Inflation Accounting

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You have heard it as rising cost of living,these imbalance in total supply of goods and services to rise in commodities, is analysed in Inflation Accounting.

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Inflation Accounting

  1. 1. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingWhat is Inflation?Inflation means an upward change in the prices ofgoods & services of general consumption.is due to the fall in total supply of goods and services. imbalance in total supply of goods & services. changes in general prices of basic commodities.
  2. 2. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingNeed for Inflation Accounting? Traditional accounting based on historical costfails to match current revenue against costs that are current costs of purchases or depreciation are shown at historical costs, and are much below current levels
  3. 3. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingNeed for Inflation Accounting? Traditional accounting based on historical costfails to match current revenue against costs that are current state profit realistically as costs of purchases, depreciationare understated, reported profits are high
  4. 4. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingNeed for Inflation Accounting?Traditional accounting based on historical cost fails to - match current revenue against costs that are current - state profit realistically - provide adequate depreciation for replacement of assetsdepreciation is calculated on book value of assetsthat are way below their current market price.
  5. 5. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingNeed for Inflation Accounting?Traditional accounting based on historical cost fails to - match current revenue against costs that are current - state profit realistically - provide adequate depreciation for replacement of assets - show true and fair view in the financial statements
  6. 6. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingMethods of Inflation Accounting Є Current Purchasing Power (CPP) Є Current Value Systems
  7. 7. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingMethods of Inflation Accounting Є Current Purchasing Power (CPP)Step # 1 – Convert figures in the balance sheet asof beginning of the year into purchasing power ofbeginning of the year.
  8. 8. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingMethods of Inflation Accounting Є Current Purchasing Power (CPP)Step # 1 – Convert figures in the balance sheet asof beginning of the year into purchasing power ofbeginning of the year.Step #2 – Convert the figures derived above intopurchasing power at the end of the year.
  9. 9. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingMethods of Inflation Accounting Є Current Purchasing Power (CPP)Step # 1 – Convert figures in the balance sheet as ofbeginning of the year into purchasing power ofbeginning of the year.Step #2 – Convert the figures derived above intopurchasing power at the end of the year.Step #3 - Convert figures in the balance sheet as ofend of the year into purchasing power of end of theyear.
  10. 10. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingMethods of Inflation Accounting Є Current Purchasing Power (CPP) Step # 1 – Convert figures in the balance sheet as ofbeginning of the year into purchasing power ofbeginning of the year.Step #2 – Convert the figures derived above intopurchasing power at the end of the year.Step #3 - Convert figures in the balance sheet as of endof the year into purchasing power of end of the year.Final Step – find out difference between equity at steptwo and step three to get profit for the year, expressedin terms of purchasing power at end of the year.
  11. 11. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingMethods of Inflation Accounting Є Current Purchasing Power (CPP) Є Current Value SystemsUnder this method, the current value of anindividual asset is based on the present value ofthe future cash flows that are expected to resultfrom the ownership of the asset.
  12. 12. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingMethods of Inflation Accounting Є Current Purchasing Power (CPP) Є Current Value SystemsUnder this method, the current value of an individual asset isbased on the present value of the future cash flows that areexpected to result from the ownership of the asset.Such present values are calculated from[a] the estimated cash amount of the future benefits [b] thetiming of these benefits & [c] an appropriate discount factor.
  13. 13. Chapter Nine -- Inflation Accounting Chapter Nine Inflation AccountingMethods of Inflation Accounting Є Current Purchasing Power (CPP) Є Current Value SystemsUnder this method, the current value of an individual asset isbased on the present value of the future cash flows that areexpected to result from the ownership of the asset.Such present values are calculated from[a] the estimated cash amount of the future benefits [b] thetiming of these benefits & [c] an appropriate discount factor. This discount factor usually equals cost of capital to thecompany.
  14. 14. Chapter Nine -- Inflation Accounting Chapter Nine Inflation Accounting Conclusion Methods of Inflation Accounting are criticized asThey are subjectiveThey are based on estimationThey are not free from flaws Discussion on this subject gained momentum with the rise in the price levels and the tempo died down with the fall in inflation.

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