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Accounting Theory - Introduction

This document provides an introduction to accounting theory. It defines what a theory is and explains that accounting is a human activity that should be studied through the lens of accounting theory. Theories can help explain people's behaviors and needs around accounting information. Examples are given of how theories may prescribe asset valuation methods or predict how managers choose accounting methods. The overview discusses the development of accounting theories from the 1920s to present day and how theories have evolved from being inductive to both normative and positive. The importance of assumptions in theories and evaluating theories critically is also covered.

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Ashraf Uz Zaman
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90 views13 pages

Accounting Theory - Introduction

This document provides an introduction to accounting theory. It defines what a theory is and explains that accounting is a human activity that should be studied through the lens of accounting theory. Theories can help explain people's behaviors and needs around accounting information. Examples are given of how theories may prescribe asset valuation methods or predict how managers choose accounting methods. The overview discusses the development of accounting theories from the 1920s to present day and how theories have evolved from being inductive to both normative and positive. The importance of assumptions in theories and evaluating theories critically is also covered.

Uploaded by

Ashraf Uz Zaman
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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Accounting Theory & Standard

Week#1: Introduction

BBA 23rd Batch

Md. Saiful Alam, PhD FCMA


Associate Professor
Dept. of Accounting & Inf. Sys.
University of Dhaka
What is a theory?
• ‘A coherent set of hypothetical, conceptual and pragmatic principles forming the
general framework of reference for a field of inquiry’ (Hendriksen 1970, p.1).

• ‘A scheme or system of ideas or statements held as an explanation or account of a


group of facts or phenomena’ (The Oxford English Dictionary)

• Based on logical (coherent) reasoning, and not ad hoc in nature.

• Different to a ‘hunch’

• A theory could be based on numerous observations (inductive reasoning) or


developed on the basis of logic (deductive reasoning)

• Could be ‘positive’ or ‘normative’

• Theories can help us make sense of the world in which we live and can provide a
structure to understand our (social) experiences

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Accounting Theory
• Accounting is a human activity
• It would seem illogical to study (financial/managerial) accounting (for
example, the accounting standards/budgets) without also studying
accounting theory
• Theories of accounting consider
– people’s behaviour with respect to accounting information
– people’s needs for accounting information
– why people within organisations elect to supply particular information

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Examples of Uses of Accounting Theory
• Theories might:
– prescribe how assets should be valued
– predict why managers will choose particular accounting methods
– explain how an individual’s cultural background affects accounting information
provided
– prescribe what accounting information should be provided to particular classes of
stakeholders
– predict that the relative power of a stakeholder group will affect the accounting
information it receives
– explain or predict how accounting disclosures might be used as part of a strategy
to legitimise the operations of an organisation

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Why Study Accounting Theories?
• Learning the rules of financial accounting without considering the
implications of accounting information is not recommended
• Accounting plays a very important and pervasive role within
society ….. and our theories help to explain why
• Studying theories of accounting exposes students to various
issues, including:
– how elements of accounting should be measured
– motivation for organisations to provide certain types of accounting
information

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Cont. …
– motivation for individuals to support or lobby regulators for some
accounting methods in preference to others

– the implications for organisations and their stakeholders if one


accounting method is chosen or mandated in preference to others

– how and why the capital markets react to particular information

– whether there is a ‘true measure’ of income

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Cont. …
• Without a theoretically informed understanding it is difficult to:
– evaluate the suitability of current accounting practices
– to develop improved accounting practices where current practices are
unsuitable for changed business circumstances
– to defend the reputation of accounting when accounting practices are
blamed for causing companies to fail (as has been the case with the
global financial crisis)

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Overview of Theories of Accounting
• Many theories of financial accounting exist
• No universally accepted theory of accounting
– different perspectives about the central objective, role and scope of financial
accounting
• No universally accepted perspective about the role of accounting
theory
– different researchers have different perspectives of the role of accounting theory
(for example, to explain and predict practice versus prescribing particular
practice)
– a researcher’s own values will influence which theory he or she elects to embrace

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Development of Accounting Theory
Period Development Process Outcome
1920-1960 theories developed from observing Doctrines/Conventions of
what accountants did in practice Accounting (e.g. APB Statement
(Inductive Approach) No. 4 ‘Basic Concepts and
Accounting Principles Underlying
the Financial Statements of
Business Enterprises’)

1960s & 1970s Sought to prescribe particular Normative Theories (Conceptual


accounting practices and not based Framework, Chamber’s
on observations (Deductive Continuously Contemporary
Approach) Accounting)
Mid to Late 1970s Explaining and predicting Positive Theories (Watts and
accounting practice rather than Zimmerman’s PAT)
prescribing particular practices
(Deductive/Abductive Approach)

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Theory Development Syllogisms: Inductive, Deductive & Abductive

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Evaluating theories of accounting
• As we should now understand, there are a multitude of accounting
theories available
• Why or how, would we select one theory in preference to another?
• Students should consider the merit of the argument and the research
methods employed
• Some researchers may adopt strategies (such as overt condemnation
of alternative theories) to support their own research and theoretical
perspective
• Researchers that adopt a given ‘paradigm’ often challenge the views
of people researching from a different paradigm

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The Role of Assumptions
• Even though an argument is logical we might only accept the
argument if we accept any critical assumptions being made
– if we reject any central assumptions we may reject the prediction no matter how
logical the theory might be
– For example, Positive Accounting Theory (Watts and Zimmerman) is based on
the central economics-based assumption that all individual action is motivated by
self-interest tied to wealth maximisation. If we do not accept this central
assumption then we would dismiss the explanations and predictions provided by
the theory
– So, we must consider both the logic of the argument and the central assumptions
made

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Dishonest Tricks in Argument
• In evaluating theories we sometimes need to be aware of ‘dishonest
tricks’ some researchers use to support their research, or to denigrate
the theories utilised by others
• Thouless (1974) identifies 38 dishonest tricks some writers use to
support their argument including:
– emotionally toned words
– statements where ‘all’ is implied but ‘some’ is true
– diversion to another question or to a side issue
– use of speculative argument
– prestige by false credentials
– appeal to mere authority
• We must be careful that our acceptance of a theory has not been
‘coerced’ through the use of colourful or emotive language

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