Pathways Commission Vision for Accounting Education Thank you for this opportunity to represent the Pathways Vision Committee. Working on the committee is one of the most rewarding experiences of our career. The Committee was appointed by the Pathways Commission, co-sponsored by the AAA and AICPA. Our charter was to create a vision to transform the first course in accounting to attract diverse, high-potential students. That was our charter, but, the vision is much broader than the first course. Indeed, it’s a vision for all of accounting education that aims to shift the public’s perception of the mechanical aspects of accounting, to a broader perspective that represents the reality of the roles of accounting in a prosperous society. Today, we will look at a few key elements of the Vision Model that apply to all areas of accounting. Then we will briefly illustrate how we dig deeper into the model in our financial accounting course. While some of these deeper concepts apply to other areas such as managerial, audit, and tax, most won’t. Still, we hope to spark discussions about how the Vision Model aligns with the innovative competency-based framework created by the IMA/MAS Curriculum Task Force. First, let’s introduce your representatives on the Vision Committee and the breadth of experiences they brought to creating the Vison Model… G. Peter and Carolyn R. Wilson 2015 Management Accounting Section Midyear Meeting, January 10, 2015

Contributors to the Pathways Vision Model: Sam Leno, former Boston Scientific Executive Vice President and Chief Operations Officer David Moss, Citigroup - Citi Markets, previously at J.P. Morgan and McKinsey Ellen Glazerman, Ernst & Young Leslie Knowlton, Deloitte Dan Roam, Digital Roam, Inc., best selling author and entrepreneur Julie Smith David, American Accounting Association Tracey Sutherland, American Accounting Association Mike Tiller, Indiana University, Chair of Vision Committee Lisa Koonce, University of Texas Carolyn Wilson, Boston College Pete Wilson, Boston College We were all looking at accounting, but through different lenses: Sam Leno, former chief operating officer and chief financial officer at Boston Scientific, brought the lens of a corporate executive with a particular appreciation for the benefits of an accounting mindset for problem solving, strategic planning, and financial reporting. Sam continually stressed the importance of managerial accounting. David Moss, currently a Director at Citicorp who was previously at J.P. Morgan and McKinsey, brought the lens of a sophisticated user. Leslie Knowlton, Managing Director at Deloitte, and Ellen Glazerman, Executive Director of the Ernst & Young Foundation and the Americas’ Director of University Relations for E&Y brought the lens of public accounting with a particular appreciation for what it takes to succeed at a major accounting firm. Dan Roam, visual-thinker extraordinaire, brought the lens of an entrepreneur. On the academic side, Julie Smith David brought the lens of systems experts; Lisa Koonze the lens of behavioral research; Mike Tiller the lens of a self described philosopher, Tracey Sutherland the lens of the broader AAA membership, and Carolyn and I the lens of information economics. We started the visioning process by addressing the following question….

What is the public perception of accounting? Think about the one word a stranger in a grocery line would say to describe accounting?

Public Perception of Accounting We concluded the public perception of accounting is boring … accountants mechanically “crank out precise numbers” using black & white rules that lead to right or wrong answers. The key take-away is this limited perception has consequences for students who are attracted to accounting and for educators who teach them. From this base line, we began building the Vision Model by asking another question.

What is the reality of accounting? What is the reality of accounting when viewed through the lenses of senior representatives from main street, Wall street, public accounting firms, standard setters, and regulators? In other words, how do professionals view accounting? We followed this up by creating the Pathways Vision Model.

Pathways Vision Model Reality of Accounting Inclusive Interdependent elements Simple, yet deep The Model has three overarching features we’re going to elaborate on today: ► First, it’s very inclusive. The model is inclusive in two ways: First, the scope of the economic activity and related decisions ranges from small entities such as project development teams or individual contributors, to companies, not-for profits, and governments. Second, it applies to all of the areas of accounting: including financial, managerial, tax, audit, systems, and not-for-profit accounting. ► Second its elements are highly interdependent: The arrows connecting the elements illustrate their interdependencies and, in particular, how they affect and are affected by each other. There is a circular flow of cause and effect, starting with economic activity affecting accounting judgments, which affect the usefulness of information, which affect users’ decisions, which have consequences back on economic activity. But, this interdependence means all of the arrows can be reversed: Everything affects everything. ► Third, it’s simple, yet deep. The elements and their interdependencies can be introduced at the big-picture level in introductory courses and increasingly penetrated deeper and deeper in more advanced courses, including professional development courses. Next, we will look at a few of the key elements of the model that apply to all areas of accounting.

The Pathways Vision Model Conceptual Foundation Outsiders Insiders ► We are going to briefly examine a few concepts from information economics that are lurking in the background and give the Model a firm conceptual foundation before discussing the simple example we use to introduce the model to students. ► Reporting entities are responsible for economic activities and accounting decisions and for issuing accounting reports. For managerial accounting courses, they are typically subunits within companies or other organizations. ► Insiders are individuals inside the reporting entity. If they issue reports, they are insider preparers. ► Outsiders are individuals outside the reporting entity. If they use reports, they are outsider-users. A key point is insiders and outsiders are defined relative to reporting entities. In particular, for managerial accounting courses, insiders and outsiders are generally all employed by the company or organization and reports are used exclusively inside this organization. We have now set the stage to discuss powerful concepts common to all areas of accounting, including information asymmetries between insiders and outsiders, insiders’ incentives, adverse selection, and moral hazard. In other words, we are ready to bring our research mindset into the classroom. But we are going to do so in the introductory course with a simple example. When we introduce the Vision Model at the start of our introductory financial accounting course, we begin with a managerial accounting application. This allows us to shed light on a question students often ask: How do financial and managerial accounting differ? But it also allows us to emphasize how the courses are similar. Namely, at the highest level, the Vision Model applies to both. Reporting entity

Pathways Vision Model Managerial Accounting Example Outsiders Insiders Bonus decisions Corporate executives Anticipated Outsiders Assess usefulness Revenue report Insiders When should revenue be recognized and how much? + or - ► We begin the example with students assuming the role of insiders working in the sales department of a company that sells appliances to distributors. ► The outsider-users are executives at the corporate office. They have agreed to award bonuses to members of the sales department. But only if revenues reported for the current quarter exceed a specified target. ► And their decisions are whether the sales department should receive a bonus at the end of the quarter, and if so, the size of the bonus. ► These decisions will be based on a revenue report issued by the sales department at the end of the quarter. ► Prior to using the revenue report, the executives, perhaps with help from their accountants, will assess the usefulness of the report for their bonus decisions. In particular, they will assess the extent to which revenue has been recognized properly. As an aside, we briefly tell students the difference between revenues and sales and keep the example simple by assuming revenue is recognized when there is a sale and delivery has occurred. ► Thus the accounting decisions, which can require considerable judgment, are when should revenue be recognized in the report and how much should be recognized. Next we turn to the consequences of users’ decisions for both economic activity and accounting judgments. The corporate executives’ bonus decisions have direct consequences for the sales department. If the department meets the quarterly revenues target, they get bonuses, otherwise they don’t. ► Importantly, anticipating a bonus creates incentives that can have additional indirect consequences. ► These incentives can be positive or negative. Here are two examples of positive incentives: First, anticipating meeting the target and getting a bonus gives the sales staff a positive incentive to work more efficiently and effectively towards the company’s goal to increase revenues. When multiplied across the entire economy, similar incentives can lead to the efficient allocation of capital, job creation, and tremendous wealth generation. Second, if the sales department meets the target at the end of the quarter, it has a positive incentive to make accounting judgments that faithfully reflect its performance. Keep in mind that the corporate executives’ intent was to create these positive incentives when it designed the bonus plan. But the fact that the plan exists doesn’t mean the sales staff will act on these positive incentives and thus that the executives will realize the intended benefits. For positive incentives like these to be effective, the parties who are to act on them must understand the related accounting. For example, the bonus incentive might not be effective unless the sales staff knows delivery is required for revenue to be recognized: the staff might not put forth the extra effort to ensure delivery occurs before the end of the quarter, which could mean they fall short of the bonus target. So, one reason bonus plans and other compensation schemes can fail to realize their potential is parties don’t respond effectively to positive incentives. Another, is unintended consequences that occur when parties act on negative incentives. Here are examples of two negative incentives that often occur at or near the end of reporting periods: First, if sales staff did not meet the target at the end of the quarter, they have an incentive to commit fraud by exaggerating revenues. Second, if they haven’t met the target near the end of the quarter, they have an incentive to discount prices excessively to accelerate sales into the current quarter that would otherwise be made at the higher price in the next quarter. At this point, we discuss controls accountants design and monitor to try to ensure individuals don’t act on these negative incentives. Next, we will discuss how the model promotes critical thinking. Sales department Sales activities + or -

Pathways Vision Model Critical Thinking The Vision Model emphasizes critical thinking by all decision makers.   This includes business decisions related to the underlying economic activity, accounting judgments, users’ assessments of the usefulness of reported information, and users’ decisions. While, the model is silent on the definition of critical thinking, among other things, it includes knowing how to: Solve complex problems. Develop creative solutions. Identify important problems. And be skeptical, but not cynical. Importantly, because of the model’s interdependencies, each decision maker must know how to think critically about the others’ decisions and environment. In particular, accountants must understand how to think critically about all of the Vision Model’s elements and their interdependencies when making accounting decisions. Not only does this mean accountants need to develop considerable expertise directly related to their job, but this won’t be enough to achieve their full potential during their career. For example, leading accountants can think critically about the economic activity behind the numbers they report and the implications of these numbers for investors’ and others decision makers. Because everyone is both a user and preparer of information, preparers need to think critically about how to create useful information and build credibility. Users need to think critically when assessing the usefulness of information and being skeptical, not cynical. More than any other element of the model, there’s an increasing sense of urgency to emphasize more critical thinking when educating students and young professionals. Human capital based solely on the “black and white”, mechanical aspects of accounting is becoming commoditized and outsourced. Next, we will briefly illustrate how we dig deeper into the model in our financial accounting courses. However, before doing so, we want to emphasize that the Model can be used quite effectively without digging as deeply. In this regard, we will close our presentation by illustrating how the Model supports design choices for financial accounting courses that are suitable for a wide range of educational missions.

Accounting Decisions Map As our introductory financial course progresses, we gradually develop concept maps that drill deeper into the Pathways’ Vision Model. We’re going to show you two of our maps: the Accounting Decisions Map and the Analysis Consideration Map. ► The Accounting Decisions Map focuses on factors that influence insiders’ accounting decisions to varying degrees depending on the context. ► From the perspective of an insider, preparing reports begins at the bottom by analyzing the underlying events, circumstances and risks. This informs the “shades of gray” within accounting measurement judgments. Once the measurement judgments are made, the accounting becomes “black and white.” ► The yellow spine of the Accounting Decisions Map ignores several other factors shown here in gray that affect accounting judgments. The relative importance of these factors depends on the reporting context. Many of these factors are “disciplining mechanisms” that aim to curb opportunistic accounting judgments. Congress tightened many of these mechanisms after the Enron scandals through the Sarbanes Oxley Bill. Having considered the depth of insiders’ decisions, we next consider outsider-users’ decisions.

Analysis Consideration Map ► The Analysis Consideration Map focuses on how outsiders use financial statements and other information to assess a company’s past performance and predict its future performance. ►The map has two inputs: (1) qualitative information about past and expected future business activities and (2) quantitative information from financial disclosures and related ratios. ►There are three outputs: qualitative forecasts of ►ROEs, ►risks, and ►growth. By qualitative forecasts, we mean students’ analyses end with qualitative assessments such as Company A’s ROES are expected to improve and to be superior to Company B’s ROEs. The goal here is to loosely tie ratios studied in the introductory course to the Residual Income Valuation Model studied in follow-up courses.

Financial-statement effects Pathways Vision Model Course Design Choices Analysis Ratio effects Financial-statement effects Entries Computations Accounting Judgments We are going to close by discussing how design choices apply to the Vision Model for financial accounting courses. We suspect there are similar choices for other accounting courses. ► Starting at the bottom of the model, ► we all know that students need to understand the underlying economic activity before they can learn the related accounting. But, this is where faculty must make their first choice regarding the level at which we want our students to understand the accounting reality and, in particular, how economic activity affects and is affected by the other Vision Model elements. ► Students only need to understand events, ► to compute measures, ► record entries and understand ► their financial-statement and ► ratio effects. For example, to understand the entries related to bad debts, they need to understand defaults and the importance of anticipating them when extending credit and thereafter when monitoring outstanding receivables. ► To make accounting judgments as preparers, students need to dig deeper into the economic activity. In particular, these judgments will be more informed to the extent they understand ► the related risks and incentives, including the disciplining mechanisms such as regulators, analysts, auditors and control systems that mitigate these risks. Similarly, students need to understand these factors as users of accounting information but in this role they ► start at their analysis at the top of the model ► and work their way down as best as possible given their limited information as outsiders. In particular, ► to assess the usefulness of reported information, they need to learn as much as possible about the related accounting judgments and economic activity. We want to emphasize that insiders must understand as much as possible about outsiders’ analyses to make informed decisions and similarly outsiders must understand as much as possible about insiders’ accounting judgments and related economic activities to make informed decisions. Consistent with the Vision Model, we also can choose the depth of critical thinking and team work to help students develop these vital skills. Our judgment as educators is to determine how deeply we penetrate these issues in the introductory course and other courses, given our constraints. If we work together do this across all our courses, we will reach what we believe is a worthy overarching goal for accounting educators. … Analyze economic activity Events Risks & incentives

Pathways Vision Model Overarching Goal … Working together we can shift the public perception of accounting towards reality. Today, we hope we have sparked some discussions about how the Vision Model aligns with the innovative competency-based framework created by the IMA/MAS Curriculum Task Force.   Thank you.

Questions or comments?