Use Of Fair Value Measurement Research Articles

Fair value estimates of investment property, corporate governance and audit pricing: evidence from the Hong Kong real estate industry

PurposeFollowing the adoption of International Financial Reporting Standards (IFRS), firms are required to recognize gains or losses from investment property revaluation in the income statement, instead of equity in the balance sheet. This results in both a “materiality effect” (as auditors set a higher materiality level and require lower audit efforts) and a “cushion effect” (as revaluation gains serve as a cushion and reduce earnings manipulation incentives). Utilizing this unique setting, this study investigates whether the use of fair value measurement for investment property affects audit pricing before and after IFRS convergence in the Hong Kong real estate industry.Design/methodology/approachUsing a sample of 78 real estate companies listed on the Hong Kong Stock Exchange in the pre-IFRS period (2001–2004) and the post-IFRS period (2005–2008), this study employs multivariate regression analyses to test the research hypotheses with respect to the association between investment property revaluation and audit fees and the role of corporate governance structures in the context of family control.FindingsThe empirical results suggest that audit fees decrease with revaluation gains or losses from investment property revaluation after IFRS convergence, but not before. Furthermore, the negative association is stronger in companies controlled by founders, with proportionally more independent directors on the board and with a smaller board size. This is consistent with the moderating effect of corporate governance.Originality/valueThe findings shed more light on the consequences of fair value accounting for non-financial assets and are of interest to regulators for assessing the benefits of the wide use of fair value measurement under IFRS in emerging markets, especially where the corporate ownership structure is typically controlled by founding families. This study also provides recommendations for the audit community to fully consider the impact of asset revaluation on audit procedures and audit pricing.

Fair Value Accounting and Implications for the Auditing Profession: Historical Overview

This paper explores the link between the introduction of fair value measurements (FVM) and the development of the Global Financial Crisis (GFC) in 2008-9. The paper aims to provide an historical analysis of the development of the Enron scandal with a focus on fair value accounting (FVA) and provides a narrative literature review of the subsequent economic downturn, its effect on the auditing profession and audit fees arrangements, implications for FVA, and response of global institutions and standard setters. It provides a theoretical explanation of the underlying antecedents using existing accounting theories. For each reviewed stream of research, the paper establishes the theoretical underpinning and discusses its application supported by the context. The content analysis using NVivo software was employed to analyse existing research and available published information. Based on the comprehensive literature review, the study arrives at two main findings. First, the paper concludes with the controversial use of FVM and establishes a direct connection between Enron’s collapse, the GFC, and improper FVM practices. Secondly, the study identifies the current pricing strategy for audit as an industry response to the abuse of external audit arrangements regarding FVA. Supported by the literature review findings, the paper contributes to the audit research by providing deep insights into the connection between FVA practices, the GFC and development of the audit profession. The paper addresses the lack of foundational research in FVA and establishes a solid background for further studies on FVA and audit profession development in general.

The impact of SFAS 157 on fair value accounting and future bank performance

PurposeThe purpose of this paper is to investigate whether levels-classified fair values of US banks based on SFAS 157: Fair Value Measurements, as recognised in the quarterly financial statements of the banks over the period from 2008 until 2015, have predictive value in relation to the banks’ future financial performance measured by operating cash flows and earnings over a three-quarter horizon period. In addition, we consider whether the global financial crisis (GFC) impacted the relationship between SFAS 157–based levels‐classified fair values and bank future financial performance.Design/methodology/approachWe develop hypotheses connecting the net levels-classified bank fair values based on SFAS 157 with banks’ future financial performance. We test the hypotheses by estimating three-period quarters’ ahead forecasting models. We also use these models to test for the impact of the GFC on the relationship between the fair values and future financial performance.FindingsOur findings suggest that the levels-classified net fair values based on SFAS 157 have predictive value in relation to future cash flows for banks. There is significant variation, across the levels, in the predictive value of levels-classified net fair values for future performance. Our findings indicate that the GFC has limited impact on the predictive value for cash flows, but the GFC had a significant adverse impact on earnings, and, with allowance for the effect of the GFC, the Level 2 net fair values have predictive value for the future earnings.Originality/valueThe study provides the first direct empirical evidence on the relationship between the SFAS 157 levels-classified quarterly bank fair values recognised in publicly available financial statements and banks’ future performance. Our results are consistent with the findings from earlier research (Ehalaiye et al., 2017) using annual data disclosed in the supplementary notes to the financial statements of US banks based on SFAS 107. The study, makes a significant contribution to the question of frequency of reporting and to the disclosure vs recognition debate. The study has implications for policy makers, regulators and accounting standards setters such as the Securities and Exchange Commission and the Financial Accounting Standards Board in evaluating the use of fair value measurement in financial reporting.

Fair value accounting: Current practice and perspectives for future research

AbstractA fundamental issue debated in the accounting literature centres on the appropriate basis for measuring firms’ assets and liabilities. During the last several decades, scholars have generated a growing body of important insights about the use of the fair value measurement attribute in financial reports around the globe. In this paper, we provide an overview of the institutional background of fair value accounting and the associated accounting standards that prescribe the use of fair value measurements under International Financial Reporting Standards and Generally Accepted Accounting Principles in the US. We discuss and document the extent to which firms across different industries and accounting regimes recognize and disclose in their financial reports assets and liabilities measured at fair value and we reflect on aspects of the fair value accounting literature. In doing this, we identify several areas in which additional research can further our understanding of fair value measurements and disclosures.

The Use of Fair Value Measurement in Financial Reporting: A Literature Review

Over the last forty years ago, fair value has increasingly been used in IASB and FASB accounting standards. In this sense, there has been significant debate with regard to the relevance and reliability of fair value as a measurement basis. In principle, IASB and FASB conceptual frameworks are based on the Utility Paradigm, and fair value should be used if it offers relevant information for investors. In this article we analyse previous fair value literature, focusing on financial instruments and value relevance. We structure the literature according to the different lines of research, and we describe the findings for each. The authors find that fair value is the model that better reflects risk management activities. Fair value information is generally relevant to investors. The evidence is higher in Level 1 and Level 2 fair value measurements.

Are Impairments and Unrealized Losses Equally (Un)timely?

We compare the timeliness of U.S. GAAP impairments to the timeliness of IFRS unrealized losses for investment property. Using the reporting of economic losses by U.S. and U.K. real estate firms around the time of the financial crisis, our results show that unrealized losses are substantially more timely than impairments. This result is not explained by the presence of U.S. GAAP valuation buffers, the use of undiscounted cash flows in impairment testing, the use of Big 4 auditors or the use of external appraisers, and it also holds when extending the sample to include IFRS firms from other EU countries. We argue that while both U.S. GAAP and IFRS use fair value measurements to evaluate economic losses, the recurring use of fair value measurements under the IFRS revaluation model leads to a routine implementation process, established valuation parameters, and increased investments in the valuation infrastructure. As a result, unrealized losses are likely to possess more timeliness than impairments. By showing how similar underlying transactions lead to different reporting outcomes, we contribute to the comparability literature and challenge the view that the fair value and the historical cost models provide equally timely information when the prices of non-financial assets decline.

The effect of accounting methods on financial reporting quality

PurposeThis study aims to examine the relationship between accounting measurement method of biological asset and financial reporting quality. Specifically, this study examines whether using fair value method or the historical cost method on biological asset provides different financial reporting quality.Design/methodology/approachThis study uses data from 38 agricultural companies that are members of the Roundtable on Sustainable Palm Oil. The annual reports of 38 companies from the Palm Oil Growers over a five-year period starting from 2011 to 2014 are analysed.FindingsThis study shows that companies using historical cost measurement produce less reliable and less relevant information compared to the companies that are using fair value measurement.Research limitations/implicationsThe results in this study imply that the use of fair value measurement improves the quality of financial information.Practical implicationsThis study supports IASB’s justification of developing IAS 41 as the principle-based standard that better represents the financial information related to biological asset and subsequently lead to good accountability and harmonisation practices.Originality/valueThis study provides evidence on the best measurement to be used in agriculture activities using a larger sample size of few countries. In addition, this study contributes to the existing literature on the effect of accounting methods on financial reporting quality.

Accounting Measurement Revolution and Market Value

The study is aims to examine whether the adoption of accounting measurement of AIS/IFRS standards has resulted in more relevant financial information for decision making or not. This study examines the use of fair value measurement on value of financial instruments to capture if there is any effect on the market value of financial companies. Ohlson (1995) framework has been employed to investigate this relationship. The Jordanian financial sector was the sample for the study during the years from 2012 to 2016. Our study findings, based on the results of correlation and multiple regression analysis showed that, market value of Jordanian financial companies is significantly positively related to financial instruments measured by fair values. The final result assured that; the new accounting measurements methods such as fair values are value relevant for Jordanian financial companiesduring all period of the study.

The Impact of Fair Value Measurement for Bank Assets on Information Asymmetry and the Moderating Effect of Own Credit Risk Gains and Losses

ABSTRACTWe examine whether the use of fair value measurement (FVM) for bank assets reduces information asymmetry among equity investors (bid-ask spread) and how this is affected by the recognition of own credit risk gains and losses (OCR). Our findings show that FVM of assets is associated with noticeably lower information asymmetry, and that this reduction is more than twice as large when banks also recognize OCR. In addition, we find that the bid-ask spread is incrementally lower for banks that provide more detailed narrative disclosures on OCR. The findings also indicate that the effects of asset FVM and OCR recognition on the bid-ask spread do not simply capture the differences in the characteristics of the banks and the quality of their information environments.Data Availability: All data are available from public sources.

The Worth of Fair Value Accounting: Dissonance between Users and Standard Setters

AbstractInvestors and analysts are designated as the primary users of financial reports by standard setters, yet we know very little about their use of accounting information and about their relationship with standard setters. This paper explores how investors and analysts evaluate the usefulness of fair values to their work. Standard setters typically presume that investors and analysts view accounting as a practice of valuation and, therefore, favor the greater use of fair value measurement. However, using interview evidence, it is shown here that investors and analysts expect accounting to provide them with insights into the performance of a business, and are quite cautious about the limits of using fair values in financial reports. Overall, the paper contributes to a better understanding of the relationship between accounting and its users. It adds specifically to research which has analyzed the disconnect between users and standard setters in terms of standard setters ignoring user needs (Young ), and in terms of users being indifferent about, or uncritical of, outcomes of standard‐setting processes (Durocher, Fortin, and Cote ; Durocher and Gendron ). The paper suggests a re‐theorization of the disconnect between the two groups that involves thinking away from tension, or blame. Drawing on the work of David Stark (), the situation observed is conceptualized as one of “dissonance,” where the different ways of evaluating fair values coexist without being involved in a fierce contest. That is, even though the principles of valuation and performance differ, this difference does not lead to open disagreement and political lobbying from investors and analysts. Consequences of this dissonance to our understandings of the (absence of) worth of fair values in capital markets are discussed.

What is better: to be roughly right or exactly wrong? The role of quantitative methods in financial accounting

The aim of this commentary is to discuss whether quantitative techniques are relevant for the development of financial accounting practice. We focus on the use of quantitative techniques in financial accounting practice rather than financial accounting research because since Ball and Brown (1968) and Beaver (1968), the association with academic research has already received considerable attention and produced a broad range of manuscripts. Our focal point is particularly within the rules of International Financial Reporting Standards (IFRSs), which allow or request the fair value measurement. Therefore, we aim to bridge this concept with quantitative techniques. We conclude that the use of quantitative methods in financial accounting is closely related to the development and use of fair value measurement in financial reports. Last but not least, some examples are given of how quantitative methods can improve the success of financial reports in the future.

What is better: to be roughly right or exactly wrong? The role of quantitative methods in financial accounting

The aim of this commentary is to discuss whether quantitative techniques are relevant for the development of financial accounting practice. We focus on the use of quantitative techniques in financial accounting practice rather than financial accounting research because since Ball and Brown (1968) and Beaver (1968), the association with academic research has already received considerable attention and produced a broad range of manuscripts. Our focal point is particularly within the rules of International Financial Reporting Standards (IFRSs), which allow or request the fair value measurement. Therefore, we aim to bridge this concept with quantitative techniques. We conclude that the use of quantitative methods in financial accounting is closely related to the development and use of fair value measurement in financial reports. Last but not least, some examples are given of how quantitative methods can improve the success of financial reports in the future.

THE CRISIS AND FAIR VALUES: ECHOES OF EARLY TWENTIETH CENTURY DEBATES?

The recent global financial crisis has led to extensive criticism of the role of accounting and its use of fair value measurement in causing and spreading the crisis. This paper argues that the debate surrounding fair value vs. historic cost, and relevance versus reliability, is nothing new; it was at the center of early accounting discussions in the AAA (especially by A.C. Littleton and W.A. Paton), the AICPA (especially G.O. May), and the SEC. Although prominent accounting scholars and practitioners in postdepression 1929 focused on the use of historic cost, the paper discusses the decision of the IASB/FASB to move reliability to a secondary characteristic in its recent conceptual framework. This action ignores lessons learned from a century of research, teaching, and practice of accounting.

Fair Value Measurements and Audit Fees: Evidence from the Banking Industry

SUMMARY:Using publicly traded bank holding company data from 2008 through 2011, this paper documents that the proportions of fair-valued assets held by banks are positively associated with audit fees. The positive association between audit fees and the proportions of total assets that are fair-valued using Level 3 inputs is greater than its positive association with the proportions of total assets that are fair-valued using Level 1 or Level 2 inputs. These results are consistent with a hypothesized scenario in which audit effort increases in the difficulty of verifying asset fair values. We also document that bank specialist auditors, defined as in Behn, Choi, and Kang (2008), charge lower audit fees to bank clients on average, suggesting cost efficiencies passed to clients as lower fees. However, bank expert auditors charge more for auditing the proportions of total assets that are fair-valued. Overall, the results support concerns expressed by some observers that greater use of fair value measurements for financial instruments will trigger increased audit fees.Data Availability: All data used in this study are publicly available from the sources identified in the text.

Fair Value Measurement in Financial Reporting

The use of fair value measurements for financial reporting purposes steadily increased during the last decades, the IASB being seen as one of its main promoters. Fair value also stirred significant debates in the context of EU‟s negotiation regarding IFRS adoption, finally generating the IAS 39 carve-out seen by many as the cost paid by the IASB. As if the standard setting process for fair value measurement was not challenging enough, the recent financial crisis raised even more questions born from difficulties proven in particular cases. Furthermore, we can not neglect the forces at stake when discussing the politics in accounting, fair value again offering an extremely rich research venue. The banking industry‟s particular involvement in relation to fair value standards and regulations stands as a first indication in this direction. The main objective of our paper is to offer a synthesis on the current state of affairs in relation to fair value measurement in financial reporting. Our paper follows the standard setting process for fair value measurements starting with the international arena and further focusing on the particularities of an emerging economy. The analysis is completed by including the Romanian valuers‟ perspective on fair value measurement. The employed research methodology includes content analysis based on IASB‟s due process documents, accounting standards and regulations, as well as implementing a questionnaire survey involving Romanian professional valuers. Our paper contributes to the literature on the use of fair value in financial reporting, mainly arguing for the necessity of its consideration in relation to different information needs coming from different users. We finally conclude that if we are to continue the plan to expand the use of fair value measurement, significant clarifications remain necessary in approaching accounting standards, regulations and practices.

Fair Value Measurements and Audit Fees: Evidence from the Banking Industry

Using publicly traded bank holding company data from 2008 through 2011, this paper documents that the proportions of fair-valued assets held by banks are positively associated with audit fees. The positive association between audit fees and the proportions of total assets that are fair-valued using Level 3 inputs is greater than its positive association with the proportions of total assets that are fair-valued using Level 1 or Level 2 inputs. These results are consistent with a hypothesized scenario in which audit effort increases in the difficulty of verifying asset fair values. We also document that bank specialist auditors, defined as in Behn et al. (2008), charge lower audit fees to bank clients on average, suggesting cost efficiencies passed to clients as lower fees. However, bank expert auditors charge more for auditing the proportions of total assets that are fair-valued. Overall, the results support concerns expressed by some observers that greater use of fair value measurements for financial instruments will trigger increased audit fees.

IFRS fair value measurement and accounting policy choice in the United Kingdom and Australia

This study investigates the use of fair value measurement by 228 listed companies in the UK and Australia around the time of adoption of IFRS from 1 January 2005. We test whether within and between country comparability in policy choices (as measured by T indices) has changed in relation to (a) mandatory and (b) optional use of fair value measurement. Mandatory requirements related to financial instruments (IAS 39) and share-based payments (IFRS 2) have increased comparability, with a weaker effect for biological assets (IAS 41). In relation to the optional use of fair value, comparability increased in relation to property (IAS 16) because some companies discontinued fair value measurement. Under IAS 39, the fair value option for other financial assets and other financial liabilities decreased comparability. Options to use fair value in other areas (intangible assets, plant and equipment and investment properties) are not generally taken up, either for on-going measurement or on IFRS adoption (under the ‘deemed cost’ option). The results suggest a conservative approach and/or lack of incentives to use fair value measurement for most companies. Exceptions include some banks and insurance companies (for other financial assets and liabilities) and companies holding investment properties.

IFRS Fair Value Measurement and Accounting Policy Choice in the United Kingdom and Australia

This study investigates the use of fair value measurement by 228 listed companies in the UK and Australia around the time of adoption of IFRS from 1 January 2005. We test whether within and between country comparability in policy choices (as measured by T indices) has changed in relation to (a) mandatory and (b) optional use of fair value measurement. Mandatory requirements related to financial instruments (IAS 39) and share-based payments (IFRS 2) have increased comparability. Increases in comparability for agricultural assets (IAS 41) were not significant. In relation to the optional use of fair value, comparability increased in relation to property (IAS 16) because some companies discontinued fair value measurement. Under IAS 39, the fair value option for other financial assets decreased comparability. Options to use fair value in other areas (financial liabilities, investment properties, intangible assets and plant and equipment) are not generally taken up, either for on-going measurement or on IFRS adoption (under the 'deemed cost' option). The results suggest a conservative approach and/or lack of incentives to use fair value measurement for most companies. Some banks and insurance companies are an exception for financial assets as are Australian property companies.

Converging to International Accounting Standards: Views from Japan

Many countries, including the European Union member states and Australia, adopted international accounting standards in 2005. This year was also critical in Japan for convergence activities. Based on a review of 2005 financial statements and a survey of securities analysts, this study identifies key issues for convergence of Japanese and international accounting standards. We find that accounting requirements relating to fair value measurement, comprehensive income items, leases and business combinations are relevant to Japanese firms. A survey of 974 members of the Security Analysts Association of Japan about these issues indicated support for convergence and the use of fair value measurement, disclosure of comprehensive income, recognition of leases and use of the purchase method for consolidation. We report support for several positions favoured by the International Accounting Standards Board (IASB), a positive signal for achieving convergence goals in Japan, which will be of interest to capital market participants in Japan and other countries.

International Convergence of Accounting Standards: 'Hot Topics' and Constituents' Views in Japan

The aim of this study is to identify key issues for convergence of Japanese and international accounting standards and to present constituents' views about these topics. We investigate the financial impact of requirements relating to fair value measurement, comprehensive income items, leases and business combinations in the financial statements of 50 large listed Japanese firms at 31 March 2005. This analysis provides the setting for our report of the views of Japanese preparers and users of financial statements about convergence of Japanese and international accounting standards, following convergence initiatives over the period 1997-2005. A survey of 974 members of the Securities Analysts Association of Japan indicated support for convergence and the use of fair value measurement, disclosure of comprehensive income, recognition of leases and use of the purchase method for consolidation. Our financial analysis of firms shows that these topics are relevant for many firms. We report support from both preparers and users for several positions favoured by the International Accounting Standards Board (IASB), a positive signal for achieving convergence goals in Japan.