Pathways Vision Model Simplicity on the Far Side of Complexity Innovations in Accounting Education for the Global Information Age Panel American Accounting Association Annual Meeting August, 10, 2015 G. Peter Wilson Slides will be posted at www.navigatingaccounting.com/presentation/presentations#Teaching I’m grateful for this opportunity to discuss the Pathways Vision Model. My goal is to make the case that organizing accounting courses around the Vision Model would better prepare students to deal with the ever increasing complexity they will encounter in the workplace. A side benefit of using the Model in our courses is that it also helps us capture the synergies between teaching and research. To frame my discussion, I’ll start with a famous quote by Oliver Wendell Holmes.  

Simplicity on the Far Side of Complexity Framing Simplicity on the Far Side of Complexity http://integral-options.blogspot.com/2013/03/eric-storm-and-beth-meredith-beyond.html “I wouldn’t give a fig for the simplicity this side of complexity but I’d give my life for simplicity on the far side of complexity” Oliver Wendell Holmes ► “I wouldn’t give a fig for the simplicity this side of complexity ► but I’d give my life for simplicity on the far side of complexity.” So, what did Holmes mean by simplicity on “this side” versus “the far side” of complexity?

Simplicity on the Far Side of Complexity SIMPLICITY ON THIS SIDE OF COMPLEXITY SIMPLICITY ON THE FAR SIDE OF COMPLEXITY Simple but shallow Simple yet deep Perception Reality It’s generally believed Holmes was distinguishing: ► Simple but shallow, meaning not capturing reality, which he clearly despised, from ► simple yet deep, meaning faithfully capturing reality, which he clearly revered. To illustrate how this quote relates to accounting, I’m going to introduce two pictures created by the Pathways Commission Vision Committee, sponsored by the AAA and the AICPA. The committee included an artist-entrepreneur, senior representatives from Main Street, Wall Street, the Big-Four accounting firms, and six accounting academics, including my wife Carolyn and myself. We started the visioning process by addressing the following question: What is the public perception of accounting? We concluded the public perception of accounting is boring ► and on this side of complexity. Accountants mechanically “crank out precise numbers” using black & white rules that lead to right or wrong answers. From this base line, we began building the Vision Model by asking another question. 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? We followed this up by creating the Pathways Vision Model, ► which is on the far side of complexity. I’m going to focus on this Model’s conceptual foundation today but I won’t have time for applications. Still, keep in mind that students need to do two things to get to the far side of complexity: Internalize the Vision Model’s concepts and Apply them repeatedly in rich, diverse contexts. So, what is the Vision Model all about?  

Pathways Vision Model Inclusive Interdependent elements Anticipated + or - Interdependent elements Outsiders Insiders Simple, yet deep Reporting entity The Vision Model has three overarching features: ► First, it’s very inclusive: ► The Model applies to reporting entities of all sizes, ranging from small entities such as project development teams or individual contributors, to companies, not-for profits, and governments. It also applies to all of the areas of accounting: including financial, managerial, tax, audit, systems, and not-for-profit accounting. And it provides a unified framework for accounting teaching, research, and practice. ► Second, the Model’s 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 the arrows can all be reversed: Everything affects everything, which has tremendous implications for the way we teach accounting. ► Third, as indicated earlier, the Vision Model’s simple, yet deep. There are powerful concepts from information economics common to all areas of accounting lurking in the background, giving the Model a firm conceptual foundation. Here’s an example that illustrates these concepts. Let’s assume a corporate office promises to finance a future project proposed by a business unit, providing the unit’s quarterly earnings meet a specified target and the unit’s controller certifies that the earnings report complies with U.S. GAAP. Thus: The business unit is the reporting entity, The economic activity is the unit’s events and circumstances during the quarter. The accounting judgments are the controller’s related income recognition decisions. The executives at the corporate office are trying to make “Good Decisions”, including deciding the usefulness of the earnings report (for example, does it comply with GAAP as certified by the controller), whether to finance the future project and, if so, by how much. ► The unit’s employees are insiders, the corporate executives are outsiders, and there is an information asymmetry between them. The corporate decisions have direct and indirect consequences for the business unit: The direct consequences are corporate agrees to either finance or not finance the unit’s project. These consequences occur after the earnings report is released. By contrast, the indirect consequences for the business unit’s economic activity and accounting judgments occur before the report is released. ► The insiders anticipate the direct consequences during the quarter, which gives them incentives to take actions that have indirect consequences for the reporting entity. These incentives can be positive or negative. On the positive side, anticipating meeting the target and getting the project financed gives the business unit employees a positive incentive to work more efficiently and effectively towards the company’s goal to increase earnings. When multiplied across the entire economy, similar incentives can lead to the efficient allocation of capital, job creation, and tremendous wealth generation. … Creating a more prosperous society. Also on the positive side, if the unit has met the target at the end of the quarter, it has an incentive to make accounting judgments that faithfully reflect its performance. On the negative side, if the business unit does not meet the target at the end of the quarter, it has an incentive to commit fraud by exaggerating earnings. Also on the negative side, if they haven’t met the target near the end of the quarter, but not quite at the end of the quarter, they have an incentive to manipulate real activity opportunistically. Thus, the Vision Model facilitates introducing powerful concepts into our courses, such as adverse selection and moral hazard. For instance, we use a simpler example to introduce these concepts to our introductory students where they watch a brief video to prepare for the first day. This sets the stage for the entire course. Then, during each class we reinforce concepts, first in contexts where students are comfortable, then in more complex contexts that illustrate the concepts’ explanatory power applied to the class session’s topics. I want to reiterate that every feature of the Model discussed thus far applies to reporting units of all sizes, to all accounting courses, and to teaching, researching and practicing accounting. At the same time, it’s also possible to drill even deeper into the model within each area of accounting. In fact, many sections of the AAA are creating content that drills deeper. Carolyn and I have done this for financial accounting by creating highly detailed concept maps for outsiders’ and insiders’ decisions. These help students understand how everything they learn in the course is connected, which, along with the robust concepts discussed earlier, increases their learning efficiency. This, in turn, frees up time to pursue critical thinking activities.   Next, I’m going to briefly discuss three implications of the Model’s interdependencies that we emphasize in our courses. ► First, to motivate students to study accounting and perhaps pursue a career in accounting, we use the Vision Model to explain ways accounting contributes to a prosperous society, which is particularly important for the current generation of students: Accountants provide measures that are widely used to create incentives that motivate wealth creation. Positive incentives, such as those discussed earlier, are the fuel that drives capitalism. Accountants create and monitor controls, which curb the effects of the negative incentives discussed earlier. And, accountants provide decision support, including information and expertise. ► Second, the Model helps students realize they need to master more than accounting to think critically about accounting issues. Rather, they need to think critically about all of the Model’s elements and how they affect and are affected by each other. Third, the Model helps motivate and change the mind-set of students in a required introductory course who think accounting has nothing to do with their future plans. ► The key insight here is regardless of their future careers, students will find themselves alternating between being insider-preparers and outsider-users of information and the concepts discussed earlier will help them be more effective in these roles. For example, marketing managers conducting break even analyses when deciding whether to launch new products will seek cost estimates from accountants, and as outsider-users, they will need to assess the usefulness of this information for their decisions. When these same marketing managers send proposals the corporate office seeking financing for the new launches, they become insider- preparers who must establish the credibility of their reports. ► Next, I’ll close by describing a hierarchy for accounting judgments that stretches from the highest seats of government to the lowest levels within organizations. Then I’ll explain how the public’s perception of accounting affects public policy, which in turn, affects accounting judgments.

Accounting Judgments Hierarchy Outside organizations Education Voting public Special interests Congress Other Media SEC FASB PCAOB GAAP GAAS This hierarchy depicts the players who make accounting judgments related to US GAAP outside and inside organizations. The structure can easily be expanded to include a hierarchy for tax laws and regulations. There are similar structures for other countries. Judgments at the higher levels in this hierarchy guide or restrict those at the lower levels. Students who become accountants will find themselves in one or more of these roles during their careers. And, their accounting judgments will be more informed to the extent they reflect the Vision Model’s interdependencies. However, on average, only a small percentage of the students in our introductory courses become accountants. How do these students relate to this picture? They are in one or more of the groups we focus on next, which significantly influence the accounting judgments hierarchy, for better or worse: ► Special interests groups advocate for their self-interests and aim to educate and lobby for their causes. When their interests are aligned with the public’s interests, lobbying contributes to a prosperous society. When their self-interests conflict with the public’s interest, the ► voting public and ► media can provide a countervailing force or more generally influence law makers and regulators in ways that promote a prosperous society. But for these forces to be effective, Congress and the media must understand the reality of accounting. Indeed, we believe these forces have been counterproductive in the past often because the media and voting public ► have not understood accounting, especially the critical role of accounting judgments. ► The key take-away is there are two important reasons to use the Vision Model in our courses: First, shifting the public perception towards the Vision Model through education can enhance public policy and thus promote a prosperous society. Second, using the Vision Model will help accounting students learn how to think more critically, which is becoming increasingly important as tasks requiring lower-level thinking skills are being outsourced to technology or developing countries. Thank you again for this opportunity to discuss the Pathways Vision Model.   Inside organizations Auditors Board CFO Controllers Record keepers Reports Users