(2) Accounting - Wealth and the Measurement of Profit PDF

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Lecture 2, Semester 1 - Part 2...

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Accounting: Wealth and the Measurement of Profit What is Wealth? • A measure of worth and entity" • Measured at a point in time (Stock concept, a static measurement)" • When an enterprise owns less what it owes " Profit • Profit = Performance " • This is measured over a period of time, it takes time for us to earn a profit through sales etc. (Flow concept) " • Profit is related to wealth, the relationship derives from an economist known as Hicks, his definition is - “that amount an individual can consume and still be as well off at the end of the period as (s)he was at the start of the period” • The definition outlines that profit is the change in wealth" • Profit1 = wealth1 - wealth0" Assigning Value • •

To establish overall wealth we must assign value to items/posessions, based upon: " Cost - Historic cost " - Replacement cost"

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Value - Not realizable value" - Economic value "

Historic Cost This is the cost you paid for an item when we acquired it, this is objective as there is documentary evidence through a receipt of invoice. " This is valid at one date." The historic cost is written down to recognise depreciation." Replacement Cost This is the price that would have to be paid at todays prices, how much would it cost to replace an item similar to the existing item. " Do we wish to replace the item?" Unique / specialised items? How can you put a value on something that is special to an individual " Replace with an upgraded item, technological advance may want you to upgrade an item " Net-Realizable Value This is the amount likely to be obtained by selling an item, less any costs incurred in selling " By realising assets this means you are selling certain items " Net-Realizable Value: Man Utd shirt " Selling price = £20# # # NRV of shirt = £19" Cot of newspaper advert = £1"

Varying valuations - a subjective point of view, for example selling of a house is valued differently by individuals " Circumstances of the sale: " 1. Forced sale - willing to accept a lower amount as desperate for the money" 2. Open-market sale - waiting for a price around the selling price, finding equilibrium in the market" Present Economic Value The value of expected earning from using the items in question, this is a future time horizon. Discounted an appropriate rate to give a present-day value" This captures what future earnings are worth today. " Compound interest showing how £1000 grows over time. Economic value looks at the process of compounding and takes it the other way - this is known as discounting. " PV = FV " (1+i )n" i = interest rate" n = number of years " PV = present value" FV = future value" Recognise future use brings benefits " Ideal measure ?" Is it easy to estimate future earnings?" What discount rate should be used? " Historic cost underpins contemporary UK practice....