Topic 1 The financial reporting environment Chapter 2 - Amazon Web ...
Topic 1 The financial reporting environment Chapter 2 Key Concept 2: Accounting regulation General purpose financial statements: comply with conceptual framework requirements Management accounting – provides info for decision making within organisation, unregulated. Regulation of GPFR: Regulations govern how particular transactions and events are to be recognised, measured, and presented in GPFR. Limited uniformity between accounting methods adopted by different organisations. *lacks comparability Capital Markets: financial markets for the buying and selling of long-term debt or equity-backed securities as well as securities that have both debt and equity characteristics. Two broad school of thoughts on regulation. Pro-regulation
Markets for information are not efficient and without regulation, sub-optimal amount of information provided with less regulation (minimal amount) Free-market (or anti-regulation) approach ignores the rights of individual investors – may lose savings as a result of relying on unregulated disclosures. Parties that have power can obtain control over scarce resources, conversely, parties with limited power (limited resources), are unable to secure information about an organisation, even though that organisation may impact on their existence. Investors need protection from fraudulent organisations that may produce misleading information Regulation leads to uniform methods being adopted by different entities, thus enhancing comparability. Public Interest Theory
Arguments in favour of free market rely on users paying for goods or services that are being produced and consumed. Accounting information is a ‘public good’.
People use it without paying and pass it on to others (‘Free Riders’) – do not incur the production costs. True demand is understated because people know they can obtain goods or services without paying for them. Lack of incentive to pay for goods or services, can act as free riders. Market Failure: market forces of supply and demand that do not lead to economically or socially optimal levels of production. Level-playing field (Used to justify putting regulations in place): Everybody should have access to same information.
Bonding costs: borne by an agent. Occurs when agent gives guarantee to undertake, or not to undertake, certain activities. Monitoring costs: incurred in when principals monitor actions of agents. E.g. Auditing costs. Residual costs: costs that occur despite use of mechanisms. PAT – also predicts that organisations will seek to put in place mechanisms that align the interests of the managers of the firm (the agents) with interests of the owners (the principals). Larger firms are subject to government interference. Agency Theory: Firm itself is nexus of contracts and these conracts are put in place with intention of ensuring that all parties, acting in their own self-interest, are at the same time motivated towards maximising value of theorganisation. Explains the relationship between principals and agents. Principal delegates an agent to perform work in their interest, this delegation of decision-making authority can lead to a loss of efficiency and subsequently, increased costs (agency costs) – The firm itself is the nexus of contracts: mechanisms (contracts) put in place to ensure that despite the notion of self-interest, the individual is at the same time motivated towards maximising value of organisation. Efficient Markets Hypothesis (EMH): assumption that capital markets react to an efficient and unbiased manner to publicly available information. Three key hypothesis (to explain and predict whether an org would support or oppose method) Opportunisitic Perspective Bonus plan hypothesis: Managers of firms with bonus plans (tied to reported income) more likely to use accounting methods that increase current period reported income. Manager will prefer accounting methods that a have a greater impact on increasing profits to extent that this leads to increase in his bonus. Debt Hypothesis: Predicts that the higher the firm’s debt/equity ratio, the more likely managers will use accounting methods that increase income. Organisations close to breaching accounting-based debt covenants will select acc methods that lead to an increase in profits and assets. Incentive to relax potential impacts of constraints. (debt covenants: provided by borrower as part of contract associated with loan) Political Cost hypothesis: predicts that large firms rather than small firms more likely to use accounting choices that reduce reported profits. Size is a proxy variable for political attention. Situations of political scrutiny…reducing profits = less possibility for people to argue that org is exploiting other parities over excessive profits whilst providing limited returns. – Increase in political scrutiny for manager can motivate them to use methods to reduce reported income – Total assets/sales/profits used as an indication of market power – can attract attention of regulatory bodies such as ACCC. – Governments and interest groups publicly promote view that generating excessive profits and not paying ‘fair share’ to other segments of community (e.g. low wages, product price, commitment to environment etc). – Politicians take view that their actions serve public interests, whereas they may take action against companies with large profits for the sake of winning votes.
Topic 6 Unregulated Corporate Reporting Decisions Systems-oriented theories: (Open systems theories, perceive of an organisation as being part of a broader social system where organisation is influenced by, as well as influences, the society in which it operates. (Include Legitimacy, stakeholder, institutional theory) The three theories derived from broader theory called Political Economy Theory: ‘the social, political and economic framework within which human life takes place’.
Society, politics, and economics are inseparable, and economic issues cannot meaningfully be investigated in absence of considerations about political, social, and institutional framework in which economic activity takes place. By considering political economy, researcher is able to consider broader (social) issues that impact how an organisation operates and what information it elects to disclose. Neither Legitimacy nor Stakeholder Theory questions or studies various class structures (and possible struggles) within society. Divided into
Classical Political Economy Theory (Karl Marx): explicitly places sectional (class) interests, structural conflict, inequity, and role of State at heart of analysis. Bourgeois Political Economy Theory: ignores various tensions within society and accepts the world as essentially pluralistic with no particular class dominating another.
Legitimacy Theory Legitimacy Theory: organisations continually seek to ensure they are perceived as operating within bounds and norms of their respective societies. To be perceived as being ‘legitimate’. ‘Positive research’ seeks to explain particular actions or behaviours. These bounds and norms are not fixed, but change over time – requiring organisations to be responsive to ethical environment. 1. Considered a resource which an organisation is dependent on for survival. 2. Something that is desired or sought, and is able to be affected or manipulated by various disclosure-related strategies from organisations. Relative to social system and is time and place specific: It is time specific in that the community’s expectations are not static, rather, they change across time, thereby requiring the organisation to be responsive to current and future changes to the environment in which they operate in. Legitimacy is also place specific, based on the norms of acceptable behaviour of the social system in place. Depending on the norms, values and beliefs, different places may have different societal norms of behaviour thereby affecting how the organisation may conduct themselves towards society. Strategies aimed at gaining, maintaining or repairing legitimacy (legitimation strategies) may include targeted disclosures, or controlling or collaborating with other parties who are legitimate (legitimacy by association) It is not actual conduct that is important, it is what society collectively knows or perceives about the organisation conduct that shares legitimacy.
Markets for information are not efficient and without regulation, sub-optimal amount of information provided with less regulation (minimal amount) Free-market (or anti-regulation) approach ignores the rights of individual investors – may lose savings as a result of relying on unregulated disclosures. Parties that have power can obtain control over scarce resources, conversely, parties with limited power (limited resources), are unable to secure information about an organisation, even though that organisation may impact on their existence. Investors need protection from fraudulent organisations that may produce misleading information Regulation leads to uniform methods being adopted by different entities, thus enhancing comparability. Public Interest Theory
Arguments in favour of free market rely on users paying for goods or services that are being produced and consumed. Accounting information is a ‘public good’.
People use it without paying and pass it on to others (‘Free Riders’) – do not incur the production costs. True demand is understated because people know they can obtain goods or services without paying for them. Lack of incentive to pay for goods or services, can act as free riders. Market Failure: market forces of supply and demand that do not lead to economically or socially optimal levels of production. Level-playing field (Used to justify putting regulations in place): Everybody should have access to same information.
Bonding costs: borne by an agent. Occurs when agent gives guarantee to undertake, or not to undertake, certain activities. Monitoring costs: incurred in when principals monitor actions of agents. E.g. Auditing costs. Residual costs: costs that occur despite use of mechanisms. PAT – also predicts that organisations will seek to put in place mechanisms that align the interests of the managers of the firm (the agents) with interests of the owners (the principals). Larger firms are subject to government interference. Agency Theory: Firm itself is nexus of contracts and these conracts are put in place with intention of ensuring that all parties, acting in their own self-interest, are at the same time motivated towards maximising value of theorganisation. Explains the relationship between principals and agents. Principal delegates an agent to perform work in their interest, this delegation of decision-making authority can lead to a loss of efficiency and subsequently, increased costs (agency costs) – The firm itself is the nexus of contracts: mechanisms (contracts) put in place to ensure that despite the notion of self-interest, the individual is at the same time motivated towards maximising value of organisation. Efficient Markets Hypothesis (EMH): assumption that capital markets react to an efficient and unbiased manner to publicly available information. Three key hypothesis (to explain and predict whether an org would support or oppose method) Opportunisitic Perspective Bonus plan hypothesis: Managers of firms with bonus plans (tied to reported income) more likely to use accounting methods that increase current period reported income. Manager will prefer accounting methods that a have a greater impact on increasing profits to extent that this leads to increase in his bonus. Debt Hypothesis: Predicts that the higher the firm’s debt/equity ratio, the more likely managers will use accounting methods that increase income. Organisations close to breaching accounting-based debt covenants will select acc methods that lead to an increase in profits and assets. Incentive to relax potential impacts of constraints. (debt covenants: provided by borrower as part of contract associated with loan) Political Cost hypothesis: predicts that large firms rather than small firms more likely to use accounting choices that reduce reported profits. Size is a proxy variable for political attention. Situations of political scrutiny…reducing profits = less possibility for people to argue that org is exploiting other parities over excessive profits whilst providing limited returns. – Increase in political scrutiny for manager can motivate them to use methods to reduce reported income – Total assets/sales/profits used as an indication of market power – can attract attention of regulatory bodies such as ACCC. – Governments and interest groups publicly promote view that generating excessive profits and not paying ‘fair share’ to other segments of community (e.g. low wages, product price, commitment to environment etc). – Politicians take view that their actions serve public interests, whereas they may take action against companies with large profits for the sake of winning votes.
Topic 6 Unregulated Corporate Reporting Decisions Systems-oriented theories: (Open systems theories, perceive of an organisation as being part of a broader social system where organisation is influenced by, as well as influences, the society in which it operates. (Include Legitimacy, stakeholder, institutional theory) The three theories derived from broader theory called Political Economy Theory: ‘the social, political and economic framework within which human life takes place’.
Society, politics, and economics are inseparable, and economic issues cannot meaningfully be investigated in absence of considerations about political, social, and institutional framework in which economic activity takes place. By considering political economy, researcher is able to consider broader (social) issues that impact how an organisation operates and what information it elects to disclose. Neither Legitimacy nor Stakeholder Theory questions or studies various class structures (and possible struggles) within society. Divided into
Classical Political Economy Theory (Karl Marx): explicitly places sectional (class) interests, structural conflict, inequity, and role of State at heart of analysis. Bourgeois Political Economy Theory: ignores various tensions within society and accepts the world as essentially pluralistic with no particular class dominating another.
Legitimacy Theory Legitimacy Theory: organisations continually seek to ensure they are perceived as operating within bounds and norms of their respective societies. To be perceived as being ‘legitimate’. ‘Positive research’ seeks to explain particular actions or behaviours. These bounds and norms are not fixed, but change over time – requiring organisations to be responsive to ethical environment. 1. Considered a resource which an organisation is dependent on for survival. 2. Something that is desired or sought, and is able to be affected or manipulated by various disclosure-related strategies from organisations. Relative to social system and is time and place specific: It is time specific in that the community’s expectations are not static, rather, they change across time, thereby requiring the organisation to be responsive to current and future changes to the environment in which they operate in. Legitimacy is also place specific, based on the norms of acceptable behaviour of the social system in place. Depending on the norms, values and beliefs, different places may have different societal norms of behaviour thereby affecting how the organisation may conduct themselves towards society. Strategies aimed at gaining, maintaining or repairing legitimacy (legitimation strategies) may include targeted disclosures, or controlling or collaborating with other parties who are legitimate (legitimacy by association) It is not actual conduct that is important, it is what society collectively knows or perceives about the organisation conduct that shares legitimacy.
