The Value of Historical Cost Reporting in a Private Information Setting

Anil Arya (), John C. Fellingham and Richard A. Young

Corporate Finance & Organizations from Ohio State University

Abstract: This teaching note illustrates how reporting historical data, even when it is unverifiable, can be useful in improving productive efficiency. Historical cost accounting is evaluated in a simple multi-person setting with private information. Because the source of contracting frictions is limited liability rather than risk aversion, the analysis is easily accessible to students. The instructor may choose the degree to which he or she emphasizes the historical cost interpretation, the role of commitment, and optimal contracts. In the event that a more rigorous analysis is desired, an Appendix is included which formulates a linear program that can be used to solve for optimal contracts.

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