OPPORTUNITY COST FUNDAMENTAL COST PRINCIPLE IN ECONOMICS MEASURES

OPPORTUNITY COST • FUNDAMENTAL COST PRINCIPLE IN ECONOMICS • MEASURES COSTS IN TERMS OF OPPORTUNITIES FOREGONE (i. e. THE NEXT BEST OPPORTUNITY) • LEADS TO NOTION OF IMPLICIT COST • ACCOUNTANCY MEASURES EXPLICIT COSTS • ECONOMICS MEASURES BOTH EXPLICIT AND IMPLICIT COSTS

IMPLICIT COSTS • Implicit costs apply to factors of production - in small businesses where owner is principal worker, labour may no be properly costed - land such as office space also has an opportunity cost - owner capital has an opportunity cost as the interest rate foregone on investment - enterprise has an opportunity cost which in economics is measured as normal profits So from this perspective normal profits represents a legitimate cost of business

ACCOUNTANCY MEASUREMENTS • Historic Cost Accounting - based on original cost values • Current Cost Accounting - based on replacement values • Historic cost still dominates accountancy profession - not suitable in times of inflation

CREATIVE ACCOUNTING • PRE-ACQUISITION WRITE DOWN • CAPITALISATION OF COSTS • DISPOSALS • BRAND ACCOUNTING • DEFERRED CONSIDERATION • EXTRAORDINARY AND EXCEPTIONAL ITEMS • OFF BALANCE SHEET FINANCE • CONTINGENT LIABILITIES • CHANGES IN DEPRECIATION POLICY • CONVERTIBLE AND PUT OPTIONS • PENSION FUND SURPLUS • CURRENCY MISMATCHING

DEPRECIATION AND STOCKS • IN ACCOUNTING, DEPRECIATION IS BASED ON THE HISTORIC COST VALUE OF AN ASSET • IN ECONOMICS, DEPRECIATION IS BASED ON THE EXPECTED FUTURE EARNING POWER OF AN ASSET • ACCOUNTANCY TENDS TO USE EITHER THE LIFO OR THE FIFO METHODS OF VALUING STOCKS • NEITHER METHOD WILL BE ACCURATE IN TIMES OF INFLATION • ECONOMICS WOULD SUGGEST A SYSTEM OF CONSTANT COST (RATHER THAN CURRENT VALUES) AS MORE APPROPRIATE

GOODWILL AND EXTERNALITIES • GOODWILL CONCEPT MUCH WIDER IN ECONOMICS THAN ACCOUNTING • EXTERNAL ECONOMIES OF SCALE • EXTERNAL DISECONOMIES OF SCALE - Tend to be ignored in terms of conventional accounting IN ECONOMICS A TECHNIQUE CALLED COST BENEFIT ANALYSIS IS USED

PROFITS • Profits as a residual • Normal and supernormal profits • Economic rent and monopoly profits • Reward for innovation and risk • Profit as exploitation NEED FOR LIMITATION ON PROFITS

MEASUREMENT OF PROFITS • ABSOLUTE GROSS PROFITS (BEFORE TAX) NET PROFITS (AFTER INTEREST DEEDUCTIONS) DISTRIBUTED AND UNDISTRIBUTED PROFITS SOCIAL PROFITS • RELATIVE PROFITS AS % OF CAPITAL EMPLOYED PROFITS AS % OF SHAREHOLDERS' EQUITY