CHAPTER 5 Balance sheet 1855.10 Measurement of various assets and liabilities
LEARNING OBJECTIVE 5.10 Discuss the measurement of various assets and liabilities on the balance sheet.
In this chapter thus far, we have discussed matters related to the definition, recognition, classification,
presentation and disclosure of elements on the balance sheet. We now consider how elements on the bal-
ance sheet are measured.
The dollar value assigned to assets and liabilities on the balance sheet is referred to as the carrying
amount or book value. What we need to assess is how carrying amounts are determined. Recall that
equity is defined as the residual interest in the assets of the entity after all its liabilities have been
deducted. As such, equity is not directly measured. The measurement of equity is the carrying value of
all recognised assets less the carrying value of all recognised liabilities.
A number of measurement systems are used in financial reporting and these are discussed in the
revised Conceptual Framework. Examples of alternative measurement systems for assets and liabilities,
and the corresponding income and expense items, include historical cost and current value. The measure-
ment principles discussed in this chapter relate to the International Financial Reporting Standards (IFRS)
requirements.
Measurement principles
Historical cost is an entry value as it reflects the value in the market in which the entity acquires the
asset or incurs the liability. Historical cost is:
- for an asset — the cash or cash equivalents paid to acquire the asset
- for a liability — the amount of proceeds received in exchange for the obligation.
Current cost is also an entry value. It reflects the cash or cash equivalents that would have to be paid
to replace the asset, or the undiscounted amount of cash or cash equivalents that would be required to
settle the obligation at measurement date.
Current value measures provide monetary information about assets and liabilities (and income and
expenses) using information that is updated to reflect conditions at measurement date. Compared to the
previous measurement date, current values may have increased or decreased. There are a number of cur-
rent value measurement bases. The two current value measurement bases are fair value and value-in-use
for assets and the fulfilment model for liabilities.
Fair value is defined as the price that would be received to sell an asset or paid to transfer a lia-
bility in an orderly transaction between market participants at the measurement date. A fair value is
determined by considering various factors including estimates of future cash flows and their timing and
uncertainty, the time value of money, and liquidity. Fair value is an exit value as it represents the per-
spective of market participants. If there is an active market, the fair value of an item will be observable
and verifiable. For example, for an asset it would be the expected cash or cash equivalents from selling
the asset in an orderly disposal. For a liability it would be the settlement value required for payment
in the normal course of business. In the absence of an active market, valuation models are required to
determine fair value. For example, a cash flow-based measurement model could be used, with the asset
measured as the present discounted net cash flows associated with the asset and a liability measured as
the present discounted value of the future net cash flows that are expected to be required to settle the
liabilities in the normal course of business.
The value-in-use and fulfilment models are used for determining the value of the asset and liability
to the entity. Value-in-use represents the present value of the cash flows that an entity expects to derive
from the continuing use of an asset and its ultimate disposal. Fulfilment value applies to liabilities and
is the present value of the cash flows that an entity expects to incur to satisfy a liability. As the valuation
models are entity specific, the assumptions factored into the models are entity specific rather than market
based.
Given that the basis for measurement can be historical cost or current value (with options in each
category), the question arises as to what is the preferred measurement basis. The Conceptual Framework