An enhanced version of historical cost (HC) where specific assets/ liabilities are recognized at current value to reflect changes in value over time or to better account for value under specific circumstances. This is necessary in such situations involving certain types of contractual arrangements (leasing, complex financial instruments, and share-based payments). In other words, there are items that apparently have value, but may have no historical cost (or a historical cost of zero) or may have a value that does not reflect entity-specific or market-specific reality, such as leased assets, specific types of financial instruments (e.g., interest-rate swaps) and goods and services acquired using shares or share-based instruments.
In market practice, such items are allowed or required to be subsequently measured at current value or fair value (by adjusting historical cost). In specific situations, entities may create long-term liabilities with no well-established cost at the time of incurrence. Examples include warranties, reinstatement obligations, etc. It is difficult to establish the historical cost of such “indeterminate” liabilities (or currently indeterminate liabilities) given that measurement of future amounts could only reflect expectations rather than actual “historical” amounts. Historical cost is not the right measure of value to account for such future transactions.
It is also known as a modified historical cost.
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