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financial accounting theory

Questions and Answers of Financial Accounting Theory

What type of information do you think is useful for shareholders, lenders and creditors? Is this the type of information that is currently provided?AppendixLO1
What does the IASB Framework describe as the basic objective of accounting? What are its implications?AppendixLO1
Some people argue that there is no need for a general theory of accounting, as established in a conceptual framework. They say there is no overall theory of physics, biology, botany or psychology, so
How do conceptual frameworks of accounting attempt to create a theory of accounting? Describe the components of the IASB Framework and how it contributes to a theory of accounting.AppendixLO1
Why would the quality of accounting and auditing standards affect the development of financial markets? Why is the strength of enforcement of the standards and investor protection important in this
Why has IFAC established a Public Interest Oversight Board?AppendixLO1
Should the SEC allow the use of IASB standards for US domestic listed companies? Discuss reasons for and against the use of IFRS by US companies.AppendixLO1
The IASB and FASB began a convergence project in 2002. (a) What are the expected benefits of the convergence project? (b) What factors make convergence difficult? (c) How is the future of the IASB
What is the role of the Financial Reporting Council? Do you think that all members of the Financial Reporting Council should be qualified accountants? Why or why not?AppendixLO1
From 1 January 2005 Australia adopted IASB standards. (a) Do you agree with this change? Why or why not? (b) Who stands to gain from Australia's adoption of IASB standards? Explain. (c) Who stands to
Each of the three theories of regulation discussed in this chapter has its strengths and limitations in describing accounting standard setting, either past or present. What do you believe are those
In 2001 and 2002 there were several high-profile corporate collapses in the United States associated with misleading financial statements and accounting practices. Following these collapses, new laws
You have been appointed as chief accountant of a firm that will be adversely affected by the method of accounting that is proposed in an exposure draft for an accounting standard on leasing. Write a
The setting of accounting standards requires some assessment of economic and other benefits and costs. What are the ethical issues involved? Is it possible to avoid ethical issues in developing
What are 'free-riders'? How can a system ensure that those who benefit most from an accounting standard requiring certain disclosures also bear the greatest costs of it?AppendixLO1
'We should disband national standard setters. They are of no use following the adoption of international accounting standards'. Explain whether you agree or disagree with this statement.AppendixLO1
How do you think accounting standards should be set? Is that the approach currently taken by the IASB?AppendixLO1
If the IASB concludes that the economic consequences of a standard it is about to approve will disadvantage a powerful lobby group, what should the IASB do about the situation?AppendixLO1
In under 500 words, provide an argument for the regulatory approach to standard setting. Then, in under 500 words, provide an argument for the free-market approach to standard setting. Finally,
The text describes a theory of regulatory capture. (a) What is regulatory capture? (b) How can standard setting bodies such as the AASB avoid regulatory capture? (c) If a standard setting body is
The standard setting process is highly political. Describe an accounting regulation that would be politically controversial, and the types of political pressures that could be brought to bear in the
General acceptance of accounting standards is important to the accounting profession. By whom does the profession require general acceptance of the standards, and why is it important to the
How would you design an experiment to provide evidence on how auditors make judgements? What competing issues would arise?AppendixLO1
Early auditing theories were constructed by observing the practices of auditors. What type of theory construction is this? What are the advantages and disadvantages of this approach?AppendixLO1
What are some common criticisms of a scientific approach to professions such as accounting and law? Are they valid? Why or why not?AppendixLO1
How do you think the massive amounts of data now available from information technologies will affect (a) the development of accounting theories? (b) the testing of accounting theories?AppendixLO1
Give an example of an accounting convention usually adopted in historical cost accounting, Conventions govern the way accounting is practised, and conventions are, by definition, known from practice.
Explain the psychological pragmatic approach to accounting theory. Give an example of how it can be applied.AppendixLO1
What type of a theory is historical cost? How has it been derived? Do you have any criticisms of historical cost accounting?AppendixLO1
The decision-usefulness approach to theory development can be used to develop theories of accounting. (a) Explain what is meant by the decision-usefulness approach to theory development. (b) How can
Explain the naturalistic and syntactic approaches to theory construction. Are these approaches mutually exclusive? Why or why not?AppendixLO1
Give an example of the types of issues that might be resolved by accounting theories developed using the following methods of theory construction. (a) psychological pragmatic approach (b) scientific
Classify the following hypotheses according to whether they are the conclusions of positive or normative theories. Explain your answers. (a) Historical cost accounting should be replaced by a market
Can accounting theory be constructed as a purely syntactical exercise? Why or why not?AppendixLO1
Researchers who develop positive theories and researchers who develop normative theories often do not share the same views about the roles of their respective approaches to theory construction. (a)
In the 1970s there was much debate about how to account for inflation. (a) Did this debate involve positive theory or normative theory? (b) Is it important to account for the effects of inflation?
Describe the semantic approach to theory construction. (a) Should the outputs of accounting systems be verified? (b) If so, how can this be achieved? If not, why not?AppendixLO1
One type of theory construction involves observing the practices and techniques of working accountants and then teaching those practices and techniques to successive accountants. (a) What type of
'A theory that is purely syntactic is sterile. Is this true? How can this statement relate to accounting?AppendixLO1
On May 16, 2002, The Toronto-Dominion Bank (TD) announced that it would voluntarily begin expensing its executive stock options, effective for its fiscal year beginning November 1, 2002. This
On October 7, 2000, The Globe and Mail reported that Air Canada had slashed its third and fourth quarter 2000 earnings forecasts. The company had revealed this information by phone calls to a select
On September 13, 2005, the shares of Best Buy Co. fell $5.14 to $45.22 on the New York Stock Exchange, a decline of 10.2%. The decline followed the release of its second quarter 2005 financial
Information has both costs and benefits to a firm. What are the costs and benefits of information production to a firm? How much information should the firm produce?
Explain why a voluntary forecast can be an indirect signal but a mandated forecast can- not.
"Contracting internalizes the problem of information production." Explain what this statement means.
Describe the difference between a direct and an indirect signal, using the quality of forward- looking information and risk disclosure in MD&A (see Section
8.2) as an example.
To what extent do (i) security market forces and (ii) managerial labor market forces operate to motivate managers to operate their firms in the best interests of the shareholders? In your answer,
An adverse selection problem can arise from information asymmetry between issuer and buyer of securities.Requireda. Explain what the adverse selection problem is in this context.b. How can financial
The failure of managers to release bad news is a version of the adverse selection problem. Such failure indicates that the securities market is not working well. Requireda. Why might a manager
On September 15, 2004, the Dow Jones Industrial Index suffered its largest fall in a month, dropping by0.8% or86.8 points. The Standard and Poor's 100, 400, and 500 indices also dropped by similar
In February 1998, Newbridge Networks Corp., a telecommunications equipment maker based in Kanata, Ontario, announced that its revenues and profits for the quarter ending on February 1, 1998, would be
On March 15, 2004, Canadian Superior Energy Inc held a conference call concerning the recent abandonment of its Mariner E-85 exploration well off the coast of Nova Scotia. The company's CEO explained
Imax Corp. is a large entertainment technology company, with headquarters in New York and Toronto. Currently, it has 266 theatres in 38 countries. Its share price, which was as high as $13.89 on the
In The Wall Street Journal, June 30, 1997, Suzanne McGee describes how institutional investors, such as mutual fund managers, are searching for highly liquid stocks to invest in. If the market for a
The following article by John Partridge appeared in The Globe and Mail, August 23, 2001.It discusses the decision by Canadian Imperial Bank of Commerce (CIBC) to discontinue separate disclosure of
In November 2006, the financial media reported a 12-year jail sentence to Sanjay Kumar, ex-CEO of Computer Associates International, a large computer software company (now called CA Inc.). In
A number of firms, such as BCE Inc., Coca-Cola, and McDonalds, have discontinued their practice of issuing quarterly earnings forecasts, thereby lowering their disclosure quality. The reason usually
General Electric Corp. (GE) is a large and complex United States-based conglomerate, with operations extending from industrial and medical equipment to aircraft leasing and mortgage lending, its
The interest group theory of regulation predicts constituency conflict surrounding the design and implementation of new accounting standards.Requireda. Describe how the structure of standard setting
Numerous countries have adopted, in whole or in part, IASB accounting standards. Canada plans to adopt IASB standards from 2011. What are some of the benefits and costs to a country of adopting IASB
In March 2004, the FASB issued an exposure draft of a standard proposing the expensing of ESOS. However, the proposal faced powerful opponents. These included large corporations such as Texas
The article here reproduced from The New York Times (October 12, 1997) describes pressures to “kill” the FASB, and hand its duties over to the SEC. The reason for the pressure seems to be due to
JAS 39, Financial Instruments: Recognition and Measurement, requires companies using IASB standards to fair-value many financial instruments including derivatives, effective January 1, 2005. This
In a June 2007 article in The New York Times, Floyd Norris discusses recent moves by the SEC to speed up its proposed halting of reconciliation to US.GAAP by foreign companies whose shares are traded
In its report to shareholders for its quarter ended April 30, 2007, TD Bank Financial Group reported the following items ($ million) in other comprehensive income: - Change in unrealized gains and
99%;" height="132">Note: For purposes of this question, treat the relevant provisions of the CICA Handbook as identical to SFAS 115, SFAS 130, and SFAS133.Requireda. Explain the nature of each of
Refer to Theory in Practice13.1, concerning SFASS 130 and 115, in Section13.3.2Requireda. Why does SFAS 115 require unrealized gains and losses on available-for-sale securities to be included in OCI
The Sarbanes-Oxley Act was passed by the U.S. Congress in 2002, following financial reporting disasters of Enron Corp. and WorldCom Inc. (see Section1.2). Section 404 of the act requires that senior
Below is a portion of a 2008 proxy form sent to shareholders of Miracle-J Corporation. It reveals that Miracle-J has a bonus plan for its three senior executives that allocates them 10% of before-tax
In the BCE compensation plan, outlined in Section 103, short-term incentive awards are based less heavily on corporate performance and more on individual creativity and initiative as the employee is
Microsoft Corp. announced in 2002 that it was discontinuing its employees' stock option plan in favor of restricted stock, vesting over a five-year period. At that time, many of its already-granted
In its 2004 proxy statement to shareholders, the compensation committee of General Electric Company (GE) reported that in 2003 it had discontinued ESOs for its CEO, Jeffrey Immelt. In their place, GE
In 1993, the Ontario Securities, Commission implemented new executive compensation disclosure rules (OSC, Form 40, Securities Act, Regulation 638/93). Similar requirements were already in place in
On November 18, 2002, The Globe and Mail (p. B4) reported “CEO assails pay disclosure rules.” This referred to a speech by Claude Lamoureux, CEO of Ontario Teachers Pension Plan Board. The board
Refer to Theory in Practice10.2 in Section10.6 concerning BCE Inc. Reproduced on p. 395 are the 1997 consolidated statement of operations and Note 2 to the financial statements of BCE. The statement
Many firms “reprice” ESOs following major declines in their share price by lowering the exercise price. This is because ESOs issued before the decline are deep out of the money, hence unlikely to
In January 2007, Zions Bancorporation announced that it had received SEC permission to use a market-based approach to valuation of its ESOs. Zions is a large U.S. financial services company that
Grein, Hand, and Klassen (2005) studied the stock price reaction to repricing of ESOs. They examined a sample of 72 Canadian companies that repriced ESOs during 1994-2001.They found a4.9% average
Ittner, Larcker, and Rajan (1997) studied the relative weights placed on financial and nonfinancial performance measures in CEO bonus contracts for a sample of 317 U.S. firms across 48 industries for
Note: This question integrates several topics from earlier sections of the text.UnitedHealth Group, Inc. is a large U.S. health insurance company. In a May 11, 2006, SEC filing, the company revealed
Refer to Theory in Practice4.2.RequiredThe Kmart CEO charged by the SEC was hired in May 2000 and fired in March 2002.Despite Kmart losses of $3.9 billion for the five quarters ended April 2002, the
For an income management strategy of taking a bath, the probability of the manager receiving a bonus in a future year rises. Explain why.
You are a CEO operating under a bonus plan similar to the one assumed by Healy(Section11.3). Explain whether you would react favorably or negatively to an exposure draft of a proposed change in GAAP
The firms in Healy's study of earnings management (Section11.3) would have been using the historical cost basis of accounting. Given that accounting standards have moved to fair value accounting for
The comparative balance sheet of JSA Ltd. as at June 30, 2008 is as follows:JSA Ltd.'s 2008 income statement is as follows:Requireda. Calculate the various accruals on an item-by-item basis. For each
The potentially serious consequences of bad earnings management are illustrated by the case of Atlas Cold Storage Income Trust, which operates a system of refrigerated warehouses across Canada and
General Electric Company (GE) is a large United States-based conglomerate, with operations extending from a large variety of industrial equipment and services, to healthcare, to TV and entertainment,
The article “Dangerous Games,” by Jonathan Laing is here reproduced from Barron’s(June 8, 1998). The article describes apparent earnings management devices used by Sunbeam Corp., with
Barton (2001) studied managers’ use of derivatives and discretionary accruals to smooth reported earnings. As Barton points out, both of these devices have smoothing potential—since earnings can
Refer to Theory in Practice11.1 in Section11.6.Requireda. Which earnings management policy did Nortel appear to be using in 2001 and 2002?Why? Which policy did it appear to be using in 2003? Why?b.
You are an expert on generally accepted accounting principles and the quality of financial reporting, with extensive experience in rational investing. You determine the current quality of financial
On March 10, 2006, Nortel Networks Corp. announced that it would delay filing its 2005 financial reports with the SEC. The delay arose because Nortel and its auditors decided that certain revenue
In April 2005, the SEC announced settlement with Coca-Cola Company of charges of fraud and false and misleading financial reporting. The charges arose from “gallon pushing”at Coca-Cola's Japanese
On October 3, 2007, Deutsche Bank AG announced that it would record a write-down of EUR2.2 billion. Most of the write-downs applied to its investments in asset-backed securities and related financial
Why is manager effort usually unobservable to the firm’s owners? What problem of information asymmetry results? If the manager receives a straight salary, what is the effect of this information
Give some reasons why the payoff from the manager's current-period effort is typically not fully observable until a subsequent period.
If net income is an unbiased (i.e., noisy) measure of manager performance, less noise enables a more efficient compensation contract. Explain why. Suggest ways that accountants can reduce noise in
Why do debt contracts typically impose covenants based on accounting information such as working capital, interest coverage, and debt-to-equity?
Why is net income not fully informative about manager effort? .

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