VALUATIONS FOR RECORDING PURPOSES 1. Fundamental principle involved.—The book keeper in operating his accounting system must re duce to financial records the effects and results of va rious transactions. He must establish the valuations at which these facts will be recorded and base these valuations upon grounds which will make them both reasonable and just. At first thought it may appear that recording a transaction involves simply the charging of an account with the amount of money paid out or the liability incurred. But such a happy con dition is not always encountered. For instance, thru shrewd buying a firm may purchase an article which is worth twice its cost to them. At what price should the bookkeeper record this purchase—cost value or actual value? It is an established principle of accounting that profits cannot be treated as such until they have actually been earned. In the above illustration, there is a possibility that 100 per cent profit would be made on the article purchased. However, until that profit has actually been realized and until it has been con verted into a tangible item, such as a right against others or against cash, we are justified in carrying that purchase only at its cost value. Therefore, the fun damental principle involved in recording the transac tions is to record them at their cost value.
2. Some questions in valuation.—It has been seen that each business transaction involves the exchange of valuable rights and services and that, for the pur pose of making records, the value of the rights or services received are considered just equal to the value of the rights or services given. This equation is ex pressed in the familiar form of a double entry. The valuation at which the entry shall be made has still to be determined.
In some cases, the determination of value is ex tremely simple. If merchandise was purchased for $1,000 cash, there would seem to be no question but that the merchandise was to be valued, for the pur pose of recording, at $1,000. However, this illus tration is extremely simple and involves no question about the valuation to be placed upon the thing given in exchange for the merchandise, because that hap pens to be either $1,000 of money itself or an order upon a bank for that amount of money. Cash is the
beginning and the end of operations in business car ried on for profit. Now, when merchandise is sold for $1,500, a complication arises and, if it is sold on 60 days' time, the matter is still further complicated.
For the purposes of this discussion, all valuable rights may be divided into three classes, viz.: (1) cash; (2) instruments with which to obtain future in come; (3) promised but uncollected income. There is, without doubt, no question about the valuation of cash. It is either money or that which can be con verted into money without loss, including the ordinary substitutes for money as a medium of exchange.
3. Sources of future income.—The second division of rights consist of sources of future income. The instruments with which it is hoped to obtain an in come in the future consist of goods purchased and held for sale or of materials from which goods for sale are made. In this division also may be included the labor expended in making or selling the goods, and the fuel, water, machinery, buildings, etc., by means of which the goods are made and exhibited, or which have an influence on their sale. The total cost of all these items will be the cost of the income which they produce.
One of the main purposes of accounting is to meas ure income, to find its cost of acquisition and to de termine the amount of profits contained in it. But the profit is merely the increase in the fund of cash which tends to result from the complete cycle, start ing with cash and ending with cash, and involving the use of all the other production factors mentioned. This cycle is the turnover of the investment and the number of times that it turns over in a year is an indication of the degree of profitableness of an enter prise. In other words it shows how much work money is really doing. Increasing the rate of turnover naturally results in a smaller permanent investment.