Fair Value Accounting Vs Historical Cost Accounting

comme il faut Value report Vs historic Cost news reporti) Fair Value and Historical Cost explanationHistorical cost accountancy is an accounting method by which assets argon think ofd based on the actual amount of money with which they argon bought and as much(prenominal) no inflation adjustments applied. (Eipstein and Jermacowicz, 2007). Fair nourish accounting on its part deals with the delightful market treasure of the asset. A count of definitions for passably assess are provided by the monetary Accounting Standards dining table (FASB) and the International Accounting Standards Board (IASB). According to the FASB cited in Barlev and Haddad (2003)Fair shelter is the price for which a property could be sold in an tree branchs length transaction amidst unrelated parties. FAS 13 Accounting for Leases.According to Rayman (2007 213) citing FASB (2006, par. 5)fair protect is the price that would be received to sell an asset or paid to transfer a liability in an ord erly transaction amidst market participants at the measurement encounter.A similar definition is provided by the IASB in IAS 39 Financial Instruments, Recognition and Measurementfair care for is the amount for which an asset could be exchanged, or a liability settled, between wise to(p), ordaining parties in an weapon systems length transaction. (IAS 39. par. 9) (Bertoni and De Rosa, 2005 Epstein and Jermacowicz, 2007).According to the IASB fair value kitty be defined asthe amount at which an asset could be exchange or a liability settled between knowledgeable willing parties at an arms length transactionThe fair value concept is used in many accounting mensurations such as the IFRS covering certain areas like acquisitions and paygrade of securities. A fair value is used in situations where the actual cost of an asset is non obtainable. Assets will need to be re cherished from time to time for instance when the market value for securities change or when their purchase price is inseparable from larger legal proceeding (as in the case with acquisitions). (Eipstein and Jermacowicz, 2007). The fair value can be indomitable by the following methods, in IFRS order of preference as such If in that respect are identical transactions in the market, assets and liabilities should be valued with reference to such transactions i.e. If identical transactions do not exist, but similar transactions exist, fair value should be estimated reservation the necessary adjustments and using market based assumptions If either of the above methods cannot be used, other valuation methods may be used. (Eipstein and Jermacowicz, 2007). Fair value very much has a subjective element as so many valuations are likely to use the latter two methods.ii) The Ideal ApproachThe most(prenominal) suitable approach to valuing assets and liabilities is the fair value approach. According to Barlev and Haddad ( 2003) the IASB and FASB consider HCA-based financial statements as obscuring th e real financial position and the results of operations of a unfluctuatingly thereby providing ample room for manipulation. Historical cost accounting book of account values of assets and liabilities provide managers some loopholes to conduct earnings management olibanum concealing their real activities. (Barlev and Haddad, 2003). On the contrary, fair value accounting on the other hand measures and records current values of assets and liabilities in the balance poll therefore making the book value to be approximately commensurate to the market value. The fair value approach therefore increases the value relevance of the balance sheet. (Barlev and Haddad, 2003).The basic premise underlying the FASB s decision is that fair value of financial assets and liabilities better enables investors, creditors and other users of financial statements to assess the consequences of an entitys investment and financing strategies. (Khurana and Kim, 2003).Carroll et al. (2002) investigate the value relevance of fair value accounting relative to the historical cost accounting for financial instruments held by closed-end mutual funds. The findings enkindle that there is a significant relationship between stock prices and the value of investment securities as well as between stock returns and fair value securities gains and losses. (Carroll et al., 2002).Despite the IASB and FASBs interests in the fair value approach, there are some inherent problems with the approach. The main problem with the fair value approach is ascertain the fair market value of assets that do not trade in active markets. According to Carpenter et al. (2008), this pop out has been a subject of debate in the accounting profession. Accounting standard setters (the IASB and the FASB) recommend two solutions to this problem (i) consult outside experts, for example, in the valuation of real estate, the services of a real estate expert should be sought (ii) practitioners associations should develop valua tion models. (Carpenter et al., 2008). However, despite these adjustments, Carpenter et al. (2008) suggest that there are still doubts as to whether skilled experts provide accurate and solid valuations. Analysing the consistency and quality of valuations provided by a sample of 43 bank line valuation experts who were asked to value a small postgraduate tech firm preparing for an IPO, Carpenter et al. (2008) provide evidence that skilled experts employ different methods and multiples withal when they rely on the same guidelines. Moreover, there are significant variations in the fair market values for the same investment. (Carpenter et al., 2008). The evidence also suggest an upward bias in the fair market value of the high tech firm as compared to the actual value following the IPO. (Carpenter et al., 2008).iii. Implications for future day Accounting StandardsThe implications for future accounting standards is that the IASB and the FASB should develop more appropriate methods o f determining fair value, especially for assets and liabilities for which there is not active market. By so doing the value relevance of the balance sheet will increase.BIBLIOGRAPHYBarlev B., Haddad, J. R. (2003). Fair value accounting and the Management of the firm. Critical Perspectives on Accounting, vol.14, 383415.Benston, G. J. (2006). Fair Value Accounting A Cautionary Tale from Enron. Journal of Accounting and Public Policy, vol. 25, pp. 465-484.Carroll, T. J., Linsmeier, T. J., Petroni, K. R. (2002). The dependability of Fair Value vs. Historical Cost Information proof from Closed-End joint Funds. Journal of Accounting, Auditing, Finance.Carpentier, Cecile, Labelle, Ral, Laurent, Bruno and Suret, Jean-Marc (2008). Does Fair Value Measurement Provide fit Evidence for Audit? The Case of High Tech ValuationAvailable at SSRN http//ssrn.com/ rook=1269743Epstein, B. J., Jermakowicz E. K. (2007). Interpretation and Application of International Financial Reporting Standards. Wi ley and Sons Inc.Khurana, I K., Kim M. (2003). comparative value relevance of historical cost vs. fair value Evidence from bank holding companies. Journal of Accounting and Public Policy, vol. 22, pp. 1942.Rayman, R. A. (2007). Fair value accounting and the present value fallacy The need for an alternate(a) conceptual framework. The British Accounting Review, vol. 39 211225