DEVELOPMENT OF

ACCOUNTING THEORIES
AND PRACTICES
Overview of Accounting Theory
What is a theory?
Hendriksens definition:
the coherent set of hypothetical, conceptual and
pragmatic principles forming the general
framework of reference for a field of inquiry.

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What is an accounting theory?
Hendriksens definition:
logical reasoning in the form of a set of broad
principles that
provide a general framework of reference by
which accounting practice can be evaluated and
guide the development of new practices and
procedures.
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Overview of Accounting Theory
Overview of Accounting Theory
Whether a theory is accepted depends on
how:
well it explains and predicts reality
well it is constructed both theoretically and
empirically
acceptable its implications are

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Overview of Accounting Theory
Accounting theory is a modern concept
compared to mathematics or physics
Even Paciolis treatise on double-entry
accounting focused on documenting
practice and did not explain the underlying
theoretical basis for it
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Overview of Accounting Theory
The development of accounting
theory has been mostly unstructured

Chambers:
Accounting has frequently been described as a
body of practices which have been developed in
response to practical needs rather than by
deliberate and systematic thinking.

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Overview of Accounting Theory
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Was developed to resolve problems as they
arose reactive
Ad hoc approach
Led to inconsistencies in practice
e.g. different depreciation methods
Accounting standard setting
Conceptual framework projects have not resolved
inconsistency in practice
Pre-theory (1400s 1800)

Goldberg:
No theory of accounting was devised from the time
of Pacioli down to the opening of the nineteenth
century.
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Pre-theory (1400s 1800)
The Zenon Papyri
The impact of the Renaissance
Fra Luca Pacioli
The evolution of joint ventures into ongoing businesses
The impact of the industrial revolution and the
progressive movement
The concept of capital maintenance
The accountant as a protector of business interests

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Pragmatic accounting (1800 1955)
The general scientific period
based on empirical observation of practice
provided an explanation of accounting practice
focused on the existing viewpoint of accounting


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ACCOUNTING IN THE UNITED
STATES SINCE 1930
Meetings between NYSE and AIA
AAA
SEC
Securities Act of 1933
Securities Exchange Act of 1934
Committee on Accounting Procedure
Accounting Principles Board
Financial Accounting Standards Board
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THE ACCOUNTING PRINCIPLES BOARD
Formation and structure
Types of pronouncements
APB Opinions
The flap over accounting for the investment
tax Credit
Rule 203
Criticism of the APB

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THE FINANCIAL ACCOUNTING STANDARDS BOARD
The Wheat Committee
The Trueblood Committee
The FASB was established
The structure of the FASB
is illustrated in the
following diagram

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Structure of the FASB
Financial
Accounting
Foundation
Board of
Trustees
Appoint
Electors
Govern Appoint and
fund
Financial
Accounting
Standards
Advisory
Committee
(approx.
20 members)
Financial
Accounting
Standards
Board
(7 members)
Task Forces
of the
Standards
Board
Appoint
Admin.
Staff
Research Staff
|
|
|
- - - - - - -
Appoint and
fund
FASB
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Mission
Types of pronouncements
Statements of Financial Accounting Concepts
Statements of Financial Accounting Standards
Interpretations
Technical Bulletins
FASB
Emerging Issues
Standards Overload
Standard setting as a political process
Economic Consequences

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GAAP
Evolution of phrase:
Changed wording of auditors certificate brought about by
meetings between NYSE and AIA
The APBs definition
The Auditing Standards Executive Committees definition
The current sources of GAAP consist of four levels
described as A, B, C, and D by Statement of Auditing
Standards No 69

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GAAP
Evolution of phrase:
Changed wording of auditors certificate brought about by
meetings between NYSE and AIA
The APBs definition
The Auditing Standards Executive Committees definition
The current sources of GAAP consist of four levels
described as A, B, C, and D by Statement of Auditing
Standards No 69

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GAAP HYRARCHI
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LEVEL A:
FASB Statements
FASB Interpretations
SEC Rules and Interpretive Releases
Accounting Principles Board Opinions (unless amended)
Account Research Bulletins (unless amended)
LEVEL B:
FASB Technical Bulletins
AICPA Industry Audit Guides that have been reviewed by the FASB
GAAP HYRARCHI
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LEVEL C:
AcSEC Practice Bulletins that have been reviewed by the FASB
Consensuses reached by the EITF
LEVEL D:
AICPA Accounting Interpretations (no longer issued)
FASB Implementation Guides
Other widely recognized or prevalent accounting practices

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Normative accounting (1956-1970)
Sought to establish norms for the best
accounting practice
Focused on what should be (the ideal) v.
what is

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Normative accounting (1956-1970)
Degenerated into battles between competing
viewpoints
Two groups dominated:
conceptual framework proponents
critics of historical cost
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Normative accounting (1956-1970)
Factors prompting the demise of the
normative period include:
the unlikelihood of one particular normative
theory being generally accepted
the application of financial economic principles
the availability of empirical data and new testing
methods
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Normative accounting (1956-1970)
The major criticisms of normative theories
were:
they do not necessarily involve empirical
hypothesis testing
they are based on value judgements
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Positive accounting (1950 to the
present day)
A shift to a new form of empiricism called
positive theory
Had its origins in the general scientific period
It seeks to explain the accounting practices
being observed

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Positive accounting (1950 to the
present day)
Its objective is to explain and predict
accounting practice
e.g. the bonus plan hypothesis

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Positive accounting (1950 to the
present day)
It helps predict the reactions of players, such
as shareholders, to the actions of managers
and to reported accounting information

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Positive accounting (1950 to the
present day)
Major deficiencies are:
wealth maximisation has become the answer to
explain all accounting practices and reported
information
it relies excessively on agency theory and dubious
assumptions about the efficiency of markets
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Positive accounting (1950 to the
present day)
Behavioural research:
concerned with the sociological implications of
accounting numbers and the associated actions of
key players

emerged in the 1950s

despite growing acceptance since the 1980s,
positive accounting theory still dominates

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Accounting in Crisis The Events
of the Early 2000s
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Enron and the Accounting Scandals
Accounting in Crisis The Events
of the Early 2000s
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Two major changes in the accounting profession have taken
place in the wake of the accounting scandals:
1. Arthur Andersen

formerly one the Big 5 audit firms
has gone out of business
2. Sarbanes-Oxley Act
Recent developments
Academic and professional developments in
accounting theory have tended to take
different approaches
Academic research focuses on capital markets,
agency theory and behavioural aspects
The profession has sought a more normative
approach what accounting practices should
be adopted
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Recent developments
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Recent developments
Conceptual framework resurrected in 1980s
states the nature and purpose of financial
reporting
Establishes criteria for deciding between
alternative accounting practices
SACs 14
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Recent developments
Conceptual framework Recent Developments
Joint project between IASB & FASB
International harmonisation of accounting
practices through a single consistent set of
international financial reporting standards (IFRS)

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Recent developments
The conceptual framework underpinning the
IFRS favours a move toward
accounting practices that provide information for
enhancing decision making by investors and
others
recognising all gains and losses in the accounting
periods in which they occur
measurement using exit values

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Content outline
Part 1: Accounting theory (chapters 1 3)
Part 2: Theory contributing to practice
(chapters 4 10)
Part 3: Accounting and research (chapters 11
14)
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Summary
Accounting theory
Major periods of accounting theory
development
Normative accounting
Positive accounting
Conceptual framework
IFRS

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Key terms and concepts
Theory
Accounting theory
Normative theory
Positive theory
Behavioural theory
Conceptual framework
IFRS
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