EPPA4713 INTEGRATED CASE STUDY

Case 2
OLAM : Accounting for Biological Assets

Prepared by,

Sri Nur Izzati Binti Amdan A143314
Noraini Binti Mohd Yusuf A143342
Yap Lee See A143364
Muhammad Mukhazzam Bin Mansor A143403
Nur Husna Binti Mohd Dahan A143408
Jennifer Chan Mei Yung A143430
Prepared for,

Dr Radziah Abd Latiff

TABLE OF CONTENT Item Page Question 1 : Facts and issue of OLAM 1 Question 2 : Do fair value gains in biological assets qualify as income 2 under the Conceptual Framework Question 3 : Is it the fair value gain is income? 4 Question 4 : MFRS 13 and MFRS 14 5 Question 5 : Performance on related issue.relevance and reliability 6 References 11 i .

an equity research firm based in the United States accused Olam was engaging in potentially misleading and dangerous accounting practices and claimed that it was on the verge of bankruptcy. Next. North and South America. net gain from changes in fair value of biological assets contribute more than one quarter of the profit before tax in 2012. Muddy Waters research. On 28th November 2012 Olam was release a public rebuttal against Muddy Waters accusations with a 45 page public rebuttal. Muddy Waters criticisms of accounting for biological assets resulting in increased profit in three key areas which is Olam books the farmer future crops as gains. Olam was listed on the Singapore Exchange (SGX) as it is the largest producer in agriculture business on the SGX and the growth in the market capitalization of Olam has been phenomenal since listing. Russia and Australia. The successful company of Chanrai then move their headquarters from Nigeria to London. England and explore new opportunities. Olam’s cash flow . Olam also applied Singaporean Financial Reporting Standard FRS 41 on Agriculture stated that the fair value gains of the biological assets were justifiably 1 . exhibit 7.Question 1: Facts and Issue in Olam : Accounting for Biological Assets Olam was founded in Nigeria in 1989 by the Kewalram Chanrai Group and known as Chanrai International Limited (Chanrai). Muddy Waters release 133 pages of report on the issue of Olam. Europe. Based on the net income statement there was a drastic increasing of fair value gains every year from 0 in 2008 and 110. the increasing of the fair value also can be seen in exhibit 7 and 8 then on exhibit 9 about the net gain reduced net cash flow from operating activities. Next. Olam stated that they applied IAS 41 appropriately by doing professional valuation and prepared the financial statement based on IAS 41 and the non cash gains prescribed by IAS 41. Muddy Waters alleged that Olam’s aggressively use non cash accounting gains especially from negative goodwill and biological assets and the impact is on exhibit 5 Olam Case Study on Net Income from 2008 to 2012 which they recognize the fair value.874 in 2012 which is more than 100%. Olam used mark-to-market valuation model to book gains for increase in fair value and Olam’s biological assets consist of commodities which are not yet grown and we can see the impact on exhibit 6. In 2012. In 2005. Olam expanded its operation to Southest and Central Asia. I n 1995 it change it names from Chanrai International Limited to Olam International Limited (Olam) and in 1996 it shifted its corporate headquarters from London to Singapore.

MFRS 13 para.952 53. in form of inflows or enhancements of asset that result in increases in equity and does not relate to contributions from equity participants. 5 define a biological asset as a living animal or plant.25(b) stated that income is an increase in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases of liabilities that result in increases in equity.derived. other than those relating to contributions from equity participants. 4. auditor reliance on estimate and professional judgment of independent valuators and there is argument between Hong Kong Stock Exchange and IAS 41. However the inclusion of gains in fair value of the biological assets may inflate or introduce volatility to net profit and the gains are unrealized. The income definition provided by the framework can be divided into four segments which is the income are obtained during the accounting period.85 37.9 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date and MFRS 141 para.365 110. These reflected in the income statement of the company as non-cash item. On The 45 page of defense Olam state they already disclose in its annual reports some of the key of parameters us for valuation.989 80.87 48.874 assets (SGD ‘000) Percentage of increase compared N/A 100 184. The Conceptual Framework of Financial Reporting para. Question 2: Do fair value gains in biological assets qualify as income under the Conceptual Framework for Financial Reporting? FY 2008 FY 2009 FY 2010 FY 2011 FY 2012 Fair value gains from biological 0 18. The almond orchards and coffee 2 . There have some challenges of IAS 41 which are the recognition and measurement requirements were not sound.96 to prior year (%) Table 1 Fair value gains from biological assets that were reported in Olam International Limited has increased continuously from 2008 to 2012. Extract of the analysis is as follows: Plantations consist of almonds and coffee that are grown in order to sell to various domestic and international markets as part of normal business operations. generate much scrutiny of accounting practices for unrealized gains.

onions.0 million litres (2011: 105. Figure 1 Olam International disclosed their financial statement under Note to Financial Statement. and (v) Market price of the biological assets dependent on the prevailing market price of the products after harvest. which is the estimate of the yield and cost of the crop at harvest discounted for the remaining time to harvest.587. The third and fourth elements of income definition which are income is in form of inflows or enhancements of asset that result in increases in equity and does not relate to contributions from equity participants are also met by Olam International.931 (2011: 43. being raised to produce milk in the future (immature assets).640) cows.862) heifers and calves. At the end of the year.408.000).710) hectares and 2.700. which had a fair value less estimated point-of-sale costs of approximately $212.000) in the year ended 30 June 2012. 3 .0 million litres) of milk with a fair value less estimated point-of- sale costs of $78. The fair value of almonds was determined with reference to the market prices at the date of harvest. On harvesting of the commodities. The form of inflows is by the gain obtained by the changes in fair value of the biological asset that are disclosed in Note 12 of the financial statement. At the end of the year. (iv) Location.000 (2011: $50. Annual crops consist of seeds for various commodities (cotton.000 (2011: $122. Livestock relates mainly to dairy cattle in Uruguay and Russia. Farmers take all the harvest risks and bear all the farming costs. The extract of the disclosure is as follows: Fair value determination The fair value of biological assets (other than annual crops and livestock) is estimated with reference to a professional valuation using the present value of expected net cash flows from the biological assets. the Group harvested approximately 33. soil type and infrastructure for determining estimated yield. tomatoes and other vegetables) that are given to farmers to sow and grow. the Group held 44.252 metric tonnes (2011: 18. the Group’s total planted area of plantations and annual crops that is yielding is approximately 15. (iii) Annual rate of inflation ranging from 0% to 4% per annum.839 metric tonnes) of almonds. plantations presently consist of trees aged between 1 to 24 years and 1 to 3 years respectively (2011: 3 to 20 years and 1 to 2 years respectively). The Group produced 160. the Group has the first right to buy the produce from these farms. The annual crops have been valued using adjusted cost. which approximates fair value. The valuations are based on following significant assumptions: (i) The average life of trees for plantations has been taken up to 15 to 25 years.374 (2011: 14.920 (2011: 14. During the year ended 30 June 2012.522 (2011: 4.504) hectares respectively excluding hectares for those commodities whose plantations are not managed by the Group. (ii) Rates considered for discounting future cash flows range between 12% and 13% per annum.701. which are able to produce milk (mature assets) and 31. page 142.

Mark to market is when a company updates the value of an asset to its current market price. The recognition of negative goodwill will not show an accurate performance of Olam. forcing the people 4 . The primary financial risk associated with this activity occurs due to the length of time between expending cash on the purchase or planting and maintenance of biological assets and on harvesting and ultimately receiving cash from the sale of the marketable output. Fair value will be measure based on market-based measurement not based on entity specific assumption. The Group plans for cash flow requirements for such activities and manages its debt and equity portfolio actively. In conclusion. It will not relevant for the entity that has intention to hold an asset or to settle or otherwise fulfill a liability for measuring based on fair value. breed and generic merit. Financial risk management strategies related to agricultural activities The Group is exposed to financial risk in respect of agricultural activity. In level 2. the fair value gains in biological assets reported by Olam International are qualified as income under The Conceptual Framework for Financial Reporting as it meet the definition provided by the framework and had disclose all information that are related to the gain. the profit before tax and profit after tax for the financial years 2008 to 2012 are affected by recognition of fair value gains from biological assets and gains from negative goodwill since these two gains made up high percentage of profit figures for some years. They are marked at fair value based on model. The hierarchy of mark to market in level 1 is markets prices for the asset are available and can be used in the mark to market calculation. Question 3 : Is it the fair value gain is income? Definition of fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction that is not for sale between market participants based on market-based view at the measurement date such as current market price. asset do not have market price. Other than that there is also issue about mark to market. This method is used to establish value for these securities when preparing financial statement that can affect shareholders’ equity. The fair value of livestock is determined based on valuations by an independent professional valuer using market prices of livestock of similar age. Based on Olam profit and loss statement. The agricultural activity of the Group consists of the management of biological assets to produce marketable output. asset do not have available market prices for the modal inputs. Lastly in level 3. As we know that Olam’s biological asset is include of not yet grow plant and the lifespan of the assets is long so it is not relevant for Olam that hold the asset for a long time to use fair value. The model is fed with inputs for which there are market prices such as prices of similar securities and interest rate.

So.preparing the financial statements to make assumption about those inputs values. The presence of non-cash items are precisely why cash flow is not the same as net income. It is probable that future economic benefits associated with the asset will flow to the entity and the fair value or cost of the asset can be measured reliably. 5 . The level of the fair value hierarchy could be considered to determine how the inputs could be categorized. Therefore. In this case. Transactions in the non-cash accounting do not involve payment or receipt or cash. Other than that. The gains are unrealized or in some understanding are considered book gains or non-cash accounting gains. MFRS 13 Fair Value Measurement defines that fair value is a market-based measurement. not an entity-specific measurement and it explains more about the fair value measurements and disclosures. Questions 4 : MFRS 13 and MFRS 14 on Olam International Limited MFRS 141 Agriculture sets out the accounting for agriculture activities and emphasis that biological assets should be measured at fair value less costs to sell. MFRS 13 should be applied in order to get the fair value accurately and reliably. thereby allowing for situations in which there is little. The valuation techniques used to measure the biological assets should be appropriate in the circumstances and the sufficient data are available for valuation. This is because the availability of data will helps to develop the inputs to establish the sound assumptions that could be used by market participants when pricing the biological assets and biological products. It can be either non-cash accounting gain or expenses. It is crucial to separate non-cash items from cash items in financial analysis. Olam should recognize the biological assets since Olam controls the assets as the result of past event. market activity for the assets or liability at the measurement date. But the inclusion of the gains in the fair value of the biological assets in the profit and loss statement may inflate or introduce volatility to the net profit. Unobservable inputs shall be used to measure fair value to extent that the relevant observable inputs are not available. the relevant observable inputs should be maximized and the unobservable inputs should be minimized in the valuation process of the biological assets. Olam used level 3 approach and the valuation was conducted professionally. if any. the biological assets shall be measured at initial recognition and at the end of each reporting period at fair value less costs to sell. The aggressive use of non cash accounting will boost Olam net profit so it will not show the real profit that Olam made and can effect shareholder in making decision. Meanwhile.

Question 5 : Performance on Related Issue.266 2.803. Present value measurement used by Olam is one of the techniques to measure fair value for assets classified under Level 3 of fair value hierarchy. taking into account all information about market participant assumptions that is reasonably available.387 45. we do agree that Olam implement MFRS 141 together with MFRS 13 as guidance to measure fair value of its biological assets appropriately.443. Therefore.839. It is based on assumptions and estimation with reference to professional valuation.034 6.463.202) (2.105.572. there is often little or no active market exist.126.070. An entity will develops unobservable inputs using the best information available in the circumstances which might include the entity's own data.881.998 1.039. Olam used unobservable inputs to measure fair value which was allowed by MFRS 13 if there is little or no market activity for the asset at the measurement date (Level 3). Olam asserted that the fair value of biological assets (other than annual crops and livestock) is estimated with reference to a professional valuation using the present value of expected net cash flows from the biological assets.953 4.326 1.051. Relevance and Reliability on Olam International Limited 5.116.390) (3.748 5.866. In conclusion.578 13. Olam defence that it had applied IAS 41 (MFRS 141) appropriately and the fair value gains of the biological assets were justifiably derived.1 : Performance analysis Olam Wilmar Golden Agri SGD '000 USD '000 USD '000 2012 2011 2012 2011 2012 2011 Sales/Revenue 17.622.878.109) (1.952.991.433 40.857 41.512 Table 2 6 .184) (2.710.319.924 Cost of Sales 13.414 44.891 982.093.440. In the case of biological assets with a long production cycle like Olam.047. Hence.837 2.437) Operating Expenses 2. there is no quoted market price in an active market (Level 1) and no inputs that are derived principally from or corroborated by observable market data by correlation or other means (Level 2).399 4.457.237 Operating & Other Expenses (2.467) (1.751 15.

Figure 2 Based on the calculation. Operating self-sufficient Operating self-sufficient is a situation in which an organization generates sufficient revenues from clients to cover all of their operational costs. its shown that Olam International have the higher ratio sales of growth compare to the other two big companies.1. Sales of growth Sales of growth is the amount by which the average sales volume of a company’ products or service has grown. It is quite satisfy for sales performance. 2. typically year to year. Figure 3 7 .

2 Relevance and Reliability Relevance is a qualitative characteristic in accounting associated with information that is timely. Gross profit margin A profitability ratio to calculate the percentage of sales that exceed the cost of goods sold. Figure 4 Once again based on the analysis. 5. A ratio of 1 means they do not depend on grant revenue or other funding. Olam asserted that the fair value of biological assets (other than annual crops and livestock) is estimated with reference to a professional valuation using the present value of expected net cash flows from the biological assets. But Olam International has the almost self sufficient compare the other companies. useful. be known as operating income margin. This shown Olam International has a good strategic for their production line. present 8 . has predictive value. objective and you can depend on it for example. But yet these three companies does not show the most efficient operating system. 3. because all of them are showing negative figure. In the article. Unlike an objective value from an external market. The good performance ratio of operating self sufficient will be more than 1. historical cost which the transaction is really happen. This measurement will yield inherently subjective valuations. Reliable is a qualitative characteristic in accounting achieved when information is verifiable. Olam International has the higher ratio of gross profit margin compare Wilmar and Golden-Agri companies. and is going to make a difference to a decision maker for an instance is fair value.

In the article stated that Olam booked the farmers future crops as gains. Crop production is depends on climatic condition. It is not flexible and only uses information available at the time of the decision. I can conclude that the issues in using of present value are (1) growth projection (expected cash flow) and (2) discount rate. We will not know what will happen including an unforeseen decrease in profitability of the company. It also requires that user know the exact discount rate. It is a critical component in the discounted cash flow calculation that determines how much a series of future cash flows worth as a single lump sum value today. Both components are hard to estimate with 100% accuracy and entity will make various assumptions using incomplete information. The method requires you to estimate a discount rate (rate used to convert its cash flows into today’s dollar). they might already over or under estimate their profit which will create more issue in the future. The main reason is because of inflation. the size of each cash flow and when each cash flow will occur which very hard and impossible to determine accurately. Second. A small change (increase or decrease) in the discount rate will have a considerable effect on the final output. It does not account for changes in the future. we must discount future cash flow to compensate us for the risk we take in waiting to receive it. Since cash flow in the future carries a risk that cash today does not. A gradually increase in overall temperature at earth atmosphere will attribute to the greenhouse effect and the temperature could increase up by to 10 degrees over next century. In conclusion. present value is not a very reliable measurement. 9 . Firstly. the actual result in future may deviate substantially from the predicted values. Next. Unexpected natural disaster such as earthquake.value is highly dependent on the discount rate and growth projections (future cash flows) used in the calculation. thus the lower the present value of the future cash flow. cash flow tomorrow is not worth as much as it is today. another issue to the calculation of present value is its sensitivity to discount rates. If Olam used an inaccurate discount rate in their analysis. The greater the uncertainty of future cash flow. a dollar cannot buy as much stuff in the future compared to what it can buy today. Therefore. the higher the discount rate. consequently. Since present value based upon the expected cash flow which was forecasted. flood and tornado will effect and destroyed the crops. There are so many natural disasters that occur nowadays. there will always have uncertainty in any projection for the future. As prices rise over time.

Thus. In July 2006. Base on MFRS 141. The advantage Olam obtains from using fair value modal to evaluate the biological assets is the revenues generated from biological assets can be identified and reported on each accounting period.2005. the recognition of the revenue arising from evaluation of biological asset by fair value approach could cause the unfeasible gain or loss due to overestimation. the investors will fell unsatisfied because of the income loss due to the decreasing of company net income from unfeasible loss. In this case. Olam adopted fair value model to evaluate the biological asset. mudslides. Hence. Olam have biological assets at many countries. the overestimation of fair value could happen in the next period which fair value are drop compared with last reporting period and cause the unfeasible gain or loss. the changes of value due to the biological transformation of biological asset could be recognized once it happens but not only at harvest point and sale. As we know that the fair value is provide the current information (market price) which is determined by market forces outside the firms. and heat waves have ravaged California since 1989. The evaluation of biological assets by fair value for each period ensuring the balance sheet value is close to the market price. Furthermore. The Central Valley and Los Angeles regions suffered through a severe heat wave for nearly two weeks. Lastly. As example. All of the natural disaster that already stated above is unexpected and can affect all the biological assets that Olam have. On the other hand. the gain or loss arising on initial recognition of a biological asset at fair value less costs to sell and from a change in fair value less costs to sell of biological asset shall be included in profit or loss for period in which it arises (MFRS 141. but not only at the harvest point and sale . So.Relevant fair value that achieved today could not be the same on the day after. For example. Para 26. wildfires. the recognition of gain arising from the increased fair value of biological asset can be considered as relevance information which can be used by investors or financial statement users in decision making. Fresno had six days with a high temperature above 110 degrees. Para 26). There also also floods occur in Argentina in 2003. a new record. the fluctuation will create the unreliability issue in Olam’s reporting for biological asset fair value. 2007 and 2015. Olam has almond orchards in California and peanut farms in Argentina. Based on US News there are out of control earthquakes. it is unstable and fluctuates all the times. 10 .

MFRS 141: Agriculture. http://www.valueinvestasia. Cheong Mun Hong CFA. Malaysian Accounting Standard Board. Malaysian Accounting Standard Board. 2014. How Fair Are Fair Value Gains. The Conceptual Framework for Financial Reporting.1 4. MFRS 13: Fair Value Measurement. 2011. References 1.accountingtools. http://www.1 2.com/questions-and- answers/what-is-relevance-in-accounting. 2011. Definion of relevance and reliability. 2011.html 11 .com/2014/05/09/how-fair-are-fair-value-gains/ 5. Malaysian Accounting Standard Board.1 3.