Accounting rules and regulations are a 'mish-mash of somewhat conflicting concepts'(e. g. relevance and neutrality), providing managers discretion in deciding which concept to and not to use(1). Profit is not a simple figure which is often computed easily(2), infact it is an intensive process of naming and counting(3); identifying, determining and summarizing many references generated. Some of these items donot can be found, and hence are helped bring into life by determining and assigning monetary values, some involve quantifying the qualitative, while calculation of others may require professionals choosing between different guidelines and methodologies(income recognisation, inventory, depreciation computation using different techniques), which are accepted, by giving a simple reasoning or justification for the choice. Hence, getting management itself is allowed out there giving managers the discretion to twist and flip certain statistics to meet their criteria, provided a proper reasoning is given.
Prudence-an important rule ever sold, guiding managers which should a discord arise, a conservative approach to be adopted, as not to be over-optimistic about performance. But now, it is a mere subset of stability, changed by faithful representation by IASB, pursuing FASB(4). Should we have now expect more use of creative accounting? Given the current credit crunch is it fair to check out USA? Does indeed this mean that instead of by using a careful approach concerning which colors to use, managers are absolve to color the picture at all they like? Similar implications apply for the use of fair value accounting (driven by Hick's, 1975, income and opportunity cost theory), affecting property valuation and income recognisation. Also given diverse and conflicting guidelines, what maybe true for just one company or country, maynot be true for another(credited to different accounting bodies). Therefore income is merely 'creating rather than reflecting reality'(5).
Another indicate discuss is PAT(positive accounting theory); predicated on unrealistic assumptions as long as they are a good prediction, and root hypothesis should never be declined if proven wrong(6). The diagram below shows that atlanta divorce attorneys step of PAT strategy there is a great deal of subjectivity, and fifty percent of the time they donot tell what assumptions have been made.
PAT is dependant on Adam Smith's logical economic man proclaiming that 'all options are based on home interest and accumulation of private prosperity; hence accounting methods will be chosen to mislead and disguise performance'(7). "Agency theory" (Jensen & Meckling, 1976) is carefully related to the, displaying turmoil of interest between shareholders and professionals, which justifies why managers may resort to generating management, especially if performance-based salaries are being used (management compensation hypothesis, Watt and Zimmerman 1986).
Shareholders appoint auditors as a cover of their privileges and confidence that managers are managing the business to the best of their capacity, to keep up decision making efficiency, but auditors donot get access to everything, and only bottom their decisions on the info provided by managers and given accounting laws, does these details asymmetry means that auditors really provide a good and truthful evaluation of company reporting? Given the limited information that auditors are given, can they analyze that success as shown by the company is actually correct? The answer is NO, and we have many cases such as Enron, Sunbeam, which despite been given unqualified audit reports, failed ultimately.
Furthermore, as Watt and Zimmerman dispute that PAT only provides prediction which method professionals might use, but doesnot inform which accounting method should be utilized, for example a big company is likely to use income lowering methods to avoid politics attention (politics cost hypothesis), credit debt hypothesis states a company which is close to breaking its debts covenants will choose procedures to ensure such covenants aren't violated(8).
Also, it is too simplistic to state that it's the only fact. Infact even if revenue amount is aligned with company's genuine performance, matching to coherence theory it is 'just a truth'(9), rather than the ultimate simple fact. Although some might assert the contrary, as the press only compares the profit characters and doesnot make reference to the variety of accounting policies that may be adopted(10).
My discussion ends with the viewpoint, that although accounting policies and audit records are designed to protect stakeholders from incorrect reporting, but credited to gaps in rules, professionals still maintain the discretion to choose policies, which is exploited to meet their objectives, hence shareholders and auditors should use a pool of resources, such as return on investment(11), key performance indications, share price and economic profit (lender interest and return on other possessions-12) to determine performance. Information is not secure, clear and self-evident(13), it is at the mercy of regular change, and can be made and interpreted in several ways. The fact is not in the numbers, it is only constructing truth using 'space, time and value machine'(13), therefore users of accounting information should use their own common sense, knowledge and thoughts before getting any conclusion rather than basic decisions blindly on profitability alone.
Rhoda lecture notes: 'The Development of legislation: International requirements and conceptual frameworks of accounting.
My first reflective piece
Lecture records Ann-Christine Frandsen: 'Where do we find accounting'
Lecture notes Dr Fiona Anderson Gough: 'Early on expectations and normative theory, the influence of past on present'
Friedman, The methodology of Positive Economics 1953
Adam Smith, The prosperity of countries, 1776
Lecture records, Rhoda, Positive accounting theory (PAT)
Lecture records, Dr Fiona Anderson Gough, Portraying success
Deegan and Unerman, 2006
Lecture notes, Ann Christine Frandsen
Ball and Brown, 1968
Frandsen A-C (2009), Information Organisation
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