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Deriving total asset values: art or science? 

Singapore, 06 August 2013
Some 82 percent of the asset values represented on the typical balance sheet of listed companies in Singapore today are based on estimates and must be re-estimated when their balances are carried forward into the next financial year.

This is the key finding revealed in a new KPMG study released today titled Hard facts about accurate estimates: a study of financial reporting in Singapore. The study analysed the financial statements of 200 listed companies on the Singapore Exchange (SGX).

Given that some form of human judgement is required to derive these estimates, a significant proportion of total asset values reflected in existing financial statements are therefore at risk of being subjected to some form of bias or mis-statement in their derivation.

"Estimates are by their very nature subjective. They are underpinned by the nature and reliability of the information used to form these accounting estimates, which can vary widely", says Mr Ong Pang Thye, Head of Audit, KPMG in Singapore.

"Furthermore, methods and assumptions used to derive these estimates may change each year as the accountants calculating the estimates gain experience about market conditions. This could mean that asset values across a number of financial years may not be comparable."

As little as a one percent fluctuation in the total asset value can result in as much as a 38 percent change in net profit and up to a 50 percent change in comprehensive income. The impact of inaccurate estimates on asset values (including “fair value” estimates) can therefore be significant.

During the 2009 global financial crisis, assets measured at fair value used to derive asset balances were sometimes cited in Europe and the US as one of the possible accelerators of the crisis.

The study reveals that in those companies studied, this was less of a concern as less than one percent of total assets accounted for by SGX listed companies use unobservable inputs (known as 'level three inputs') which are subjected to level three fair value measurements.

A different picture with liabilities

In contrast to the results for total assets, estimates (excluding fair value estimates) make up on average less than 10 percent of the total liabilities of the companies studied.

While estimates are less often used to compute total liabilities, management and Audit Committees nevertheless need to ensure there are no potential understatements of these liabilities.

This does not suggest that less attention should be paid to the liability side of the balance sheet. The understatement of liabilities, such as provisions made for legal lawsuits and other contingencies can also be significant.

Becoming sensitive to estimates

The results of our study suggest that a significant proportion of the total assets of companies are not based on easily verifiable numbers. Management and Audit Committee members therefore need to be aware of items in the financial statements derived from or supported by estimates.

"Total asset values depicted on the balance sheets of company financial statements play a crucial role in conveying the financial health of a company to stakeholders and investors," Mr Ong added, "Companies must therefore not overlook the importance of having people with the right expertise in making accurate estimates when preparing financial statement."