Complex issues regarding accounting measurement


Accounting measurement remained a complex topic over decades. Measurement issues, in particular to fair value measurement, have been criticism to being the causes for current global financial crisis. Criticisms arise require changing fair value measurement back to other measurement method such as historical cost valuation. Given the current highly volatile and illiquid financial markets as a result of global financial crisis, fair value measurement becomes an increasingly questionable and controversial issue and debates in accounting measurement. However, fair value measurement should not be the root that causes the current Global Financial Crisis (Michel, 2009). Rather, it was considered a factor in its occurrence that have fuelled the crisis and intensified its impact. This essay discusses the relevant arguments for and against the use of fair value measurement in relation to current global financial crisis. To simplify the idea, most financial statement preparers adverse the use of fair value accounting measurement because it requires large loads of works to constantly updating estimates of the current market price of assets and liabilities in addition to the introduction of new complicated standard from Financial Accounting Standards Board on how to measure fair value. On the other hand, some investors would argue that fair value is the best measure due to its relevancy, reliability, and timely basis. From their point of views, accounting standard often focused on information that is easy to measure and that limits them in making appropriate decision due to limited ability to compare the performance of invested companies. This essay further discusses three valid reasons that support the applicable of fair value measurement in the context of global financial crisis.

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In general, fair value is the price at which the asset could be sold or bought in a current transaction at arm's length between two willing party, or transferred to an equivalent party. The promotion of the fair value accounting is not necessarily to be ideal all of the times. In the event of current global financial crisis, the use of fair value accounting is no longer suitable as it does not reflect the initial wishes of parties involved. Bear in mind that the fluctuated value of assets and liabilities had dramatically diverged the consistency in accounting. In determining whether a fair value measurement contributes to current global financial crisis, we must first understand what a fair value measurement is. The US Financial Accounting Standard No.157 guidelines require that fair value to be measure at three levels (Yang, 2008). Firstly, fair value of financial products is the current market price of those products which reflects the real wishes of parties, provided with the occurrences of active market transactions. Secondly, if there are no active trading market conditions to the particular assets, the fair value will then refer to the price of other similar products in an active market. Thirdly, if active market did not anyhow exists, then managements have to establish the valuation model to estimate the fair value of these products derived from varies market assumptions and judgements. Active market did not exist in the event of financial crisis and that implies where fair value have to be measure in accordance to third level. Unfortunately, the guidelines are not entirely reasonable, therefore the financial instruments still value in accordance to the current market price. Critics arise where the current price of the assets and liabilities may far difference form its intitial value. For instance, global financial crisis had led to declining market prices of assets; both in financial and business assets.

Under fair value measurement, the assets should be constantly adjusted according to the market value. Hence, the assets will tend to be undervalued and lead to large provisions for impairment loss. Apparently, the huge losses of the assets book value likely to draw negative outcome to the financial reports of a company. Investors will analyse this as a bad news and consequently lose confidence and less willing to increase the assets sold to the market into a fair "trading price", therefore the assets price will eventually fall deeper. At the meantime, in the event of financial crisis with slow-moving market conditions, most businesses are affected in the sense of reduced productions and operations and are at a risk of bankruptcy. Apparently fair value has become far from the initial wishes of parties involved, the assets' true value cannot be identify as it purely measured within the context of financial crisis. Consequently financial community started to struggle with fair value measurement as if they can recover from the impact of financial crisis by not pricing the assets according to their market value. According to Wall Street, fair value measurement failed to reflect the value of assets whilst making the company's reports less attractive to the investors in the time of financial crisis leading to loss of investor confidence to the company's future performance. They suggests where replacing fair value accounting by historical cost valuation is a way to stabilize the public panic and to reinstall confidence among investors as fair value measurement had treated as the "culprit" of financial crisis (Gao and Gaichune, 2009). Moreover, Foster, former top financial executive at Compaq Computer ((cited et al. AICPA, 2007), suggested that fair value measurement turns to be harder in highly volatile market. He also pointed the pressure insists on analysts where they may struggle in order to retain their business during economic downturns. Therefore, it could be argued that the adoption of fair value measurement bring unreasonable guide to people's economical behaviour. For example, financial analyst and rating agencies may intentionally vary the credit rating of the same enterprise frequently in a short period of time with the aim to evade their responsibilities. This behaviour tends to enlarges added market panic and enlarge the negative impact of a financial pandemonium.

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On the other hand, some may argue that fair value measurement is a more relevant and timely valuation that best reflects best reflects the true market information about the change in value of assets and provide transparent and comparability reporting in which assists the investors and creditors in making decision in timely basis to see the most realistic situation. The suggestion to revert the fair value measurement can only be short term orientated, but it cannot be treated as a complete solution to eliminate the financial crisis. Conversely, fair value measurement is still useful and applicable even if is in financial crisis. First of all, fair value measurement are says to make accounting earnings more relevant as if compared to historical cost valuation. In measuring the accounting earnings, fair value measurement accounts the change of fair value by taken into consideration the balance sheet items and profits and losses. Hence, fair value measurement act to compensate the problem of lacking accounting earnings in historical cost valuation. Also, it provides a more reasonable reflection of the company's cash flow and earnings in addition to more reliable financial performance and position.

The second reasons supported that fair value measurement is not the root causes for current global financial crisis is where the fair value measurement still able to meet the accounting goal by providing useful information to the investors about a company's financial performance. In general, the primary objective of assets measurement is to protect integrity and to safeguard the asset, more importantly, maintain the reliability of accounting information. Accounting goal require both past and present events so that the users can rely on it to evaluate and forecast future performance. According to a study by Joachim and Kristina, the respondents of their survey favour fair value measurement for all assets and liabilities. Moreover, fair value measurement assists investors for speculative purpose in short term and decision making usefulness in long term (Peng and Wang, 2008). Obviously, it is no doubt that fair value measurement is still the future direction of accounting at presence despite the effect of global financial crisis. Therefore deteriorating or weaken the use of fair value measurement is not a good idea and does not help to mitigate or reduced the impact of financial crisis.

On the other hand, in response to the voice of reverting fair value measurement, the US SEC released a guidance of Financial Accounting Standard No.157 "Fair Value Accounting", "determining the fair value of financial assets through the length of time of the price declines, or as well as the judge of the market liquidity, or with the help of internal valuation models and assumptions". The appearance of provision 157 shows that fair value measurement standard have been relaxed to some extend by SEC rather than completely stopping or resist its use (Gao 2009). Again, this is the evidence where fair value measurement is still applicable within the context of financial crisis. The causes of financial crisis are therefore mainly due to the excessive consumer debts, high leverage, over securitization and too much liberalization of financial supervision (Gao 2009). In this way, the fair value measurement should not say to be a "culprit" that causes the financial crisis. The financial crisis is actually caused by the operation based on the non-fair market price to determine the fair value in practice. However, it can not be denied that fair value measurement does fuel some effect to the financial crisis.

In overall, the issue in measurement accounting is complex and require extensive professional judgment and evaluation. The basic accounting or business environment in the local country, such as the degree of openness of domestic market, effective market regulation, accounting policy and control mechanism should be taken into consideration when deciding which valuation model to be adopted in a particular country. Ignoring these environmental factors and blindly regard accounting standard as positive will drive significant failure. Fair value measurement is only a mechanism rather than the main causes that led to global financial crisis. Accordingly, there is a need for the reformation of IFRS to establish a more flexible direction on the determination of fair value for illiquid and inactive market conditions. Lastly, the impact of irrationality of fair value to the world is bounded by the higher degree of capitalization and internationalization of accounting standards, which will results greater loss in the event of global financial crisis. The current crisis teach us a lesson to properly and carefully examine the challenge in accounting practices, in particular to fair value measurement, and it is likely where abundant of empirical researches have to be generate in the future years in order to gain a better access to the positive and negative effects of fair value accounting.

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