounts adjusted for changes in the
purchasing power of the Currency
• Physical operating capital maintenance
– profit earned if operating capacity at the end of the period
is greater than the operating capacity at the beginning of
the period
 Development of accounting for
changing prices
• Perceived problems associated with historical cost in times of
changing prices lead to different proposals for change away
from historical cost

• Research initially related to using price indices to restate

historical costs to account for changing prices

• Literature then moved towards current cost accounting

– the basis of measurement changed to current values not

historical values
 Current purchasing power
accounting (CPPA)
• One alternative to historical cost was CPPA

• Also called general purchasing power accounting;

general price level accounting; constant currency
accounting

• Based on the view that in times of rising prices, if an

entity were to distribute unadjusted profits based on
historical costs, in real terms the entity could be
distributing part of its capital
 Performing current purchase
power adjustments
• All adjustments are performed at the end of
the period
• Adjustments are applied to historical cost
accounts
• Monetary and non-monetary assets
considered separately
– liabilities generally considered monetary items
 Performing current purchase
power adjustments (cont.)
• In times of inflation, holders of monetary
assets will lose in real terms
– the assets have less purchasing power at the end
of the period relative to the beginning of the
period

• Holders of monetary liabilities gain, given the

amount they have to repay at the end of the
period is worth less than at the beginning
• No change in purchasing power arises from
holding non-monetary assets
– non-monetary assets are restated to current
purchasing power so no gain or loss is recognised

• Purchasing power gains or losses are included

in income for the period
Calculation of gain/loss of purchasing
power of net monetary assets
Unadjusted Index Adjusted

Opening net monetary (10,000) 140/130 (10,769)

assets
Sales 200,000 140/135 207,407

Purchase of goods (110,000) 140/135 (114,074)

Payment of interest (1,000) 140/135 (1,037)

Payment of admin (9,000) 140/135 (9,335)

expenses
Tax expense (26,000) 140/140 (26,000)

Dividends (15,000) 140/140 (15,000)

Closing net monetary 29,000 31,194

assets

The difference between the adjusted closing net monetary assets and the unadjusted net
monetary assets is treated as a loss - the company would have needed to have Rs 2194
more to have the same ‘purchasing power’ they had at the beginning of the year
 Advantages of current purchasing
power adjustments
• Relies on data already available under
historical cost accounting
• No need to incur cost or effort to collect data
about current asset values
• CPI data also readily available
 Disadvantages of current
purchasing power adjustments
• Movements in the prices of goods and
services included in a general price index (CPI)
may not reflect specific price movements in
different industries
• Information generated under CPPA may be
confusing to users
• Studies of share price reactions failed to find
much support for decision usefulness of CPPA
data
 Current cost accounting (CCA)
• Another alternative to historical cost that was proposed was
CCA

• CCA was based on actual valuations not adjusted historical

cost

• Differentiates between profits from trading and holding gains

• Holding gains can be realised or unrealised

• Income perspective adopted will determine whether holding

gains or losses treated as income
 Treatment of holding gains or losses under
alternative capital maintenance approaches
• Financial capital maintenance perspective
– holding gains or losses can be treated as income

• Physical capital maintenance perspective

– holding gains or losses can be treated as capital
adjustments
 Advantages of current cost
accounting
• Differentiating operating profit from holding
gains and losses can enhance the usefulness
of information provided
– holding gains different to trading income as due to
market-wide movements that are often beyond
management’s control

• Better comparability of various entities’

performance
 Criticisms of current cost
accounting
• Replacement cost of assets may not be the
same for all firms
– some firms may not choose to replace the asset

• Replacement cost does not reflect what the

asset would be worth if sold
• Often difficult to determine replacement cost
 Continuously Contemporary
Accounting (CoCoA)
• Yet another alternative to historical cost accounting was
CoCoA

• Proposed by Chambers as well as others

• Based on valuing assets at net selling prices (exit prices) at

reporting dates on the basis or orderly sales

– referred to as current cash equivalent

• Chambers argued that key information for decision making

relates to ‘capacity to adapt’
• The balance sheet (statement of financial
position) considered to be the prime financial
statement
– shows the net selling prices of the entity’s assets

• Profit directly relates to changes in adaptive

capital

• Adaptive capital reflected by the total exit

values of assets
 Definition of wealth under CoCoA
• Present (selling) price is seen as the correct valuation of
wealth at a point in time

– past prices are a matter of history so not relevant to

current actions

• Profit is tied to the increase (or decrease) in the current net

selling prices of the entity’s assets

• No distinction between realised and unrealised gains—all

gains are treated as part of profit
• Profit is the amount that can be distributed,
while maintaining the entity’s adaptive ability
(adaptive capital)

• Abandons notion of realisation in terms of

recognising revenue
– revenues are recognised at point of purchase or
production rather than sales
 Advantages of CoCoA
• By using one method of valuation for all
assets (exit values) the resulting numbers can
be logically added together (additivity)

• No need for arbitrary cost allocation for

depreciation as gains or losses on assets are
based on movements in exit price
 Criticisms of CoCoA
• If implemented CoCoA would involve a
fundamental shift in financial accounting
– revenue recognition points and asset valuations
– could lead to unacceptable social and
environmental consequences

• Relevance of exit prices questioned if we do

not expect to sell the assets
• Assets of a specific nature considered to have no
value under CoCoA because cannot be separately
disposed of
– CoCoA ignores the ‘value in use’ of an asset

• Questioned whether appropriate to value all assets

at exit prices if the entity is a going concern

• Determining exit prices for unique assets introduces

subjectivity into accounts
• CoCoA requires assets to be valued separately
rather than as a bundle
– therefore would not recognise goodwill as an
asset
– value of assets sold together can be very different
from separate sale
 Fair value accounting
• Whilst CPPA, CCA and CoCoA as just described were proposed as
alternatives to historical cost accounting, another approach that has been
adopted is to simply measure selected assets at fair value

• Fair value is an asset (and liability) measurement approach that is now

used within an increasing number of accounting standards

• In the IASB’s accounting standard on fair value, IFRS 13 Fair Value

Measurement, fair value is defined as:

– the price that would be received to sell an asset or

paid to transfer a liability in an orderly
transaction between market participants at the
measurement date
 Fair value definition – key terms
• The definition of fair value uses a number of terms that require further
consideration, in particular ‘orderly transaction’, and ‘market participants’
• These terms are defined in IFRS 13 as follows:
– orderly transaction A transaction that assumes exposure to the
market for a period before the measurement date to allow for
marketing activities that are usual and customary for transactions
involving such assets or liabilities; it is not a forced transaction (e.g. a
forced liquidation or distress sale)
– market participants Buyers and sellers are independent of each other,
are knowledgeable, having a reasonable understanding about the
asset or liability and the transaction using all available information,
and are willing and able to enter into a transaction for the asset or
liability
How do we determine fair values?
• Fair values can be determined in different ways
• Techniques that rely upon observable market values
(market prices) are often referred to as mark-to-
market approaches
• Techniques that rely upon valuation models are often
known as mark-to-model approaches and require
the identification of both an accepted valuation
model, and the inputs required by the model to
arrive at a valuation
 A fair value hierarchy
• The IASB’s accounting standard on fair value measurement
establishes a ‘fair value hierarchy’ in which the highest
attainable level of inputs must be used to establish the fair
value of an asset or liability. As paragraph 72 of IFRS 13 states:
– To increase consistency and comparability in fair value
measurements and related disclosures, this IFRS
establishes a fair value hierarchy that categorises into
three levels (see paragraphs 76–90) the inputs to valuation
techniques used to measure fair value. The fair value
hierarchy gives the highest priority to quoted prices
(unadjusted) in active markets for identical assets or
liabilities (Level 1 inputs) and the lowest priority to
unobservable inputs (Level 3 inputs).
 A fair value hierarchy (cont.)
• Levels 1 and 2 in the hierarchy can be referred to as mark-to-
market situations, with the highest level, level 1, being
(paragraph 76 of IFRS 13):
– Level 1 inputs are quoted prices (unadjusted) in active
markets for identical assets or liabilities that the entity can
access at the measurement date.
– Level 2 are directly observable inputs other than level 1
market prices (level 2 inputs could include market prices
for similar assets or liabilities, or market prices for identical
assets but that are observed in less active markets).
– Level 3 inputs are mark-to-model situations where
observable inputs are not available and risk-adjusted
valuation models need to be used instead.
• Lets watch this video

• https://www.youtube.com/watch?v=5Dcjd4qr
3ug
 Fair values and its relationship to volatility and
procyclicality in accounting measures – a
problem?
• A quantity or measure that tends to increase when the overall
economy is growing, or decreases when the economy is
declining, is classified as being procyclical

• During the sub-prime banking crisis it was claimed by many

(especially banks themselves) that accounting requirements –
as reflected in various accounting standards – that require
reporting entities to measure many of their assets at fair value
actually exacerbated the financial crisis
What is financial crisis:
• It is argued that when markets for financial assets
(such as shares, bonds and derivatives) are booming,
the value of these assets held by banks, and shown
at fair value within their statements of financial
position, will similarly rise significantly above their
historical cost – thus increasing the reported net
assets and capital and reserves of the bank
• As banking regulations usually set bank lending limits
in terms of a proportion (or multiple) of capital and
reserves, this increase in the reported fair value of
the assets of a bank will enable a bank to lend more
• Some of this additional lending will fuel further
demand in the markets for financial assets – thus
further increasing the market values/prices of these
assets held by banks and further increasing their
reported capital and reserves
• This, it is argued, will enable banks to lend even
more and thus will help to create an upward spiral in
financial assets prices, and bank lending, that
becomes increasingly disconnected from the
underlying real economic values of the assets in
these markets
• Conversely, it has been argued that at the time of the sub-
prime banking crisis when markets for financial assets were in
free-fall, fair value accounting exacerbated a downward spiral
of asset prices and bank lending that is equally unreflective of
(and significantly overstates) decreases in real underlying
economic values
• Requirements to mark-to-market financial assets held by
banks may lead to a rapid erosion in the capital and reserves
shown in the banks’ statements of financial position
• This will reduce their lending limits and will both reduce bank
lending (thus reducing demand in financial markets, putting
further downward pressure on the assets prices in these
markets) and possibly require the banks to sell some of the
financial assets they hold to release liquidity
• This will put further downward pressure on the asset prices,
leading to a downward price spiral as these reduced prices
further reduce the reported net assets of the banks
• Although these impacts of fair value accounting were widely articulated at
the time of the sub-prime banking crisis, Laux and Leuz (2009) argue many
of these claimed empirical effects were not caused by fair value
accounting, so the volatility and procyclicality case against fair value
accounting is not as clear cut as the above arguments indicate

• IFRS permit fair values to be determined using data other than direct
market observations in many circumstances – for example level 2 and level
3 in the fair value measurement hierarchy

• In situations where markets are demonstrably not providing values based

on orderly transactions, or are for any other reason not operating
efficiently (for example due to illiquidity in the markets), then rather than
using level 1 fair value measurements (directly observed market prices for
identical assets), then level 2 mark-to-market or level 3 mark-to-model
valuations should be used
• Laux and Leuz (2009) explain that during the sub-prime banking crisis, many
banks moved to using level 2 and 3 valuations rather than level 1 valuations
for many financial assets, and also took advantage of provisions to allow some
assets to be reclassified from fair value to historical cost categories in special
circumstances, thus acting as a ‘damper’, reducing the speed (or acceleration)
of any procyclical effects
• They also argue that any failure to provide fair values in financial statements
during economic downturns could in itself cause markets to overreact and/or
misprice company shares
• Hence, there are arguments for and against the position that the use of fair
values contributed to the impacts of the global financial crisis
• Nevertheless, an interesting issue for accounting standard-setters to consider
– did fair values contribute to the global financial crisis and therefore to
various social and economic problems of the time?
 Historical Cost VS Fair Value Concept
 The debate about fair value accounting versus historical cost accounting often revolves
around the divergence between relevant and reliable.

• Fair Value
 Information about current market conditions.
Contains superior basis for expectations than out dated historical cost
figures.
Most relevant measure for asset and liability.
But there are some arguments.
• Historical cost
 Reliability of Information that is reasonably free from error and
Bias.
If markets are illiquid
Uncertain assumption about Future value and Future cash flows

49
 Comparison of Historical Cost and Fair value
• Historical Cost
Positives
•Simple
•More conventional method
No scope for manipulation
•More reliable and Verifiable
•Information is free from any
bias views
•Easy to prudence
Negatives
•Does not provide enough
information that is relevant to
Stakeholders
•Does not have any adjustments for
inflation
•Not the actual values of the asset
•Intangible assets are not reported
in the financial statements.
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 Comparison of Historical Cost and Fair value
• Fair Value
positives Negatives
•More relevant and update information • less reliable

•Takes inflationary adjustments to •Volatile

accounts
•In Financial statements easier to view •When Market price of an asset or
and determine whether the asset or liability is not available, value is
Liability is at risk or not. estimated.

•More transparency •Make financial statements more

subjective
•Provide accurate information for
decision making
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 Why recommend fair value basis
 Fair value measurement provides relevant, reliable, comparable and
understandable measurement of future economic benefits

 Historical cost cannot accurately portray the value of an asset

 Investors and Creditors are primarily interested in assessing the

amounts, timing, and uncertainty of future net cash flows.
Information is relevant if it helps with such an assessment.

 Information based on prices that reflect the market’s assessment,

under current conditions, of the present values of the future cash
flows is more relevant than information based on old market prices
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 Why we cannot totally recommended Fair value Concept

• Many agreed that fair value yields a more relevant measure than
historical cost , due to following reasons we cannot totally
applied.

1- The application of fair value accounting in illiquid markets.

2-How and when modeling should be used as the method of

determined fair value

53
 Why we cannot ignore Historical Cost
Still historical costs are the standard form of accounting due to its
unique features and conventions that make it better than Fair value.

• Historical costs play an important role here providing this necessary

information. It is based on recording actual transactions. Not only is
there a record of actual transactions, but also the figures are reliable.
For current cost or exit price accounting, changes in prices are
recorded but these are not based on actual transactions

• Financial statements based on historical cost have been found to be

useful. Empirical evidence indicates that people find the conventional
statements useful.
• No other method of accounting can provide exact information at a
glance on the change in trends in the company's working like the
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historical costs method
• IFRS 9 Measurement Issues Video
ASSET TYPE MEASUREMENT AT INITIAL MODEL BASED ON BASIS OF
RECOGNITION FAIR VALUE IMPAIRMENT TEST
IFRS 9 Fair value For specified financial
Financial assets and for
Instruments particular business
models: fair value
LKAS 16 Purchase costs + construction Accounting policy Compare carrying
Property, costs + costs to bring to the choice: revaluation amount to
Plant and location and condition necessary model recoverable amount.
Equipment to be capable of operating in the
manner intended by Recoverable amount
management. is greater of value in
LKAS 38 Purchase costs + development Accounting policy use and fair value
Intangible costs + costs to bring to the choice: revaluation less disposal costs
Assets location and condition necessary model (IAS 36)
to be capable of operating as
intended by management
LKAS 40 Cost including transaction costs Accounting policy
Investment choice: fair value
Property
LKAS 41 Fair value less costs to sell Fair value less costs to
Agriculture sell
Assets, Liabilities, Income and
Expenses
Recognition Measurement Presentation

Issues
(d) The elements of financial statements
• Asset - A resource controlled by an entity as a result of past events and from
which future economic benefits are expected to flow to the entity.

• Liability - A present obligation of the entity arising from past events, the
settlement of which is expected to result in an outflow from the entity of
resources embodying economic benefits.

• Equity - The residual interest in the assets of an entity after deducting all its
liabilities.

• Income - Increases in economic benefits during the accounting period in the form
of inflows or enhancements of assets or decreases of liabilities that result in
increases in equity, other than those relating to contributions from equity
participants.

• Expenses - Decreases in economic benefits during the accounting period in the

form of outflows or depletions of assets or increases of liabilities that result in
decreases in equity, other than those relating to distributions to equity
participants. 58
(e) Recognition of the elements of financial statements
An item that meets the definition of an element should be recognised if:
it is probable that any future economic benefit associated
with the item will flow to or from the entity;
and the item has a cost or value that can be measured with
reliability.
Consequently, in accordance with the Framework, in order for an item to be
recognised in the financial statements, the following questions need to be
answered:

(1) Is the item one of the elements of financial statements?

↓
(2) Is it probable that economic benefits associated with the item will flow to or from
the entity?
↓
(3) Can the item be measured with reliability?
59
• The Lottery Ticket Case (Part I)
• To supplement donations collected from its general community solicitation, Tri-Cities
United Charities holds an Annual Lottery Sweepstakes. In this year's sweepstakes,
United Charities is offering a grand prize of Rs.1,000,000 to the 1 winning ticket holder.
A total of 10,000 tickets have been printed and United Charities plans to sell all the
tickets at a price of Rs.150 each.

Since its inception, the Sweepstakes has attracted area-wide interest, and United
Charities has always been able to meet its sales target. However, in the unlikely event
that it might fail to sell a sufficient number of tickets to cover the grand prize, United
Charities has reserved the right to cancel the Sweepstakes and to refund the price of
the tickets to holders.

In recent years, a fairly active secondary market for tickets has developed. This year,
buying-selling prices have varied between Rs.75 and Rs.95 before stabilizing at about
Rs.90.
When the tickets first went on sale this year, multimillionaire Philip, bought one of the
tickets from United Charities, paying Rs.150 cash.

1. Should Philip recognize his lottery ticket as an asset and, if so, at what amount?
2. If the lottery tickets were nontransferable and no secondary market developed, should
Tropic recognize the lottery ticket as an asset? If so, at what amount? 60
 Should we capitalize spare parts?
• There is no uniform opinion about capitalizing
spare parts.
• Instead, spare parts require your own
judgment of a specific situation
• In most cases, spare parts and servicing
equipment are included in inventories and
treated in line with IAS 2 Inventories.
• However, major spare parts can qualify for
PPE, especially when they can only be used in
connection with an item of PPE.
• A company has a big amount of sand (or
other construction material). There is a great
opportunity to get this sand at a very good
price, therefore the company piled up a big
stock.
• However, a company was not going to use the
sand immediately in the construction process.
The sand could have stayed in the warehouse
for many years.
• What to do in this case?
• Although the sand indeed did have “useful life”
longer than 1 period, it’s NOT an item of PPE.
• It was a raw material and its purpose was to be
consumed in the production process – which
perfectly meets the definition of inventories.
• Instead of charging depreciation of the sand, I would
rather check whether the cost of sand exceeds its net
realizable value at the end of each reporting period
and if not, then I would leave it in inventories until
it’s consumed.
 Should we capitalize small items
acquired in large amounts?
• Imagine you run a library.
• There are thousands of books there, each has an
acquisition cost of a few dollars (whatever currency)
and it will definitely be used for more than 1 period.
• Should you treat each book separately and as a
result, recognize it in profit or loss when acquired?
Or should you treat all books as 1 item of PPE?
• What to do in this case? How to treat these small
items in large amounts?
• Other similar examples are tool sets, furniture
sets, pallets and returnable containers which
are used in more than one accounting period,
but the cost of 1 piece is low or even
negligible.
• Again, there’s no uniform answer.
• Standard IAS 16 (9) says that the unit of
measurement for recognition of PPE is NOT
prescribed.
• In other words, sometimes it’s appropriate
to aggregate individually insignificant items and to
apply the criteria to the aggregate value. And
sometimes, it’s not.
• In our library example, it can be appropriate to treat
books as 1 single asset (or a few assets) and
depreciate these assets, especially if a running a
library belongs to main revenue-producing
activities.
 Should we capitalize
improvements on a leasehold
property?
• Imagine you rented an office space. The big one.
• But, you need to adjust it to fit your needs and therefore, you decide
to install glass partitions to divide the space and make it look more
elegantly.
• Glass partitions are expensive. They represent a significant
investment.
• However, they cannot be used separately without the office space
and once your rental contract expires, glass partitions are useless for
you. You can’t even take them out and install them in another place.
• How to treat your investment in the improvement of leasehold
property?
• There’s no uniform answer and it depends on your
contract and specific circumstances.
• First of all – are future economic benefits from these
improvements probable? Maybe yes, as glass partitions
make the office space usable for you.
• Another question – are you going to use these
improvements for more than 1 period?
• In most cases, you can estimate improvement’s useful
life quite reliably and therefore, it’s appropriate to
capitalize them as an item of PPE. The useful life will
basically depend on the term of your lease, so you need
to take that into account.
 Should we capitalize
pre-operating expenses?

• You are establishing a business. Before you can

actually start a production process, you need to obtain
permits, hire employees and do a lot of things – and all
of this costs money.
You need to pay salaries, rent, professional advisers
and you might incur many other types of expenses in
the pre-operating stage of your business.
• Can you capitalize (recognize as an asset)these pre-
operating expenses?
• In most cases – NO. You cannot capitalize them as a
separate intangible asset.
Why?
• Because they do not meet the definition of an intangible
asset in line with IAS 38 as they are not identifiable, i.e.:
**They cannot be separated and sold/transferred, and
**They do not arise from contractual or other legal rights.

• There is one exception when you actually can capitalize

pre-operating expenses.
• When you construct an item of PPE and your pre-operating
expenses were incurred in relation to constructing that
PPE, then you can capitalize them if they meet the IAS 16
criteria.
Current reporting requirements
• IFRS requirements
Under IFRS there are no required disclosure requirements
for environmental and social matters.

However, environmental matters may be disclosed where

they fall under specific accounting principles:
• Provisions for environmental damage are recognised and
contingent liabilities are disclosed under IAS 37
Provisions, Contingent Liabilities and Contingent Assets.

• IAS 1 Presentation of Financial Statements requires

disclosure of facts material to a proper understanding of
financial statements.
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National requirements
• Some countries require disclosure of
environmental performance under national law.

For example, the Netherlands, Denmark, Norway

and Sweden have had required environmental
reporting for a number of years.

e.g- The European Union's Business Review under

the Account Modernisation Directive, which came
into effect (through implementation in national
law) encourages the disclosure of key performance
indicators ('KPIs') on environmental and employee
matters.
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Voluntary disclosure
• Voluntary disclosure and the publication of
environmental reports has now become the norm
for quoted companies in certain countries as a
result of pressure from stakeholder groups to
give information about their environmental and
social impact

RMS 74