The historical cost accounting convention.

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INTRODUCTION

Realised-profit, matching-based, historical cost accruals accounting (HCA) has for over fifty years been repeatedly challenged as being an inadequate basis for the measurement of "income" which reports increments in the value of businesses. Such challenges continue unabated and are made by both accounting standards regulators and by academic commentators. Despite its obvious deficiencies for measuring valuation based income, and subject to concept of prudence, internationally HCA remains the dominant basis for reporting and share prices appear to be influenced by reported earnings.

This paper will go through few criticisms of our standard accounting model, look at possible alternatives and finally will provide a detailed
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Opportunity costs are commonly used in economics and do not have much relevance here, however accounting bodies and academic commentators have forwarded new methods of accounting using the current asset value, as opposed to the conventional acquisition cost.

Replacement costs could be used as a possible alternative to historical cost method. In crude terms Replacement costs (RC) may be defined as the estimated amount that would have to be paid in order to replace the asset as the date of valuation (Page 46,Lewis & Pendrill, 2000). An advantage of replacement cost is that it focuses on the services the asset will provide rather than the precise physical asset. It therefore excludes speculative gains that might be made from selling a building to a purchaser who will redevelop it for an alternative use; equally it allows valuations to reflect the use that the current owner can make of an asset, even if a purchaser would not be able to employ the asset as profitably.

However there is an immediate flaw noted in its definition, where the costs have to be estimated. Estimation has to be carried out after reviewing the asset, the market, and if an identical asset is still being traded in the market. Further difficulties inherent in the estimation are noted when the asset in the market is either not identical or obsolete. In these cases usually the replacement costs are much higher.
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