To correctly value the assets, the traditional method of historical cost accounting
is not applicable and thus the fair value method of accounting must be used.
The inflationary times, characterized by significant price increases, have shown that historical cost accounting
provides a distorted picture of reality: both the balance sheet items and the expenses with amortization and stocks from income and loss accounts are underestimated.
Abstract: The history of accounting for private railway companies in Germany shows that these companies played a major role in the diffusion of historical cost accounting
principles and gave birth, together with big other joint stock companies, to the "dynamic" or second stage of capitalist accounting, at least in continental Europe.
Historical cost accounting
for corporate shares does not have that
Neither fair value nor historical cost accounting
on its own is likely to achieve both characteristics, and an integration of the two may be necessary.
As the Financial Accounting Standards Board (FASB) continues to march toward fair value accounting and away from historical cost accounting
, it's a good time to consider the flaws of fair value accounting.
During most of the last century, standard setters emphasized historical cost accounting
. Under this traditional accounting model, the income statement, which results from matching an entity's revenues with expenses during a period of time, was considered the primary financial statement conveying useful information about a company's performance and value to shareholders.
Over the past 30 years, the Financial Accounting Standards Board in the United States and the International Accounting Standards Board have been moving away from historical cost accounting
and heading towards fair value accounting, which involves having companies prepare their balance sheets on the basis of what assets are worth today, as opposed to what they cost when they were acquired.
Historical cost accounting
just doesn't work for this purpose (though it is probably better suited for financial institutions than for other firms in which fixed assets make up a large part of the portfolio).
Financial derivatives were traditionally accounted for using historical cost accounting
. Since many financial derivatives did not attract an initial cost, the presentation was limited to a note in the financial statements that did not reveal companies' real exposure.
We continue to see news stories about charges of earnings manipulation, even under the historical cost accounting
Where Edwards and Bell may have segued rather than focused (and similar problems still exist) is the important intermediate point between historical cost accounting
and estimates of the future--a point called "today." Today is the focus of market value estimates, even if they are made only as of a given date.