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HI6025 Accounting Theory and Current Issues Assignment
Assignment Question 1
If constituency support is necessary before particular accounting approaches become embodied in accounting standards, does this have implications for the ‘neutrality’ and ‘representational faithfulness’ (qualitative characteristics that exist in various conceptual framework projects around the world) of reports generated in accordance with accounting standards?
“The mere discovery of a problem is not sufficient to assure that the Financial Accounting Standards Board will undertake its solution … There must be a suitably high likelihood that the Board can resolve the issues in a manner that will be acceptable to the constituency—without some prior sense of the likelihood that the Board members will be able to reach a consensus, it is generally not advisable to undertake a formal project”.
Conceptual Framework is of utmost importance in terms of developing a comprehension regarding the fundamental objective of the Accounting standards. The system for accounting within an organisationneeds to be highly efficient on the basis of this framework. A number of standards have been given by The Financial Accounting Standards Board for the improvement of the efficacy of the reporting systems of any organisationfor their financial statements. The executives who work on the financial statements of the organizations are required to prepare satisfactoryas well asconsistent information on the basis of the presentations of the financial statement. This helps in the process of better decision making for these people with respect to the selection of the organisations. With a thorough comprehension of this framework, it is possible to interpreted all the available data in a more effective as well as efficient way (Clinton, 2006).
This framework also simplifies the reviewing of the various financial concepts. FASB has laid down the accounting standards without explainingall the aspects critically. Hence, for clearly assessing the financial information of the business,Conceptual framework is used. Conceptual framework also contains the topics which are needed to be comprised in the forthcoming standards. Conceptual framework without repudiating the rudimentaryessentialswhich have been given in the standards, it helps in providing the instructions for the evaluation of the fundamental objectivesand meaning of the standards.
This also acts as the basis on which the concepts behind the set accounting standards are interpreted.Hence, it is of utmost importance to have a thorough study of the conceptual framework to improve the financial reporting system. However, it doesn’t elaborate each and every concept of the standards, so they are also to be interpreted. The conceptual framework is highly beneficial for evaluationof the basics of the stock market. Not only this helps in explaining the interpretation of the listed securities to understand if the same can be profitable as an investment opportunity, but also it is possible for the potential investors to identify the risks and return of the selected securities on the basis of the same. Hence it can be said that the for increasing the efficacy of the decision making system the conceptual framework is highly beneficial (Walgenbach, 1973).
This also helps in identifying the qualitative features of the financial information systems. It is possible to improve the reporting systemsfor the financial institutions by carrying out an assessmentof the accounting system’squalitative features. In view of the fact the purpose of the financial statements is to deliverappropriate as well as adequate information to the readers of the financial statements for an efficient decision taking. The practicalityand pragmatism of the decisions is the most important deliverable of the set conceptualframework. The prerequisites of the standards for accounting are needed to be adhered to for delivering of reliable and precise information on the topic of the organisation’sfinancial position(Clinton, 2011). The basic feature of the decisions’usefulness is that it is highly significant for the financial position evaluation.The other aspect is that the information system of accounting is needed to be dependable and delivering verifiable,neutral, and representative data through the authenticity of the accounting information system.
By “neutrality” it is meant that the efforts of the management for developing the financial reports without any prejudice and for giving correct information which can be beneficial for the potential investors. The shareholders are one of the most important internal stakeholder of any company. Their interests as well as opinions are needed to be considered with utmost importance by the enterprises. A suitabletrust level needs to be established by the preparers of the financial statement for assessingthe actual financial state of the company. For the investors there has to be no conflict of the interests(Sharman, 2003).
The term “representational faithfulness” signifies a suitabledisclosure and presentation of the financial reports and statements for the company. It is necessary that the companies are showingall the relevant information which qualify as financial record through the various forms of the statements.The overall information needs to be separated into various categories and representcorrectly. For avoiding any sort of conflict,correlation between the classified categories of the accounts and the actual facts are needed to be developed(Alexander, 2005).
This author agreeswith the mentioned statement in view of the fact it is essentialto provide a clear and succinct interpretation of the set accounting standards. In the recent years a lot of global companies have improved their standards of financial reporting as well as the financial reporting system with the intention to attract a larger number of investors for fulfilling their requirements of capital structure.
Assignment Question 2
As Watts and Zimmerman (1986, p. 7) state, Positive Accounting Theory ‘is concerned with explaining [accounting] practice. It is designed to explain and predict which firms will and which firms will not use a particular accounting method … but it says nothing as to which method a firm should use’. Do you think that this represents an ‘abrogation’ of the academics’ duty to serve the community that supports them?
A “positive accounting theory” can be correlated to the accounting practices. This approach is usually made use of for determining the accounting practices which can be forecast. There is significant defence between “positive accounting theory” and “normative accounting theory”. The difference is predominantly due to the fact that the latter one defines the optimality of the accounting standards set by the Board. Hence it can be said that this concept is linked to the clarification of the accounting practices those can be used for the provision of reliable and adequate financial data. It also explains the use of this concept by the different types of accounting firms apart from demonstrating the user friendliness of theseaccounting methods by the companies. The same also clarifies the features of the companies which fail to use this particular accounting method. However, it fails to suggest the accounting methodswhich are needed to be used by a particular business entity (Alexander, 2005).
The“positive accounting theory” creates a robustcorrelation between the count of people and the accounting method to be used for maintainingthese relationships concerning the functioning of the organisation. The same also concentrates on the preservation of association between the company owners and the management of it. Furthermore, this also creates anassociation between the organisationalmanagement and the other stakeholders like including the organisation’s debtholders. It is also presumedthat in this approach all the individuals taketheir decisions on the topic ofthe investments in any company based on their own preferences as well asinterests. They individuals are also motivated to concentrate onthe wealth and profit maximisation as well asrevenue earning capacity of the firms for increasing the profitwhich they would be earning from it in the future. The investors aresupposed to be optimistic and confident without the strict morality features.
This approach also is focused on the improvement of an efficient portfolio for gainingan advantage in the market. It is expected that the capital stock market will conduct itself appropriatelyfor providing sufficient data and information to the readers of the financial statements. The theory is considered to be proficient in showing the feedback as well as the reaction of the stock market to the declarationsof potential earning. Cash flows’ future valuesare calculated on the basis of the stock’spresent value. This permits the users to assess the organisation’sfuture position. Thehistorical costs are used for identifying the position of the company in terms of its finances. The choice of the accounting methodtends to becomeeasier with the help of this accounting theory. It also shows the importance and limitation of the number of accounting methods to be used by the accounting firms. It establishes a strong communication system between the stakeholders and the management of the organisation (Sharman, 2003).
The foremoststandpoint used by this theory of accounting is an effectualas well as opportunistic approach. The effectual approach is linked to reduction of the agency cost through the contracting criteria. Organisation’s overall performance is better demonstrated through the choice of a suitablemethod of accounting. In case the accounting methods are selected incorrectly, it may lead to unwarranted costs for the company. It will not be possible to earn adequate profits and achieve the organisational objectives by the company in this scenario. Alternatively, the opportunistic approach is used for seekin out the reaction of the management after selection of the contracts and accounting methods. However, it is not practical to estimate the future forecasts on a correct basis, therefore it is expected from the management that they will find new opportunities for the maximisation of their wealth in the near future(Hayn & Hughes, 2011).
The managers and the owners of the company are not expected to think only about their self-interestand the managers access a lot of data and information for the company which are not always represented to the owners of the company. The managers of the organisation are rewarded on the basis of fixed cost or bonus basis.The managers are also needed to be paid on salary cum appropriate remuneration for their performance, which is also known as the bonus scheme. The most significant limitation of the “positive accounting theory” is that it fails to prescribe an accounting method that is to be implemented by the companies. It is also said that this method is more focused on themanagers’ self-interest. This can have negative effects on the organisationalsuccess and hence it has proved to be of limited success in the environmentof the business. In this approach, the specific relationships to be maintained by the organisation are avoided, which lays an adverse effect on the financial position of the accounting firms (Clinton, 2006).
- Alexander, D., Britton, A., Jorissen, A., (2005) "International Financial Reporting and Analysis", Second Edition
- Paul H. Walgenbach, Norman E. Dittrich and Ernest I. Hanson, (1973), Financial Accounting, New York: Harcourt Grace Javonovich, Inc. Page 429.
- Clinton, B.D.; Matuszewski, L.; Tidrick, D. (2011). "Escaping Professional Dominance?". Cost Management (New York: Thomas Reuters RIA Group)
- Clinton, B.D.; Van der Merwe, Anton (2006). "Management Accounting - Approaches, Techniques, and Management Processes". Cost Management (New York: Thomas Reuters RIA Group)
- Sharman, Paul A. (2003). "Bring On German Cost Accounting". Strategic Finance (December): 2–9.