Models of historical versus market costing

In this dissertation I compare historical cost and market value accounting standards in two analytical settings. Chapters II and III contain a model of a manager's financial reporting decisions while chapters IV and V present a study of compensation contracting under the two alternative accounting standards in a principal-agent framework.;In chapter II I study a simple dynamic model which shows how changing purchase and disposition dates affects the relative values of the historical cost (HC) and market value (MV) estimates. Also I present comparative static results and show how the manager's private, non-verifiable information affects share price.;In chapter III I derive share prices under two additional accounting standards, the Lower of Cost or Market (LCOM) and the Greater of Cost or Market (GCOM) valuation procedures. I characterize a risk neutral manager's preference for LCOM, evaluate when a risk averse manager might prefer LCOM, show that LCOM is not a credible strategy, provide conditions under which both GCOM and a combined GCOM/Full Disclosure strategy are credible strategies, and show how moving from GCOM to MV affects share price.;Chapter IV introduces the two period principal-agent model used in chapters IV and V. In it I assume the manager leaves the firm at the end of the first period. I derive the optimal contract for the manager under each regime and show that, while contracts based on the HC standard produce greater trading gains than MV-based contracts, MV contracts entail a lower expected cost of compensation than do the HC contracts.;Chapter V modifies the principal-agent model of chapter IV by assuming the manager is retained for both periods. Results in this chapter provide sufficient conditions (together with examples) for the MV and HC standard to be equivalent to a perfect information setting when markets are assumed complete. When markets are not complete, I establish that perfect information is strictly preferred to MV when discretion in reporting exists and that MV is preferred to HC when discretion is sufficiently limited.