In the absence of evidence to the contrary, accountants base their measurement and reporting on the going-concern assumption. This means that accountants are not constantly assessing the liquidation value of a company in determining what to report, unless of course liquidation looks as though it is a possibility. This allows for orderly allocation of long-term costs and revenues based on a presumption that the business will continue to operate into the future. Accountants are notoriously conservative (when in doubt, select the lower asset/revenue measurement choice, and the higher liability/expense measurement choice), but not to the point of introducing bias based on an unfounded fear for the future.
Accountants assume they can divide time into specific measurement intervals (i.e., months, quarters, years). This periodicity assumption is necessitated by the regular and continuing information needs of financial statement users. More precision could be achieved if accountants had the luxury of waiting many years to report final results, but users need timely information. For instance, a health club may sell lifetime memberships for a flat fee, not really knowing how long their customers will utilize the club. But, the club cannot wait years and years for their customers to die before reporting any financial results. Instead, methods are employed to attribute portions of revenue to each reporting period. This is justified by the periodicity assumption.
Monetary Unit Assumption
The significance of this assumption is easily taken for granted. It means that accounting measures transactions and events in units of money. To understand the impact of the monetary unit assumption, think about your personal car for a moment. In your mind, how did you visualize it - as a dollar amount, or by model, age, mileage, functionality, etc.? Stated differently, if someone asked me what I drive, I would not say $10,000; I would simply report the make and model of my vehicle. However, accounting purports to measure all things in units of money. This solution overcomes the problems that would arise by mixing measures in the financial statements (e.g., imagine the confusion of combining acres of land, cash in bank, square feet of buildings, etc.). The monetary unit assumption is core and essential to the double-entry, self-balancing accounting model.
Stable Currency Assumption
Inflation wrecks havoc on the usefulness of financial data. For example, suppose a power plant that was constructed in 1970 is still in operation. Its accounting reports may show a profit by including currently generated revenues with depreciation of old ("cheap") construction costs. A different picture might appear if one reconsidered the "value" of the power plant that is being "used up" by generating the current revenue stream. Suffice it to say that the steady beat of inflation can distort performance measurement. Accountants have struggled with this issue for many years, and the FASB even experimented with supplemental reporting requirements for several years. At the present time, inflation is relatively tame, and this is not a hot topic. However, it certainly has the potential to reemerge as a significant issue if inflation reappears its ugly head again. In the meantime, accountants operate under the stable currency assumption, going along as though costs and revenues incurred in different time periods can be safely used without adjusting for changes in the value of the monetary unit over time.
What do you Think?
After reflecting on the above, how do you now regard accounting? Hard science or social science? Math or art? Will you think of accounting measures as absolute truth or abstract representation? And, are you starting to discern why accounting thought and knowledge entails far more than mere bookkeeping? Most importantly, when you use accounting reports, will you expand your horizon to consider more than just a company's reported bottom line?