1. GODFREY HODGSON HOLMES TARCA
CHAPTER 1
INTRODUCTION

2. Overview of Accounting Theory
What is a theory?
Hendriksen’s definition:
…the coherent set of hypothetical, conceptual and pragmatic principles forming the general framework of reference for a field of inquiry.

3. Overview of Accounting Theory
What is an accounting theory?
Hendriksen’s 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.

4. 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

5. Overview of Accounting Theory
Accounting theory is a modern concept compared to mathematics or physics
Even Pacioli’s treatise on double-entry accounting focused on documenting practice and did not explain the underlying theoretical basis for it

6. 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.

7. Overview of Accounting Theory
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

8. Pre-theory (1400s – 1800)
Goldberg: No theory of accounting was devised from the time of Pacioli down to the opening of the nineteenth century.

9. 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

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

11. Normative accounting (1956-1970)
Degenerated into battles between competing viewpoints
Two groups dominated:
conceptual framework proponents
critics of historical cost

12. 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

13. 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

14. 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

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

16. 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

17. 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

18. 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

19. 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

20. Recent developments

21. Recent developments Conceptual framework – resurrected in 1980s
states the nature and purpose of financial reporting
Establishes criteria for deciding between alternative accounting practices
SACs 1–4

22. 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)

23. 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

24. 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)

25. Summary Accounting theory
Major periods of accounting theory development
Normative accounting
Positive accounting
Conceptual framework
IFRS

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