Contemporary Accounting Issues: Fair Value, Historical Cost, and IFRS

This report delves into the ongoing debate between fair value and historical cost accounting methods, a central issue in contemporary financial reporting. It begins by examining the current IASB Framework and the specifics of IFRS 13 regarding fair value measurements, outlining how fair value is determined and applied. The report then explores the empirical applications of Positive Accounting Theory, analyzing how this theory explains management's motivations for choosing specific accounting policies, such as those related to asset valuation. Finally, the report assesses how the freedom to choose between fair value and historical cost accounting for non-financial assets impacts the quality and reliability of general-purpose financial statements, considering the relevance and representational faithfulness of the information provided to stakeholders. The report concludes by summarizing the key arguments and implications of each measurement method.

Running Head: CONTEMPORARY ISSUES IN ACCOUNTING

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Table of Contents
Introduction................................................................................................................................2
Discussion..................................................................................................................................3
Question 1..............................................................................................................................3
Current IASB Framework and IFRS 13 standard of Fair Value Measurements................3
Question 2..............................................................................................................................5
Empirical Applications of Positive Accounting Theory....................................................5
Question 3..............................................................................................................................7
Choice of Measurement affects Quality of General-Purpose Financial Statements..........7
Conclusion..................................................................................................................................9
Reference..................................................................................................................................11

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Introduction
The choices that exist between the measurement techniques of historical cost and the
fair value are subject to long-standing controversies among the regulators as well as
regulators. Generally, the accounting of fair value is being applied when there exist
availability of fair value reliable estimates at the lower cost as well as when information is
being conveyed of the performance of the operations. IFRS helps in providing free choices
among the accounting of fair values and the historical cost for the non-financial assets.
Moreover, IFRS has requirement of ex ante commitments for one of the two policies of
accounting. It is in the interests of the management for limiting the scope for the
opportunistic future actions. It is because of this reason; the manager is having stronger
incentives for responding to the demands of the market and commits to accounting
treatments, which maximizes the firm’s value (Barker and Schulte 2017).
The accounting of fair value, on demand or benefit side, seems to be better than
historical costs on most of the qualitative features that are explained in the conceptual
framework of FASB. However, only exception lies on reliability criteria in which the
measurement of historical cost score higher in comparison to fair vale accounting (Goh et al.
2015).Hence, under this assignment, discussion will be done on the concepts of the
measurements relating to the accounting of the historical cost and the fair value. Moreover,
discussion will be done on the empirical application of the theory of Positive Accounting in
explanation of the motivators for choice of accounting policy of the management. Lastly,
discussion will be done on how free choice between the accounting of fair value and the
accounting of historical cost for the non-financial assets group would be affecting the quality
of the General-purpose financial statements.

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Discussion
Question 1
Current IASB Framework and IFRS 13 standard of Fair Value Measurements
IFRS 13 has defined the fair value as the price that can be received after selling assets
or by making the payment for transferring liabilities in systematic transactions, which exists
among market participants at date of the measurement or exit prices. In the measurement of
fair value, business organization uses assumptions that would be used by participants of the
market when assets has to be priced or liabilities in the given current circumstances of the
market including the expectations of the risks (Iasplus.com. 2019). The entity has the
intention for holding the assets or for fulfilling the liability, which is not relevant when fair
value is measured. There is no application of standard IFRS 13, when the assets, liability or
the instruments of own equity of entity is estimated by the fair value. The requirements of the
measurements as well as disclosures of the standard IFRS 13 applies in the situation when the
IFRS allows or requires the measurement of the element at the fair value (Ifrs.org. 2019).
The method of measurement of the fair value heavily relies on grounds of market
value relevance of any liability or the assets given. This measurement method of fair value is
applicable to various scenarios, which are related to three hierarchy stages. In the level first,
the estimation of fair value is consists of uses of observable prices of market for the identical
liabilities or the assets in the active markets (Lin et al. 2017). Further, in second level, there
may not be availability of the observable prices of market; hence, the determination of the
fair value can be done by adjusting the level first in such way that it reduces possible
differences. Lastly, in third hierarchy level, when the conditions of first levels are not
satisfied then the other methods is being used in estimations of assets and the liabilities fair
value (Ettredge, Xu and Yi 2014).

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However, historical cost measurement is that measurement technique in the
accounting in which asset’s prices on balance sheet is based on its cost that is original. This
method of historical cost accounting includes the reporting assets as well as liabilities that are
at the historical costs and there is no requirement for any changes in values of items. This
concept has the assumption that the valuation of assets of firm should be based on its price of
purchase or the money that is actually paid for assets. In this technique of the accounting,
assets are reported on the firm’s balance sheet with the value at which, it has been purchased
(Fargher and Zhang 2014).
The measurement aspects of the assets of the entity are considered controversial in the
principle as well as practice of contemporary accounting. Further, the practitioners of
accounting as well as professional faces hurdles in choosing whether measuring assets at the
costs or the fair values. It is because the IASB have not specified particularly whether cost or
the fair value forms foundation of these measurements. However, they have recognized that
there exist various measurement methods, which are applicable. The accountants are left with
their discretion either to choose the uses of costs as measurement basis or to choose the
present values of the assets as measurement basis (Du, Li and Xu 2014). This measurement
faces great challenge because cost basis is considered historical, which does not accurately
depicts assets correct value at present. IFRS has permitted the fair value use in non-financial
assets measurements based on the best potential uses for maximizing the value because of the
participants of the market. Moreover, issues relating method of measurement choice in
practices of accounting necessitates the thorough understanding of available concepts of
accounting measurements relating to historical costs as well as fair value accounting (Ifrs.org.
2019).

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Question 2
Empirical Applications of Positive Accounting Theory
The normative theory has attempted for stating regarding what the people or the
constituencies should be doing. There is not solely evaluation of the normative theory by the
predictive value. However, evaluation of it is done by their logical consistency regarding how
the sensible individual should be behaving. The positive theories should attempt for making
good predictions of the events of the real world (Malone, Tarca and Wee 2016).
The theory of positive accounting is the positive theory, which purposes for predicting
the activities, for instance choosing of the policies of accounting by the companies and
reactions of the firms on the newly proposed standards of the accounting. This theory argues
that the choices of the accounting are most likely to be motivated by the factors, for instance
compensation of the managers, debt or equity ratio of the firm as well as wider political
influence of the other parties. The compensations of the manager concern the compensations
of the executives that are based on the results of the accounting. This particular assumption
analyzes the managers’ opportunism that would be able for handling the earning management
by practices of the accounting for increasing self-interest (Magnan, Menini and Parbonetti
2015). The manager tries for presenting the advantageous financial situations for reducing the
costs of funding. Further, a firm who is having higher debt-equity ratios chooses the
procedures of the accounting for shifting earnings from the future period to current period.
Moreover, managers avoid the criticism from the unions, politicians, employees and others,
whereby the bigger the company, the more would manager choose the procedures of
accounting, which would defer the earnings reported from the current period to the future
period (Ifrs.org. 2019).
Under the theory of positive accounting, the organizations would like for maximizing
the predictions for the existence so that they would be organizing themselves in the efficient

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manner. The companies have their dependency upon the certain factors of the firm that are
determining factor of the projections such as competitions, technology, legal and the
institutional environment. The experimental testing of the positive theory acts as the
complement to the normative theory with the help of keeping in mind that their predictions
are in right directions (Ellulet al. 2015).
The introduction of this theory provides the way for merging the efficient securities
market with the economic consequences. The theory of PAT takes the way that the firms
would be conducting themselves in way, which maximizes their best of the interests. The
manager does not always do the things, which is best for the shareholders rather they do the
things that are most beneficial for their firm. The choices made by the firms are dependent
upon the industry in which they are operating in as well as the factors within the industry
(Chiapello 2015).
The firm is portrayed by contracts in which they have entered into. The contracts of
the firm with the employees, shareholders as well as lenders are central for their operations.
These firms are inclined for keeping the cost of contracts as low as it is possible. The theory
of the positive accounting helps in giving emphasis on the choice of the policies of the
accounting of the organization that is motivated with the help of putting down the costs of the
contracts. It does not propose that the organization completely identifies the accounting
policies the organization would be using. This specification is the costly affair for committing
to as well as it does not give the management the opportunities for responding to the
unforeseen circumstances (Oulasvirta 2014).
The positive accounting theory helps in recognizing that the changing circumstances
require the managers for having the flexibility in choosing the policies of the accounting that
brings out problematic behavior that isopportunistic. The occurrence of this happens when

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actions of management are for the betterment of their own personal interest. Hence, the
managers have the flexibility for choosing from the set of policies of the accounting. These
available options let them for choosing policies, which are useful (Kanodia and Sapra 2016).
The accounting policies that are most favorable are the balance of the minimal costs as well
as flexibility for giving the management with the choices of the altering the policies in the
reaction to the changes in the external environment. Therefore, optimal set of the policies of
the accounting are described to be the best trade-off between the fixing of the policies of the
accounting for minimizing the contract costs as well as providing the elasticity in the period
of the circumstances that are changing. The theory of positive accounting has the ultimate
objective for comprehending as well as forecasting the choice of the policy of the accounting
all across the different firms as well as different industries (Müller, Riedl and Sellhorn 2015).
Positive accounting theory attempts for understanding as well as predicting the
policies of the accounting that has to be selected by the firm. The policy of the accounting
that has to be chosen is part of firms need for reducing the contracting costs. It is determined
largely by the organizational structure and which in turn determined by environment of the
firm. This means firm overall corporate governance shakes the accounting policy
(Christensen, Nikolaev and Wittenberg‐Moerman 2016).
Question 3
Choice of Measurement affects Quality of General-Purpose Financial Statements
The General-purpose financial statements are the financial statements, which are
released to the wide-ranging group of the users. Further, demand for the information of the
accounting by the investors, creditors, lenders and so on creates the fundamental qualitative
characteristics, which are desirable in the information of the accounting. The primary
qualitative characteristics includes relevancy and representatives and the secondary

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characteristics includes verifiability, timeliness, understandability and comparability
(Ellwood and Greenwood 2016).
There are certain undesirable characteristics associated with the convention of the
historical cost such as in the period of the fluctuating level of the price; the value derived on
principle of the historical costs may not be relevant to assets actual value as at material
reporting time. The monetary unit that is based on the measurement of historical cost that
does not have unchanging value overtime. Moreover, the incidences of inflation or deflation
are the major reason that the account that is prepared conventionally does not give the
realistic picture.
It is along with the innovations of the latest financial reporting in the intermittent
areas; there is the procedure of the steady changes of the simple pattern of the accounting for
satisfying users’ needs of financial statements. The issues of patterns of declining financial
information relevance has prepared the solid surface for long-standing pattern of historical
costs accounting for replacing it with the new paradigm of accounting of the fair value with
the exertions of the standards setting bodies of accounting. The reform of fair value
accounting was proposed for ensuring that the financial statements are reliable as well as
relevant as the means to prevent the future crisis in the industry of the financial institutions as
well as resulting economic burdens of the taxpayers. The advantages of accounting of the fair
value for non-financial assets, for instance increase in relevance of the value as well as
informational content, increased comparability as well as reduced level of informational
asymmetry. In addition, benefits of fair value outweigh the costs (Loughran and McDonald
2014).
The adoption of IFRS is in linked with shifting towards the accounting of fair value
for the non-financial assets that is between organizations and is constrained to the accounting

9CONTEMPORARY ISSUES IN ACCOUNTING
of the historical cost in the local GAAP. The accounting of the fair value is as well as chosen
for the property rather than the non-financial assets. It is due to the fact that the property
markets are considered liquid. The conceptual frameworks guide the options between the fair
value accounting and the historical cost accounting. It helps in emphasizing as well as
promoting the accounting informational decisions usefulness. The perspective of the decision
usefulness faces the trade-off between the reliability as well as relevance of the information
of the accounting. It is during the recent years, IASB as well as FASB have given so much
emphasis on the relevance as one of the most important characteristics that that of the
reliability, which manifests itself in shifting towards accounting techniques of fair value
(Henderson et al. 2015).
Conclusion
Hence, conclusion that is followed from the analysis is the fact that IFRS helps in
allowing the companies for choosing between the historical costs and accounting of fair value
for the non-financial assets. However, there is requirement of the pre-commitment for either
of the practices. It has been found that fair value faces major criticism regarding providing of
the information that is non-reliable. However, IFRS permits fair value uses in non-financial
assets measurement based on the highest as well as best potential uses for maximizing it
value to market participants. Further, it has been analyzed that positive accounting theory is
used for predicting as well as comprehending the choices of the accounting policy, which
firms would be making. The introduction of this theory provided the way for merging the
theory of the market with the economic consequences. Lastly, it can be said that choice
between the fair value accounting and the historical cost accounting for the non-financial
assets affects the quality of the general-purpose financial statements. It is because of the fact
that the fair value measurement in the financial statements provides the information, which is
considered more relevant to the investors as well as the creditors than that of the accounting

10CONTEMPORARY ISSUES IN ACCOUNTING
of the historical cost. These are the measures helps for the better reflections of the present
financial state of the reporting companies as well as better facilitating the past performances
as well as prospects of the future.

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