Accounting for Agricultural Assets: to Fair Value or Not to Fair Value
Under existing international accounting standards, IAS 41 Agriculture sets out the accounting for agricultural activity — the transformation of biological assets (living plants and animals) into agricultural produce (harvested product of the biological assets). It requires biological assets to be measured at “fair value.”
A recent IASB proposal suggests removing the requirement to fair value certain biological assets, those referred to as “bearer plants.” A bearer plant is defined as a plant used in the production or supply of agricultural produce that is expected to bear produce for more than one period and not intended to be sold as a living plant or harvested as agricultural produce.
The IASB proposal is intended to address concerns raised by corporate managers regarding the cost and complexity of the use of a fair value model to measure bearer plants. The proposal provides entities with the option of using either cost or fair value to measure such agricultural assets as rubber trees and grapevines. There would be no requirement to disclose the fair value of bearer plants if the cost option is selected.
Fair Value: Longstanding Measurement for Bearer Plants
Entities across the world have been measuring bearer plants at fair value for years. Measuring the fair value of bearer plants is no more difficult than measuring the fair value of other biological assets, such as bearer animals.
Further, CFA Institute contends that the proposal uses arbitrary accounting rules not grounded in economic distinctions to define a bearer plant differently from other biological assets. By making accounting rather than economic distinctions, the proposal would increase complexity for investors. In addition, the provisions would result in both the loss of useful information needed for investment decisions and decreased comparability for investors in entities engaged in agricultural activities.
“Cost” Measurement a Step Backwards
Fair value measurement of bearer plants throughout their biological transformation process — growth to maturity, production, and degeneration — provides the most relevant information about the qualitative and quantitative changes in bearer plants during this process and the capability of such assets to generate net cash inflows into the future. Further, it is useful to understanding an agricultural entity’s performance during a given period or its productive capacity at a point in time. It also enables investors to assess management’s stewardship of the resources invested in the production process. And fair value already is used by management to manage the value of the business.
Recognizing bearer plants in the financial statements at cost will not provide sufficient information regarding their value or the transformative nature of the biological assets. It is unlikely that the asset would trade again at the initial acquisition price or add/provide the same amount of value through operations. Hence, we do not support a cost option.
Investors Need Fair Value of Components and Combined Assets
The feedback provided by users of financial statements during the IASB’s outreach process was that fair value information regarding bearer plants was of limited use absent corresponding fair value information for land, agricultural machinery, etc. Investors, therefore, are asking for the fair values of both bearer plants and the associated land to make information more meaningful. By providing the choice to eliminate fair value information altogether from the accounting of bearer plants, the proposal is moving in the opposite direction to the needs of users.
CFA Institute maintains that to best serve investors, reporting entities should be required to provide the fair value of the components (bearer plants and land) separately, and in combination, so that investors can determine when the economics of the assets change. That’s because in most cases, a biological plant is used in combination with other assets, such as the land, as a means of maximizing the value of that asset. Therefore, investors need the fair value of the combination of assets.
However, if the fair value of the raw land is maximized in a different way, the fair value of the land remains the most relevant measure for investors. (For instance, a residential or commercial development destroys (or harvests and sells) biological plants and the land is then used for alternative purposes).
The purpose of financial reporting is to meet the information needs of investors. It is, therefore, imperative that standard setters address the concerns of investors, not those of corporate managers.
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