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Unformatted text preview: ACCT3003 Issues in Accounting Theory 2009 Topic 4: Heritage and biological assets Solutions to topic review questions Review Questions 9.1 Characteristics of heritage assets include: • they frequently have some unique cultural, historic or environmental attributes; • they typically have limited alternative uses; • they are typically controlled by government (however, there are exceptions to this); • there is often an inability to deny access to the asset; • they often generate negative net cash flows; • there are frequently restrictions on how the asset can be used and if or when it can be disposed. 9.2 Heritage assets are more likely to have restrictions on their use and disposal and they are more likely to generate expenses that are in excess of any revenues that are generated. They are not typically acquired or held with the expectation of generating positive net cash flows either through continued use, or disposal. Unlike assets that are typically held by private sector entities, those entities that hold heritage assets will typically be unable to deny access by others to the resource. Being commonly unique in nature, heritage assets typically pose difficult valuation issues, relative to other assets. The Framework for the Preparation and Presentation of Financial Statements defines liabilities as: 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. There are three key components in this liability definition, these being: (i) (ii) (iii) At issue here is whether there is a present obligation to transfer funds in the future. Arguably, there is no such obligation, and although the ‘asset’ may be likely to Issues in Accounting Theory 2009 Solutions: Topic 4 1 9.4 there must be a future disposition of economic benefits to other entities; there must be a present obligation; and, a past transaction or other event must have created the obligation. generate negative net cash flows in the future this in itself would not be sufficient to say that it is a liability. 9.5 Written‐down current cost is determined by reference to current market buying prices of the remaining future economic benefits embodied in the asset, or where such prices are not available, an estimation thereof. Statement of Accounting Practice SAP 1 ‘Current Cost Accounting’ and the ‘Working Guide for Statement of Accounting Practice SAP 1’ may be of assistance in determining the written‐down current cost of an asset where market buying prices are not available. Again, there is no right or wrong answer to this question. Alternative arguments are provided in the chapter. If it was considered that the accountability of managers of heritage assets is best demonstrated by numbers generated by conventional financial accounting procedures (for example, profits) then valuations of the heritage assets would be appropriate. Such valuations would enable the generation of such performance indicators as return on assets. Increases or decreases in the valuations of the assets would also be included in reported profits. If we consider that the accountability of such managers is not well demonstrated by financial numbers then we may question the necessity of requiring periodic valuations. Challenging Questions 9.8 9.15 This question is intended to highlight the difficulties in undertaking such a valuation. Students should be encouraged to provide and discuss alternative valuation approaches. There is not a clear right or wrong answer but a crucial issue is whether students believe that heritage assets, such as an artefact collection, should actually be valued in financial terms. Is it an ‘accounting fiction’, as Carnegie and Wolnizer would probably suggest? If it is an asset, what are the future economic benefits the asset generates, and what is the ‘best’ basis to measure the value of these benefits? If a value of, say, $50 000 is attributed to the unique artefact collection does this really mean it is ‘worth less’ than, say, an ancient butterfly collection that has been valued at $60 000? From whose perspective? This question should stimulate much debate. 9.16 The argument being provided here is consistent with the traditional ‘realisation principle’. The argument is that revenue should not be recognised until such time that an actual transaction occurs. We can consider particular parts of the quote from Charter: • ‘… it does not reflect actual events’. This could be challenged. An increase in the market price of an asset could be considered to be an ‘actual event’ (although, not a ‘transaction’) and one which could be verified by reference to recent sales of the same commodity. A central point here is whether historical cost data is relevant, or whether reference to the current market prices of similar assets is more relevant. Issues in Accounting Theory 2009 Solutions: Topic 4 2 • • ‘It’s accounting for what’s going to happen in the future, not what’s already happened.’ Part of this is true, as the actual market price is used as a guide to what the entity would receive if it made a sale—which it will do at a future time. However, the increase in market price has ‘already happened’ as at reporting date, and perhaps should not be ignored. Remember, it is estimated market price at reporting date. ‘An unrealised gain on lambs might not be worth a penny if they fall over and die before sale time.’ This might be true, but the valuation would be based on probabilities and the probability that they might ‘fall over and die’ might be quite low. Indeed, there is a possibility that all assets might be destroyed, but we do not record them on this basis because such events are not deemed to be probable. There is always a trade‐off between relevancy and reliability. To many users of financial reports, market values are more relevant, even though they might not be as reliable as historical costs. However, historical cost information might not be too relevant for many current decisions. With the release of many recent Australian accounting standards it is clear that there is an increasing preference by standard‐setters for valuations based on current market values. Hence, there is a clear movement away from the traditional ‘realisation principle’. Clearly, recording assets at market values has direct implications for a reporting entity’s profits and it is the possible volatility in profits which many managers have objected to. Where there have been criticisms of AASB 1037 and its replacement standard AASB 141, the criticism appears to relate more to assets that will not be sold for many years (which might have many fluctuations in market values and will not generate actual cash flows for many years), as opposed to assets which are near to sale. 9.17 The Council provides three reasons for not recognising its library collections as an asset: fair value on acquisition is much less than cost; individual books are below a minimum for capitalisation; and depreciation is difficult due to the variability of useful lives of individual books. None of these criteria addresses the definition and recognition criteria of assets. There are alternative views on the validity of recognising the ‘assets’ for balance sheet purposes. It could be argued that it is reasonable to assume that the books have future economic benefits for the Council, being resources that contribute to the facilities and services provided to members of the community. The control over the future economic benefits is established by the acquisition. The books are acquired at a cost that is not difficult to measure. There does not appear to be any cause for concern about the probability of the future economic benefits of books acquired. However, contrast these points with the position embraced by Carnegie and Wolnizer, as discussed within the text. They would possibly question whether the books generate any economic benefits to the party that controls the books. Returning to the matters raised by the Council, the gap between cost and fair value, once the books are acquired, is not relevant, because the Council could adopt the cost model. Issues in Accounting Theory 2009 Solutions: Topic 4 3 The minimum amount adopted for the Council’s capitalisation is an attempt to quantify materiality. This raises an interesting question about the level of aggregation. For instance, should the purchase of a set of encyclopaedia be considered as one set, or, say, 24 books? Individual items may be immaterial but become material in aggregate. The library collection consists of many books. Although the cost of each book might be immaterial, it does not follow that the cost of the entire library collection is immaterial. Students may be quite divided on the choice of an appropriate level of aggregation for judgements about materiality. Lastly, the question of depreciation raises some measurement difficulties after initial recognition. However, this problem is not unique to the Council. Many companies have a variety of items comprising plant and machinery, with varied useful lives. A practical solution may be for the library to estimate useful lives by categories, such as paperbacks, hardcover books and reference material. Arguably, the difficulty of depreciation may pose measurement problems. Students may vary in their views as to whether it would be better to leave the books of the balance sheet because they are too difficult to depreciate. For various reasons (materiality issues, measurement problems or perhaps rejection of the notion that the books, as cultural assets, have any place on a balance sheet) alternative means of reporting this asset or cultural resource may be appropriate. One alternative is to disclose one or more measures of value of the books in the notes to the accounts. Suggestions include the contingent‐valuation method, the travel‐cost method, estimated depreciated cost, replacement value or net realisable value. Alternatively, the information provided might be non‐financial. Review Questions 9.9 AASB141 ‘Agriculture’ defines a biological asset as a ‘living animal or plant’. Biological assets would include: • trees held as part of a forestry operation; • animals held as part of a livestock operation; • orchards and vineyards; • aquaculture and fishery holdings. 9.10 As noted in the text, some of the unique characteristics include: • Unlike most assets, biological assets have a natural capacity to grow and/or procreate which directly impacts the value of the asset. • A great deal of the increase in value of the resource may be due to the input of free goods, such as sun, air and water. Issues in Accounting Theory 2009 Solutions: Topic 4 4 • Frequently, a great deal of the costs are incurred earlier in the life of the asset (for example, the establishment of a forest), yet the economic benefits are not derived until many years later. • The production (growing cycle) of the assets may be particularly long (for example, some forests may take in excess of 30 years to generate millable timber), with resultant issues as to when the revenue should be recognised. In relation to a forest, should we wait until the ultimate harvest before we recognise revenue? • There is not necessarily any relationship between expenditure on the asset and the ultimate returns, perhaps due to such things as droughts, flooding, variations in qualities of soils, and so on. 9.12 The basis of their argument is that profits or losses should only take into account real changes in the value of resources, that is, changes which adjust for price changes in the underlying assets. For example, if an entity had only one asset at the beginning of the year (perhaps a building) and the value of the asset increased due to market conditions then this change in value should not, according to the approach discussed by Roberts, Staunton and Hagen, be treated as part of the period’s profit or loss. Rather, the change should be credited to a reserve which forms part of shareholders’ funds. This view is consistent with Roberts (1988), an extract of which is provided in the text. There does seem to be merit to their argument. However, this view is not consistent with the contents of a number of recently released Accounting Standards (such as those that relate to general insurers, life insurers and superannuation plans). Such Standards require the change in the value of an asset to be fully treated as part of the period’s profit or loss. AASB 141 also does not incorporate the views of Roberts, Staunton and Hagen—it includes both the volume change and price change in income (although paragraph 51 of AASB 141 recommends disclosures that separately identify the physical changes and price changes). 9.13 Lack of consistency in how particular items are accounted for across different reporting entities is frequently cited as a reason to justify the development of an Accounting Standard. Clearly, the development of an Accounting Standard should only be instigated when it is considered that the benefits of reducing diversity (and thereby improving such information attributes as comparability) exceeds the associated costs. If this cannot be established, then the development of an Accounting Standard may be difficult to justify. Challenging Questions 9.18 Dr Fertiliser expenses Cr Cash Fertiliser expenses Dr Cr Inventory Cash 10 000 10 000 12 000 5 76 000 Issues in Accounting Theory 2009 Solutions: Topic 4 Cr Dr Cr Revenue—grape harvest Harvesting grapes Grapevines Gain on increase in net market value of grapevines Change in net market value of grapevines 5 000 64 000 5 000 Issues in Accounting Theory 2009 Solutions: Topic 4 6 ...
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