Income Determination Under Uncertainty: An Application of Markov Chains.

Abstract Before attempting to draw any conclusions from the research let us review its major features. We adopted as a theoretical framework the Hicksian concept of periodic income or earnings as being the change in well-offness over the period, arguing that such a view is externally useful as a measure of overall firm performance. Within this framework, we adopted as our goal Irving Fisher's approach to measuring well-offness, although it was originally intended as a model for situations in which future events are known with certainty. We argue that the goal of earnings determination under conditions of uncertainty should be to reflect as closely as possible the conceptual accounting and economic models developed for situations in which uncertainty is not a factor. We modified Fisher's model in two significant ways. First, we dealt only with the tree inventory as the wealth or well- offness stock for the test firm. Although this is not the same thing as the overall wealth stock for an entity which Fisher envisioned, it does represent a more manageable first step away from the conventional accounting model for purposes of a preliminary study such as this. Also, for the particular test firm involved, the inventory wealth stock is a rather close surrogate for the overall wealth stock. Cash is not allowed to accumulate within the firm, all receipts by the firm are the result of inventory transactions, and nearly all expenditures are directly relatable to the inventory as variable costs.4° The second modification involves limiting the wealth stock to future flows attributable only to those trees currently standing, not considering as well the flows from anticipated future trees as would a pure Fisherian model. This restriction was adopted, first, because it is deemed to be much more operational and objective.