Normative Accounting Theories and Their Application to Measurement

This article discusses the normative accounting theories and their application to measurement. It covers historical cost accounting, current cost accounting, fair value accounting, and other alternatives to historical cost accounting. The article also explains the conceptual framework of financial reporting and its advantages. Subject: Accounting, Course Code: ACC101, College/University: Not mentioned.

Running head: CONCEPTUAL FRAMEWORK
Conceptual Framework
Name of the Student
Name of the University
Author Note

1CONCEPTUAL FRAMEWORK
Table of Contents
Answer to question 1.......................................................................................................................2
Answer to question 2.......................................................................................................................3
Answer to question 3.......................................................................................................................4
References........................................................................................................................................5

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Answer to question 1
The normative theory of accounting is a process that is not based on the observations, it is
practical in nature. It takes place by utilizing the various approaches and end up coming into a
conclusion. This method is used to calculate the income based value and not the cost (Mattessich
et al.,2014).
The main normative accounting theories as they apply to measurement are:
• Historical Cost Accounting (HCA)
• Current Cost Accounting (CCA)
• Continuously Contemporary Accounting (CoCoA)
• Fair Value Accounting (FVA)
• Current Purchasing Power Accounting (CPPA)
• Modified Historical Cost Accounting (MHCA)
In case the normative theories of accounting, the first thing to consider is their place in
the context of accounting history. Traditionally, the books of accounts were maintained
according to the historical cost accounting method. A measurement process is socially
constructed and is developed inductively (Smith, 2017). . In this process the value of the assets
are realized at which was purchased. This method of accounting was came into action in the
yaer1970 and regarded as a positive process of measurement. Due to the change in the conditions
of economies and the evolution of the principle of accounting, the historical cost nature became
positive to normative. The historical cost method represents the cost that has been occurred and

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not the future value. Therefore, it is not a practical technique that can be used by the modern
accountants (Tang, 2017).
The historical cost Accounting:
The historical cost basis of accounting the various assets and the liabilities are recorded at
their purchase value. It represents the process in which income statements and balance sheet.
The main Benefit of historical cost it is that the process of recording the accounts are
comprehensive and straightforward (Bell, 2016). Although it is simple and easy to construct,
there is no current value indication of the assets and the opportunity cost of the assets are
ignored.
Therefore, to overcome the limitations and adapt the changes in the nature of accounting,
different other normative alternatives are identifies. According to IFRS, the various accounting
alternatives other than historical are listed below:
Constant purchasing power accounting: It is known as CPPA, which is a accounting model
that has been approved recently by the International Accounting Standard Board (IASB) (Card,
2016). It is a a alternative to historical cost accounting that involves the measurement of financial
in units of constant purchasing power, that is in terms of a daily index.. In this process of
accounting, the constant power of purchase of the capital for a period that is indefinite can be
maintained automatically.
The assumption of the CPPA set by the IFRS (International Financial Reporting Standard)

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 The accrual basis of accounting is followed in the process the transaction effect and the
other events that are relevant are recognized at the time they occur. They are not
dependent on the time when the cash is paid or gained (Chen, Shroff & Zhang, 2017).
 The CPPA also follows the policy of going concern, it means that the business will carry
on till near future.
 CPPA is measured in terms real value.
An Example of CCPA
For example, assuming a firm holds a land ata cost of $10, 000 at 5 per cent inflation rate
then the adjusted value of the land may be shown as $10,500 and in case the land was sold then it
is assumed that the cash received would have the same purchasing power. Although the value of
the land in terms of money has increased there would be no gain or loss recognized. By
comparison, $10 in cash held now is still worth $10 in cash 2 years later, but its purchasing
power would have declined and this reduction in purchasing power would be recognized in
determining the entity’s financial performance.
The advantages and disadvantage of the CPPA:
Benefits of CPPA:
The advantage of the Current purchasing power accounting is that it measures the impact
on the entity in terms of the purchasing power of shareholder and as it depends on the on the
standard index it is less complex and accurate (Jack, 2015).
Disadvantages of the CPPA:

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The major drawback of the CPPA method is that it does not represent the current values
of the liabilities and the assets. The general price index may not be appropriate for all th assets in
all the business (Lachmann Stefani & Wöhrmann 2015). Moreover, sometimes the CPP may fail
to capture the economic stability durind fluctuations in the general price movements
Fair value accounting: Fair value accounting is the accounting principle that has been It was
established in the early 1990 but was amended in 2006. it was implemented by the IFRS to
provide a standard in the calculation of fair value by assessing the historical cost. It requires that
the fair market value or an estimation of market price be used the present value of the expected
cash flow.
The advantages and disadvantage of the Fair Value:
Advantages of Fair Value:
The fair value reflects the reality of the economy and there is a Losses are recognition of and
the valuations are accurate.
Disadvantages of the Fair value:
It is of high risk and may affect the accounting down market.
Example:
For example if A ltd purchased a two-acre land in 2006 for $1 million, then a historical-
cost financial statement would still record the land at $1 million on the balance sheet. If B ltd.
purchased a similar two-acre land in 2015 for $2 million, then B ltd would record $2 million on
its balance sheet. Even though both the land are identical, A would report an asset with one-half
the value of B’s land; historical cost is not being able to identify that the two items are similar.

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However, A and B used fair-value accounting, and then both would report an asset of $2 million.
The fair-value balance sheet provides information for investors who are interested in the current
value of assets and liabilities, not the historical cost
Current cost accounting: The current cost accounting is a alternative identified to the historical
cost accounting. It is based on the actual values and not on the adjusted historical cost. It helps
to differentiate the profits from holding and trading gains (Nakajima, Kimura & Wagner, 2015).
It is based on the values that are actual and the historical costs that are adjusted are not adjusted.
It differentiates the profits from holding and trading gains are differentiated. The profits of the
holding can be either realized or unrealized. The Income perspective adopted will determine
whether holding gains or losses will be treated as income.
Assumptions of CCA:
The assumptions of the currents cost accounting is that that they consider the gains and
losses as income and capital adjustments (Parker & Fleischman 2017).
Advantages and disadvantages of the Current cost accounting:
Advantages of CCA
The current cost accounting benefits the business in many ways, it helps in comparison of
performance of the entity accurately and the current state of performance can be evaluated easily
with the help of this method.
Disadvantage of CCA
There can be lack of familiarity and the cost of replacement may differ that can give rise
to high complexity.

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An example to understand the current cost accounting is as follows:
Suppose a building as been acquired on first of January 2012 at a cost of $1000000 and
the useful estimated life is 10 years. The replacement cost is $1800000 on first of Jan 2017 and
$2000000 on 31st of Jan 2017. Then the current value of depreciation by the current cost method
will be calculated by :
18000000+ 2000000
2∗10
¿ ¿ =$1900000
Therefore, as the historical cost method has become obsolete and proven as less practical.
It is necessary to replace the traditional method of historical cost to represent the transaction. It
can be easily replaced by all these accounting methods, which are more practical and accurate
(Schaltegger, & Burritt, 2017). .

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Answer to question 2
Conceptual framework of project refers to the major undertaking of the International
Accounting Standard Board (IASB) that has been framed for improvisation of the financial
process of reporting by providing a more complete set of concepts, which is clear and are
updated. It refers to the following areas that are not covered by the Framework that is existing.
It helps in the measurement, performance, disclosure, derecognizing and reporting of the
various financial transactions that take place in a business (Schaltegger & Burritt, 2017). The
purpose of the conceptual Framework includes clarification of the various accounting
information that is needed to meet the objectives of the firm and provide a clear definition of the
various assets and liabilities. It provides a sound guidance to support the definition that has been
proposed.
The users of the financial reporting maybe termed as primary user and secondary uses
the primary users at the managers, who use information for taking internal decisions of the
business. The secondary users are the external users like the various investors, lenders, public in
general and the government. Investors and the business owners are the individuals who need
information for the stakeholders of the companies (Walton, 2018). The decision of the
stakeholders to determine whether to hold, sell or buy the stocks and shares of the company next
comes the managers who are the internal users the managers; take various information of
accounting from the reporting to make the critical decision that takes place in the business.
Secondly, then comes the lenders of the business. The Lenders refers to the trade creditors and
others suppliers who are interested in the company to get information regarding the company's
ability to pay the various obligations when it comes to use. They are interested in the liquidity of

9CONCEPTUAL FRAMEWORK
the company and the various short-term obligations (van Rensburg Coetzee, & Schmulian,
2014). Then comes the government, it refers to the bodies of the state who authorizes the tax and
are interested in getting the information of the company for the purpose of regulation and the
computation of tax (Cañibano, 2017). Taxes of the business are computed with the help of the
various operations of the company. The tax authorities supervise the representations of the
transactions in the financial report and the amounts of tax are evaluated according to that. Then
comes the employees who work in the company. They are interested know the profitability and
stability of the business in order to determine the ability to get the salaries and the various risk
behind it. They need to be informed about in the financial position of business and assess the
performance, the company's expansion possibilities and the development of their career (Zhang,
& Andrew 2014).
Then comes the customers who are the people who are into a long-term relationship with
business .They enter into a contract or involvement between the customers and the business.
They also need to verify the financial records so that there is a scope the existence of the
business and establishment of stability of operations the main purpose is heightened when the
customers depend upon the entity (Craig, Smieliauskas & Amernica, 2017). Then comes the
public in general who are generally the various students and analyst in need for information of
the business so that they can evaluate the reports and make various researches.
The user of the business reports the accounts in two ways one is the historical method and
the other is the fair value method. The Historical Cost measurement of accounting and the fair
value measurement of measurement accounting go hand in hand between the countries. In case
of FVA, the payment system is more risky than the historical method. However, the historical
cost accounting is considered as obsolete as it ignores the future and the present value of the

10CONCEPTUAL FRAMEWORK
assets. Both the historical method and the fair value method have underlying limitations (Dinnie,
2015). There exist a debate regarding the adaptation of one of the measurement technique by the
users, but the question still lies whether user should choose between fair value accounting and
historical accounting to adopt the financial reporting standards. (Tracey, 2015) Therefore, it can
be said that it differs from business to business regarding the measurement, the decision that is to
be taken according to the nature of business.

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Answer to question 3
The definition of the conceptual Framework is given in the above discussion question (2).
According to that the conceptual framework of financial reporting is a process in which the
Accounting International Accounting Standard Board (IASB) has set a standard for investigating
the practical problems of accounting. It deals with various financial reporting fundamentals and
the objectives of the framework. It is a guideline for the various principles of accounting and
reporting as it helps to develop the framework to set the accounting standard for resolving the
various issues in the accounting principles .
According to the IASB, the advantages of the conceptual framework are that it gives a
sound clarity of the various accounting concept that has been with the accounting standards. The
standards like the IFRS and IASB guides the conceptual framework to develop the accounting
standards, provide consistency and provides understanding in the process of accounting,
auditing and other operations. It helps in the determination of the various nature and the
functions of the financial information of the report. The conceptual Framework also acts as a
guide for the transactions that are unusual. According to the users of the Framework, having a
conceptual Framework, it is useful to determine the credibility of the accounting and accounting
profession as well. Moreover, the concept enhances the process of comparison of the various
statements so that the performance of the business is verified. Therefore, the conceptual
Framework is a very systematic and a practical method of reporting that has been taken place in
recent time. According to the boards of standard stating and the different bodies of accounting,
the conceptual Framework is a principal be based outlook that is user –centric. It offers that is

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based on the targets to generate the purpose of financial reporting in terms of technological
normative ethics the conceptual Framework is totally a line to the ethical universalism.
Hines in the general has referred the framework as a body of knowledge that provides
information to the users of accounting. She has referred the conceptual Framework as the core
knowledge of various accounting practice framework. It guides all the transactions that is why
she has considered it as a strategic maneuver that provides legitimacy in the standards setting.
Hines has pointed out various limitations of this concept. She has interpreted that conceptual
framework by highlighting the limitations of the nature of accounting. She states that procedures
of accounting are a complex process that needs total clarification. The conceptual framework
cannot clarify a lack of understanding and clarity.

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