cacc 706_ch 08

cacc 706_ch 08 - Providing information to evaluate manager...

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Providing information to evaluate manager stewardship is an equally important role of financial accounting as the provision of useful information to investors I T IS NECESSARY THAT ACCOUNTANTS UNDERSTAND AND APPRECIATE MANAGEMENT S INTERESTS IN FINANCIAL REPORTING given the extensive interaction and conflict between managers, accountants/auditors Economic consequences is a concept that asserts that, despite the implications of efficient securities market theory, ACCOUNTING POLICY CHOICE CAN AFFECT FIRM VALUE Firms’ accounting policies, and changes in policies, MATTER they matter to management IF they matter to management, accounting policies matter to the investors who own the firms, because managers may well change the actual operation of their firms due to changes in accounting policies “Accounting Policy” refers to any accounting policy, not just one that affects a firm’s cash flows Example Suppose that a firm changes from declining-balance to straight-line amortization : NO affect the firm’s operating cash flows NO effect on income taxes paid, since tax authorities have their own capital cost allowance regulations However , the new amortization policy will certainly affect reported NI Economic consequences doctrine: Accounting policy change will matter , despite the lack of cash flow effects Under efficient markets theory: the change will not matter because future cash flows, and hence the market value of the firm, are not directly affected Positive Accounting Theory Based on the contracts that firms enter into Ex: executive compensation contracts and debt contracts these contracts are frequently based on financial accounting variables, such as: 1) Net income 2) Various measures of liquidity SINCE accounting policies affect the values of these variables AND SINCE management is responsible for the firm’s contracts IT IS NATURAL THAT management be concerned about accounting policy choice Management may choose accounting policies so as to maximize the firm’s interests, or its own interests, relative to these contracts P OSITIVE ACCOUNTING THEORY ATTEMPTS TO PREDICT WHAT ACCOUNTING POLICIES MANAGERS WILL CHOOSE IN ORDER TO DO THIS 8.2 THE RISE OF ECONOMIC CONSEQUENCES Stephen Zeff (1978): Economic consequences are “the impact of accounting reports on the decision-making behaviour of business, government and creditors.” The essence of the definition is that accounting reports can affect the real decisions made by managers and others, rather than simply reflecting the results of these decisions If accounting policies did not matter, choice of such policies would be strictly between the standard- setting bodies and the accountants and auditors whose task was to implement the standards 1) BUT “third-party intervention” (i.e., government and businesses) greatly complicates the setting of accounting standards
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2) IF only these parties were involved, the traditional accounting model
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This note was uploaded on 03/27/2012 for the course ACC 706 taught by Professor Shadifarshad during the Spring '09 term at Ryerson.

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cacc 706_ch 08 - Providing information to evaluate manager...

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