Valuations in the Public Sector
Are we closer to an international consensus?
The International Public Sector Accounting Standards Board (IPSASB) develops financial reporting standards for public sector entities (IPSAS). Some may wonder why these are needed when there are the International Financial Reporting Standards (IFRS) which are now used or recognised in nearly 150 countries around the World. However, problems can arise in trying to apply IFRS to organisations that exist not to generate financial returns for investors but to provide public services, many of which are not directly cash generating. The IPSAS are based on the principles in IFRS but with necessary adaptations to reflect matters that are particular to the public sector.
One of the main difficulties in applying IFRS to the public sector is around measurement, and in particular valuation. Like the private sector, public sector entities have assets and liabilities but the question of how the benefit of these should be measured in the financial statements has proved an intractable problem. There is very little consistency between countries on either what types of asset or liability should be included in public sector accounts, and when they are, whether they are measured on the basis of what they cost to provide or on some form of current value.
Why does this matter? Unlike companies where an obligation to report performance consistently is necessary for investor information and regulatory oversight, governments are sovereign and can set the rules to suit their circumstances. However, since governments also borrow in the financial markets, the integrity of their public accounts is becoming a matter of increasing concern. As long ago as 2013 the IMF published a paper that highlighted significant discrepancies between the approaches taken by governments to valuing their non financial assets which concluded that improving the consistency and transparency about the extent and value of assets would improve economic management.
For a number of years the IPSASB has been examining this issue. In set of Exposure Drafts issued in 2021 it proposed including a new valuation definition, Current Operational Value (COV), into the suite of measurement options. We had a number of concerns about the proposals for COV, not because we disagreed with the idea of a distinct basis for physical assets held for delivering a public service but because of the way in which this was being explained and illustrated in the EDs. Our comments on the consultation process can be seen under "Useful Links" below.
In May 2023 the Board issued the new standards IPSAS 45, Property Plant & Equipment, and IPSAS 46 Measurement. IPSAS 45 replaces IPSAS 17. For those familar with the IASB standards it covers the the same issues as IAS 16. Like IAS 16 it allows PP&E assets to be carried using alternative measurment models, one of which is the historic cost model. However, the alternative in IPSAS 45 is the "current value model" which can either be Fair Value or COV.
IPSAS 46 defines the measurement bases allowed. Fair Value is defined exactly as in IFRS 13. COV is defined as: " the amount an entity would pay for the remaining service potential of the asset at the measurement date." While it explains that "in some cases" COV can be determined by observing prices in an active market, in other cases it has to be determined "indirectly". Above all it emphasises that COV differs form Fair Value because:
it is an "entry price" including all costs that would necessarily be paid to secure the service potential.
it reflects the existing use rather than the highest and best use.
it is an "entity specific" measurement, which reflects the economic position of the reporting entity.
At first sight, there are obvious challenges here for the valuer, not least the entity specific provision and the extent to which this means that any prices observed in an active market are at all relevant unless they are prices paid by the same entity. Also, where a public sector body has statutory powers to acquire property required to provide certain services, how is this to be factored into the price?
Countries that have adopted IPSAS have until the start of 2025 to resolve how the new standards can be applied, but we have to remain sceptical as to whether the goal of greater consistency in the measurement of public assets between different countries is going to be greatly assisted by the introduction of the COV option.
IPSASB Measurement Project Page
Valuology's Comments on Exposure Drafts
IPSAS 45 Property Plant & Equipment 2023
IPSAS 46 Measurement 2023