Methods of accounting for changing prices two

Methods of Accounting for Changing Prices
Two solutions to deal with the distortions caused by historical cost (HC)
accounting in a period of changing prices.
• General Purchasing Power (GPP) Accounting
Updates historical cost accounting for changes in the general
purchasing power of the monetary unit. Non-monetary assets and
liabilities, stockholders’ equity and income statement items are restated
using the General Price Index (GPI). Requires purchasing power gains
Example:
When the general price level index is 120, $120 in cash can purchase one whole
basket of goods and services. One year later, when the general price level index
stands at 132 (10% inflation), the same $120 in cash can now purchase only
90,9% of a basket.
It now takes $132 to purchase the same amount as at the beginning of the years.
The difference between the $132 needed to maintain purchasing power and the
$120 in cash actually held results in a $12 purchasing power loss. This can be
computed by multiplying the amount of cash at the beginning of the year by the
inflation rate of 10% ($120 x 10% = $12).
Example:
Assume a company expects to receive $120 cash in cash at the end of the
current year. If it waits until the cash is received, it will be able to acquire 90,9% of
the market basket at that time when the general price level index is 132.
Instead, if the company borrows $120 at the beginning of the year and repays
that amount with the cash received at the end of the year, it will be able to acquire
100% of the basket at the beginning of the year when the price level is 120.
Holding a $120 liability during a period of 10% inflation results in a purchasing
power gain of $12 ($120 x 10%).
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and losses (resulting for monetary assets and liabilities) to be included
in net income.
• Current Cost (CC) Accounting
Updates historical cost of assets to the current cost to replace those
assets. Also referred to as Current Replacement Cost (CRC)
Accounting. Non-monetary assets are restated to current replacement
costs (market costs) and expense items are based on these restated
costs. Holding gains and losses are included in equity.
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Financial Reporting in Hyperinflationary Economies (IAS 29)
This applies to the primary financial statements of any company that reports in
a currency of a hyperinflation economy. The standard provides a list of
characteristics indicative of hyperinflation:
1. The general population keeps its wealth in nonmonetary assets or in a
stable foreign currency; receipts of local currency are immediately
invested to maintain purchasing power.
2. The general population thinks about prices in terms of a stable foreign
currency and prices may actually be quoted in that currency.