Accounting for changing prices

Historical cost accounting Materiality concept Items are treated in the accounts One small business may treat a
It is a conventional valuation concept where resources are valued in accordance with their cost according to their impact on the calculator costing $200 as a fixed
of acquisition by the enterprise. financial statement in terms of asset while another big business
Advantages (i) It is verifiable their value. might treat a calculator costing
(ii) It is objective $2000 as repairs and maintenance
Disadvantages in the P&L account
(i)Fixed assets will be undervalued at times of rising prices. Prudence A company will rather understate Provisions are made for those
(ii)Depreciation will be based on HC figures and therefore will not provide atrue figure for profits rather than overstate them. debts which might become bad
asset use Costs are assumed to have been while the negotiations for sales
(iii)Stocks will not reflect current costs incurred as soon as recognized are not recognized until finalised
(iv)profit will consequently be understated while income are deemed to be
(v)The objectivity of HCA is limited to cash.In fact all other items even if they are valued at earned only when realised
historical cost , they are subjective for example stock valuation method etc. Business entity A business is a separate person Drawings have to entered in the
Current Purchasing Power concept from its owner books and capital introduced is
Under this method the HC figures are adjusted to reflect changes in the price levels using the entered as well even though they
Retail Price Index for the purpose. are transactions with the owner of
Current Cost accounting the business
Under this method adjustments are made to fixed assets, depreciation, stocks, Cost of sales, Historical cost All transactions are recorded at Land is shown in the Balance at
monetary working capital, Gearing. concept values at their date of occurrence its cost although its value goes on
No adjustments are made to Monetary assets(Debtors,bank,cash) and Moneatry even if now they have a different increasing.If it is revalued it has
liabilities(Creditors) in the Balance sheets. value to be disclosed.
Indices are used separately for stocks, Fixed assets , debtors and creditors. Money measurement Only those transactions are Experience of
Adjustments are made as follows: accounted which can be valued in workers,commitment of managers
Item Dr Cr money terms although they are of value to the
Fixed assets restated Fixed assets Current cost reserve business cannot be accounted as
Additional depreciation on restated figures P&L CCR they cannot be measured in
Stocks restated Stock CCR money terms.
Cost of sales adjustment P&L CCR Realisation Transactions are accounted when Goods sent on a sale or return
Monetary Working capital adjustment P&L CCR they materialise basis are not accounted as sale
Gearing CCR P&L unless acceptance is
communicated by the customer
Concepts and conventions Substance over form Transactions are treated A fixed asset purchased on a hire
These are a set of priciples which are assumed to have been applied according to their economic purchase will be treated as a fixed
substance rather than their purely asset in the accounts even if it
when preparing accounts unless otherwise stated legal forms legally belongs to the selling
Concepts Definition Examples of application company until final payment is
Going concern According to this concept it is A company wishes to discontinue made
assumed that the business will its operation next year therefore
continue to run in the foreseeable its assets will be valued as
future realizable in a forced sale.

Matching/Accruals A company is required to Acounting for accruals and

concept compare in its Profit and loss
account its income with those
expenses which have been
incurred in earning that income
Consistency concept Whatever principles have been
applied in a business have to
applied continuously e.g
Depreciation method,stock
valuation method
prepayments in the Profit and loss
account.An expense for a
particular year is treated as an
expense for that year even if it has
been paid in another year.
If a business has chosen to apply
the Diminishing balance method
for depreciating a fixed asset the
same method has to be applied
consistenly.If the company
decides to change this has to be
disclosed in the accounts