Question

Topic of essay: During the Global Financial Crisis of 2008/9, it was claimed that IFRS fair value accounting techniques used in corporate reports had distorted financial reality and caused the crisis.

1. (a) Describe those alleged problematic fair value accounting techniques and standards, and state if you agree with the criticisms and why .

2. (b) In the period 2009-2020 do you think IFRS fair value standards have improved? State your reasons and evidence .

3. (c) In the event of a major economic downturn in 2020 or later do you think assets will be appropriately measured by IFRS fair value accounting standards? Explain .

General requirements

Label each section clearly. In each section, get straight to the point of the argument and do not waste space with ‘general background information’ etc.

Answer 1

This question is based on IFRS (International Financial Reporting Standards) and IFRS are issued by ISAB. IFRS are issued to create an accounting framework that all companies in the world can follow in order to increase comparability of companies located in different countries.It was claimed that IFRS fair value accounting techniques used in corporate reports had distorted financial reality and caused the crisis. Below are point wise discussion:

a). Fair-value accounting involves reporting assets and liabilities in its pure form, fair-value accounting involves reporting assets and liabilities on the balance sheet at fair value and recognizing changes in fair value as on the balance sheet at fair value and recognizing changes in fair value as gains and losses in the income statement.The main allegations are that fair-value accounting contrib- 2008 financial crisis as fair-value accounting contributes to excessive leverage in boom periods and leads to excessive write-downs in busts. companies were inflating their assets ( or earnings) by marking certain assets at fair value as because their fair value had increased and not because it was more representative information for shareholders. For instance, companies could have increased the value of their building to their fair value instead of using amortized cost so that their depreciation expense would be lesser and they would have a gain on revaluation. in my view whether it leads to financial crisis or not it depends upon the whether the use of fair value accounting was representative, which was different for every company.

b). Yes, there is an improvement for sure. For example: IAS 17, says infaltion need not to be on straight line basis, there should be a proper measurement. In  fair value technique under IAS 16, companies must now post any gains to Other Comprehensive Income and can only record their gains to net income to the extent of any previous revaluation losses on that same asset. This means the Companies cannot overstate their net income due to the revaluation effect. IAS -20 says non Monetary Grant to be recognised at fair value.

c). Yes, During major economic downturn in 2020 or later more most of the companies will be reporting their assets at fair value because those who elected that practice at the beginning will continue following it and companies that have their assets at amortized cost might need to mark down to fair value due to impairment testing in an economic downturn. Therefore, it can be summarized that the risk of misleading fair value accounting is naturally lower in a major economic downturn that during a time of prosperity since fair values are lower. thus we can say that assets will be appropriately measured by IFRS fair value accounting standards.