Post on 13-Jul-2016
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Overview of Accounting Theory
What is a theory? Hendriksen’s definition: …the coherent set of hypothetical, conceptual and
pragmatic principles forming the general framework of reference for a field of inquiry.
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What is an accounting theory? Hendriksen’s definition: …logical reasoning in the form of a set of broad
principles that
• provide a general framework of reference by which accounting practice can be evaluated and • guide the development of new practices and
procedures.
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Overview of Accounting Theory
Overview of Accounting Theory
• Whether a theory is accepted depends on how:– well it explains and predicts reality– well it is constructed both theoretically and
empirically– acceptable its implications are
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Overview of Accounting Theory
The development of accountingtheory has been mostly unstructured
Chambers:Accounting has frequently been described as a body of practices which have been developed in response to practical needs rather than by deliberate and systematic thinking.
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Pre-theory (1400s – 1800)
Goldberg:No theory of accounting was devised from the time of Pacioli down to the opening of the nineteenth century.
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Greek in 5th Century BC
• In 1915, scientist discovered “Zenon Papyri”• Contains information about the construction
projects, agricultural activities and business operations of the private estate of Apollonius for a period of about 30 years during the 3rd century BC
• A written record of all transactions, a personal account for wages paid to employees, inventory records and a record of asset acquisitions and disposals
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Italy
• The Romans kept elaborate records but since they expressed numbers through letters of the alphabet, they were not able to develop any structured system of accounting
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Italy (Renaissance 1300- 1500)
• The Italians were vigorously pursuing trade and commerce, and the need to keep accurate records arose
• Italian merchants borrowed the arabic numeral system and the basis of arithmetic and an evolving trend toward the double-entry bookkeeping system
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Italy, 1494
• An Italian monk, Fra Luca Pacioli, “Summa de Arithmetica Geometria Proportioniet Proportionalita”, a book on arithmetic
• Desribed doube-entry bookkeeping• Formalized the practices and ideas that had
been evolving over the years
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1600
• Statement of profit & loss and statement of balances
• The primary motive for separate financial statements was to obtain information regarding capital
• Balance sheet data were stressed while income and expense date were viewed as incidental
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1800
• Evolution of joint ventures into business corporations in England
• Bookkeeping expanded into accounting • The concept of net worth (owner’s original
contribution +/- profits/losses) emerged• Periodic reporting for owners and prospective
owners
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1800
• Companies Acts in England stimulated the development of accounting standards and laws to safeguard shareholders against improper actions by corporate officers
• Dividends were required to be paid from profits and accounts were required to be kept and audited by persons other than the directors
• Industrial revolution
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Later part of 1800
• Industrial revolution arrived in the US• Railroad industries created the need for
supporting industries, led to increases in the market for corporate securities and an increased need for trained accountants
• Accountants were initially trained through an apprenticeship system , later private commercial college emerged
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1900- 1915
• The concept of income determination was not well developed
• Debate over which financial statement should be viewed as more important
• 1904 : international congress of accountants in US which formed American Associaton of Public Accountants. In 1916
• Many universities began offering accounting courses
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After the Great Depression
• 1933 : Securities Act• 1934 : Securities Exchange Act which
established SEC • 1935 : American Association of University
Instructors in Accounting changed into American Accounting Association
• 1936 : AICPA
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Pragmatic accounting (1800– 1955)
• The ‘general scientific period’– based on empirical observation of practice– provided an explanation of accounting practice– focused on the existing ‘viewpoint’ of accounting
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Normative accounting (1956-1970)
• Sought to establish ‘norms’ for the best accounting practice
• Focused on what should be (the ideal) v. what is
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Normative accounting (1956-1970)
• Degenerated into battles between competing viewpoints
• Two groups dominated:– conceptual framework proponents– critics of historical cost
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Normative accounting (1956-1970)
• Factors prompting the demise of the normative period include:– the unlikelihood of one particular normative
theory being generally accepted– the application of financial economic principles– the availability of empirical data and new testing
methods
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Normative accounting (1956-1970)
• The major criticisms of normative theories were:– they do not necessarily involve empirical
hypothesis testing– they are based on value judgements
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Positive accounting (1950 to the present day)
• A shift to a new form of empiricism called ‘positive theory’
• Had its origins in the ‘general scientific period’• It seeks to explain the accounting practices
being observed
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Positive accounting (1950 to the present day)
• Its objective is to explain and predict accounting practice
e.g. the bonus plan hypothesis
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Positive accounting (1950 to the present day)
• It helps predict the reactions of ‘players’, such as shareholders, to the actions of managers and to reported accounting information
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Positive accounting (1950 to the present day)
• Major deficiencies are:– ‘wealth maximisation’ has become the answer to
explain all accounting practices and reported information
– it relies excessively on agency theory and dubious assumptions about the efficiency of markets
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Positive accounting (1950 to the present day)
• Behavioural research:– concerned with the sociological implications
of accounting numbers and the associated actions of ‘key players’
– emerged in the 1950s
– despite growing acceptance since the 1980s, positive accounting theory still dominates
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Recent developments
• Academic and professional developments in accounting theory have tended to take different approaches
• Academic research focuses on capital markets, agency theory and behavioural aspects
• The profession has sought a more normative approach – what accounting practices should be adopted
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Recent developments
• Conceptual framework – resurrected in 1980s– states the nature and purpose of financial
reporting– Establishes criteria for deciding between
alternative accounting practices– SACs 1–4
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Recent developments
• Conceptual framework – Recent Developments– Joint project between IASB & FASB– International harmonisation of accounting
practices through a single consistent set of international financial reporting standards (IFRS)
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Recent developments
• The conceptual framework underpinning the IFRS favours a move toward – accounting practices that provide information for
enhancing decision making by investors and others
– recognising all gains and losses in the accounting periods in which they occur
– measurement using exit values
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Content outline
• Part 1: Accounting theory (chapters 1 – 3)• Part 2: Theory contributing to practice
(chapters 4 – 10)• Part 3: Accounting and research (chapters 11
– 14)
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Summary
• Accounting theory• Major periods of accounting theory
development• Normative accounting• Positive accounting• Conceptual framework• IFRS
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Key terms and concepts
• Theory• Accounting theory• Normative theory• Positive theory• Behavioural theory• Conceptual framework• IFRS
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