The Use of the Historical Cost Convention and the Accrual Concept for Stewardship and for Decision Making
A Research Paper on:-
“The use of the Historical Cost convention and the accrual concept for stewardship and for decision making”
Topic 1: The Historical Cost Convention
Introduction
The historical cost convention is unarguably one of the most debated topics in the theoretical base of accounting. Some are of the opinion that it should be done away with, while others believe that it plays a vital role in presenting an accurate picture of the business concern. The Historical cost convention has different uses and dimensions for stewardship and for decision making purposes.
Meaning of the HISTORICAL COST CONVENTION:
“The historical cost principle requires companies to account and report based on acquisition costs rather than fair market value for most assets and liabilities.”[1] The historical cost convention means that an asset must be shown in the books of accounts at its cost of acquisition, or its “purchase price”. It is this purchase price which is referred to as the “historical” cost. An extension of this discussion will lead to interesting questions. The asset must be shown in the books at the purchase price. It is not to be shown at the market value. This is done to ensure a “true and fair” picture of the financial position of the firm. It is commonly noted that the asset which is purchased by the company will increase/decrease in value over time, because of market forces. In such a case, the correct representation of the asset will lie only in showing them at their original, historical cost. Showing the asset at its market value will portray the asset at a value which may be inflated or deflated, as the market forces may be. This will defeat the purpose of financial accounting, which involves giving a “true and fair” view of accounts.
Example
An area of land was purchased by X and Co. for $50,000 in 2000. Today, as on 11th October 2006, the value of that property stands at $80,000. In such a case, as per the historical cost principle, the value of
“The use of the Historical Cost convention and the accrual concept for stewardship and for decision making”
Topic 1: The Historical Cost Convention
Introduction
The historical cost convention is unarguably one of the most debated topics in the theoretical base of accounting. Some are of the opinion that it should be done away with, while others believe that it plays a vital role in presenting an accurate picture of the business concern. The Historical cost convention has different uses and dimensions for stewardship and for decision making purposes.
Meaning of the HISTORICAL COST CONVENTION:
“The historical cost principle requires companies to account and report based on acquisition costs rather than fair market value for most assets and liabilities.”[1] The historical cost convention means that an asset must be shown in the books of accounts at its cost of acquisition, or its “purchase price”. It is this purchase price which is referred to as the “historical” cost. An extension of this discussion will lead to interesting questions. The asset must be shown in the books at the purchase price. It is not to be shown at the market value. This is done to ensure a “true and fair” picture of the financial position of the firm. It is commonly noted that the asset which is purchased by the company will increase/decrease in value over time, because of market forces. In such a case, the correct representation of the asset will lie only in showing them at their original, historical cost. Showing the asset at its market value will portray the asset at a value which may be inflated or deflated, as the market forces may be. This will defeat the purpose of financial accounting, which involves giving a “true and fair” view of accounts.
Example
An area of land was purchased by X and Co. for $50,000 in 2000. Today, as on 11th October 2006, the value of that property stands at $80,000. In such a case, as per the historical cost principle, the value of