Financial reporting Assignment Example | Topics and Well Written Essays - 1000 words

financial reporting - Assignment ExampleFinancial statements, prep ared on the basis of historical cost accounting method, do non provide a fair and true presentation of equitys performance or future prospects, if capital is inadequately maintained (Charnes, 1976). Moreover, critical assessment of equitys performance by studying ratios, such as, final payment on capital employed, will be useless if capital is undervalued, gather is overstated and values of assets are misinterpreted. These sometimes occur because of historical cost accounting. The limitations have been summarized as followsOverestimating and valuing profits by undercharging depreciation on the basis of historical cost and recording sales cost at original cost of inventories, whitethorn result in the reduction of an entitys capital because of high taxation charges and distribution (Belfo and Trigo, 2013).This accounting woo toughens the task for analysts and shareholders of evaluating and assessing the ability and performance of management. This is precisely because variations in the situation of the current market are not considered in historical valuation approach.Then, owner of the entity tried to restock his inventory and realized that the cost of replacement was $2,200. They did not have enough cash to restructure to the pre-sale condition. The difficulty escalated due to the fact that the owner was inefficient to differentiate between the profits generated from holding the inventory for a particular time period onward selling it and the revenue that was generated through trading. Had the company matched the cost of replenishment against revenue, they would have realized a profit of $300. If this excess proceed had been withdrawn, it would have left the company with $2,200, which could be used for the purpose of inventory replacement. Thus, this caseful suggests the fact that historical accounting can be misleading to the user of the information (Bakar and Said, 2007).The applicatio n of habitual price index under this method is