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Acct 2163

Accounting Theory

Course NotesChapter 1-11

Standard Operating Environment

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Topic 1: Introduction to Financial Accounting Theory

Source: Chapter 1 Financial Accounting Theory by C. Deegan 3e

Objectives:

Familiarize the course.

Describe the different functions performed by different accounting theories (p. 5).

Explain the need for accounting students to study accounting theories (pp. 5-7).

Describe and evaluate the different theories in financial accounting ( pp. 7-16).

Recognize the need of critically evaluating theories before accepting them (pp. 13-24).

What is Accounting Theory?(p.4)

Examples of Uses of Accounting Theories (p.5)Theories:

(1)

(2)

(3)

(4)

(5)

(6)

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Brief Overview of Accounting Theories (pp.7-12)

Inductive/ Descriptive Research (1920s to 1960s)

Accounting Darwinism---

Prescriptive Research (Normative Theories)(1960s to 1970s)

Predictive Research (Positive Accounting Theories)(mid to late 1970s)

Evaluation /Criticisms of : (pp.13-16)

Inductive approach

Normative theory

Positive Theory

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Can we prove the theories?(pp.16-18)

Why Accounting Students Need to Study Accounting Theories? (pp.5-7)

ACTIVITY:

Answer the tutorial questions :

Ch1: 1.2, 1.3,1.4, 1.5, 1.13,1.21,1.24, 1.26, 1.27

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Topic 2: The Financial Reporting Environment

Source: Chapter 1 Financial Accounting Theory by C. Deegan 3e

Objectives:

Gain understanding of the history of accounting profession and accountingregulation (pp.36-40).

Explain the arguments for and against the existence of regulation (pp.40-43).

Discuss the role of professional judgment in accounting decisions (pp.44-45).

Discuss the arguments that support a view that accountants are powerful

members of the society (pp.46-51).

Development and Regulation of Accounting Practice (pp.36-40)

Doubleentry Accounting (13th

-14th

Century)

Luca Pacioli

Development of Professional Account ing Bodies

Society of Accountants -Edinburg(1854 ) Inst. of Chartered Accountants in England & Wales (ICAEW)(1880)

American Association of Public Accountants(AIA) (1887) now American Institute of Public Accountants (AICPA)

Earl y Codifi cation of Rules

US accounting profession cooperated with NYSE (1930) development of list of broadly used accounting principles

Development of Disclosure Regulations

United States

1934- Securities Exchange Act

1938-AIA released Statement of Accounting Principles

-SEC issued Accounting Series Release no. 41939-Committee on Accounting Procedure release 12 Accounting Research

Bulletins

1959- Accounting Principles Board was formed and issued Opinions1965Rule 203 of AICPArequired all departures from principles published in

APB opinions to be disclosed on footnotes.

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July 1,1973- APB was replaced by Financial Accounting Standards Board (FASB)

-released many mandatory accounting standards.

UK1970-Accounting Standards Steering Committee was established to issue

mandatory accounting standards.

Australia

1946Institute of Chartered Accountants in Australia (ICAA) released 5

Recommendations on Accounting Principles

1956- recommendations from Australian Society of Accountants ( now CPAAustralia)

Accounting standards developed by:

Later years.. the Australian Accounting Research Foundation(AARF,founded by both ICAA and CPA) and the Australian Accounting

Standards Board ( AASB) (2000) collaborated in developing mandatory

standards.

Standard setting process was later passed to the International Accounting

Standards Board (IASB)(London).

How about in Vi etnam?

The Vietnam Association of Certified Public Accountants (VACPA)

http://www.vacpa.org.vn/index.php?o=modules&n=about&f=about&Language=en

Arguments in Favour of Regulation (p.41)

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Arguments against Regulation (pp.41-42)

Benefits of Regulation

Public Interest

Capture Theory

Private Interest Theory

(detailed discussion in Chapter 3 )

Who should be responsible for the regulation? (p.43)

Public sector regulation

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Private sector regulation

The Role of Professional Judgment in Financial Reporting (pp.44-45)

Why are particular accounting methods may be applied by a reporting entity?

(to be discussed in detail in the later chapters)

Efficiency Perspective

Opportunistic Perspective

Other perspectives ( legitimacy, stakeholder theory, etc)

Why are Accountants Powerful? (pp.47-48)

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ACTIVITY:

Answer the tutorial questions :Ch2: 2.1, 2.2, 2.4, 2.5 2.10, 2.11, 2.13, 2.17

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Topic 3: The Regulation of Financial Accounting

Source: Chapter 3 Financial Accounting Theory 3e by C. Deegan

Objectives:

Discuss the various theoretical arguments for and against regulation offinancial accounting (pp.59-73).

Explain the theoretical perspectives that describe who is likely to gain fromthe implementation of regulation

Public interest

Capture Theory

Private Interest Theory (pp.74-88)

Explain the social and economic impact of regulation(pp.83-84)

Explain why accounting standard setting is considered a political process(pp.89-91).

Free-Market Perspectives (pp.59-64)

Private economic-based incentives (Private Contracting)

Market for managers

Market for corporate takeovers

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Market for lemons

Pro-regulation Perspective (pp.64-73)

Who benefits from implementing regulations?

Public Interest Theory (p.74)

Capture Theory (pp.75-82)

oRegulatory Capture

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Private Interest Theory (Economic Interest Group Theory) (pp.85-88)

Economic and Social Impacts of Accounting Regulation (p.83)

Example: Understand the impact of implementing AASB 2 & AASB 138

Regulationan Output of a Political Process? (pp.89-91)

Explain:

ACTIVITIES:

(1) Answer the tutorial questions :Ch3: 3.2, 3.5, 3.7, 3.10, 3.11, 3.19, 3.27,

3.28, 3.32

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Topic 4: International Accounting


Objectives:

Explain the reasons of differences in accounting practices among differentcountries (pp.132-152).

Distinguish between harmonization and standardization (p.109).

Discuss the arguments in favour (or the benefits) of harmonization andstandardization (pp. 109-111).

Describe the recent actions of IASB and other accounting standard-setting

bodies to establish a uniform set of standards for global use (pp.112-125).

Discuss the reasons why standardization of accounting standards will notnecessarily lead to standardization in accounting practice (pp. 126-132).

Identify the obstacles to harmonization and standardization (pp.152-153).

Evidences of International Accounting Differences(Read Accounting Headline 4.1 p.108)

Summary:

Distinguish between: (p.109)

Standardization

Harmonization

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Arguments in Favour (Benefits) Of Harmonization/ Standardization (pp.109-111)

According to Nobes & Parker (2004):

-

-

-

-

According to Ball (2006):

-

-

IASB and Its Globalization Activities (pp.112-118)

History of IASB (Discuss the role of the following:)

Mr. Henry Benson

IASC (1973)

IASC Foundation (late 1990s)

IASB (2001)

IFRIC

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SAC

IOSCO

Europe

EFRAG

ARC

Australia

IFRIC

AASB

United States

SEC

FASB

Role of US in the harmonization process: (pp.118-125)

Norwalk Agreement ( 2002)

FASB-IASB Memorandum (2006)

(Read article on pages 123 & 124)

Possible Reasons of Differences in Accounting Practices (pp124-132)

Differences in Taxation Systems

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Differences in Economic and Political Influences

Modifications of IRFS at national level

Differences in Implementation, Monitoring and Enforcement

Explanations of Differences in Accounting (pp.132-152)

Culture

o Societal Values-

Individualism

Power Distance

Uncertainty Avoidance

Masculinity

o Accounting Values

Professionalism

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Uniformity

Conservatism

Secrecy

o Hypotheses

(1)

(2)

(3)

(4)

Religion

Legal systems

Business Ownership & Financing Systems

Taxation Systems

Accidents of History

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Obstacles to Harmonization/ Standardization (pp.152-153)

(1)

(2)

(3)

(4)

ACTIVITIES

Answer the following:

(1) Tutorial questions :Ch4: 4.1, 4.2, 4.5, 4.9, 4.10, 4.12, 4.16, 4.17, 4.18, 4.22,4.24

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Topic 5: Normative Theories of AccountingChanging Prices


Objectives:

Explain the limitations of historical cost accounting (pp.165 -169).

Explain the arguments that support the continued use of historical costaccounting (pp.198-202).

Describe the alternative methods of accounting (CPPA, CCA, Cocoa) thathave been developed to address problems associated with changingprices (pp.170-196).

Identify the strengths and weaknesses of CPPA, CCA, & CoCoA (pp.170-196).

Distinguish between the three capital maintenance perspectives (financialcapital, purchasing power, and operating capital) and understand howincome is calculated under each approach (pp.168-169).

Limitations of Historical Cost Accounting: (pp.165-169)

(1)

(2)

(3)

(2)

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Support for Historical Cost Accounting

(1)

(2)

(3)

(4)Capital Maintenance Perspectives: (PP.168-169)

(describe each)

Financial capital maintenance

Purchasing power maintenance

Physical operating capital maintenance

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*Financial capital and physical capital are discussed in detail on pages178-179Additional Readings.

CURRENT PURCHASING POWER ACCOUNTING (CPPA) (pp.170- 183)

Researchers( advocates) :

monetary assets

non-monetary assets

net monetary asset

How it works?

(1)

(2)

(3)

Strengths:

(1)

(2)

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(3)

Limitations:

(1)

(2)

(3)

CURRENT COST ACCOUNTING (CCA) (pp.183-190)

Researchers ( Advocates):

How it works?

(1)

(2)

(3)

Strengths:

(1)

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(2)

Limitations:

(1)

(2)

(3)

(4)

(5)

(6)

Continuously Contemporary Accounting (CoCoA) (pp. 190-196)

Researchers (advocates):

How it works?

(1)

(2)

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(3)

Strengths:

(1)

(2)

Limitations:

(1)

(2)

(3)

(4)

Was there a demand for price-adjusted accounting info? (pp.196-198)

Which theories were supported by most accounting professionals? (pp.198-202)

Additional Readings:

Godfrey, J., Hodgson, A. and Holmes, S. (2006) Accounti ng Theory, 6th

edition, John

Wiley and Sons, ISBN 0470810645 ( Chapters 6 to 8-pp. 131 to 253)

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ACTIVITIES


(1) Tutorial questions :Ch5: 5.1, 5.2, 5.4, 5.6, 5.8, 5.9, 5.11, 5.18, 5.20

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Topic 6: Normative Theories of Accounting-Conceptual Framework


Objectives: Explain the role of the conceptual framework in the concept of financial

reporting (pp.211-215).

Identify, explain and critically evaluate the various building blocks of theconceptual framework (pp.220-244).

Identify and explain the advantages and disadvantages of establishingand developing the conceptual framework (pp.244-246).

Discuss the purpose of the conceptual framework convergence project ofIASB and FASB (pp. 219-220).

Distinguish between principles- based and rules-based standards.

What is a CONCEPTUAL FRAMEWORK? (pp.211-215)

History of Conceptual Framework Development (pp.215-220)

(Describe the development of conceptual framework in UK, US & Australia)

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Current efforts of the IASB and the FASB

Principles based Standard vs. Rules-based Standards

Refer to the blackboard: course document>optional readings>Defining Principles

Based Accounting Standards.

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Components ofConceptual Framework ( Figure 6.1 ) page 213.( Fill up the form below to show the components of each building block)

DEFINITION OF FINANCIAL

REPORTING ENTITY

REPORTING ENTITY USERS & THEIR INFO

NEEDS

OBJECTIVES OF FS

UNDERLYING ASSUMPTIONS

QUALITATIVE CHARATERISTICS ELEMENTS OF FS

OF FS

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RECOGNITION CRITERIA MEASUREMENT BASIS

The Conceptual Framework

Building Blocks of Conceptual Framework( Write a brief note/description in each

item) (pp.220-244)

(1) Definition of the reporting entity

(2) Users of the financial reports

(3)Objectives of General Purpose Financial reporting

(4) Qualitative characteristics of financial reports

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(5) Definition of Elements of Financial Reporting

(1)Assets

(2) Liabilities

(3) Equity

(4) Income

(5) Expenses

(6) Recognition of the elements of the financial reporting

(7) Measurement Principles

What are the perceived benefits of having a conceptual framework?(pp.244-245)

(1)

(2)

(3)

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(4)

(5)

(6)

Criticisms of the Conceptual Framework (pp.245-246)

(1)

(2)

(3)

(4)

Who are benefited with the existence of conceptual framework?

(p.246-247, Case study 13.3 p.445-446 additional reading)

(1)

(2)

(3)

(4)

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Additional Readings:Godfrey, J., Hodgson, A. and Holmes, S. (2006) Accounti ng Theory, 6

thedition, John

Wiley and Sons, ISBN 0470810645 ( Chapters 13 -pp. 411 to 446)

ACTIVITIES


(1) Tutorial questions :Ch6: 6.1, 6.2, 6.3 6.4, 6.12, 6.16, 6.17, 6.18, 6.19

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Topic 7: Positive Accounting Theory


Objectives:

Differentiatepositive theory from normative theory (pp. 256-257).

Discuss the origins of PAT ( EMH, Agency theory, B& B research)(pp.256-266).

Explain PAT by Watts and Zimmerman including the bonus plan, debt,and political hypotheses (pp. 269-273).

Explain how accounting can reduce the costs associated with politicalprocesses (pp.295-301).

Distinguish between opportunistic and efficiency perspectives (pp. 274-277).

Discuss the role of contracts and the agency costs involved in owner-manager and debt contracting (277-295).

Explain the criticisms of PAT (301-306).

Positive Accounting Theory vs. Normative Accounting Theory (pp.256-258)

(Note down the distinguishing characteristics of each)

Normative Theory---

Positive Theory ----

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Origins/Development of PAT (pp.259-269)

Efficient Market Hypothesis (EMH) by Fama

Share Price Reaction to Unexpected Earnings Announcement

The Use of AGENCY THEORY to Predict the Choice of Accounting Definition of

Elements of Financial Reporting

Note: Read pp.301-312 additional readings

You need to be able to describe the following:

Agency Theory

Agency Costs (3 types)

Principal-agent relationship

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3 Key Hypothesis of PAT (pp.271-273)

(1) Bonus Hypothesis

(2) Debt/Equity Hypothesis

(3) Political Cost Hypothesis

Efficiency vs. Opportunistic Perspectives (p.274-276

Efficiency Perspective

Opportunistic Perspective

Owner Manager Contracting (pp.277-288)

Accountingbased bonus schemes

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Incentives to manipulate accounting numbers

Market-based bonus schemes

Debt Contracting (pp.288-295)

Political Costs (pp.295-301)

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What are the criticisms of PAT?(pp.301-306)

1.

2.

3.

4.

5.

6.

7.

Additional Readings:Godfrey, J., Hodgson, A. and Holmes, S. (2006) Accounti ng Theory, 6

thedition, John

Wiley and Sons, ISBN 0470810645 ( Chapters 10 and 11 -pp. 299 to 360)

ACTIVITIES


(1) Tutorial questions :Ch7: 7.1, 7.2, 7.3, 7.4, 7.5, 7.6, 7.10, 7.11, 7.12, 7.13.

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Topic 8: UNREGULATED CORPORATE REPORTING DECISIONS


Objectives:

Explain why an entity might elect to make voluntary disclosures using:o Legitimacy theory (pp. 323-425)o Stakeholder theory (ethical and managerial branch) (pp.345-356)o Institutional Theory (3 forms of isomorphism and decoupling)

(pp.357-365)

Discuss the Media Agenda Setting theory (pp. 340-341).

Explainorganizational legitimacy and how disclosures in annual reportsand corporate websites can maintain/restore the legitimacy of theorganization (pp. 333-334).

POLITICAL ECONOMY THEORY (pp.321-323)

Two Broad Streams:

(1)Classical

Bourgeois

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LEGITIMACY THEORY (pp.323-345)

Legitimacy, publ ic expectations and the social contract

Legitimacy and changing social expectation

*Legitimizing Strategies by Dowling and Pfeffer (1975) and Lindblom (1994)

(1.)

(2)

(3)

(4)

Use of accounting reportslegitimation strategies

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Corporate views on the importance of social contracts

Empi ri cal test of legitimacy theory

Media agenda setting theory (p.340)

Legitimacy theory vs. Positi ve accounti ng theory

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STAKEHOLDER THEORY (pp.345-356)

Ethi cal /Normative branch

Manageri al/Posit ive branch

Empi ri cal test

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INSTITUTIONAL THEORY (pp. 357-365)

2 Main Dimensions:

Isomorphism

(1)Coercive

(2)Mimetic

(3)Normative

Decoupling

ACTIVITIES


(2) Tutorial questions :Ch8: 8.1, 8.2, 8.3, 8.5, 8.7, 8.10, 8.13,8.14, 8.15, 8.19,8.21, 8.22

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Topic 9: EXTENDED SYSTEMS OF ACCOUNTING-INCORPORATION OF

SOCIAL AND ENVIRONMENTAL FACTORS WITHIN EXTERNAL

REPORTING


Objectives:

Explain the concept of sustainability and sustainable development(pp.383-389).

Explain the various theoretical perspectives that can explain theorganizations action to voluntarily provide publicly available informationabout their social and environmental performance (the why, who, what, &how stages)(pp. 407-428).

Identify and discuss the limitations of financial accounting in enabling theinformation users to assess the reporting entitys social and environmentalperformance (pp. 414-419).

Define externality and explain how firms account for this. ( pp. 428-431)

Explain the purpose and process of performing social audits.(pp. 436-443)

History of social & environmental reporting (pp.382-383)

Notions of sustainability (pp. 384-389)

Briefly describe the ff:

Sustainable development (according to the Brundtland Report)

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Sustainability Reporting

Triple Bottom Line

Stages of Sustainability Reporting

(1) TheWhy stage:Objectives of the social and environmental reportingprocess (pp.391-404)

The narrow view of business responsibilities

The broader view of business responsibilities

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(2)The who stage:Identifying stakeholders (pp.404-407)

(3) The what do we report stage:Indentifying stakeholder information needsand expectations (pp. 407-413)

(4) Thehowstage:Theoretical perspectives on some social and environmentalreporting procedures ( pp.413-428)

Limitations of traditional financial accounting

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Triple-bottom line reporting

Global reporting initiative

ACCOUNTING FOR EXTERNALITIES (pp.428-436)

SOCIAL AUDITING (pp. 436-443)

What is the purpose?

How it is done?

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Godfrey, J., Hodgson, A. and Holmes, S. (2006) Accounti ng Theory, 6th

edition, JohnWiley and Sons, ISBN 0470810645 ( Chapters 19 pp. 631 to 662)

ACTIVITIES


(3) Tutorial questions :Ch 9: 9.1, 9.2, 9.9, 9.10, 9.12, 9.23, 9.29.

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Topic 10: REACTIONS OF CAPITAL MARKET TO FINANCIAL REPORTING

Objectives:

Differentiate between behavioural research and capital market research

(pp. 461-462).

Appreciate the role of capital market research in assessing the content ofaccounting disclosures (pp. 461- 468).

Identify and interpret the assumptions of market efficiency typicallyadopted in capital market research (pp. 461- 468).

Discuss the major results of capital market research into financialaccounting and disclosure (pp. 273-283).

Differentiate between capital market research that looks at the informationcontent of the accounting disclosures, and capital market research thatuses share price data as a benchmark for evaluating disclosures.

Explain the relaxing assumptions of market efficiency (pp. 489-491).

Overview of Capital Market Research (pp.461-468)

3 forms of EMH (pp.462)

(1)Strong form

(2)Semi-strong form

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(3)Weak form

The Information Content of Earnings (pp468-469)

Results of capital market research into financial reporting (pp.473-483)

(1)Historical cost income is used by investors

(2)Prior to earnings release, investors obtain much of the information theyneed from other sources

(3)The information content of earnings announcement depends on the extent ofalternative sources of information.

(4)The capital market impact of unexpected changes in earnings depends onwhether the change is expected to be permanent or temporary

(5)Earnings persistence depends on the relative magnitude of cash and accrualscomponents of current earnings

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(6) The earnings announcement of other firms in the same industry hasinformation content.

(7)Earnings forecast have information content.

(8)There are benefits associated with voluntary disclosure information.

(9)Recognition is perceived differently to mere footnote disclosure

(10) The relationship between earnings announcement and share pricemovements is inversely related to the size of the entity.

DO CURRENT SHARE PRICES ANTICIPATE FUTURE ACCOUNTING

EARNINGS ANNOUNCEMENTS? (pp.483-488)

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RELAXING ASSUMPTIONS ABOUT MARKET EFFICIENCY (pp. 489-491)

(1)

(2)

(3)


Henderson, S, Peirson G., & Harris, K. Financial Accounting Theory,Copyright 2004,Pearson Education Australia.pp.371 to 409.

ACTIVITIES


(1) Tutorial questions :Ch 10: 10.1, 10.2, 10.3, 10.4, 10.5, 10.10, 10.11, 10.14, 10.18

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Topic 11: REACTIONS OF INDIVIDUALS TO FINANCIAL REPORTING: A

BEHAVIORAL RESEARCH

Objectives: Describe the Brunswik Lens Model (pp. 504-509).

Outline the major results of behavioural accounting research relating toinputs, decision process, and quality of output (pp. 509-518).

Explain the relevance of behavioural research results to corporations andthe accounting profession in anticipating individual reactions to accountingdisclosures (pp. 503-504).

Discuss the limitations of behavioural research (pp. 520-521).

An Overview of Behavioural Research (pp.503-504)

Differentiate between:

Capital Market Research (CMR)

Behavioural research

The Brunswik Lens Model (pp.504-508)

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The Use of Particular Information Item and The Implications of Different Forms of

Presentation (Input Level) pp.509-512)

List down all the research results :

Decision-Making Process and The Use Of Heuristics (Processing) pp. 512-516


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Issues of decision accuracy (output level) pp.516-518


Protocol analysis (pp.518-519)

Advantages:

Disadvantages:

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Limitations of Behavioural Research (pp.520-521)

(1)

(2)

(3)

(4)

(5)

Additional Readings:Godfrey, J., Hodgson, A. and Holmes, S. (2006) Accounti ng Theory, 6th edition, John

Wiley and Sons, ISBN 0470810645 ( Chapters 11 -pp. 341 to 362)

ACTIVITIES


(1) Tutorial questions :Ch 11: 11.1, 11.2, 11.3, 11.7, 11.11, 11.12.

Documents

Course Notes_ S1 2013 (1)