accy 305 assignment (complete)
DESCRIPTION
accountingTRANSCRIPT
4308360 ACCY 305 SEAH SHIN YING
Contents Page
1.0 Abstract 2
2.0 Introduction 3
3.0 Development and Importance of Conceptual Framework 3
4.0 Qualitative Characteristics of Conceptual Framework 4
5.0 Can financial report ever provide unbiased picture or map 7
of the entity’s economic reality?
6.0 Conclusion 13
7.0 Reference 14
1
4308360 ACCY 305 SEAH SHIN YING
1.0 Abstract
A financial report is constructed to provide useful information to the users who
are unable to command and lack of field knowledge for making economic decisions.
Therefore, it is important to have relevant and reliable information. Financial report is
constructed base on guidance from Conceptual Framework which developed by FASB
or IASB or AASB with qualitative characteristics to ensure that the information in
financial report is faithful represent or free from bias. However, financial report has
been criticised for not presenting an unbiased picture of entity’s economic reality.
Whether a financial report is hiding information from the users of financial report will
be discussed in this assignment. First, this assignment will briefly explain how the
Conceptual Framework is developed and the importance of Conceptual Framework.
Secondly, this assignment will explain how the qualitative characteristics of Conceptual
Framework such as Relevance and Reliability can ensure the financial report is
presented objectively. Last, this paper will have discussion on whether the financial
report can ever provide an unbiased picture of an entity’s economic reality from
different perspectives.
(170 words)
2
4308360 ACCY 305 SEAH SHIN YING
Question: Can financial report ever provide unbiased picture or map of the entity’s economic reality? Discuss.
2.0 Introduction
A financial report is like a report card of a company which is important for all
the users of the report. Financial report includes financial statements which about the
financial situation of a company and also a source of information for the users to make
economic decisions (Inc. 2013). (Deegan 2012, p5) explains the purpose of General
Purpose Financial Reporting (GPFR) is to generate information about the reporting
entity which is helpful to existing and potential investors, lenders and other creditors
who are unable to command in making economic decisions. Users of financial report
included investors; lenders; suppliers and other creditors; employees; customers;
government and their agencies; and the public (ACCA 2010).
3.0 Development and Importance of Conceptual Framework
Godfrey, Hodgson and Holmes (2000, p410) provides that FASB defines
Conceptual Framework as a logical system of interconnected objectives and
fundamentals which is expected lead to reliable standards and sets the nature, function
and limits of financial accounting and reporting. Deegan (2012, p78) states that
Conceptial Framework is classified as normative theory of accounting as it provides
guidance (prescription) to people who involved in general purpose financial statements.
Conceptual Framework includes objectives of financial report; qualitative
characteristics; principles and rules of recognition and measurement of the basic
elements and the type of information to be showed in financial report (Godfrey,
Hodgson and Holmes 2000, p410). Moehrle and A.Reynolds (2008, p9) provides that it
is important to have a sound, internally consistent and instructive Conceptual
3
4308360 ACCY 305 SEAH SHIN YING
Framework which cannot be overstated as conceptual framework provides foundation
upon that financial reporting guidance will be based.
Solomons views Conceptual Framework as a defence against political intrusion
in the neutrality of accounting reports (Godfrey, Hodgson and Holmes 2000, p414).
Solomons mentions that value judgement can only facilitate in implementing accounting
policies however there is no way in showing value judgement of any individual or
group are better for society than those of others (Godfrey, Hodgson and Holmes 2000,
p414). Therefore, Godfrey, Hodgson and Holmes (2000, p414) provides that standards
develop a ‘coherent theoritical base’ to provide a conceptual defence.
4.0 Qualitative Characteristics of Conceptual Framework
(Shahwan 2008, p195), states that a Making Corporate Report Valuable
(MCRV)’s presents a financial report should account for three major objectives which
are accounts show “economic reality”; “true and fair view”; and accounts should be
useful for decision-making purposes. The qualitative characteristics of accounting
information satisfy the users and eventually contribute to decision-making process
(Shahwan 2008, p195). Solomons enclosed the issue of objectives of financial reporting
and addressed the relevant issues of profitability; viability; representational faithfulness;
and comparability as essential assumptions of financial reporting (Shahwan 2008,
p197). (Shahwan 2008, p197) provides that Solomon’s report states representational
faithfulness as a basic objective of financial report and reliability is the key element of
representational faithfulness. Besides that, Solomons state that the accounting
information only reliable if its user has a rational assurance that it faithfully represents
what it aims to represent (Shahwan 2008, p198). (Shahwan 2008, p198) states that
4
4308360 ACCY 305 SEAH SHIN YING
reliability is concern the correspondence between an event it proposes to represent and
economic object to measure which verifiability is essential for it but insufficient and
neutrality is needed which means the absence of bias. However, traditional
conservatism is bias and generates unrealiable financial statements (Shahwan 2008,
p198). In order to have faithful representation, uncertanity should be portrayed to
quantified how relevant phenomena to be due to its existence (Shahwan 2008, p198).
Cheung, Evans and Wright (2010, p153) define “true and fair” as the financial
statements are in compliance with generally accepted accounting principles (GAAP)
that viewed as a technique to help achieve true and fair which aids in the presentation of
companies’ financial position. When all information being disclosed is to be said as true
and fair view, while truth and fairness is generate financial information about the
economic matters of an entity for decision-making purpose (Cheung, Evans and Wright
2010, p154). Cheung, Evans and Wright (2010, p154) provides that adequate disclosure
of information also important in the requirement of a true and fair view. A true and fair
view can be attained when it compliances with GAAP or evaluation based on
professional judgement (Cheung, Evans and Wright 2010, p154). Cheung, Evans and
Wright (2010, p154) states that companies still need to apply SACs and accounting
standards consistently in order to give a true and fair view but only valid to companies
reporting under Australian Corporations Law.
Substance over form is also an important principle in accounting practice
which is concerned with reporting a true and fair view and with providing financial
statement users information to make decision (Cheung, Evans and Wright 2010, p155).
It means that the economic substance of assets (and liabilities) might vary from their
legal structure leading to different treatment where quality of information rather than the
5
4308360 ACCY 305 SEAH SHIN YING
way it is presented which is important (Cheung, Evans and Wright 2010, p155).
Cheung, Evans and Wright (2010, p155) provides that substance over form has been
increasingly used to determine reliability and it concentrates on the intention or the
quality of information then financial accounting also emphasise on its economic
substance.
Furthermore, the users first need to assess whether or not they are provided
with all available and neutral information as it enhances “confidence in the quality of
financial reporting” to determine the intended use (Cheung, Evans and Wright 2010,
p155). Cheung, Evans and Wright (2010, p155) provides that accounting standard-
setting body to remain politically viable then the processes and to be seen neutral.
However, the truth; fairness; neutrality; objectivity and freedom of bias will change
from period to period and place to place and also one person or group’s viewpoint to
another because the truth is not independent of time, place and viewpoint where there
are many possible truths (Cheung, Evans and Wright 2010, p155).
Cheung, Evans and Wright (2010, p155) states that when need to enhance the
quality of financial reporting it is necessary to have neutral accounting standards thus
ED 42B[5] para 20 states that reliability is to be free from bias which is neutral that is
faithful representation of information including the surrounding uncertainties.
Therefore, professional judgement should be carefully exercised when deciding the
economic reality which required substance over form rather than its mere legal form to
ensure that useful and important information is not omitted and disclosed in order to
assist users in decision-making (Cheung, Evans and Wright 2010, p155).
6
4308360 ACCY 305 SEAH SHIN YING
5.0 Can financial report ever provide unbiased picture or map of the entity’s
economic reality?
From the Enron case which happened in year 2001-2002 due to accounting
failure and error judgement by the auditor, Anderson (The Economist 2002), we know
that a financial report is important as it can provide vital information to the users when
making economic decisions. A Conceptual Framework is developed which can guide
the company accountants to prepare a financial statement which provide an objective
(neutral and representationally) view of the performance and position of a reporting
entity (Deegan 2009, p232). When a financial statement is prepared according to the
requirements by Conceptual Framework which following the qualitative characteristics
stated then the financial statement can be said showing the ‘true and fair view’. (Hines
1991, p315; Deegan 2009, p232) states that “ontological assumptions supporting
Conceptual Framework is that relationship between financial accounting and economic
reality is undirectional, reflecting or truly reproducing relationship: economic reality
exists neutrally, intersubjectively, concretely and independently of financial accounting
practices; financial accounting reflects, mirrors, represents or measures the pre-existent
reality”.
The conceptual framework’s focus is to provide unbiased and objective
information to users of financial reports (Cullen 2013, p113). Cullen (2013, p113)
defines freedom of bias or neutrality as an information quality that prevent primary
users from making decisions to secure particular needs, desires or prejudices of the
preprarers. Solomons explains freedom from bias as ‘financial mapmaking’ which
7
4308360 ACCY 305 SEAH SHIN YING
accounting is that states the better the map the more completely it represents that are
being mapped (Cullen 2013, p113). Deegan (2009, p232) states that the role of a well-
functioning system of accounting is just objectively ‘mapped’ and so to the financial
position and performance of an organisation then whether the pratices of accounting can
be appreciated is depend on the professional judgement. It has been argued that the
qualitative characteristics such as neutrality or representational faithfulness provide an
objective perspective of an entity’s performance (Deegan 2009, p233). However, the
accounting standard-setter body need to consider the economic consequences which
follow by the decision to release an accounting standard before releasing new or
amended reporting requirements so the economic consequences consideration become
an obstacle for accounting to be neutral or objective (Deegan 2009, p233).
As a human being, managers and others are tend to be bias because of self-
interest by manipulate the accounting figures in the book which are in favour to them
that can help them get incentives from the company. Deegan (2009, p233) states that the
managers and other who involved in accounting function are putting self-interest ahead
of others. Therefore, it is impossible for accounting to be exercised objectively or
neutrally (Deegan 2009, p233). Deegan (2009, p233) further clarifies self-interest
perceptions frequently been used in explaining the development of ‘creative
accounting’- a situation where the preparers who responsible in preparing the financial
statements will selectively choose the accounting methods which provide most desired
outcomes from their own views. Positive Accounting Theory (PAT) gives a justification
of why firms might be creative-or opportunistic-with their accounting such as increase
rewards paid to managers to slacken the effects of accounting-based debt covenants or
diminish potential political costs (Deegan 2012, p102). Deegan (2012, p102) states that
8
4308360 ACCY 305 SEAH SHIN YING
account preparers can be creative yet at the same time follow accounting standards with
the highlighted of available accounting techniques. It might be difficult for auditors with
an oversight function to report the account prepared by preparers has anything wrong
although they might not be objective (Deegan 2012, p102). However, perhaps majority
of individuals preparing financial statements set objectivity before self-interest which
maybe contradicts with the central assumptions of PAT (Deegan 2012, p102).
A preparer prepares a financial reporting is base on the guidance of accounting
standards and Conceptual Framework because the accounting standards and Conceptual
Framework are created by the accounting standard-setting body which has sufficient
knowledge. The accounting standard-setting body uses the release of exposure drafts
and then written submission prepared by the preparers and users of financial
information through public discussion in developing accounting standards and
conceptual frameworks but create the possibility of being political (Deegan 2009,
p233). Deegan (2009, p233) states that those parties with particular attributes (power)
may have relatively greater impact on financial reporting requirements than other
parties which is a political process that produce the outcome of the polical solutions and
compromises impact on the financial information being presented. Consequently,
political influences on financial reporting process create an obstacle for financial
reporting to be objectively or neutrally. (Hines 1989, p80; Deegan 2009, p233) argues
that those not participate in standard-setting process will be very astonish to find out
how political the development of accounting standards actually is and it is remarkable
for outsider find out that the accounting knowledge should be expressed not only by
professional accountants but also accounting information users-like doctors and patients
cooperating on the development of medical knowledge.
9
4308360 ACCY 305 SEAH SHIN YING
(Hines 1988, pp251-257; Deegan 2009, p234) argues that parties involved in
the practice and regulation of accounting determine what attributes of an entity’s
performance should be highlighted such as profits or return on assets; and should
separate what attributes of an entity’s operations which are not important enough such
as expenditure on employee health and safety initiatives base on their judgement. Under
the ‘guise’ of objectivity, the accountant can identify which elements of entity’s
operations are important and which can be used for performance comparison between
companies. (Hines 1991, p323; Deegan 2009, p234) states that accountants are
concurrently construct reality when communicating reality, for example, when
accountants think that the financial statements are prepared under definition of reality
and continue perpetuate then will cause consequences to social actors upon reflection to
be proof that the definition of reality which they based on is real. When a “healthy” set
of financial statement not present faithfully, then the company is “really” in trouble
which may cause the creditors panic and precipitate the failure of the company or
petition for liquidation through court (Hines 1991, p323; Deegan 2009, p234).
Logically, there is no existance until the accountants verify something is
commendable of being subject of the accounting system, the issue or item then there is
no transparency and intrinsically there is no perceived accountability in relation to the
item (Deegan 2009, p234). Handel has adopted this persepective states that accounts
define reality and at the same time they are that reality and do more or less accurately
describe things alternatively they organise what is responsible in the setting in which
they arise (Hines 1991, p319; Deegan 2009, p234). Accounts define reality for a
situation in the logic that people act on the foundation of what is responsible in the
situation of their action to determine whether things are accurate or inaccurate by some
10
4308360 ACCY 305 SEAH SHIN YING
other standards (Hines 1991, p319; Deegan 2009, p234). The account provides a
foundation for action, defines what is real and it is acted on as long as it remains liable
(Hines 1991, p319; Deegan 2009, p234). An effective oversight function by Board of
Directors is at the heart of financial-reporting process that protects and serves the
interest of public which is important to check on management’s integrity, judgement
and performance if not will weaken the critical safeguards of the rigidity and objectivity
of independent audit (Sutton 2002, p325).
Abraham, Deo and Irvine (2008, p10) states that financial report should present
objectively the constructed images of reality but it has been imperfect subsequently.
Searle’s (1995) theory of institutional reality, compare the establishment of acceptable
structures of financial regulation including financial reporting to the rules of a game
which previously governed by framework has now let the game governs (Abraham, Deo
and Irvine 2008, p10). Consequently, the companies play this “game” of financial
reporting by applying in their own financial operations and generate reports that depict a
particular view of “reality” (Abraham, Deo and Irvine 2008, p10). Abraham, Deo and
Irvine (2008, p10) states that while the reports are “epistemologically objective with
respect to those rules”, are the creation of a system which in itself has no objective
foundation that described as three-tiered systen. First, an institutional framework exists
which is realist and objective consisting of taken-for-granted community prospects
(Abraham, Deo and Irvine 2008, p10). Second, a system of financial reporting rules and
regulations is subjectively created with which entities must conform within that
framework (Abraham, Deo and Irvine 2008, p10). Last, while the companies reflecting
the necessity of measuring up favourably against those of their competitors, their
financial reports are however apparent to be objectively constructed when applying
11
4308360 ACCY 305 SEAH SHIN YING
those rules and regulations (Abraham, Deo and Irvine 2008, p10). Abraham, Deo and
Irvine (2008, p10) states that nevertheless reality has been redefined and what lies
underneath the figures has been submerged somewhere in the process.
Wagenhofer (2009, p76) states that the ED Framework defines faithful
representation as a fundamental characteristic of financial information which including
neutrality and excludes prudence because it would introduce bias in the financial
information. The IASB appears to view accounting as a technology which hope that can
measures the essence of economic transactions and events accurately nevertheless the
transactions do not occur exogenously and accounting affects decisions made by
economic player (Wagenhofer 2009, p76). Neutral standards will prevent the
management to inflate earnings when there are incentives available (Wagenhofer 2009,
p76). Besides that, parties involved in accounting process such as auditors and
enforcement institutions have asymmetric loss functions which encourage biased
verification mechanisms (Wagenhofer 2009, p76). In addition, the information
economics literature identifies some reasons why biased information can be rigorously
preferable to neutral, unbiased information such as adjusting the accounting system to
restructure the restrictions on management contracts (Wagenhofer 2009, p76).
Wagenhofer (2009, p76) provides that Agency Theory suggests that biased accounting
information will be valuable in such an environment which the ED Framework cannot
discuss as defining desirable properties in a Conceptual Framework ignores
complementary information. The optimal accounting system creates biased signals
because they best match the information contained in the market price (Wagenhofer
2009, pp76-77). A biased accounting system produces signals that can be used to
transfer incentives to other important activities at a lower cost and accounting
12
4308360 ACCY 305 SEAH SHIN YING
information has comparative advantages comparative to other information sources
which is generally more reliable (verifiability in the terms of ED Framework)
(Wagenhofer 2009, p77). If there are reciprocal sources of information, place more
weight or reliable information can be useful (Wagenhofer 2009, p77). A transparent
financial report can reduce firm’s cost of capital by increasing the degree to which the
information reflects the underlying economics and by reducing information asymmetry
(Barth and Schipper 2008, p179).
6.0 Conclusion
In a nut shell, Conceptual Framework-a normative approach is developed
which can provide guidance to the accounting standards setters to create neutral
standards and that assist preparers of financial report to prepare an objective financial
report with relevant and reliable information to help the users of financial report in
making economic decisions because they are dependent on the report in deciding
whether the investment is worth. The preparers (management) of financial report should
have ethical behaviour with professional judgement in deciding what information to be
shown in financial report objectively by lowering own self-interest to get incentives.
With a transparent financial report, the cost of capital of company can be lowered.
Therefore, it is important to have an objective financial report.
(2500 words)
13
4308360 ACCY 305 SEAH SHIN YING
7.0 Reference
Abraham, A, Deo, H & Irvine, H 2008, ‘What lies beneath? Financial reporting and
corporate governance in Australian banks’, Asian Review of Accounting, vol. 16,
no.1, pp4 – 20, accessed 20/4/2013,
http://www.emeraldinsight.com.ezproxy.uow.edu.au/journals.htm?
articleid=1724251&show=abstract
ACCA 2010, The ASB’s Revised Statement of Principles for Financial Reporting- Part
1, http://www2.accaglobal.com/archive/2888864/28374
Barth, ME & Schipper, K 2008, ‘Financial Reporting Transparency’, Journal of
Accounting, Auditing & Finance, vol.23, no.2, pp173-190, accessed 15/4/2013,
http://jaf.sagepub.com.ezproxy.uow.edu.au/content/23/2/173.full.pdf+html
Cheung, E, Evans, E & Wright, S 2010, ‘An historical review of quality in financial
reporting in Australia’, Pacific Accounting Review, vol. 22, no.2, pp147 – 169,
accessed 17/4/2013,
http://www.emeraldinsight.com.ezproxy.uow.edu.au/journals.htm?
articleid=1881952&show=abstract
Cullen, L 2013, Accounting Theory and Analysis 308, John Wiley & Sons Australia Ltd,
Milton, Queensland.
Deegan, C 2009, Financial Accounting Theory, 3rd edn, McGraw-Hill Australia Pty
Limited, Sydney, New South Wales.
Deegan, C 2012, Australian Financial Accounting, 7th edn, McGraw-Hill Australia Pty
Limited, Sydney, New South Wales.
14
4308360 ACCY 305 SEAH SHIN YING
Godfrey, J, Hodgson, A & Holmes, S 2000, Accounting Theory, 4th edn, John Wiley &
Sons Australia Ltd, Milton, Queensland.
Hines, RD 1988, ‘Financial Accounting: In Communicating Reality, We Construct
Reality’, Accounting, Organisations and Society, vol.13, no.3, pp251-261, accessed
30/4/2013, http://www.sciencedirect.com.ezproxy.uow.edu.au/science/article/pii/
0361368288900037
Hines, RD 1989, ‘Financial Accounting Knowledge, Conceptual Framework Projects
and the Social Construction of the Accounting Profession’, Accounting, Auditing &
Accountability Journal, vol. 2 vol. 2, pp72-92, accessed 15/5/2013, Emerald
database.
Hines, RD 1991, ‘The FASB’s Conceptual Framework, Financial Accounting and The
Maintenance of The Social Work’, Accounting, Organisations and Society, vol.16,
no.4, pp313-331, accessed 29/4/2013,
http://www.sciencedirect.com.ezproxy.uow.edu.au/science/article/pii/
036136829190025A
Inc. 2013, accessed 16/4/2013, http://www.inc.com/encyclopedia/financial-
statements.html
Moehrle, SR & A.Reynolds, J, ‘The Proposed Conceptual Framework: Semantics or
Sea Change in Financial Reporting’, The CPA Journal, vol.78, no.11, pp6-9,
accessed 17/4/2013, http://go.galegroup.com.ezproxy.uow.edu.au/ps/i.do?
action=interpret&id=GALE|
A189931533&v=2.1&u=uow&it=r&p=AONE&sw=w&authCount=1
15
4308360 ACCY 305 SEAH SHIN YING
Shahwan, Y 2008, ‘Qualitative characteristics of financial reporting: a historical
perspective’, Journal of Applied Accounting Research, vol. 9, no.3, pp192 – 202,
accessed 16/4/2013,
http://www.emeraldinsight.com.ezproxy.uow.edu.au/journals.htm?
articleid=1752754&show=abstract
Sutton, MH 2002, ‘Financial Reporting At A Crossroads’, Accounting Horizons, vol.16,
no.4, pp319-328, accessed 13/5/2013,
http://search.proquest.com.ezproxy.uow.edu.au/docview/208909713
The Economist 2002, ‘Enron: The Real Scandal’, The Economist, 17 January, accessed
28/4/2013, http://www.economist.com/node/940091
Wagenhofer, A 2009, ‘Global accounting standards: reality and ambitions’, Accounting
Research Journal, vol. 22, no.1, pp68 – 80, accessed 25/4/2013,
http://www.emeraldinsight.com.ezproxy.uow.edu.au/journals.htm?
articleid=1801421&show=abstract
16