Accounting Theory Introduction

ACCOUNTING THEORY SESSION 1 INTRODUCTION AND FINANCIAL ACCOUNTING THEORY  What are the main Learning objectives for this lecture At the conclusion of this lecture. You should have an appreciation of ❑ The nature of theory and its accounting con...

ACCOUNTING THEORY SESSION 1 INTRODUCTION AND FINANCIAL ACCOUNTING THEORY  What are the main Learning objectives for this lecture At the conclusion of this lecture. You should have an appreciation of ❑ The nature of theory and its accounting context ❑ The purpose of accounting theory approaches to and developing scientific methods ❑ Positive Accounting Theory and key influences in this area. ❑ Normative Accounting Theory and key influences in this area ❑ Recent developments in accounting theory  Resources for the Unit Text book Rankin, M, Stanton, P, McGowan, S, Ferlauto, K, Tilling, M 2018, Contemporary Issues in Accounting, Wiley, 2nd edition, ISBN: 9780730350668 Readings: Chapter 3, 6 from Godfrey text are available on LMS.  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.  Accounting Theory A description, explanation or a prediction [of accounting practice] based on observations and/or logical reasoning Logical reasoning in the form of a set of broad principles that (1) provide a general framework of reference by which accounting practice can be evaluated and (2) guide the development of new practice and procedures Examples: Conceptual framework and Measurement theory.  Why Is Theory Needed To provide an explanation of what is happening To help us predict what will happen Even partial or inaccurate theories can be of (limited) use  THE AFFECT OF THEORIES Theories drive many real world situations Theory informs decisions about Tax Interest Rates Global Warming Education Construction Almost every aspect of our lives  Different Accounting Theories Some accounting theories Describe and explain current practice Capital Market Theory Predict practice Agency Theory Provide principles for decision making Identify problems and deficiencies and offer solutions The conceptual framework  Types Of Theories Theories are often placed into two categories positive theories normative theories.  POSITIVE THEORIES (1970 to 2000) Positive theories are about the world as it is. They Describe what is happening Explain what is happening Make predictions about what will happen Based around Hypotheses Also called empirical theories Where Positive Theories Come From  Normative Theories (1956-1970) Make suggestions about What should happen What ought to be Observations or facts are considered in development of normative theories The major criticisms of normative theories were: they do not necessarily involve empirical hypothesis testing they are based on value judgement  Example: Normative Accounting Theory Goal To reduce corporate impacts on the environment Premises Companies that are fined for environmental breaches tend to under report this fact Better disclosure leads to better performance Conclusion Companies that are successfully sued for environmental breaches should be required to clearly report this fact  Evaluating And Testing Theories There are often competing theories about an issue or observation E.g. how should accounting items be measured Historical cost accounting – normative theory or fair value accounting – positive theory Which theory is correct?  Acceptance of Theories A good theory should Be logical in its construction Be clearly articulated Be testable Be consistent with observation A theory can never be proved true A single observation can prove a theory false Recent developments The latest accounting disasters and their impact on Accounting Theory – Response to recent developments Conceptual framework – resurrected in 1980s. - Joint project between IASB & FASB - International harmonisation of accounting practices through a single consistent set of international financial reporting standards (IFRS).  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.  What we covered in this topic Theory helps make sense of reality Accounting theory and principles have emerged with a range of different interpretations Normative theory attempts to outline what should happen Positive research attempts to explain what is actually happening The End