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Abstract
The study examines the effects of applying fair value accounting under IAS 40 on the volatility of earnings. It studies how the addition of unrealized gains and losses in the income statement might affect the incremental explanatory power of earnings. The study covers the period of 2002-2009 and the data collected from the Jordanian Shareholding Companies listed on Amman Stock Exchange. In this study the valuation model of Ohlson (1995) and the technique of Theil (1971) have been utilized. The results point out that unrealized gains and losses affect the net income and the results of cross-sectional regression indicate that net income and book values jointly and individually are positively and significantly related to stock prices. The incremental information of net income is greater than that of book values and the addition of unrealized gain in income increases the explanatory power of the model.
JEL classifications numbers: M40, M 41
Keywords: Fair Value, Investment Property, IAS 40, Jordanian Shareholding Companies, Earnings, Unrealized Holding Gains.
1 Introduction
The estimation of fair value has an effect on the earnings or income through recognizing unrealized gains and losses. Under IAS 40, companies can choose to value their investment properties using the 'fair value model' or the 'cost model'. Under the cost model, investment properties will be stated at cost less depreciation (less any impairment losses). Under the fair value model the investment property is re-measured at fair value, which is the amount for which the property could be exchanged between knowledgeable, willing parties in an arm's length transaction. [IAS 40.5] Gains or losses arising from changes in the fair value of investment property must be included in net profit or loss for the period in which it arises. [IAS 40.35].
The recognition of unrealized gains and losses has long been a contentious issue in accounting. Holding gains from changing market prices have largely been deferred, or if recognized, taken directly to equity, bypassing the income statement. Accounting regulators are slowly extending the scope of application of market-to-market accounting and, with it, have been subject to increasing criticism by preparers of financial statements. However, it would seem, rightly or wrongly, that fair value accounting is becoming more pervasive and its impact, beneficial or adverse, remains contentious...