Historical cost accounting and fair value acounting Essay - 1

Historical cost accounting and fair value acounting - Essay Example One of the most distinguished differences between these two lies in their definitions. While historic cost is the amount at which the asset or liability was originally obtained, fairvalue is the amount at which the asset could be exchanged or a liability settled between knowledgeable, willing parties in an arms length transaction. Another difference between them is that under historic cost accounting entries are made only when an actual transaction arises while under fairvalue accounting measurements are updated periodically even in the absence of explicit transactions. In historic cost accounting reported amounts can be calculated based on internally available information about prices in past transactions, without reference to outside data whereas fairvalue method requires current market prices to determine reported amounts, which may require estimation and can lead to reliability problems. In accordance with risk management, the fairvalue method easily reflects the most risk managed strategies while the historic cost method requires complex rules to attempt to reflect the most effect of most risk managed strategies. There has been a shift in the economic situation around the world and henceforth, we see a shift taking place in the accounting principles too. While historical cost method might have numerous advantages, the fairvalue has much more importance in today’s volatile markets. Fairvalue allows users of financial statements to obtain a more truer and fairer view of the company’s real financial situation as only fairvalue reflects the prevailing economic conditions and the changes in them. By contrast, historical cost based accounting shows the conditions that existed when