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ACCG224
Intermediate Financial Accounting
Session 1, 2013
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Welcome to ACCG224 ☺
• Your lecturers are:
– Rajni Mala (Tuesday 15.00 to 17.00) and
– Thomas Kern (Thursday 18.00 to 20.00).
• Your tutorials start next week.
Important! If you need to change
your tutorial class contact Cissy via
accg224@mq.edu.au
Deadline: 8th March 2013!
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Our view of Intermediate Financial
Accounting
• Not only how we record transactions and
prepare financial statements,
• but also why do we it the way we do:
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How and why is financial accounting regulated?
Why is communication/disclosure so important?
Why do we measure assets the way we do?
What is the role of professional judgement?
• Therefore be prepared for conceptual as
well as technical issues.
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Overview of Unit Guide –
Continuous Assessment/Final Exam
1. Class Participation – 10%;
2. Oral presentation (linked to Research
Report) – 5%;
3. Research based case study and report –
15%;
4. Two short in-class tests – 20% (10% each);
5. Final exam – 50% (compulsory to pass).
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How to study ACCG224
• Read the relevant textbook chapters before the lecture;
• Come to the lectures
– but don’t expect that by coming and listening you will get all you
need to know!
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Prepare all tute questions (homework);
Actively participate in tutorials;
Attend consultations;
Read the financial press;
Prepare for the in-class tests;
Undertake research for the research based case study;
Seek help early
Peer Assisted
– Faculty:
Learning PAL:
http://www.businessandeconomics.mq.edu.au/new_and_current_st
check out on
udents/undergraduate
iLearn!
– University: http://students.mq.edu.au/support/
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ACCG224 – New Text
• New Custom Publication
(EVERYONE MUST BUY THE NEW TEXT)
• Additional materials
– one chapter will be provided on iLearn
• Bring your text to both lectures and
tutorials!
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Your first point of call:
the unit’s iLearn site
• Here you can find:
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the Unit Guide,
staff consultation hours and contact details,
all relevant materials (incl. iLectures),
selected tutorial solutions,
detailed information on all assessments,
important announcements,
your grades,
forums to discuss your general or topic related questions
with your fellow students.
• So, it is important to check the unit’s iLearn site
frequently!
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Week 1
Introduction to the Regulatory
Environment: Including Theories of
Regulation and Political Influence
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Learning objectives
You should have an understanding of
1. theories of regulation that are relevant to
accounting and auditing.
2. how theories of regulation apply to accounting
and auditing practice.
3. the regulatory framework for financial reporting.
4. the institutional structure for setting accounting
standards.
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What is regulation?
• Regulation is overseeing, according to
predetermined rules, an activity by an entity not
directly involved in the activity.
• For example:
Other examples:
• Australian Prudential
Regulation Authority
(APRA)
• Australian Communications
and Media Authority
– the government is deliberately intervening in the production
of general purpose financial statements;
– this control is through a standard setting body: Australian
Accounting Standards Board (AASB) which is supposed
to be independent of the government.
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Introduction to the regulatory environment –
Who/what regulates accounting?
1. Corporations Act 2001:
– has the accounting requirements about the way financial
data are recorded in the accounting system;
– has requirements about accounting reports.
2. Supervised and enforced by Australian
Securities and Investments Commission (ASIC)
under the ASIC Act 1991:
– investigates companies suspected of non-compliance with
the Corporations Act or accounting standards;
– issues its own interpretations of the financial reporting
requirements of the Corporations Act;
– is also called the corporate watchdog.
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Introduction to the regulatory environment –
Who/what regulates accounting? (cont’d)
3. Australian Securities Exchange (ASX):
– has listing and trading rules;
– plays an important role in developing Australian financial
reporting requirements.
4. Financial Reporting Council (FRC):
– oversees standard setting;
– 17 members appointed by Federal Govt or nominated by
approved organisations (ASIC, ASX etc.);
– advises government on standard setting;
– appoints members to AASB;
– monitors AASB and gives direction;
– no veto power on standards – the Federal Parliament has;
– AASB must follow its broad strategic plan.
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Introduction to the regulatory environment –
Who/what regulates accounting? (cont’d)
5. Australian Accounting Standards Board (AASB):
– transforms International Accounting Standards (IAS) and
International Financial Reporting Standards (IFRS) into
Australian standards;
– ‘Australianises’ the International Accounting Standards
Board’s (IASB’s) Framework;
– drafts new standards when commissioned by IASB;
– undertakes public consultation on draft standards.
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Introduction to the regulatory environment –
Who/what regulates accounting? (cont’d)
6. International Financial Reporting Standards
Interpretations Committee (IFRSIC):
– principles based international accounting standards require
global interpretation;
– consistency of interpretation is the key challenge for the
accounting profession.
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Institutional structure
for setting accounting standards
• Formation of International Accounting Standards
Committee (IASC) – 1973.
• Aimed to develop accounting standards for use
throughout the world.
• Criticism that IASC was not independent →
restructured in 2001 into the International Accounting
Standards Board (IASB).
• In 2005, the European Union (EU) decided to adopt
IASB standards.
• From January 2005 Australia adopted IAS and IFRS
developed by the IASB.
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Politics of standard setting
• Standard setting is a political process
because it can affect many conflicting and
self-interested groups.
• The regulator must make a political choice.
• The regulator must have a mandate to make
social choices.
• Example:
– The recognition of doubtful debts can affect
entities differently.
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Politics of standard setting (cont’d)
• IASB sets accounting standards – AASB
Australianises them.
• What are the opportunities for lobbying?
– There is an Australian member of the IASB;
– Europe is a powerful bloc;
– the U.S. American standard setter, the Financial Accounting
Standards Board (FASB) is resisting and wants U.S.
Generally Accepted Accounting Principles (US GAAP) to
dominate;
– multinational businesses – including big 4 accounting firms;
– politicians;
– responses to Exposure Drafts.
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Independent enforcement bodies
• Independent enforcement bodies:
– EU
• Securities market regulators:
– EU: Committee of European Securities Regulators
(CESR);
– U.S.: Securities Exchange Commission (SEC);
– Australia: ASIC.
• The need for consistent enforcement across
countries.
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Rules vs principles in standard setting
• IASB follows a principles-based approach to
standard setting.
• Constructed in a broad framework that is not
focussed on specific rules under specific
circumstances
• Allows for professional judgement in relation to
substance rather than form
• Relates to the conceptual framework (more next
week).
• Broad guidelines that can be applied to different
situations.
• Comparability is a problem as is the potential for bias.
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Rules vs principles in standard setting
(cont’d)
• Currently FASB follows rules-based approach.
• Constructed in a framework that is focussed on
specific rules under specific circumstances.
• Misuse in corporate collapses means that FASB is
reconsidering if they should move to principles-based
standards.
• Rules-based standards can be very complex and
become confusing.
• Open to manipulation.
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Role of professional judgement
• Accounting treatment of some transactions is
unregulated (eg. depreciation, residual
value).
• Difficult to accept that accounting standards
are neutral and unbiased due to the
economic and social consequences of
standard setting.
• Different accounting assumptions and
judgements can lead to differences in
reporting profits/losses.
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The IASB and FASB
convergence program
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FASB formed in 1973.
Regarded as the leading standard setter.
Power delegated to FASB by SEC.
Convergence program commenced in 2002
– Norwalk agreement.
• Convergence is a complicated process.
• In 2007, SEC allowed non-U.S. companies to use
IFRS for listings on U.S. stock markets.
• FASB/IASB: common project on Conceptual
Framework.
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The theories of regulation relevant to
accounting and auditing
• Managers have incentives to voluntarily
provide accounting information, so why do
we observe the regulation of financial
reporting?
• Explanations are provided by:
– theory of efficient markets;
– agency theory;
– theories of regulation.
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Theory of efficient markets
• The forces of supply and demand influence
market behaviour and help keep markets
efficient.
• This applies also to the market for accounting
information and should determine what
accounting data should be supplied and what
accounting practices should be used to
prepare it.
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Theory of efficient markets (cont’d)
Criticisms:
• the market for accounting data is not
efficient;
• the ‘free-rider’ problem distorts the market;
• users cannot agree on what they want;
• accountants cannot agree on procedures;
• firms must produce comparable data.
The government must therefore intervene.
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Agency theory
• Demand for accounting information:
– for stewardship purposes;
– for decision-making purposes.
• A framework in which to study the relationship
between those who provide accounting
information (e.g. a manager) and those who
use it (e.g. a shareholder or creditor).
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Agency theory (cont’d)
• Because of imbalances between data
suppliers and data users, uncertainty and risk
exist
• Resources and risk are likely to be misallocated between the parties
• To the extent the market mechanism is
inefficient, accounting regulation is
required to reduce inefficient and
inequitable outcomes.
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Theories of regulation
• There are three theories of regulation:
– public interest theory;
– regulatory capture theory;
– private interest theory.
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Public interest theory
• Government regulation is required in the
‘public interest’ whenever there is market
failure (inefficiency) due to:
– lack of competition (monopoly, oligopoly);
– barriers to entry;
– information asymmetry between buyers and
sellers of certain market signals;
– public-good product.
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Public interest theory (cont’d)
• Governments intervene:
– to get votes
– because public interest groups demand
intervention
– because they are neutral arbiters as they do not
have any independent role to play in the
development of regulations, they intervene at the
request of public interest agents.
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Application of public interest theory
• The Sarbanes-Oxley Act (U.S., 2002):
– new financial reporting and corporate governance
requirements were introduced as well as new standards and
oversight structures were created for auditors.
• Accounting Standards Review Board (ASRB)
(Australia, 1984):
– government’s intervention in the accounting standard setting
process.
• But:
– Managers have incentives to voluntarily correct market
failure perceptions about their firms.
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Regulatory capture theory
• The public interest is not protected because
those being regulated come to control or
dominate the regulator.
• The regulated protect or increase their
wealth.
• Assumes the regulator has no independent
role to play but is simply an arbiter between
battling interest groups.
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Application of capture theory
• Is international harmonisation evidence of
capture by large companies, the ASX and the
accounting profession?
• Has the IASB been captured by the FASB?
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Private interest theory
• Governments are not independent arbiters,
but are rationally self-interested.
• They seek re-election.
• They will ‘sell’ their power to coerce or
transfer wealth to those most likely to achieve
their re-election (if they are elected officials)
or increase their wealth (if they are appointed
officials) or both.
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Application of private interest theory
• The private interest theory could be applied to
the establishment of the Accounting
Standards Review Board (ASRB).
• The ASRB was dependent on and
susceptible to influence from several interest
groups.
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What is behind the regulation of
accounting in Australia?
• Corporate failures;
• wide reaching effects of accounting;
• government intervention to increase its
regulatory role;
• legal enforcement of financial reporting and
auditor independence.
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Why is accounting so regulated?
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Agency problem;
reporting needs to be monitored;
protection of owners and creditors;
complexity of entities and transactions;
governments act in the public interest to
ensure efficient market for information;
• accounting is a complex product.
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Rationale for regulation
• Regulation is necessary because:
– markets for information are inefficient and not enough
good information will be made available;
– average efficiency in the market puts at risk the savings of
investors who rely on unregulated disclosures;
– those with limited power may be unable to get information;
– investors need protection against misleading information –
public confidence;
– Regulation leads to uniformity.
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Rationale for regulation (cont’d)
• Regulation is not necessary because:
– financial information is a good and people are prepared
to pay for it – this will lead to an optimal supply of
information;
– failure to supply information will mean the organisation will
be punished by the capital market (market for lemons);
– regulation leads to an over-supply of costly information;
– it restricts accounting choice and leads to a ‘one size fits
all’ problem;
– it encourages lobbying.
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Concluding comments
• Accounting is highly regulated by government
regulatory bodies.
• Accounting standards have gone global but are
regulated locally.
• There are arguments that regulation has failed – just
look at the corporate collapses.
• Does accounting in Australia require more or less
regulation?
• Does the production of General Purpose Financial
Statements (GPFS) require more or less accounting
standards?
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Summary
In this chapter:
• we reviewed theories proposed to explain the
practice and regulation of financial reporting
and auditing;
• we reviewed the regulatory framework for
financial reporting and the institutional
structure for setting accounting and auditing
standards.
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