Department of Business and Industrial Management
FY MBA Sem 1
Subject: Managerial Accounting Topic: Inflation Accounting Submitted to: Dr. Namrata Khatri Submitted by:
Kadri Nadeem
(39)
Chaudhari Bhargav
(09)
Maani !amita K
("#)
Mitr$ %iha&ha '
()
Chaudhari *unil
!at is inflation accounting"# :
(+0)
Inflation:
*ince ,e tarted undertanding thing around u- ,e all ued to liten from our rand/arent aout the thing and article e/eciall$ old 1 hee eing chea/er in their time. 2hat time ,e ued to thin& that ,h$ the thing ,ere chea/er in our rand/arent time and ,h$ had the$ tarted ecoming cotlier. *o thi 4uetion ,oul ,ould d &ee/ &ee/ u /u55 /u55le led. d. But But no, no, a ,e have have gro, gro,n n in our our &no, &no,le ledg dgee and and undertanding- ,e have come to &no, aout the /henomenon of Inflation ,hich in la$man language i &no,n a the tate of riing /ricing or the falling value of mone$ ,a the greatet reaon ehind thi. No, emerge the 4uetion that ,hat e6actl$ i the Inflation7 Inflation i a gloal /henomenon in /reent da$ time. 2here i hardl$ an$ countr$ in the ca/italit ,orld toda$ ,hich i not afflicted $ the /ectre of inflation. Different economit have defined inflation in different ,ord li&e 8rof. Cro,ther ha defined inflation a a tate in ,hich the value of mone$ i falling- i.e.- /rice are riing. In the ,ord of 8rof. 8aul :in5ig- Inflation i that tate of die4uilirium in ,hich an e6/anion of /urchaing /o,er tend to caue or i the effect of an increae of the /rice level. Both the definition have em/hai5ed on the riing /rice of the good. good. 2he aic factor ehind the inflation are either the riing demand or the hortening of u//l$ due to an$ reaon.
Features of inflation accounting# •
It i aumed that the unit of meaurement i not tale.
•
2he /rocedure of recording i automatic.
•
All element of the financial tatement are ta&en into account.
•
'eali5ation /rinci/le i not follo,ed trictl$- e6am/le; fi6ed aet and long term loan are recorded at their current value.
T!e Ad$antages of Inflation: +. Deflation Deflation (a fall in /rice /rice < negative negative inflation inflation)) i ver$ harmful. harmful. =or =or e6am/lee6am/le- the >a/anee econom$ ha uffered lo,er gro,th ecaue of deflation. ?hen /rice are falling /eo/le are reluctant to /end mone$ ecaue the$ are concerned that /rice ,ill e chea/er in the future- therefore- the$ &ee/ dela$ing /urchae. 2here are man$ more cot of deflation in thi ea$ on; Cot of deflation @.
Mode Moderat ratee infla inflati tion on enale enale adu adutm tmen entt of /rice /rice and ,age ,age. . It i argued argued a moderate rate of inflation ma&e it eaier to adut relative ,age and /rice. =or
e6am/le- it ma$ e difficult to cut nominal ,age (,or&er reent ,age cut). But- if average /rice are riing- it i eaier to increae good ,or&er ,age more than un/roductive ,or&er. 3. Inflation Inflation can oot oot gro,th. gro,th. At At time of ver$ ver$ lo, inflation inflation the the econom$ ma$ e tuc& in a receion. Argual$ targeting a higher rate of inflation can enale a oot to gro,th. 2hi vie, i controverial. Not all economit ,ould u//ort targeting a higher inflation rate. !o,ever- ome ,ould target higher inflation- if the econom$ ,a tuc& in a /rolonged receion. *ee;
Disad$antages of Inflation: Inflation i conidered to e a /rolem ,hen the inflation rate rie aove @. 2he higher the inflation- the more eriou the /rolem it i. In a modern econom$- the ove overnm rnmen entt are are mot mot conc concern erned ed aou aoutt the the deta detai ili li5in 5ing g im/a im/act ct of infl inflati ation on.. Inflationar$ gro,th tend to e unutainale leading to a damaging /eriod of oom and ut economic c$cle. Inflation tend to dicourage invetment and long term economic gro,th. 2hi i ecaue of the uncertaint$ and confuion that i more li&el$ to occu occurr duri during ng /eri /eriod od of high high infl inflat atio ion. n. Infl Inflat atio ion n can can ma&e ma&e an econ econom om$ $ uncom/etitive. =or e6am/le- higher rate of inflation in Ital$ can ma&e Italian e6/ort uncom/etitiv uncom/etitive. e. 2hi i /articularl$ /articularl$ im/ortant for countrie countrie in the :uro5one ecaue the$ can’t devalue to retore com/etitivene. 'educe value of aving. Inflation lead to a fall in the value of mone$. 2hi ma&e aver ,ore off and can lead to a reditriution of income in ociet$. ften it i /enioner ,ho loe out mot from inflation. 2hi i /articularl$ a /rolem if inflation i high and interet rate lo,. Men Menu cot cot – cot cot of chan changi ging ng /ric /rice e lit lit. . Not Not o ign ignifi ifican cantt ,ith ,ith mode modern rn technolog$.
%ffect of Inflation on Business: 2he im/act of inflation on uine can e ifurcated into t,o /art li&e;
+. Im/act on cot and revenue @. Im/act on aet and liailitie A far a im/act of inflation inflation on cot and revenue revenue i concernedconcerned- definitel$ definitel$ oth ,ill rie ut ,hether the$ reult into e6traordinar$ /rofit ,ill e determined $ that ho, much o/ening toc& ,a availale at old /rice ,ith the com/an$ and ho, much later the demand for increaing ,age i entertained $ the com/an$. In cae of monetar$ aet and liailitie- a com/an$ ,ill loe in cae of eing creditor and gain in cae of eing detor in real term. If ,e tal& aout other aet li&e uilding- land and other ecuritie- the com/an$ ,ill e having holding gain in monetar$ term ut ma$ have neutral im/act im/act in real term due to the rie in /rice on the one hand ut fall in value of mone$ mone$ on the other. other. Inflatio Inflation n Accounti ccounting ng and it ignif ignifican icance ce 2he 2he im/act im/act of inflation come in the form of riing /rice of out/ut and aet. A the financial account are &e/t on !itorical cot ai- o the$ dont ta&e into conideration the im/act of rie in the /rice of aet and out/ut. 2hi ma$ ometime reult into the overtated /rofit- under /riced aet and mileading /icture of Buine etc. *o- the financial financial tatement tatement /re/ared under under hitorical hitorical accounting accounting are generall$ generall$ /roved to e tatement of hitorical fact and do not reflect the current ,orth of uine. 2hi de/rive the uer of account li&e management- hareholder- and creditor etc. to have a right /icture of uine to ma&e a//ro/riate deciion. !ence- thi lead to,ard the need for Inflation Accounting. Inflation accounting i a term decriing a range of accounting $tem deigned to correct /rolem ariing from hitorical cot accounting in the /reence of inflation. 2he ignificance of inflation accounting emerge from the inherent limitation of the hitorical cot accounting $tem.
Follo&ing are t!e limitations of !istorical accounting: +. !itorical !itorical account do not conider conider the unreali5ed unreali5ed holding holding gain ariing from the rie in the monetar$ value of the aet due to inflation. @. 2he oective oective of charging charging de/reciatio de/reciation n i to /read the cot of the aet over it ueful life and ma&e reerve for it re/lacement in the future. But it doe not ta&e into account the im/act of inflation over the re/lacement cot ,hich ma$ reult into the inade4uate charge of de/reciation. 3. Ender hitorical accounting- inventorie inventorie ac4uired at old /rice are matched againt revenue e6/reed at current /rice. In the /eriod of inflation- thi ma$ lead to the overtatement of /rofit due mi6ing u/ of holding gain and o/erating gain. ". =uture earning are not eail$ /roected /roected from hitorical earning. !itor$ !itor$ of Inflation Inflation Accountin Accounting g In the lat fe, $ear- inflation accounting accounting ha een ado/ted a a u//lementar$ financial tatement in the Enited *tate and the Enited Kingdom. 2hi come after more than 0 $ear of deate aout method of aduting financial account for inflation. Accountant in the Enited Kingdom and the Enited
*tate have dicued the effect of inflation on financial tatement ince the earl$ +900- eginning ,ith inde6 numer theor$ and /urchaing /o,er Irving =iher +9++ oo&. 2he 8urchaing 8o,er of Mone$ ,a ued a a ource $ !enr$ ?. *,ee *,eene$ ne$ in hi hi +93F +93F oo& oo& *ta *taili ili5e 5ed d Accoun ccounti ting ng-- ,hich ,hich ,a ,a aou aoutt Con Conta tant nt 8urchaing 8o,er Accounting. 2hi model $ *,eene$ ,a ued $ 2he American Intitu Intitute te of Certif Certified ied 8ulic 8ulic Accou Accounta ntant nt for their their +9F3 +9F3 reearc reearch h tud$ tud$ (A'*F) (A'*F) 'e/ort 'e/orting ing the =inanc =inancial ial :ffect :ffect of 8riceG 8riceGevel evel Change Change- and later later ued ued $ the Accounting 8rinci/le Board (E*A)- the =inancial *tandard Board (E*A)- and the Accounting *tandard *teering Committee (EK). *,eene$ advocated uing a /rice inde6 inde6 that cover cover ever$t ever$thin hing g in the gro nation national al /roduc /roduct. t. In March March +99+99- the =inancial Accounting *tandard Board (=A*B) ,rote Contant Dollar Accounting,hich advocated uing the Conumer 8rice Inde6 for All Eran Conumer (C8IE) to adut account ecaue it i calculated ever$ month. During the reat De/reionome cor/oration retated their financial tatement to reflect inflation. At time during the /at 0 $ear tandardetting organi5ation have encouraged com/anie to u//le u//lemen mentt cota cotaed ed financi financial al tateme tatement nt ,ith ,ith /ricel /riceleve evell adut aduted ed tateme tatement. nt. During a /eriod of high inflation in the +90- the =A*B ,a revie,ing a draft /ro/oal for /ricelevel aduted tatement ,hen the *ecuritie and :6change Commi Commiio ion n (*:C) (*:C) iued iued A*' A*' +90+90- ,hich ,hich re4uir re4uired ed a//ro6 a//ro6ima imatel$ tel$ +-000 +-000 of the larget E* cor/oration to /rovide u//lemental information aed on re/lacement cot. 2he =A*B ,ithdre, the draft /ro/oal. *till to cater to the need of an Inflation Accounting- the IA*B came out ,ith an Accounting *tandard &no,n a IA* @9. 2echni4ue of Inflation Accounting 2o meaure the im/act of inflation on financial tatement.
Tec!ni'ues Te c!ni'ues used in inflation accounting: (urrent )urc!asing )o&er *())+ Met!od:
Ender thi method of aduting account to /rice change- all item in the financial tatement are retated in term of a contant unit of mone$ i.e. in term of general /urchaing /o,er. =or meauring change in the /rice level and incor/orating the
change change in the financial financial tateme tatement nt ,e ue eneral eneral 8rice 8rice Inde6Inde6- ,hich ma$ e conidered to e a arometer meant for the /ur/oe. 2he inde6 i ued to convert the value of variou item in the Balance *heet and 8rofit and Go Account. 2hi method ta&e into account the change in the general /urchaing /o,er of mone$ and ignore the actual rie or fall in the /rice of the given item. C88 method involve the refurni refurnihin hing g of hitor hitorical ical figure figure at current current /urcha /urchain ing g /o,er /o,er.. =or thi thi /ur/o /ur/oeehitorical figure are converted into value of /urchaing /o,er at the end of the /eriod. 2,o inde6 numer are re4uired; one ho,ing the general /rice level at the end of the /eriod and the other reflecting the ame at the date of the tranaction. 8rofit under thi method i an increae in the value of the net aet over a /eriod- all valuation eing made in term of current /urchaing /o,er.
Ad$antages And Disad$antages ,f (urrent )urc!asing )o&er *())+ * ())+ Met!od: C88 method i ueful for finding out real re al financial /oition of organi5ation. =ollo,ing are the advantage of C88 method. +. C88 meth method od ado/t ado/t the ame unit of meaure meauremen mentt $ ta&ing into into account account the /rice change. @. Ende Enderr C88 C88 metho methodd- hit hitor orica icall acco accoun unt t cont contin inue ue to e main mainta tain ined ed.. C88 C88 tatement are /re/ared on u//lementar$ ai. 3. C88 method method facilitate facilitate the calculatio calculation n of gain or or lo in /urchain /urchaing g /o,er /o,er due to the holding of monetar$ item. ". C88 C88 method method ue ue comm common on /urc /urcha hain ing g /o,e /o,err a meau meauri ring ng unit unit.. *o*o- the the com/arative tud$ i ea$. . C88 metho method d /rovid /rovide e reliale reliale financial financial informat information ion for ta&ing ta&ing manage managemen mentt deciion to formulate /lan and /olicie. F. C88 C88 meth ethod enu enure re &ee/ &ee/in ing g inta intact ct the the /urc /urch hain aing g /o,e /o,err of ca/i ca/ita tall contriuted $ hareholder. *o- thi method i of great im/ortance from the /oint of vie, of the hareholder.
Disad$antages ,f (urrent )urc!asing )o&er *())+ Met!od: =ollo,ing are the ome maor /oint for the critic of C88 method; +. C88 method method conider conider onl$ onl$ the change change in general general /urchaing /urchaing /o,er. /o,er. It doe not conider the change in the value of individual item. @. C88 method method i aed on tatitical tatitical inde6 inde6 numer numer ,hich ,hich can not not e ued in in an individual firm.
3. It i ver$ difficult difficult to chooe chooe a uitale uitale /rice inde6. inde6. ". C88 C88 method method fail fail to remove remove all the the defec defect t of hit hitor orica icall cot cot accoun accounti ting ng $tem. . 2he ue of general general /rice /rice inde6 for C88 C88 method method i 4uetion 4uetioned. ed. ?hile ?hile general general /rice inde6 deal ,ith conumer good- uine i intereted in the /rice movement of /roducer good.
(urrent (ost Accounting *((A+ Met!od: 2he Curren Currentt Cot Cot Accou Accounti nting ng i an alterna alternativ tivee to the Curren Currentt 8urcha 8urchain ing g 8o,er 8o,er Method. 2he CCA method matche current revenue ,ith the current cot of the reource ,hich are conumed in earning them. Change in the general /rice level are meaured $ Inde6 Numer. */ecific /rice change occur if /rice of a /articular aet change ,ithout an$ general /rice change. change. Ender thi methodmethod- aet are valued at current cot ,hich i the cot at ,hich aet can e re/laced a on a date. ?hile the Current 8urchaing 8o,er (C88) method i &no,n a the eneral 8rice Gevel a//roach- the Current Cot Accounting (CCA) method i &no,n a */ecific 8rice Gevel a//roach or 'e/lacement Cot Accounting.
Features ,f (urrent (ost Accounting*((A+: +. 2he fi6ed fi6ed aet aet are recorded recorded at re/lacement re/lacement cot value in the alance alance heet. heet. @. Inve Invent ntor orie ie are are ho, ho,n n at mar&e ar&ett valu valuee rath rather er than than mar& mar&et et or cot cot /ric /ricee ,hichever le a in the hitorical $tem i. 3. 'evaluation 'evaluation ur/lu ur/lu are tranfer tranferred red to current current cot accoun accounting ting reerve reerve ut not not ditriuted a dividend to hareholder. ". De/reciation De/reciation of of fi6ed aet i i to e calculat calculated ed at re/lacemen re/lacementt value. value. . 2,o t$/e t$/e of /rofit /rofit i.e. /rofit /rofit from from o/eration o/eration and /rofit /rofit from from revaluation revaluation are calculated. F. Giaili Giailitie tie are record recorded ed in their origin original al value ecau ecauee there i no an$ change change in monetar$ unit.
,bjecti$es ,f (urrent (ost Accounting*((A+: +. 2o /rov /rovide ide correct correct and reliale reliale financi financial al informat information ion aed aed on the curren currentt re/lacement cot. @. 2o calculate calculate the /rofit /rofit ,ithou ,ithoutt changing changing the the hitorical hitorical /rofit. /rofit. 3. 2o /rotect /rotect the uine uine in the the event event of normal normal inflationar$ inflationar$ ituatio ituation. n. ". 2o &ee/ level level of ca/ital ca/ital in ver$ alance alance /oition /oition $ ma&ing ma&ing valuati valuation on of aet in /ro/er value aed on re/lacement value. . 2o /rovi /rovide de realitic realitic informat information ion to the managemen managementt- invet invetoror- creditor creditorgovernment and to other intereted /artie. F. 2o /re/are /re/are the financial financial tatement tatement at the the end of of the $ear on on the ai ai of current current value of uch item.
-imitations of Inflation Accounting: 2hough Inflation Accounting i more /ractical a//roach for the true reflection of financial tatu of the com/an$- there are certain limitation ,hich are not allo,ing thi to e a /o/ular $tem of accounting. =ollo,ing are the limitation; +. Change Change in in the /rice /rice level level i a conti continuo nuou u /roce /roce. . @. 2hi 2hi $t $tem em ma&e ma&e the the calc calcul ulat atio ion n a tedi tediou ou ta& ta& eca ecau uee of too too man$ man$ converion and calculation. 3. 2hi $tem $tem ha ha not een given given /reference /reference $ ta6 authorit authoritie. ie.
(onclusion: :ver$ /eron on thi earth ha een affected $ Inflation- ome /oitivel$ ut mot of the /eo/le negativel$ ecaue the Inflation lead to the eroion of general /urchaing /o,er. 2he Inflation /are none and it e4uall$ influence the Buinee li&e the /eo/le. !itorical cot accounting doe not ta&e into account the change in the rie in the value of aet and it im/act on Balance *heet and 81G Account due to inflation and doe not reflect the real ,orth of the uine ,hich i ver$ re4uired for effective deciio deciion n ma&ing ma&ing.. Inflati Inflation on Accou Accounti nting ng ha remove removed d thi thi dra,a dra,ac& c& $ /rovid /roviding ing method for aduting the figure according to eneral or */ecific 8rice level. De/ite a right method of /reenting financial tatement- Inflation Accounting i till not not ,ide ,idel$ l$ /rev /revale alent nt due due to certa certain in limita limitatio tion n.. But But ,ith ,ith more more reea reearc rch h and and develo/ment of accounting oft,are in thi field- there i no dout that Inflation aduted accounting i the future of =inancial Accounting.
