Table of Contents
1.2 Objective of study and research questions
2.0 Literature review
2.1 Fair value-based valuation for biological assets
2.2 Biological assets concepts
3.2 Research design
3.3 Data collection and analysis
4.0 Findings and discussions
4.1 Comparability of accounting practices in the agricultural sector
4.2 Fair value measurement of biological assets
5.0 Conclusion and recommendations
Changes taking place due to the globalisation of economies has led to a trend towards accounting standards of different countries being standardised. The accounting standard commonly used in the agricultural sector in IAS 41.
IAS 41 is aimed at regulating the agricultural sector which has been outside the discussions of accounting due to the lack of infrastructure and tradition for divulging or preparing its financial statements. The biological assets, according to IAS 41, should be valued at their fair value except for the cases where it would be impossible to estimate their value reliably.
The main objective of the research was to determine how fair value accounting can be applied in the agricultural sector. Literature review indicates that only the most relevant biological assets or agricultural products are the only ones targeted for the valuation. Further, fair value indicates the amount that the sellers and buyers are willing to deal the asset at in the business transaction. Therefore, it can be stated that fair value is not specific to the entity being evaluated but is based on the estimation in the market. Some research studies have identified disadvantages and obstacles that the adoption of IFRS would bring to the rural agricultural entities. Lack of transparent and active markets for instance is a major challenge that prevents the use of fair-value in the biological assets valuations
The exploratory study is used in the research through systematic review of peer reviewed articles, books and other published materials.
With regards to comparability of the accounting practices in the agricultural sector, the findings indicate that the IAS 41 is cumbersome and thus its adoption is slow. Further, there are provision in IAS 41 that have loopholes which have prevented the development of comparability of practice across agricultural sectors in many countries. The research indicates that cost standardisation should be undertaken to ensure that the biological assets are not over valued or undervalued using the DCF method.
In conclusion, the use of fair value based on the provision of IAS 41 is problematic due to a number of reasons thus hampering the comparability of the financial statements of biological assets of agricultural companies.
Changes taking place due to the globalisation of economies has led to a trend towards accounting standards of different countries being standardised (Alexander and Nobes, 2002). Choi and Meek (2005) argued that such a standardisation of the standards is a result of diffusion and development of multinational or global operations, capital markets internationalisation and global competition. The accounting differences between different countries can be attributed to cultural, social, economic, geographical and historical elements (Nobes, 1998; Clements, Neill, and Stovall, 2010). Based on the various elements stated above, there are diverse criteria for measurement and recognition that are created thus leading to differences in the financial statements. Within the above context, international standards of accounting were developed as a means of minimising the existing information asymmetry between nations and countries as well as offering the procedures for standardising the accounting (Cavalheiro et al., 2017).
Research centres, audit entities and accounting firms have been involved in the discussions regarding the establishment of standardised accounting standards since the time of the establishment of IASC (International Accounting Standards Committee). The IASC was established in 1973 and was replaced in 2001 by the International Accounting Standards Board (IASB) to allow for the comparison of the accounting standards at the international stage (Cavalheiro, et al., 2017). The standards under IASC were renamed to IAS (International Accounting Standards) and later International Financial Reporting Standards (IFRS). Daske et al. (2008) argued that by adopting IFRS, several countries have scaled a major milestone towards the convergence of the accounting standards.
The replacement process of IASC standards with IASB, some of the standards that were already issued have undergone revision and renaming while others have not gone through the process of reformulation (Delloite, 2016). The non-reformulated standards continue to be called IAS for instance IAS 41. IAS 41 – Agriculture has undergone a number of revisions between 2008 and the year 2014 but the name has not been changed or revised to IFRS. According to Elad (2004) and Dean and Clarke (2005), IAS 41 is aimed at regulating the agricultural sector which has been outside the discussions of accounting due to the lack of infrastructure and tradition for divulging or preparing its financial statements. Cavalheiro, et al., (2017) further affirmed that IAS 41 international standards serve the purpose of filling the gaps that existed in accounting in agriculture. The standard is directly focused and is specific to the organisations and entities that operate in the agricultural sector. Kieso et al. (2014) noted that living plants and animals are viewed as biological assets. Biological assets were defined by Marion (2010 as cited in Cavalheiro, et al., (2017, p56) as “everything that is born, grows, and dies, including annual and perennial crops, animals, livestock and breeding stock”. The biological assets, based on the above definition make up a significant number of entities, especially for the organisations in the agricultural sector. International Accounting Standards (2000) notes that the biological assets are subject to production, growth, reproduction and degeneration thus causing quantitative and qualitative changes in the assets.
The biological assets, according to IAS 41, should be valued at their fair value except for the cases where it would be impossible to estimate their value reliably. Landsman (2005) argued that fair value arises from the evaluation by the agents who are able and willing to consent to the given value for an asset and has an interest in undertaking the transaction. Fair value is defined under IFRS 13 as the value that is paid for the transfer of a given liability or received for the asset sale through a non-coerced or non-forced transaction between the agents in the market at the given date of valuation. Therefore, it can be stated that the fair value is the point of agreements between the buyer interests and the seller’s interests in the given transaction (Cavalheiro, et al., 2017). In the last couple of years, valuations based on fair value have gained significant traction as they entail the use of criteria that are a reflection of the financial and economic realities of the entities. The fair value thus increases the accounting information’s value relevance (Elad and Herbohn, 2011; Hinke and Starova, 2013; Hou, 2015). The fair value evaluation entails the use of certain degrees of judgement by the person who is appraising the value thus the reliability and the relevance of the given information can be influenced by the appraiser (Yang et al., 2005; Kallapur and Kwan, 2004).
It can be stated in general that the valuation of biological assets is neither concrete not clear as there are some uncertainties about how the assets can be valued in order to comply with the IAS 41 standards.
1.2 Objective of study and research questions
The main objective of the research is to determine how fair value accounting can be applied in the agricultural sector. This is in light of the uncertainties regarding the valuation of biological assets to comply with IAS 41. To help in achieving the research objective, the research will focus on two main research questions. The research questions are shown below
- Has IAS 41 enhanced the international comparability of accounting practices in the agricultural sector?
- How can biological assets fair value be measured, where there is no active market, in a reliable way in accordance to IAS 41?
2.0 Literature review
2.1 Fair value-based valuation for biological assets
The accounting for the agricultural sector is covered by IAS 41 which has several provisions for instance the requirement that the biological assets are presented in a discriminatory manner and fair value in the financial statements. The above situation leads to the discarding of the historical costs and valuations in many of the cases. Before the adoption of the IAS 41 standard, many countries used at formation or historical costs in measuring the biological assets. Therefore, the agricultural products were measured at the historical cost or at the fair value based on the accounting standard that is applied in the given country. Elad and Herbohn (2011) argued that the most relevant biological assets or agricultural products are the only ones targeted for the valuation.
Nobes (1998) noted that fair value indicates the amount that the sellers and buyers are willing to deal the asset at in the business transaction. Therefore, it can be stated that fair value is not specific to the entity being evaluated but is based on the estimation in the market. Lipe (2002) agreed with the above view by stating that the fair value is normally estimated at the market conditions and as such is considered as a measure of value that is well defined. Since the value is considered to be well-defined, there are no major questions about the credibility or relevance of the valuation. However, this may not be true in all the cases as some biological assets in the agricultural sector do not have market transactions that are observable and there is a little wealth of information available. Hou (2015) while undertaking a study of biological assets through the analysis of the recognition, measurement and disclosure of the biological assets in the forests argued that such an analysis would lead to better credibility of the entities that are reporting the values and the information would also be more reliable. Research undertaken in Czech Republic recommended that the IFRS principles and standards should be adopted for use in determining the fair value of the biological assets. Cavalheiro et al. (2017) undertook a study that sought to explore the valuation based on fair value and determined that the use of fair value is relevant and reliable as a valuation method as it offers greater information to the markets.
Some research studies have identified disadvantages and obstacles that the adoption of IFRS would bring to the rural agricultural entities. The research by Argiles-Bosch et al. (2012) undertook an empirical analysis that brought to the fore the difficulties experienced in accounting for the biological assets at historical cost and at fair value in the agricultural sector. Argiles-Bosch et al. (2012) and Argiles, and Slof (2001) noted that the valuation for the biological assets are normally affected by such assets growth, degeneration and reproduction so that the cost allocation sis difficult and complex. The findings of the research indicate that the fair-value based valuation enables the preparation and evaluation of calculations thus avoiding the complexities in the attainment of such valuations. This is an indication that the accounting practices that are used in the agricultural sector in Spain may be flawed.
Lack of transparent and active markets for instance in Kenya is a major challenge that prevents the use of fair-value in the biological assets valuations (Maina and Wingard, 2013). Similarly, Mates et al. (2015) found certain controversies in the mensuration and evaluation criteria of the standards that can be adopted by the agricultural sector in Romania thus making the adoption very difficult. The fair value determination is one of the major challenges that hampers the adoption of IAS 41 especially in the cases where there are no active markets and the agricultural assets are still at biological transformation stage (Bohusova et al. (2012). The problem of fair value accounting have been discussed by many authors for instance there is a lack of consistent framework that can be applied in the fair-value measurements (Maina, 2010). Further, there is also a major challenge in developing a reliable method for estimating the fair value of biological assets in the cases were there no price quotes thus leading to incompatibilities and inconsistencies. Guidance is thus needed to help in the elimination of the various inconsistencies and to develop frameworks that can be applied in the fair value-based method of valuation (Maina, 2010). The controversies regarding the use of fair value include the audit challenges associated with the use of fair value, awareness of fair value issues, the appropriateness of fair value and the usefulness of fair value (Okafor and Ogiedu, 2012). It has also been asserted that fair value usage in financial reporting also poses some challenges to the auditing firms and auditors thus leading to risks to the financial auditing of the entities (Johnson, 2007). Even the IASB members have acknowledged that there are some difficulties in fair value verification for instance challenges regarding the un-verifiability of the estimates based on fair values.