GAAP – Monetary Measurement
This discussion focuses on the objectives, description and application of this principle.
Examples will be given to strengthen the understanding and capability to apply this
principle at real situation.
Objective:
To distinguish the qualitative and quantitative transactions which have to be recorded in
the financial statements. Furthermore, the concept stated that the monetary unit is
presumed to be stable over time.
Description:
- Only financial transactions are recorded
- Money is the common denominator of economic activity
- Non financial data are ignored
- Qualitative data are ignored
- No allowance for changing prices
- Ignore some important economic information
Application:
For recording, accountants must be clear which transaction is qualitative and quantitative
so that it may not have bias in the full picture of the report. Since investors, managers,
government and general public take the financial statement as a reference in analyzing
the performance of company, all the quantitative transactions should be included in order
to fulfill the reliability of the financial statement.
Example 1:
A company has confirmed to issue 100,000 shares at $50 per share since they will have a
joint-project with Venetian and the company expected to invest $5 million in the project.
All the preparations have been finished but the issuance of the stock can only be carried
out in Feburary next year. If you are the manager, should you include this ‘qualitative’
transaction in your financial statement at the end of this year?
Ans: No.
Explanation:
If you include this transaction, you will make the following entry:
Dr Cash $5m
Cr Common stock $5m
In your financial statements, it will show an increase in both cash and common stock of
$5m. Investors of your company will be misled by this information and they may make
wrong decision on their investment. Therefore, instead of considering it as a quantitative
transaction, full disclosure should be attached that the $5m issuance of stock will only be
taken place in the following year. In this way, the investors can have a clear idea about
the future prospect and development of the company and they can make their own choice
on whether they should make their investment now or buy the newly issued shares of the
company in February.
Example 2:
A new manager might improve employee morale and the improved morale might
improve the performance of the business. Should this attitude be recorded in the financial
statement?
Ans: No
Explanation:
Unlike the purchase of a new asset, the improved morale cannot be accurately expressed
in monetary terms and therefore will not be recorded in the financial statements. The key
thing is that accountants only record and measure financial transactions, even though
there are many other things that are happening in a company that are important.
Example 3
This principle also assumes the unit of measure is stable in which changes in its general
purchasing power are not considered sufficiently important to require adjustments to the
basic financial statements. In other words, it ignores the time value of money.
A piece of land which was worth $500,000 was bought last year. The value of the land
has increased 20%. What adjustment has to be made in the Statement of Financial
Position?
Ans: The cost of land is still $500,000.
Explanation:
With the concept of ‘a dollar today is worth more than a dollar tomorrow’ (to be learnt in
the Financial Management Course in Year 2), we can have the following assumptions:
a. In not recording the new value (still using the historical cost) which means there is no
adjustment in inflation or deflation, the current market value cannot be revealed in the
financial statements.
b. Since there is no adjustment in inflation or deflation if you base on the monetary
measurement concept. Therefore, the market value of the company can be greater or less
than the amount of equity at different economic situations.
Final Comments:
If it is the matter of market value of short term investment, Fair Value Accounting can be
applied. In dealing with the qualitative transactions, disclosure documents can be
attached for reference. In general, application of this concept depends on the even more
basic assumption that quantitative data are useful in communicating economic
information and in making rational economic decisions.
Note 1:
Fair Value Accounting:
Fair Value Accounting can be applied in the valuation of short-term investments. Shortterm investments are adjusted to current market value at the end of each financial period.
'Unrealized Gain (Loss) on Investment' is recorded under stockholders' equity in the
Balance Sheet. Since income tax has to be levied on gains and losses, therefore, the
gain/loss will only be appeared in the Income Statement when the investments are sold.
In the meantime, the gain/loss which has not been confirmed should still be placed in the
stockholders' equity.