Need for accounting measurement the big 1

Need for accounting measurement
Need for accounting measurement provides a summary of the measurement bases in use in Financial Reporting
and the concepts behind these measurement bases.
The measurement bases that will be considered here are:

All these bases are forms of accrual accounting – that is, they are intended to measure income as it is earned and costs as they are incurred, as opposed to simply recording cash flows. The last four are all forms of current value measurement.

In forming a judgment on the appropriateness of measurement bases, in literature, the overriding tests has been identified to be their cost-effectiveness and fitness for purpose. However, in the absence of direct evidence on these matters, it is usual to argue in terms of various secondary characteristics that ought to be relevant in assessing the quality of information (see the key indicators in What is useful information?).

The most important of these characteristics are generally considered to be relevance and faithful representation / reliability (older term).

For each basis, an outline is given of how it works and the relevance and faithful representation of the resulting measurements. The question of measurement costs is also considered briefly. In reading the analyses that follow, the following comments should be borne in mind.

Bases of measurement in financial reporting are not carved in stone. Different people have different views on how each basis should work, and meanings evolve as practice changes. Some readers may therefore find that the way a particular basis is described does not match how they understand it.

This does not mean either that their understanding is wrong or that the description in the report is wrong; views on these things simply differ.

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Determining a leases discount rate

Determining a leases discount rate

IFRS 16.26 sets out the discount rate requirement as follows:

At the commencement date, a lessee shall measure the lease liability at the present value of the lease payments that are not paid at that date. The lease payments shall be discounted using the interest rate implicit in the lease, if that rate can be readily determined. If that rate cannot be readily determined, the lessee shall use the lessee’s incremental borrowing rate.”

Given a significant number of organisations are unlikely to have the necessary historical data to determine the interest rate implicit in the lease (“IRIIL”) for transition, it seems logical that the use of the incremental borrowing rate (“IBR”) will be relatively common at the date of adoption.

Additionally, any company choosing to use one of the modified retrospective approaches is required to use the IBR. For leases signed after transition, companies may be more readily able to determine IRIIL, however it is likely that companies will enter into leases which require the continued use of the IBR.

Lessee’s incremental borrowing rate

The rate of interest that a lessee would have to pay to borrow over a similar term, and with a similar security, the funds necessary to obtain an asset of a similar value to the right of use asset in a similar economic environment.”

Additional detail on determining the incremental borrowing rate can be found in the guidance outlining the transition related practical expedient for using a single discount rate for a portfolio of leases:

a lessee may apply a single discount rate to a portfolio of leases with reasonably similar characteristics (such as leases with a similar remaining lease term for a similar class of underlying asset in a similar economic environment).”

Combining these two aspects together results in the six factors (in green) requiring consideration in determining an IBR, either for an individual lease or a portfolio of leases.

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IAS 36 Other impairment issues

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  • What?? – Determining the scope and structure of the impairment review, explained here,
  • If and when? – Determining if and when a quantitative impairment test is necessary, explained here,
  • IAS 36 How Impairment test or understanding the mechanics of the impairment test and how to recognise or reverse any impairment loss, if necessary, which is explained here

IAS 36 Other impairment issues discusses other common application issues encountered when applying IAS 36, including those related to:

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Review the guide on the Governance Institute Australia’s website. IAS 37 Launch your Climate Risk Reporting

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