Accounting for owner-occupied property: goldmine or landmine?

Transcription

1 Accoutig for ower-occupied property: goldmie or ladmie? Adoptio of AIFRS may have bee expected to provide icreased trasparecy i fiacial statemets. However, the failure by corporates to adopt the flexibility ad trasparecy offered by AIFRS for reportig ower-occupied property potetially creates ladmies ad goldmies, rederig fiacial statemets less useful to recipiets ad raisig risk maagemet issues for shareholders, aalysts ad other iterested parties. 1 David Parker SF Fi is Adjuct Professor of Property, Uiversity of Techology, Sydey. parkerdsev@bigpod.com Sice their itroductio for aual reportig periods begiig o or after 1 Jauary 2005, Australia Iteratioal Fiacial Reportig Stadards (AIFRS) have attracted sustaied criticism i the Australia fiacial press. Regular sources of complait have icluded a lack of flexibility ad a oe-size-fits-all approach, resultig i claims of reduced trasparecy i fiacial statemets ad dimiished usefuless to recipiets. While the requiremets of accoutig for oweroccupied property uder AIFRS may be cosidered extesive, arguably, they also offer flexibility to suit the varied uses of property by differet corporates. Such flexibility may ecourage icreased trasparecy i fiacial statemets, leadig to potetially ehaced usefuless to recipiets. However, it is uclear as to what extet corporates are availig themselves of the flexibility offered i accoutig for ower-occupied property ad whether there is ay resultig icrease i trasparecy rederig fiacial statemets more useful to recipiets. Ower-occupied vs ivestmet property I examiig the implicatios for AIFRS of oweroccupied property, it is relevat to focus o property which is owed by a corporate pricipally for occupatio ad use by that corporate. This may be distiguished from property which is owed pricipally for the purpose of ivestmet, such as the property held by a real estate ivestmet trust or listed property trust. Uder AIFRS, accoutig for ower-occupied property is cosidered i AASB 116 (AASB, 2006) ad ivestmet property is cosidered i AASB 140 (AASB, 2006). Both AASB 116 ad AASB 140 are based o the premise that the corporate is a goig cocer, requirig the etity to ited to retai the asset i cotiuous use (otherwise classifyig such a asset as surplus) ad also that the asset meets the test of adequate potetial profitability i relatio to the whole of the etity s assets. 34

2 Ower-occupied property is addressed i paragraph 6 of AASB 116, supersedig the previous relevat Stadard, AASB 1041 Revaluatio of No-Curret Assets. As will be cosidered further below, uder AIFRS, corporates essetially have a choice betwee two alterative methods to accout for ower-occupied property i fiacial statemets either the cost model or the value model. Prior to the itroductio of AIFRS, Leo et al. (2001) oted that, while the value model provides more relevat iformatio tha the cost model, it is also more expesive to adopt due to valuers fees, maagemet review time ad record-keepig costs. A survey of corporate Australia s adoptio of AASB 1041 (Revaluatio of No-Curret Assets, Erst & Youg 2002) provided some iterestig isights ito the attitude of corporates towards the cost model ad the value model. The survey aalysed the impact of the adoptio of AASB 1041 by 129 corporates, fidig that 30% of etities previously adoptig the value model cotiued to do so followig the itroductio of the Stadard. Sigificatly, however, 40% of etities chose to chage the basis of measuremet from the value model to the cost model, with oe choosig to adopt the value model istead of the cost model. Further, 60% of the chages to the basis of measuremet were foud to occur i the Lad ad Buildigs class. The authors cocluded that cost effectiveess ad flexibility were two key factors affectig maagemet s decisio i choosig the measuremet basis, citig refereces i the otes to fiacial statemets that the costs of complyig with the value model (beig the potetial requiremet for regular idepedet valuatios) exceeded the beefits (beig improved relevace ad reliability of fiacial iformatio) that would be gaied. A clear udercurret of comfort with the cost model is evidet i some accoutig texts, with refereces such as the valuatio treadmill (Deega, 2004) idicative of a egative view of the value model. Arguably the level of cost icurred i maagig a valuatio program for a ower-occupied property portfolio would ot be sigificat relative to the total value of the portfolio. Similarly, with the icreasig use of web-based reportig ad decreasig use of prited fiacial statemets, the costs icurred i reportig the greater level of data arisig with the use of the value model would also appear to be isigificat. The geeral lack of iterest i ad attetio to the value model i fiacial statemets is echoed i legal texts. Iterestigly, Baxt (2005) otes case law cocerig a failure by directors to value property purchased by the compay, which was cosidered careless behaviour but was excused as the iadequate valuatio of assets was ot critical. Accordigly, i the pre-aifrs eviromet, a propesity to adopt the cost model to accout for oweroccupied property i fiacial statemets may have prevailed. To determie if this propesity cotiues i the post-aifrs eviromet, a small cross-sectioal study was udertake, with the results beig detailed below, with the icreasig use of webbased reportig ad decreasig use of prited fiacial statemets, the costs icurred i reportig the greater level of data arisig with the use of the value model would also appear to be isigificat. followig a brief cosideratio of the differeces betwee the cost model ad the value model uder AIFRS. Cost model vs value model Paragraph 15 of AASB 116 requires ower-occupied property, plat ad equipmet to be measured at cost o recogitio. However, after recogitio, a etity may choose to adopt either the cost model or the value model for applicatio to a etire class of property, plat ad equipmet but, if the cost model is applied to lad, this is ot subject to depreciatio. The cost model requires determiatio of cost less accumulated depreciatio ad accumulated impairmet losses, beig the amout by which the carryig amout exceeds the recoverable amout. The recoverable amout is the higher of the fair value of a asset less the cost of sale or the value i use of a asset, which is a etity specific assessmet. Accordigly, if the cost model is adopted, the recoverable amout for a asset should also be determied at balace date, requirig data from both the cost model ad the value model for compariso. For a large, complex, busiess specific property, such as a maufacturig plat, the cost model may be more appropriate. Such property may be desiged ad costructed to suit the specific requiremets of the busiess ad is assumed to have a ogoig use withi a goig cocer. Accordigly, cost less depreciatio is a logical method of determiig fair value for the purposes of fiacial statemets. However, determiatio of the recoverable amout is potetially cotetious. If the value model is adopted to determie fair value as the recoverable amout, a variety of challeges may arise. The alterative uses potetially permissible by a plaig authority for the site may be uclear, the extet of costs associated with site remediatio may be ucertai ad so forth. Similarly, a etity specific assessmet of value i use may be far from straightforward to determie. Uless the determiatio of the recoverable amout is comprehesively udertake, there is the potetial for such aspects as site remediatio to be uderstated ad the value to be overstated, potetially creatig a ladmie i the fiacial statemets. Coversely, for smaller, less complex geeric property such as warehouses or offices, cotetious issues 35

3 The challege for the recipiet of the fiacial statemets is the to determie which are the appropriately assessed assets, the ladmies ad the goldmies ad the relative size of each i order to uderstad the et impact o the fiacial positio of the corporate. such as allowable uses uder plaig regulatios ad costs of remediatio are potetially far less sigificat. However, escalatig uderlyig lad value or icreases i market value levels for warehouse ad office ivestmets may produce a result usig the value model that is far i excess of cost less depreciatio. Where such a recoverable amout is higher, the corporate may elect ot to realise this util disposal, potetially creatig a goldmie i the fiacial statemets. The challege for the recipiet of the fiacial statemets is the to determie which are the appropriately assessed assets, the ladmies ad the goldmies ad the relative size of each i order to uderstad the et impact o the fiacial positio of the corporate. Whe usig the cost model, AASB 116 otes that users of fiacial statemets may fid the gross carryig amout of ay fully depreciated property, plat ad equipmet that is still i use to be relevat to their eeds. This prevets the buildig elemet of ower-occupied property from fallig off the radar simply because it has bee fully depreciated though it may still be of value ad capable of sale or require expediture for remediatio. It does, however, questio the validity of the cost model where the depreciatio rate adopted would appear greater tha the rate of depreciatio occurrig, effectively leadig to mis-depreciatio. After recogitio, a corporate may select the value model which requires fair value to be measured o a regular basis, to esure that it does ot differ materially from the carryig amout. The fair value of lad ad buildigs is usually determied as their market value by appraisal from market-based evidece udertake by a professioally qualified valuer (paragraph 32, AASB 116). While AASB 116 is ot as detailed i its guidace o property valuatio as its predecessor, AASB 1041, may of the relevat cocepts for property valuers are addressed through the requiremets of Iteratioal Valuatio Stadards (IVSC, 2005). A required frequecy of valuatio is ot specified, but ecouraged to be frequet for assets with volatile chages i fair value. This is, however, qualified by a requiremet that the etire class of property to which the asset belogs should the be revalued. With over 100 commercial, retail ad idustrial property sub-markets i Australia, it is challegig for a corporate to moitor the relative volatility of each to determie the frequecy of valuatio. It may, therefore, be aticipated that corporates determie maageable classes of property ad establish ad maitai a rollig program of revaluatios for the respective classes of property. AASB 116 also requires the disclosure of whether a idepedet valuer was ivolved, the valuatio method(s) adopted ad, sigificatly, the carryig amout that would have bee recogised had the assets bee carried uder the cost model for each class. For completeess, use of the cost model uder AASB 116 also ecourages disclosure of the amout that would result uder the value model. Adoptio of a rage of classes of ower-occupied property ad provisio of the above iformatio for each, i accordace with AIFRS, may be expected to provide a high level of trasparecy i fiacial statemets leadig to potetially ehaced usefuless to recipiets ad a reductio i the likelihood of ladmies or goldmies i such fiacial statemets. Approaches adopted by corporates: a case study As oted above, previous research foud that a propesity to adopt the cost model i fiacial statemets prevailed i the pre-aifrs eviromet. To determie if this propesity has cotiued ito the post-aifrs eviromet, a small cross-sectioal case study was udertake with the results detailed below. The cross-sectioal study comprised a aalysis by web search of the most recet aual reports ad fiacial statemets for the 20 largest corporates by market capitalisatio listed o the ASX at close of tradig o 25 Jauary While this approach to samplig captures Australia s largest corporates, it also provides a sample that is skewed towards the fiacial services ad miig sectors. The 20 largest corporates aalysed had total balace sheet assets of $2,464,903 millio of which property, plat ad equipmet comprised $125,161 millio or 5.1% of total assets. Withi property, plat ad equipmet, property represeted oly $16,025 millio or 0.7% of total assets. Therefore, although the total property portfolio of Australia s 20 largest corporates is of substatial value, it oly comprises less tha 1% of total assets, which may ifluece the level of attetio focused o its measuremet by corporates. Fidigs of case study While AASB 116 favours the use of the value model, 80% of corporates by umber have adopted a cost-based measure with oly 20% by umber adoptig a value-based measure. For the five miig or eergy compaies, the use of the cost model may be justified by the absece of market-based evidece or the specialised ature of their assets, but there 36

4 is o such justificatio for the balace of 11 compaies. Although a corporate could create a rage of classes of property for trasparet reportig usig a sectoral (warehouse, office, residetial, etc.), geographic (NSW, Queeslad, Victoria, etc.) or operatioal (admiistratio, maufacturig, storage, distributio, etc.) basis, 80% of corporates by umber adopted three categories or less with lad, buildigs or leaseholds most commo. Withi the 80% of corporates adoptig the cost model, 50% explicitly addressed the issue of impairmet losses thereby idicatig that such corporates had actively cosidered the issue. Exactly how they had the addressed this i the preparatio of fiacial statemets was uclear, as was how the remaider had cosidered impairmet losses. Oly oe corporate adoptig the cost model disclosed a amout for fully depreciated property, plat ad equipmet o the balace sheet. Withi the 20% (four) of corporates adoptig the value model: three explicitly addressed the frequecy of revaluatio; two explicitly addressed the date of valuatio, with oe specifyig the day/moth/year ad the other specifyig the year; oly oe explicitly omiated the idepedet valuatio practice used, despite the additioal cofidece that the use of a specified valuer kow for his/her expertise i a particular type of asset may provide to readers of fiacial statemets; ad three explicitly addressed the valuatio method(s) adopted. Although three corporates adopted a aual valuatio frequecy cycle, the approach of the miority was uclear. Of the 20% (four) corporates adoptig the value model, three stated the amout that would apply uder the cost model, whereas, of the 80% or 16 corporates adoptig the cost model, oly two referred to the value model ad oe quatified the relevat amout uder the value model. Effectively, 85% by umber either were uaware or did ot report the correspodig model. Although AIFRS provides corporates with cosiderable scope to report a rage of matters i fiacial statemets that would assist with trasparecy, the overall reportig of such matters is surprisigly limited. It is particularly disappoitig that the iformatio which may be of most assistace to users of fiacial statemets i determiig the possible existece of ladmies or goldmies, beig the correspodig valuatios uder the cost model ad the value model, was ot reported by 85% by umber of those corporates aalysed, idicatig a potetial risk maagemet problem. I periods of high levels of stock market volatility, such as early 2008, it may be argued that iformatio cocerig the value of a ower-occupied property portfolio (eve if oly disclosed i the otes to fiacial statemets) may be of cosiderably greater use to recipiets tha iformatio cocerig cost, which seriously questios the relevace of the cost model for fiacial statemets. Coclusio It is iroic that AIFRS has bee criticised for a lack of flexibility ad a oe-size-fits-all approach, resultig i claims of reduced trasparecy i fiacial statemets ad dimiished usefuless to recipiets. I the cotext of reportig ower-occupied property i fiacial statemets, the reverse would appear to be the case. Through cotiued reliace o the use of the cost model, with limited supportig iformatio, corporates are geerally failig to avail themselves of the flexibility offered uder AIFRS i accoutig for ower-occupied property. While adoptio of the cost model is, i itself, less trasparet tha adoptio of the value model, the uwilligess of corporates to the disclose all that AIFRS ecourages to be disclosed uder the cost model is particularly disappoitig. The failure by corporates to adopt the flexibility ad trasparecy offered by AIFRS for reportig ower-occupied property potetially reders the resultig fiacial statemets less useful to recipiets. The reluctace by corporates to adopt the value model is perplexig. While corporates may claim that the value model is disproportioately expesive ad time cosumig, with ower-occupied property comprisig less tha 1% of total assets this would ot appear likely to be a sigificat impost, particularly as ower-occupied property represets aroud $16,025 millio of shareholder fuds, which deserves a greater level of trasparecy. Further, i periods of high levels of stock market volatility, such as early 2008, it may be argued that iformatio cocerig the value of a ower-occupied property portfolio (eve if oly disclosed i the otes to fiacial statemets) may be of cosiderably greater use to recipiets tha iformatio cocerig cost, which seriously questios the relevace of the cost model for fiacial statemets. The provisio of details of fair value uder the value model, the valuer ad the approach adopted to determie fair value, together with the amout that would have bee 37

5 recogised uder the cost model, potetially provide a high level of trasparecy i fiacial statemets. Regular revaluatios ad their groudig i curret ope market trasactios limit the potetial for goldmies to become hidde i fiacial statemets, thereby optimisig shareholder value. Similarly, the ivestigatio of alterative uses potetially permissible by a plaig authority, ad the potetial costs of remediatio etc. withi the revaluatio process, limit the potetial for ladmies to become hidde i fiacial statemets, providig a effective additioal source of risk maagemet. AIFRS provides a framework withi which accoutig for ower-occupied property i fiacial statemets could be both very trasparet ad very useful to recipiets. Regrettably, corporates curretly choose ot to fully avail themselves of the flexibility ad trasparecy available uder AIFRS, which limits the usefuless of such fiacial statemets to recipiets. This choice effectively reders it almost impossible for shareholders, aalysts ad other iterested parties to ascertai whether a corporate s ower-occupied property portfolio icludes ay potetial goldmies or ladmies despite the cosequet impact o shareholder value. Notes 1 The author ackowledges the assistace of Mark Shyig (CPA Australia), Ruth Picker (Erst & Youg) ad Waye Loerga (Loerga Edwards) i the preparatio of this paper. Refereces Australia Accoutig Stadards Board 2006, AASB 116, Australia Accoutig Stadards Board, Melboure. Australia Accoutig Stadards Board 2006, AASB 140, Australia Accoutig Stadards Board, Melboure. Baxt, R. 2005, Duties ad resposibilities of directors ad officers, AICD, Sydey. Deega, C. 2004, Australia fiacial accoutig, McGraw-Hill, Bosto. Erst & Youg 2002, The impact of AASB 1041 revaluatio of o-curret assets, Erst & Youg, Australia. Leo, K., Hoggett, J., Sweetig, J. ad Radford, J. 2001, Corporate Accoutig, Wiley, Milto. Iteratioal Valuatio Stadards Committee 2005, Iteratioal Valuatio Stadards, Lodo. 38