Current vs. historical costs, Business Economics

Accountants prepare income statements typically in terms of historical costs, in terms of the purchase price, rather than in terms of the current price. The reasons given for this practice are:

1.    Historical costs produce more accurate measurement of the income.

2.    Historical costs are less debatable and more objective than the calculated present replacement value, and

3.    Accountants' job is to record historical costs whether or not they may have relevance for further decision making. The accountants approach ignores certain important changes in earning and losses of the firms, (1) the value of assets presented in the books of accounts is understand in times of inflation and overstated at the time of the deflection, depreciation is understand during deflection. Historical cost recording does not reflect such changes in values of assets and profits. This problem assumes a critical importance in case of the inventories and stock. The problem is how to evaluate the inventory and the goods in the pipeline. There are three common techniques of inventory valuation: (1) first in first out (FIFO), (2) last in first out (LIFO), and (3) weighted average cost (WAC). Under FIFO method, material is taken out of the stock for further processing in the order in which they are acquired. The stocks, therefore appear in the firms balance sheet at their actual cost price. This method is suitable when price has a secular trend. However, this system exaggerates profits at the time of rising prices. The LIFO method assumes that stocks purchased most recently become the costs of the raw material in the current production. If inventory levels are stable the cost of the raw materials used at any point in the calculation of profits is always close to market or replacement value. But when inventory levels fluctuate this method loses its advantages. The WAC method takes the weighted average of the costs of materials purchased at different prices and different points of time to evaluate the inventory. All these methods have their own weaknesses and do not reflect the true profit of business. So the problem of evaluating inventories so as to yield a true profit figure remains there.

Posted Date: 8/4/2012 7:46:02 AM | Location : United States

Related Discussions:- Current vs. historical costs, Assignment Help, Ask Question on Current vs. historical costs, Get Answer, Expert's Help, Current vs. historical costs Discussions

Write discussion on Current vs. historical costs
Your posts are moderated
Related Questions
There, you can obtain the available data on GDP and its components. a. What is the value of nominal GDP during the past 5 years? b. What is the GDP deflator in 2006? c. Wh

Prepare an interview plan for the post of Business Analyst in your team. a. Welcome then introductions/administrative objectives/agenda. Found rapport. b. Ask questions conc

What is Conditionality? Conditionality is the needs imposed onto countries as pre-conditions for loans. Into crisis situations member countries seek assist from the IMF for

GDp of World?

Are patterns of trade a problem? Generalising Less Developed Countries have a comparative advantage into primary products and employment intensive manufacturing; Developed Cou

Choose one stock from the New  York stock market which has calls and puts available. Extract  the price change for each 3 month period over the last 12 months. Find the current yie

How does colonial background influence the development process? Colonial experience influences: • Language for example the official language of US is English. • Legal and

You are allocating money between pizza and Chinese food over a month. You like a variety.   (a) Letting C denote the quantity of Chinese meals you consume in a month and P denot

How can the population controlled? Governments can take some steps to controlled populations: • Enhance the education of women and their employment opportunities raises and

What are Harrod-Domar restrictions? Harrod-Domar restrictions: • Non economic social, cultural, political and institutional circumstances are unimportant into growth pro