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Thursday, 25 March 2010

SA accountants unknowingly destroy more real value than inflation

A company’s capital is synonymous with its Net Assets or Shareholders Equity under a financial concept of capital such as invested money or invested purchasing power.

100% of the inflation-adjusted original real values of all contributions to Shareholders´ Equity have to be invested in revaluable fixed assets with an equivalent maintained fair value (revalued or with unrecorded hidden holding gains) in order not to destroy Shareholders Equity’s real value during low inflation under the traditional Historical Cost Accounting model – i.e. measuring financial capital maintenance in nominal monetary units - implemented by most, if not all, companies in South Africa.

The real value of the portion not invested as such is currently unknowingly being destroyed at a rate equal to the annual rate of inflation when the constant real value non-monetary item Shareholders Equity is measured in nominal monetary units, i.e. implementing the very destructive stable measuring unit assumption as done by most, if not all, accountants in SA when they maintain HCA for an unlimited period of time during indefinite low inflation.

Most companies do not meet the requirement to investment 100% of the original real value of all contributions to Shareholders´ Equity in revaluable fixed assets. In practice this means that the real value of Retained Profits never maintained of most SA companies and banks are unknowingly, unintentionally and unnecessarily being destroyed at a rate equal to the annual rate of inflation by SA accountants implementing the IASB-approved traditional HCA model.

Implementing the IASB-approved alternative, namely, financial capital maintenance in units of constant purchasing power as authorized in 1989 in the exact same Framework, Par 104 (a), would stop this unknowing destruction by SA accountants forever under all levels of inflation in all entities that at least break even - whether they own revaluable fixed assets or not - and without the requirement of more money or more Retained Earnings just to maintain the real value of existing Shareholders´ Equity.
One percent inflation destroys about R20 billion per annum in the real value of the Rand in SA. 5.7% annual inflation (Feb 2010) thus destroys about R114 billion per annum in the real value of the Rand.

SA accountants would maintain instead of currently unknowingly and unnecessarily destroy about R200 billion per annum in constant item real value in the SA real economy when they reject the stable measuring unit assumption as approved by the IASB in the Framework, Par 104 (a). SA accountants thus unknowingly, unnecessarily and unintentionally destroy more real value in the SA real economy than inflation.

This R200 billion per annum completely unnecessary real value destruction can be reduced to zero overnight by SA accountants simply implementing the other option authorized by the IASB twenty one years ago in the Framework, Par 104 (a), namely financial capital maintenance in units of constant purchasing power.

Makes you think, doesn´t it?
Copyright © 2010 Nicolaas J Smith