AF301 Semester 2, 2017 Tutorial Questions for Week 3

Dear Students,

These questions are to be attempted and discussed in tutorials for Week 3.

From Godfrey Textbook Chapter 2:

The questions are as follows: 1, 2, 9, 12, Case Study 2

1. 'A theory that is purely syntactic is sterile or successful.' Is this true? How can this statement
relate to accounting?
Response:
To a certain extent, a theory that is purely syntactic can be sterile in a sense that following a
perfect syntax in the accounting process, as in the preparation of the financial report, can be
valueless and invalid. This occurs due to the fact that the final output of the financial report
have no empirical backings to prove its real-world validness (Semantic backing). The results
derived from financial reports are merely summations of accounts. This then implies that:
A set of equation could describe any form of situation whatsoever given that one
standardized verification procedure is used only. However the accuracy of such
claim is the application of different verification procedures in order to claim the
validness of such claim. In accounting, auditing is a process from the accuracy and
reliability of the financial reporting is checked that also as well followed one
verification process.
2. One type of theory construction involves observing the practices and techniques of working
accountants and then teaching those practices and techniques to successive accountants.
(a) What type of theory construction is this?
Response:
Descriptive pragmatic approach.

(b) What are the advantages of this approach compared with a decision- usefulness approach
to theory construction?
Response:

Advantages:

(i) the solutions of practicing accountants are related to the requirements of the business
world.
(ii) they have developed (and been handed down) over a number of centuries. (double
entry accounting, historical cost etc)
(iii) it is a pragmatic (more realistic and practical way) approach to solving the problems of
accounting.

Disadvantages and comparison to a decision making approach:

 (i) no logical assessment (not deductive)
(ii) does not allow change (or change occurs slowly) as the first accountants knowledge
passes on to other generations of accountants and on and on resulting in change of
knowledge in accounting.
(iii) we perpetuate current practice
(iv) concentrates on pragmatics (accountants behavior) and ignores the measurement issues
(semantics) that allows the accountant to make decisions on value and possible
investment.
pscyhological pramatic accounting theory disadvantages:
users may react in unreasonable ways
users may fail to react
herding behavior (follow the crowd)

(c) And that are the disadvantages of this approach?

Response:

Not all theories have a pragmatic orientation, but the nature of accounting makes this relationship
an important one. The problem here is a circular role in this theory. Accountants teach other
accountants how they do things and they perpetuate this role by then teaching other accounting
apprentices. The criticism of this approach is that it does not have syntactic or semantic input.
(think realistically, compare and contrast positive and negative features)

(d) Do you believe that this is a good approach to developing a theory of accounting? Why
or why not?

9. Explain the naturalistic and syntactic approaches to theory construction. Are these approaches
mutually exclusive? Why or why not? Note: Question 9 is referring to scientific not semantic
Yes they are mutually exclusive because they deal with different grounds and cannot be applied as
the same time as in the case in semantic and syntactic that goes together in proving a theory.
 12. Explain the psychological pragmatic approach to accounting theory. Give an example of how
it can be applied.

The psychological pragmatic approach to accounting theory is examining the reactions by investors
and the general public to the release of accounting data. One research question is whether investors
are fooled by cosmetic accounting numbers or are they financially rational. This research issue is
covered in a later chapter but has gained greater prominence after the failure of ENRON and their
questionable accounting practices.
1. What are international financial reporting standards (IFRS)?
Response:

International Financial Reporting Standards are accounting standards developed by the

International Accounting Standards Board (IASB), which is an independent international
organisation supported by professional accounting bodies. Formerly known as the
International Accounting Standards (IAS), the objective of IFRS is to achieve uniformity
and transparency of accounting principles used by entities for financial reporting around the
world.

2. Many arguments are expressed in this article. List three factors that you think are causing
 British businesspeople to be upset about the prospect of adopting the IFRS.
Response:

Three of the factors causing concern about the prospect of adopting IFRS include:
Companies are required to recognise, present or disclose information in a transparent way.
The use of fair value accounting which requires asset and liability revaluations to be passed
through the income statement both (a) increases earnings and leverage measures of volatility;
and (b) takes more effort to implement.
IFRS do not provide more insight into firm risk than existing accounting standards.

3. Consider each of the three factors you mentioned in response to question

(a) Is there empirical evidence to support the factor?
(b) Is the analysis leading from the factor to the complaints about adopting the IFRS
scientific or naturalistic in its approach? Explain your answer.
Response:

(i) Companies are required to recognise, present or disclose information in a different way.

Yes. For example, adoption of IFRS in Australia also requires companies to recognise share-based
transactions, which was not the case previously. The accounts of companies adopting IFRS differ
from those of firms using different national accounting standards.

The evidence used as the basis for the claims is naturalistic if it is evidence from firms individual
accounts that underpins the claims by individuals in many cases. These accounts have been
observed by individuals who have become concerned about the nature of the changes required
under IFRS.
However, if a research study has been conducted, say by academics, then that research study is
likely to follow the scientific approach of analysing many firms financial statements, or
reconstructions of their past financial statements, to come to a general conclusion regarding the
view that firms are required to recognise, present or disclose information differently from their
current approach.

(ii) The use of fair value accounting which requires asset and liability revaluations to be
passed through the income statement both (a) increases earnings and leverage measure
volatility; and (b) takes more effort to implement.

Yes, there is some empirical evidence that fair value accounting creates more volatility. For
example, Barth, Landsman, and Wahlen (1995) examined fair value of US banks investment
securities and found that fair value-based earnings are more volatile than historical-based earnings.

The use of fair value accounting leads to a complaint that it introduces volatility into reported
profits, as revaluations must be brought into the income statements. The evidence used as the basis
for the claims is naturalistic if it is evidence from firms individual accounts that underpins the
claims by individuals in many cases. These accounts have been observed by individuals who have
become concerned about the increase in earnings and leverage volatility reported under IFRS.
However, if a research study has been conducted, say by academics, then that research study is
likely to follow the scientific approach of analysing many firms financial statements, or
reconstructions of their past financial statements, to come to a general conclusion, statistically
tested, regarding the view that volatility increases after IFRS adoption.

(iii) IFRS do not provide more insight into firm risk than existing accounting standards.

The empirical evidence can include the type of risk disclosed and its impact on profit and financial
position; the difficulty in risk compared with the audit of financial statements prepared under
national standards, etc.

The evidence used as the basis for the claims is naturalistic if it is evidence from individuals
learning to prepare/auditing firms individual accounts that underpins the claims by individuals in
many cases.

However, if a research study has been conducted, say by academics, then that research study is
likely to follow the scientific approach of analysing the time spent by accountants and/or auditors in
relation to numerous firms financial statements, or reconstructions of their past financial
statements, or statements pre- and post- IFRS adoption.

4. How could researchers evaluate the decision usefulness of adopting the IFRS?
Response:

The decision-usefulness approach builds from a basic assumption that the objective of
accounting is to assist users of accounting reports in their decision-making process by providing
useful and relevant information in the accounting reports. To evaluate the decision-usefulness of
adopting IFRS, researchers need to examine whether financial reports prepared under IFRS are
useful for users in making economic decisions. There are a number of ways to do that. One way is
to undertake a value-relevance study investigating whether certain items disclosed in financial
reports, such as financial instruments or intangible assets, are value-relevant (i.e. provide relevant
and reliable information for users). Another way is to conduct a survey among firms that have
adopted IFRS, or survey users of their financial reports. Other research methods can be teased out
with the class.

5. What role can positive theory play in resolving the issue(s) described in the article?
Response:

Researchers can conduct positive accounting research to examine and find empirical evidence that
can support or reject the issues described in the article. Investigating how adoption of IFRS works
in the UK can be used to enhance the theory of how global accounting standards should provide
more benefits, as it will describe and explain the issues and consequences associated with adopting
IFRS.
6. What role can normative theory play in resolving the issue(s) described in the article?
Response:

Commencing with premises regarding the desirable attributes of a global accounting system and
premises regarding how well different national and other accounting systems (including IFRS) meet
those attributes, (this may be the outcome of either positive or normative theories, depending upon
the nature of the attribute in question). A normative theory can lead to hypotheses regarding the
best way to achieve accountings goals.

PART

From Deegan Textbook Chapter 1:

The questions are as follows:

1, 2, 1.8, 1.24

1.1 What is the difference between a positive theory of accounting and a normative theory of
accounting?
Response:
Normative theory of accounting is more of a prescription whereas a normative theory of
accounting is more about of explanation and predictions. More to that, Positive theory
have no relevant empirical evidences whereas normative theory of accounting focus more
on empirical evidences.

Normative theory of accounting is more of a prescription in a way of establishing more

policy recommendations with that of what should be done without any empirical backing. A
perfect examples of include of International Financial Reporting Standards, International
Accounting Standards and others which prescribe how the practice of accounting should be
done.

Positive Theory of accounting, on the other hand, is more of explaining and predicting
certain accounting behaviors within every given situations. In other wordings it is
concerned with explaining accounting practice. It is designed to explain and predict which
firms will and which firms will not use a particular method but it says nothing as to
which method a firm should use ( Deegan, pg 273). For instance, which firms will mostly
use the straight-line depreciation over the diminishing-balance depreciation and why? It
should be noted as well that managers uses accounting practices that maximizes his or her
bonuses.
1.2 If you developed a theory to explain how a persons cultural background influences how they
prepare financial statements, would you have developed a positive theory or a normative
theory?
Response:
Given that the normative theory is prescribing in nature whereas the normative theory is
explanatory and predictive in nature, then developing a theory to explain how a persons
cultural background influences how they prepare financial statements is normative in nature.
Hence it is a normative theory. But if the given question is that of should a persons cultural
background influences the way they prepare a financial statement in a certain way? then it
would be developing a theory by positive theory approach.

1.8 What is the difference between developing a theory by induction and developing a theory by
deduction?
Response:

Induction is reasoning from the specific to the general to form a generalized theory
or the development of ideas or theories via observation whereas deduction is reasoning from the
general to the specific or a way of explaining a set of particular facts which is based more on the
use of logic rather than observation. The major difference is their reasoning starting point to reach
their theory conclusion on either being true, useful, relevant or vice versa. (Induction is the opposite
of deduction)

1.24 Identify and explain five different criteria that we might use to evaluate a theory as being
suitable or appropriate for use in our research.

Response:

Evaluation through logical deduction (key word: syllogism)

The basis of the application of a given theory is also based on its logical conclusions.
If the theory held logical grounds within a given premises, then that theory is
suitable for use in a given research. For instances, most public-companies in Fiji
uses both historical cost modelling and revaluation modelling and FEA also uses
both historical cost modelling and revaluation modelling then we can conclude that
public-companies applied both historical cost modelling and revaluation modelling.
Evaluation through the underlying assumptions
The basis of the acceptance and application of a given theory is tied with the
acceptance of a given underlying logic and assumptions the arguments are based on.
For instance, the positive accounting theory implies that behind every managers
actions is motivated by the economic-assumption of maximizing his/her wealth. If
the logic behind it that with every targeted reach a manager will receive any form of
bonuses of sort then the manager will implement certain practices that increases
his/her chance to reach a targeted goal.
 Universal applicability of theories
Beside universal applicability of theories is another major contributing factor in the
overall acceptance and application of a certain theory. In terms of normative
accounting theories, Accounting standards (IFRS,IAS,GAAP, IPSAS etc) are
practiced worldwide that most of the country business and commerce law
incorporate them. Accounting theories validness that are mostly questioned and
failed to be supported will have lesser usage.
Generalizing theories from the testing of samples
Generalizability is concerned with whether research findings can be generalized beyond
the specific context in which the research was conducted. A study may be valid in one
setting but not in another and in this instance the research results would not be
generalizable.

The three consideration for a generalized theory are:

Considering the data being generalized or selected (Sample data), Sample size must be
reasonable and representative of the population, Considering HOW the argument is
developed and (Methodology), How such argument(s) tested (method)
Given, for instance, that here at Fiji the majority of its listed companies are being used as a sample
data. The argument made is that maybe profitable and high performing listed companies adopt a
certain accounting practices, software and managerial-approach and the majority of the listed
companies are tested thoroughly. Given that this prediction test have insignificant flaws, then the
generalized theory gained from this test may hold valid grounds.

Is the theory parsimonious

A parsimonious theory is that the research has applied the most logically economic
explanation to explain particular phenomena.
Does the theory tie in well with our own perspective with the theory should be achieve.
Should be superior to the existing theory
Was the theory developed by well-developed researchers
Is the theory falsifiable