COST ACCOUNTING

COST ACCOUNTING



COST ACCOUNTING

Introduction

According to the GAAP, the liabilities and assets are usually recorded through the usage of the historical cost accounting model; it is a model of accounting in which the liabilities and the assets are recorded and offered at the financial amount that has been paid or the monetary value that has been given to a particular asset at the time of their acquirement. This is a very traditional method of accounting, so people are comfortable working with it. However, it has some serious defects in the perspective of the modern environment of business, which have made the bodies that look after the matters relating to the application of accounting in the business, particularly IASB and the FASB, to look for some alternate methods of accounting. One of those alternative methods is the market value accounting, which is said to be the finest substitute to the traditional historical cost accounting. The fair value of an asset or a liability is the value at which the liability or the asset can be purchased or traded in a transaction between two parties. There is a continuous debate on the applicability of the historical cost accounting. This assignment discusses the argumentations against the historical cost; and tries to analyze the alternative methods to historical accounting i.e. Cost Purchase Accounting method, etc.

Arguments against the application of Historical Cost Accounting

According to burns, (1972, Pp. 300) “The most powerful contention against the application of historical cost accounting model is that it does not give the relevant information for the investors. The experts have pointed out a number of crucial disadvantages and defects in historical cost accounting.

The values obtained by historical Cost Accounting can be relating to dealings that may have occurred a long time ago. Therefore, the actual value of that transaction may be obsolete and therefore, because of this the balance sheet of a company would be representing old values, which are not accurate.

This model is only concerned with the proper allocation of the costs, and does not give much value to the valuation of an asset. Thus, it brings out the cost of acquisition of an asset and the depreciation of the said asset, in the same year, but it completely brushes aside the likelihood that the recent market value of the said asset could be higher or lower than the amount that has been disclosed.

According to Ijiri (1982, Pp. 51), ”The historical cost accounting model has a serious defect, when it deals with inflation”. The historical model has an assumption that the purchasing power of a man remains constant over a financial period. However, the market value of an asset could be more, than what it is today, in the coming future due to the affect of inflation. The financial statements, which are on the historical cost accounting method, are unedited for the affect of inflation. As an outcome, during the time of hyperinflation, the profits of a company are ballooned and therefore, the tax rate is inclined to ...