FAcapital maintenance

The foremost question is why an organisation needs to maintain capital. Referring to the accounting equation, capital is equal to net assets, which explains the income generation capability of an organisation. In other words, an organisation, at least, needs to preserve its net assets in order to maintain its income generation capability. Looking at the left side of the equation, an organisation has to preserve its capital by not over-distributing its profits.

Unfortunately, profits are windfall and they are measured in monetary terms in accounting. Even though an organisation is forbidden to distribute profits out from capital (i.e. historical cost accounting), no one can ensure the organisation has enough capital maintained for future income generation under inflation. Therefore, some alternative accounting theories are proposed for remedying the problem, such as current purchasing power accounting and current cost accounting.

Up to now, the IASB has not yet decided on an accounting model for capital maintenance.