by The British Government appointed Sandilands Committee with a chairman named Mr Francis C.P. Sandilands to recommend and consider the price level accounting. By recommending the adoption of the current cost accounting technique as the price level accounting in the reports of the committee (in 1975), it replaced the replacement cost accounting technique.
Therefore, the current cost accounting technique focused on the current values of individual items in the formation of financial statements and not on the original cost/historical cost.
Characteristics:
- Stocks are valued at current replacement costs at the end of the year or the market price whichever is lower.
- Depreciation charged on fixed assets is on current value.
- COGS is not calculated on its original cost but the replacement costs of the business.
- In addition to the financial statements (balance sheet & profit and loss a/c), a statement of changes and appropriation account is prepared.
- The surplus that arose from revaluation is not distributed rather transferred to the revaluation account.
Adjustments under the CCA technique:
- Backlog Depreciation
- Current Cost of Sales Adjustment (COSA)
- Monetary Working Capital Adjustment (MWCA)
- Gearing Adjustment
- Current Cost Operating Profit
Features of CCA System:
(a) Fixed Assets are to be shown in the Balance Sheet at their value to the business and not at historical cost as reduced by depreciation. That is assets are shown in terms of what such assets would currently cost.
(b) Similarly, inventories are shown in the Balance Sheet at their value prevailing on the date of the Balance Sheet. These are not shown at cost or market price whichever is lower, as in case of historical accounting.
(c) Depreciation is to be computed on the current value of fixed assets.
(d) The cost of goods sold during the year has to be ascertained on the basis of prices prevailing at the date of consumption and not at the date of purchase.
(e) The difference between the current values and the depreciated original cost of fixed assets and of stocks, the increased requirements for monetary working capital and the under provision of depreciation in the past years may be adjusted through Revaluation Reserve Account.
(f) The fixed assets are shown at their “value to the business”. The “value to the business” can be defined in one of the following three ways:
(i) Replacement cost is the estimated cost of acquiring new asset of the same productive capacity at current prices adjusted for estimated depreciation since acquisition.
(ii) Net Realisable value is the estimated selling price in the ordinary course of business less reasonably predictable costs of completion and disposal.
(iii) Economic Value is the sum of the discounted future cash flows expected from the use of an asset during its useful life.
Current Cost Operating Profit:
Three main adjustments to trading account, calculated on the historical cost basis before interest, are required to arrive at current cost operating profit. These are called the Depreciation Adjustment, Cost of Sales Adjustment and Monetary Working Capital Adjustments.
Depreciation Adjustment:
The depreciation adjustment allows for the impact of price changes when determining the charge against revenue for the part of fixed assets consumed in the period. It is the difference between the value to the business of part of fixed assets consumed during the accounting period and the amount of depreciation charged on historical cost basis. The resulting total depreciation charge thus represents the value to the business of the part of fixed assets consumed in earning the revenue of the period.
Cost of Sales Adjustment:
The important principle to be remembered is that current costs must be matched with current revenues. As far as sales are concerned, it needs no adjustment as it is a current revenue. One of the features of current cost accounting is to show inventories in the Balance Sheet on the basis of their value to the business, and not at cost or market price, whichever is lower. If there are stocks, certain adjustments are to be made to cost of sales. If there are no stocks, then cost of sales will comprise only current purchases and cost of sales adjustment is not necessary.
Monetary Working Capital Adjustment:
Most businesses have other working capital besides stock involved in their day-to-day operating activities. For example, when sales are made on credit the business has funds tied up in debtors. Conversely, if the suppliers of goods and services allow a period of credit, the amount of funds needed to support working capital is reduced. This monetary working capital is an integral part of the net operating assets of the business.
Thus, the standard provides for an adjustment in respect of monetary working capital when determining current cost operating profit. This adjustment should represent the amount of additional (or reduced) finance needed for monetary working capital as a result of changes in the input prices of goods and services used and financed by the business.
In a business which holds stocks, the monetary working capital adjustment (MWCA) complements the COSA and together they allow for the impact of price changes on the total amount of working capital used by the business in its day-to-day operations.
Gearing Adjustment:
The net operating assets shown in the Balance Sheet have usually been financed partly by borrowing and the effect of this is reflected by means of a gearing adjustment in arriving at current cost profit attributable to shareholders. No gearing adjustment arises where a company is wholly financed by shareholders’ capital.
While repayment rights on borrowing are normally fixed in monetary amount, the proportion of net operating assets so financed increases or decreases in value to the business. Thus, when these assets have been realized, either by sale or use in the business, repayment of borrowing could be made so long as the proceeds are not less than the historical cost of those assets.
