Recognition and Measurement Report

Recognition and Measurement Report

Recognition and measurement are the first two financial accounting procedures. Firstly, we will explain recognition, including the definitions, criteria, classification, procedures of recognition and related issues.

Under FASB SFAC No.5 issued in December 1984, recognition is the process of formally recording or incorporating an item into the financial statements of an entity as an asset, liability, revenue, expense, or the like. Recognition includes depiction of an item in both words and numbers, with the amount included in the totals of the financial statements. Recognition comprehends both initial recognition of an item and recognition of subsequent changes in or removal of a previously recognized item. However, recognition refers to the process of measuring and including an item in the financial statement. It involves the depiction of the item in words and by a monetary amount and the inclusion of that amount in the balance sheet or income statement totals. Items that satisfy the recognition criteria should be recognized in the balance sheet or income statement. The failure to recognize such items is not rectified by disclosure of the accounting policies used nor by notes or explanatory material （IASC Framework，1989）. As to CAS, the definition of recognition much resembles this under FASB SFAC and IASC Framework.

There are four fundamental recognition criteria to be met to recognize items, subject to a cost-benefit constraint and a materiality threshold.

Those criteria are:

 Definitions. The item meets the definition of an element of financial statements.

 Measurability. It has a relevant attribute measurable with sufficient reliability.

 Relevance. The information about it is capable of making a difference in user decisions.

 Reliability. The information is representationally faithful, verifiable, and neutral.

An item that meets the definition of an element should be recognized under IASB if:

 it is probable that any future economic benefit associated with the item will flow to or from the enterprise; and

 the item has a cost or value that can be measured with reliability.

Whether to recognize, when to recognize, how to recognize are the three key and major considerations in the recognition procedure. The four fundamental recognition criteria under SFAC and two elements under IASB generally give the guidance to determine whether or not to recognize. The solution to determine the timing of recognition is to identify accrual basis, cash basis, and cash flow basis. Recognition to each accounting element must meet its criteria.

Recognition determines whether an event can come into the accounting system, but how to determine the amount or quantity of an item, it depends on the second step of accounting procedures--measurement.

The definition of measurement under IASB is measurement is the process of determining the monetary amounts at which the elements the financial statements are to be recognized and carried in the statement of financial position and profit or loss. And the definition of measurement under SFAC is an accounting measurement is the quantification of financial information in dollars or units. Accountants use these measurements to report information to internal and external users via financial statements. As for CAS, 企业在将符合确认条件的会计要素登记入账并列报于会计报表及其附注（又称财务报表）时，应当按照规定的会计计量属性进行计量，确定其金额。

Measurement model is comprised of different kinds of units and attributes. And measurement can be divided into two types, which are initial measurement and subsequent measurement. The Long-term equity investment is an example to explain the initial and subsequent measurement.

There are two types of measurement unit, one is nominal unit of money, the other is constant money unit. Nominal unit of money is every country's legal currency units, and for it doesn't adjust for the changes of purchasing power over time, it's more convenient and reliable, but when the great changes occur, there will be less comparability and usefulness. Constant money unit takes the general purchasing power of currencies or real exchange rate as the measuring unit, therefore by adjusting the various nominal unit of money in different periods, keeping the currency at the same.

There are five different attributes of reported items used in present practice under SFAC，depending on the nature of the item and the relevance and reliability of the attributes measured. They are historical cost, current cost or replacement cost, current value, net realizable value and present value. Accounting measurement attributes under CAS include historical cost, replacement cost, net realizable value, present value and fair value. As for the IASB, current value is not included compared with SFAC. (详见附录一)

In a variety of measurement attributes, historical cost usually reflects the value of the assets or liabilities in the past, while other attributes are contrast with historical cost, usually reflect the current cost or the current value of assets or liabilities.

FASB is the advocator of historical cost, but it also allows the use of other attributes. What’s more, ASB allows the use of different attributes to financial elements, yet in practice, many corporations adopt the mixed measurement attributes. In general, it is reasonable that mixed use of diversified attributes is permitted if the entity discloses the measurement attributes applied and their related influences for financial users to help them better understand and compare among different attributes.

On the other hand, though current market value is similar to fair value, we can also differentiate them from their definitions.

The definition of current market value is some investments in marketable securities are reported at their current market value, which is the amount of cash, or its equivalent, that could be obtained by selling an asset in orderly liquidation.

The definition of Fair value under IFRS 13, defines fair value, sets out in a single IFRS a framework for measuring fair value and requires disclosures about fair value measurements. It is the price of an asset or a debt in an orderly transaction between market participants at the measurement date.

The fair value points on the price of an asset and debt, and it refers that this price is at the measurement date which can be found in definition of current market value. One important difference is that IFRS 13 does not determine when an asset, a liability or an entity's own equity instrument is measured at fair value. Rather, the measurement and disclosure requirements of IFRS 13 apply when another IFRS requires or permits the item to be measured at fair value (with limited exceptions). The dispute about whether fair value will be a separate measurement attribute is continuing and we will talk about it later.

Heated issue 1: Application of accounting standards

In 2010, FASB issued the 17th amendment involving milestone method of revenue recognition. It was based on the accurate measurement. Accounting personnel confirms the sales income and expenses according to the actual sales of sales target in various stages which account for the proportion of the total amount. Each stage of the set index is considered the milepost. In accounting practice, FASB emphasizes again the importance of substance over form principle

The point must be mentioned is that this method is not created by FASB, it results from accounting practice. And with the development of our industries, our transactions become more complex. Under this situation, FASB specifies and discusses the special method to constraint retailer’s manipulation and ensure the objectivity and fairness of accounting standards.

FASB and IASB will converge further in six aspects of recognition to compensate the insufficiency of their prior standards, they are:

 Remove inconsistencies and weaknesses in existing revenue requirements.

 Provide a more robust framework for addressing revenue issues.

 Improve comparability of revenue recognition practices across entities, industries, jurisdictions, and capital markets.

 Provide more useful information to users of financial statements through improved disclosure requirements.

 Simplify the preparation of financial statements by reducing the number of requirements to which an entity must refer.

 To meet those objectives, the FASB and the IASB are proposing amendments to the FASB Accounting Standards Codification and to IFRSs, respectively.

FASB and IASB announce the formation of the joint transition resource group for revenue recognition

 identify the contracts with customers

 identify the performance obligations in the contract

 determine the transaction price

 allocate the transaction price

 recognize revenue when a performance obligation is satisfied

Heated issue 2: Whether fair value should be considered as a separate measurement attribute

Though fair value is difficult to be applied in the inactive market, we still think fair value should be considered a separate measurement attribute.

1: from the decision usefulness’s perspective

SFAC NO.1: Financial reporting should provide information that is useful to present and potential investors and creditors and other users in making rational investment and similar decisions.

The historical cost has a less effect in helping statement users to make decisions because it reflects the past information. Fair value is based on the current market. Users can use this information to predict the future of company. In other word, fair value plays a important role in decision making and it reflect the relevance

2: from the accountability’s perspective

Accountability’s one point is that whether the value of firm is added effectively. In other word, whether the management manages the assets effectively.

Historical cost just reflects how the agent uses this money. In other words, investors only know what are the assets the managers buy, but they do not know whether those investment’s value have been added or whether those investments are meaningful. Fair value can show the assets’ state and can value the management’s work, because it reflects the current value of assets.

Some experts think only historical cost can value accountability, because it shows the relationship between input and output. From the investors’ perspective, they know how much they invested into the company, they do not need the statement tells them the historical cost every time. The information they need is the change of assets’ value.

3: From the active market’s perspective

When fair value use mark to model to estimate the asset, the data is subjective and inaccurate. But when the transaction is orderly, we use mark to market to estimate the asset. In this situation, we can say the price we get is related to the real life.

4: Distinguishable features compared with other accounting attributes

Fair Value: It is the price of an asset or a debt in an orderly transaction between market participants at the measurement date.

Replacement Cost: It focus more on the amount the company should pay to obtain the existing assets rather than the market price of the assets.

Present Value: It pay more attention to the time value of money. Use net discounted cash flow as the amount in settlement.

Heated issue 3: The developments about fair value from CAS NO.39

在公允价值计量下，资产和负债按照在公平交易中，熟悉情况的交易双方自愿进行资产交换或者债务清偿的金额计量。（2006）

市场参与者在计量日发生的有序交易中，出售一样资产所能收到或者转移一项负债所需支付的价格（2014）

The CAS in 2006 defined the fair value as a measurement attribute and referred its application in CAS NO.3, 5，7，8，12，16，20，22. However, in accounting practice, it still had some problems because of the fuzzy definition. Therefore the CAS NO.39 in 2014 modifies it in some parts.

1: It defines the fair value is the exiting pricing

In the old standard, it only referred to the amount is at which the asset(debt) could be bought or sold in a current transaction between willing parties, it does not define the amount is the purchasing price or exiting price.

The new standard uses exiting price to define fair value for accessing the attribute of assets that whether the asset can bring the potential economic benefits. In other word, it shows the price when the owner sells an asset or the price that need to be paid when the owner transfer a debt.

In more situations, the purchasing price and exiting price are similar. Because of the different transaction’s directions, some companies prefer to choose high price when sell an asset while choosing the lower price when purchase an asset. So the exiting price giving a specific method in some special situation.

The transaction also referred to two expense-transaction costs and transportation cost. In the new standard, it regulates that company should use the estimated transportation cost to adjust the market value when people measure the fair value of assets. And people need not consider the transaction costs when measure the fair value of assets.

2: It points on the concept of market participants.

In the old standard, it pointed on the willing parties in the arm’s length transactions. Now it pays more attention on the concept of market participants. It means new standard is from the market’s perspective to look at the fair value. To some extent, it can avoid manipulation of the price.

3: It replaces the concept of settlement with the concept of transfer.

4: It defines that the selling of assets or transfer of debt occurs on the measurement date.

附录一

附录二

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