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Information Reflecting the Effects of Changing Prices
The standards, which have been set in bold italic type, should be read in the context of the background material and implementation guidance in this Standard, and in the context of the Preface to Financial Reporting Standards. Financial Reporting Standards are not intended to apply to immaterial items.
Foreword
Enterprises need not disclose the information required by this Standard in order that their financial statements conform with Financial Reporting Standards. Enterprises are encouraged to present such information and to disclose the items required by this Standard.
Scope
1. This Standard should be applied in reflecting the effects of changing prices on the measurements used in the determination of an enterprise's results of operation and financial position.
2. This Standard applies to enterprises whose levels of revenues, profit, assets or employment are significant in the economic environment in which they operate. When both parent company and consolidated financial statements are presented, the information called for by this Standard need only be presented on the basis of consolidated information.
3. The information called for by this Standard is not required for a subsidiary operating in the country of domicile of its parent if consolidated information on this basis is presented by the parent. For subsidiaries operating in a country other than the country of domicile of the parent, the information called for by this Standard is only required when it is accepted practice for similar information to be presented by enterprises of economic significance in that country.
4. Presentation of information reflecting the effects of changing prices is encouraged for other entities in the interest of promoting more informative financial reporting.
Explanation
5. Prices change over time as the result of various specific or general economic and social forces. Specific forces such as changes in supply and demand and technological changes may cause individual prices to increase or decrease significantly and independently of each other. In addition, general forces may result in a change in the general level of prices and therefore in the general purchasing power of money.
6. In most countries financial statements are prepared on the historical cost basis of accounting without regard either to changes in the general level of prices or to changes in specific prices of assets held, except to the extent that property, plant and equipment may have been revalued or inventories or other current assets reduced to net realisable value. The information required by this Standard is designed to make users of an enterprise's financial statements aware of the effects of changing prices on the results of its operations. Financial statements, however, whether prepared under the historical cost method or under a method that reflects the effects of changing prices, are not intended to indicate directly the value of the enterprise as a whole.
Responding to Changing Prices
7. Enterprises to which this Standard applies should present information disclosing the items set out in paragraphs 20 to 22 using an accounting method reflecting the effects of changing prices.
8. Financial information intended as a response to the effects of changing prices is prepared in a number of ways. One way shows financial information in terms of general purchasing power. Another way shows current cost in place of historical cost, recognising changes in specific prices of assets. A third way combines features of both these methods.
9. Underlying these responses are two basic approaches to the determination of income. One recognises income after the general purchasing power of the shareholders' equity in the enterprise has been maintained. The other recognises income after the operating capacity of the enterprise has been maintained, and may or may not include a general price level adjustment.
General Purchasing Power Approach
10. The general purchasing power approach involves the restatement of some or all of the items in the financial statements for changes in the general price level. Proposals on this subject emphasise that general purchasing power restatements change the unit of account but do not change the underlying measurement bases. Under this approach, income normally reflects the effects, using an appropriate index, of general price level changes on depreciation, cost of sales and net monetary items and is reported after the general purchasing power of the shareholders' equity in the enterprise has been maintained.
Current Cost Approach
11. The current cost approach is found in a number of different methods. In general, these use replacement cost as the primary measurement basis. If, however, replacement cost is higher than both net realisable value and present value, the higher of net realisable value and present value is usually used as the measurement basis.
12. The replacement cost of a specific asset is normally derived from the current acquisition cost of a similar asset, new or used, or of an equivalent productive capacity or service potential. Net realisable value usually represents the net current selling price of the asset. Present value represents a current estimate of future net receipts attributable to the asset, appropriately discounted.
13. Specific price indices are often used as a means to determine current costs for items, particularly if no recent transaction involving those items has occurred, no price lists are available or the use of price lists is not practical.
14. Current cost methods generally require recognition of the effects on depreciation and cost of sales of changes in prices specific to the enterprise. Most such methods also require the application of some form of adjustments which have in common a general recognition of the interaction between changing prices and the financing of an enterprise. As discussed in paragraphs 15 - 17, opinions differ on the form these adjustments should take.
15. Some current cost methods require an adjustment reflecting the effects of changing prices on all net monetary items, including long-term liabilities, leading to a loss from holding net monetary assets or to a gain from having net monetary liabilities when prices are rising, and vice versa. Other methods limit this adjustment to the monetary assets and liabilities included in the working capital of the enterprise. Both types of adjustment recognise that not only non-monetary assets but also monetary items are important elements of the operating capacity of the enterprise. A normal feature of the current cost methods described above is that they recognise income after the operating capacity of the enterprise has been maintained.
16. Another view is that it is unnecessary to recognise in the income statement the additional replacement cost of assets to the extent that they are financed by borrowing. Methods based on this view report income after the portion of the enterprise's operating capacity that is financed by its shareholders has been maintained. This may be achieved, for example, by reducing the total of the adjustment for depreciation, cost of sales, and, where the method requires it, monetary working capital, in the proportion that finance by borrowing bears to finance by the total of borrowing and equity capital.
17. Some current cost methods apply a general price level index to the amount of shareholders' interests. This indicates the extent to which shareholders' equity in the enterprise has been maintained in terms of the general purchasing power when the increase in the replacement cost of the assets arising during the period is less than the decrease in the purchasing power of the shareholders' interests during the same period. Sometimes this calculation is merely noted to enable a comparison to be made between net assets in terms of general purchasing power and net assets in terms of current costs. Under other methods, which recognise income after the general purchasing power of shareholders' equity in the enterprise has been maintained, the difference between the two net assets figures is treated as a gain or loss accruing to the shareholders.
Current Status
18. While financial information is sometimes provided using the various methods for reflecting the changing prices described above, either in primary or supplementary financial statements, there is not yet an international consensus on the subject. Consequently, further experimentation is necessary before consideration can be given to requiring enterprises to prepare primary financial statements using a comprehensive and uniform system for reflecting changing prices. Meanwhile, evolution of the subject would be assisted if enterprises that present primary financial statements on the historical cost basis also provide supplementary information reflecting the effects of price changes.
19. There is a variety of proposals as to the items to be included in such information, ranging from a few income statement items to extensive income statement and balance sheet disclosures. It is desirable that there be an internationally established minimum of items to be included in the information.
Minimum Disclosures
20. The items to be presented are:
- the amount of the adjustment to or the adjusted amount of depreciation of property, plant and equipment;
- the amount of the adjustment to or the adjusted amount of cost of sales;
- the adjustments relating to monetary items, the effect of borrowing, or equity interests when such adjustments have been taken into account in determining income under the accounting method adopted; and
- the overall effect on results of the adjustments described in (a) and (b) and, where appropriate, (c), as well as any other items reflecting the effects of changing prices that are reported under the accounting method adopted.
21. When a current cost method is adopted the current cost of property, plant and equipment, and of inventories, should be disclosed.
22. Enterprises should describe the methods adopted to compute the information called for in paragraphs 20 and 21, including the nature of any indices used.
23. The information required by paragraphs 20 to 22 should be provided on a supplementary basis unless such information is presented in the primary financial statements.
24. In most countries, such information is supplementary to, but not a part of, the primary financial statements. This Standard does not apply to the accounting and reporting policies required to be used by an enterprise in the preparation of its primary financial statements, unless those financial statements are presented on a basis that reflects the effects of changing prices.
Other Disclosures
25. Enterprises are encouraged to provide additional disclosures, and in particular a discussion of the significance of the information in the circumstances of the enterprise. Disclosure of any adjustments to tax provisions or tax balances is usually helpful.
Effective Date
26. FRS 15, Information Reflecting the Effects of Changing Prices, is operative for financial statements covering periods beginning on or after 1st April 2001.
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