Forest valuation and the AASB 141 accounting standard

Abstract

Summary This paper examines issues relating to forest valuation using the Australian Accounting Standards Board accounting standard AASB 141 for large and medium-sized forestry entities. Current practices generally follow AASB 141:25 that states that an independent valuation of land may (emphasis added) be deducted from the present value of the combined asset to yield a value for the living trees (i.e. value of the biological asset), from which gains or losses relative to the previous year may be brought to account in the income statement. Such an approach distorts the income statement by gains and losses that are arbitrarily one-sided because the value of the living trees becomes a residual whose value is influenced by any movements in land value, sometimes masking the inherent productivity and value of the living trees. The paper reviews key terminology and principles of AASB 141 and other standards, including the definitions of biological assets, non-current assets, fair value, active markets, combined assets, and highest and best use. In the absence of an active market for medium and large forestry assets, which is generally the case in Australia and New Zealand, the estimation of fair value using the present value of expected cash flows is central to valuation. Whatever the respective form of ownership, land and living trees constitute a combined asset in which the roles are inseparable biologically. To be consistent with the use of fair value of the combined asset based on the present value of expected cash flows, the planning horizon needs to be extended to a uniform future year for the entire asset. This is to enable the optimum schedule of wood and cash flows and hence the maximum present value to be estimated. We describe an operational method to derive the present value of the living trees (the biological asset value as rigidly defined in AASB 141) by discounting the cash flows relating solely to those living trees, in essence the current crop. Segmenting those cash flows from those used in evaluating the present value of the combined asset can do this. Assuming the going concern is viable, such that forestry is the highest and best use, the remaining issue is how to ensure that the fair value of the combined asset is properly reflected in the balance sheet. This can be done by deducting the present value of the living trees (i.e. the value of the biological asset) from that of the combined asset (after due adjustment for land improvements). The resulting present value of ‘future rotations’ should then be shown as a non-current asset under ‘property, plant and equipment’. Finally, the discount rates used in forest valuations generally allow for taxation (and risk) in using a weighted average of the discount rates for equity and debt. Post-tax evaluation of cash flows is therefore recommended, rather than pre-tax, subject to avoiding double counting of any tax liabilities or debts elsewhere in the accounts.