Combination of Values Approach

In this article we will discuss about the combination of values approach.

The combination of values approach has been suggested as a way of avoiding some of the disadvantages of the different current value valuation methods. The Canadian Accounting Research Committee (CARC) favours a combined use of current entry and current exit prices.


More specifically, the following values are advocated by CARC:

(1) Monetary assets should be shown at discounted cash flow except for short-term items where the time value of money effect is small.

(2) Marketable securities should be valued at current exit price with adjustments for selling costs.

(3) In general, inventory items should be valued at current entry prices.

(4) Fixed assets should normally be valued at replacement cost—new (less applicable depreciation calculated on the basis of the estimated useful life of the assets held).

(5) In general, intangible values should be valued at current value.


(6) Liabilities should be shown at the discounted value of future payments except for short-term items when the time value of money effect is small.

Although the combination of values approach may appear to rest on arbitrary rules, supporters of the combination approach suggests specific decision rules for the choice of a valuation method.

Under the combination of values approach, the following three bases of valuation are generally considered:

(1) Current Purchase Price [Replacement cost of the asset (RC)]


(2) Net Realisable Value of the Asset (NRV)

(3) Present Value of Expected Future Earnings (or cash flows) from the Asset (PV).

Six hypothetical relationships exist between these three values:

In 1 and 2 above, NRV is greater than PV. Hence, the firm would be better off selling rather than using the asset. The sale of the asset necessitates its replacement, if the NRV is to be restored. It can he said therefore, that the maximum loss which the firm would suffer by being deprived of the asset is RC.


In 3 and 4 above, PV is greater than NRV, so that the firm would be better off using the asset rather than selling it. The firm must replace the asset in order to maintain PV, so that the maximum loss which the firm would suffer by being deprived of the asset is again RC.

The general statement which may be made, therefore, in respect of the first four cases 1 to 4 is that, where either NRV or PV, or both, are higher than RC, RC is the appropriate value of the asset to the business.

As regards a current asset, such as stocks, RC will be the current purchase price (entry value). In the case of a fixed asset, RC will be the written down current purchase price (replacement cost), since the value of such an asset will be the cost of replacing it in its existing condition, having regard to wear and tear.

In cases 5 and 6, RC does not represent the value of the asset to the business, for if the firm were to be deprived of the asset, the loss incurred would be less than RC.

Case 5 is most likely to arise in industries where assets are highly specific, where NRV tends to zero and where RC is greater than PV, so that it would not be worth replacing the asset if it were destroyed, but it is worth using it rather than attempting to dispose of it.

Case 6 applies to assets held for resale, that is, where NRV must be greater than PV. If RC should prove to be greater than NRV, such assets would not be replaced. Hence, it implies that they should be valued at NRV or RC whichever is the lower. The combination of values approach has been found relevant by the US’s FASB Study Group on the Objectives of Financial Statements within a particular set of financial statements:

“The Study Croup believes that the objectives of financial statements cannot be best served by the exclusive use of a single valuation basis. The objectives that prescribe statements of earnings and financial position are based on user’s needs to predict, compare, and evaluate earning power. To satisfy these information requirements, the Study Group concludes that different valuation bases are preferable for different assets and liabilities. That means that financial statements might contain data based on a combination of valuation bases. Current replacement cost may be the best substitute for measuring the benefits of long-term assets held for use rather than sale. Current replacement cost may be particular appropriate when significant price changes or technological developments have occurred since the assets were acquired…. Exit value may be an appropriate substitute for measuring the potential benefit or sacrifice of assets and liabilities expected to be sold or discharged in a relatively short time.”

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