copyright © 2009 by pearson education canada 13 - 1 chapter 13 standard setting: political issues
TRANSCRIPT
Copyright © 2009 by Pearson Education Canada13 - 1
Chapter 13 Standard Setting: Political Issues
Copyright © 2009 by Pearson Education Canada13 - 2
Chapter 13 Standard Setting: Political Issues
Copyright © 2009 by Pearson Education Canada 13 - 3
13.2 Two Theories of Regulator Behaviour• Public Interest Theory
– Objective of regulator is to maximize social welfare
• Interest Group Theory– Regulator takes own interests into account, while
balancing demands of investors and managers– Implies conflict between constituencies
• Standard setters’ emphasis on due process suggests that interest group theory best applies
Copyright © 2009 by Pearson Education Canada 13 - 4
13.3 Conflict and Compromise• 13.3.1 Another example of economic
consequences– Difficulties faced by IASB in developing IAS 39 illustrate
extent of constituency conflict in standard setting• Concerns of several constituencies
– European Central Bank– European Union carveout– Danish regulators– Association of Corporate Treasurers
• IASB compromises– Macro hedging– Restrict fair value option
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13.3.2 Other Comprehensive Income• Items included
– Unrealized gains and losses on available-for-sale securities
– Unrealized gains and losses on cash flow hedges
• Rationale– To secure management constituency’s
acceptance of fair value accounting
» Continued
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13.3.2 Other Comprehensive Income (continued)• 2 alternative presentations
– Presented with Income Statement• Net income from operations xxx• Extraordinary items xxx• Net income xxx• Other comprehensive income xxx• Comprehensive income xxx
– Alternative Presentation• As part of statement of changes in shareholders’ equity
» Continued
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13.3.2 Other Comprehensive Income (continued)
• Firms’ choice of alternative has information content for investors– Theory in Practice 13.1
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13.4 Rules-Based v. Principles-Based Accounting Standards• Rules-Based Standards
– Lay down detailed rules– Possible to lay down rules for everything?
• Recall Hobbes, text Section 1.3
• Principles-Based Standards– Lay down general principles– Auditor professional judgement relied on to
prevent opportunistic manager behaviour when applying the principles
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13.5 Criteria for Standard Setting• Decision usefulness• Reduction of information asymmetry• Economic consequences
– Benefits > social costs
• Acceptable to constituencies
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13.6 International Integration of Capital Markets
• Increasing adoption of IASB standards– Some examples
• European Union, 2005• China, Japan (partially)• Australia, 2005• Canada, from 2011• United States?
– Allows foreign companies under SEC jurisdiction to report using IASB standards without reconciliation, 2007
– Norwalk Agreement to work towards standards convergence
» Continued
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13.6 International Integration of Capital Markets (continued)
• 13.6.2 effect of customs and institutions– Code law countries
• Greater influence of families and banks in corporate governance than in common law countries
• Lower moral hazard problem• Shows up as less timely and less conservative reporting,
even if country has adopted IASB standards
– Implication that investors should be aware of local practices and customs when interpreting financial statements, even if country uses IASB standards
» Continued
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13.6 International Integration of Capital Markets (continued)• 13.6.3 role of auditor
– Even high quality standards must be enforced– Protection of small investors
• Moral hazard problem switches to one between an entrenched controlling interest and small investors
– Auditor may be under great pressure from controlling interests
• Some evidence that auditors succumb to this pressure– Guedhami & Pittman (2006)
» Continued
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13.6 International Integration of Capital Markets (continued)
• 13.6.4 benefits of high quality accounting standards– Better working securities markets– Higher earnings quality– More foreign investment
» Continued
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13.6 International Integration of Capital Markets (continued)
• Should standard setters compete?– e.g., if firms could choose between IASB &
FASB standards• Race to the bottom?• Race to the top? (Problem 13.7)
– Firms could signal commitment to high quality reporting by choosing the higher quality standards
• Do benefits of competition outweigh increased costs of allowing 2 sets of standards?
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13.7 Summing Up• Information asymmetry is basic reason for
financial reporting– Adverse selection– Moral hazard
• Fundamental problem of financial accounting theory– Best information system to control adverse selection not
necessarily the same as best system to control moral hazard
– Leads to constituency conflict– Standard setters must mediate this conflict
The End
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