- value accounting

Recently I wrote an article in a newspaper on accounting values, which is condensed here and essentially, the following observation.

Accountancy has a long and rewarding history. Since the introduction of the double entry book-keeping model of accounting in 1300, accounting value has gone through an evolution and the search for its most appropriate measure continues to this day. For many centuries, historical cost accounting has been the accountant's trusted value measurement method. $1 is $1 and no such thing as $1.20 if you applied replacement cost accounting or $0.90 if you were to apply net realisable value to an asset.

The European industrial revolution in the 17th-18th centuries laid the foundation for change in the manner in which recognition and measurements in financial statements applied. Over the years, the accounting profession has been tasked with the responsibility of looking for valuation methods that best fit the economic environment and complexities in a changing business world.

In the 1970s, when economies in Europe and North America were facing a period of hyper -inflation, we were introduced to the rigours of inflation cost accounting and current purchasing power accounting . Shortly after another wave of accounting concepts such as replacement cost accounting and net realisable value accounting was introduced.

The current emphasis is towards fair value accounting. It sounds nice speaking these words and pleasant to the ears. Fair value...just what does it mean?. Well, accounting literature defined it as the price that would be received to sell an asset or paid to transfer a liability. Commonly thought of as an 'exit price', it is a principled-based accounting regime directed towards providing information to the market namely investors and potential investors.

Developments in the capital markets over the past decade have witnessed the creation of increasingly sophisticated derivatives and other instruments, as well as financing and business arrangements to isolate and parcel out particular risks. Accountants now believe that it is more relevant to measure financial transactions based on fair value. In an actively traded market, 'marked to market' is the fair value measurement of financial instruments / papers. So, 'reliability', which the historical accounting's measurement method is now taken over by fair value measurement which they say is more 'relevant'.

The current global financial crisis has demonstrated to us that accounting measurement convention itself would not guarantee a country from financial disaster. It is interesting to note that the panel of experts set up by the International Accounting Standards Board (IASB) has defended the marked to market fair values. They say that the fundamental values are not consistent with the objective of a fair value measurement because they do not take into account factors that market participants would consider when pricing the instrument such as 'illiquidity and credit risk'. Opponents argue that mark-to-market system of pricing has led to billions of pounds in write-downs. They proposed that the market price of an asset should be measured over a period of 6 or 12 months which basically mean 'smoothing' or averaging out the risk. More jargon ..... there is now a real need to find a workable solution that can be implemented and applied to safeguard global financial assets.

Well, you never can tell. One day, perhaps the accountant's value journey may come back to the cradle of traditional accounting using historical cost convention once again.