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Thursday, 31 December 2009

Objective of general purpose financial reporting

The objectives of general purpose financial reporting are:

1) Automatic maintenance of the constant purchasing power of capital in all entities that at least break even - ceteris paribus.¹ ²


2) Provision of continuously updated decision-useful financial information about the reporting entity to capital providers and other users.

The objectives try to answer the question: what is accounting suppose to do?

Continuous financial capital maintenance to continuously maintain the real value of capital stable can only be measured in units of constant purchasing power during inflation, hyperinflation and deflation.

Financial capital maintenance in nominal monetary units per se is a complete fallacy, even though it is a very popular accounting fallacy, it is authorized by the IASB in the Framework, Par 104 (a) in 1989 and even though it is 700 years old, a SA Generally Accepted Accounting Practice and forms part of real value destroying generally accepted traditional Historical Cost Accounting used by everyone. It still is a fallacy that costs SA about R200 billion per annum in real value unknowingly, unnecessarily and unintentionally destroyed by SA accountants implementing their very destructive stable measuring unit assumption - the second of the three very popular accounting fallacies - two of which are authorized by the IASB in the exact same Framework, Par 104 (a).

A company has continuously maintained the real value of its capital stable if it has as much capital - expressed in units of constant purchasing power - at the end of the reporting period as it had at the beginning of the period, after excluding any distributions to, and contributions from, owners during the period. Consequently: a profit is earned only if the constant purchasing power of the net assets at the end of the period exceeds the constant purchasing power of net assets at the beginning of the period, after excluding any distributions to, and contributions from, owners during the period.

Continuous financial capital maintenance implies maintaining the constant purchasing power of constant items by continuously applying the monthly CPI during low inflation and deflation. The daily parallel rate is continuously applied during hyperinflation.

Variable items are continuously valued in terms of IFRS excluding the stable measuring unit assumption during low inflation and deflation. Variable items are continuously valued in units of constant purchasing power during hyperinflation by applying the daily parallel rate.

Monetary items are money held and items with an underlying monetary nature valued in nominal monetary units during the reporting period. The net monetary loss or gain from holding monetary items is included in net income.

¹ “It is the overall objective of reporting for price changes to ensure the maintenance of the business as an entity.”

Accounting for Price Changes: An Analysis of Current Developments in Germany, Adolf G Coenenberg and Klaus Macharzina, Journal of Business Finance & Accounting, 3.1 (1976), P 53.

² The Framework, Par 104 (a): "Financial capital maintenance can be measured in either nominal monetary units or units of constant purchasing power."

Kindest regards,

Nicolaas Smith