Seminar 02_Information Perspective (I)_students

Non ideal conditions characterized by information

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Unformatted text preview: on —༉  One party has more information than the other ¢༊ E.g., Insider trading ¢༊  Moral —༉  Hazard One party’s actions cannot be fully observable by the other ¢༊ E.g., Manager shirking 9 ROLES OF FINANCIAL REPORTING ¢༊  To help control Adverse Selection: Valuation problem —༉  —༉  ¢༊  To help Control Moral Hazard: Agency Problem —༉  —༉  ¢༊  Convert insider information into useful information for outside investors Provide full and timely disclosure of relevant and reliable information ¢༊  E.g. Balance Sheet, Income Statements, Cash Flows Statement, Changes to Equity, Notes to accounts, MD&A Control manager shirking and improve corporate governance Provide measures to encourage or restrict certain actions ¢༊  E.g., Bonus plans based on target ROA/ROE; debt covenants restricting dividend payouts based on net worth (or shareholder equity) But, the best measure of income or equity to control adverse selection may not be the same as the best measure to control moral hazard —༉  —༉  —༉  Investors want information about future cash flows and firm performance ¢༊  Fair value accounting? Shareholders require that managers “work hard” ¢༊  Historical cost accounting based on realized transactions? Bondholders want estimate of worst case scenarios to assess bankruptcy risks ¢༊  Conservative accounting? 10 THE CONCEPTUAL FRAMEWORK Qualitative Characteristics of Useful Financial Information ¢༊  Fundamental qualitative characteristics —༉  —༉  Relevance Faithful representation – complete, neutral and free from error ¢༊  Enhancing —༉  —༉  —༉  —༉  qualitative characteristics Comparability Verifiability Timeliness Understandability ¢༊  Pervasive constraint: cost Ref: FRS: The Conceptual Framework for Financial Reporting 2010, Ch 3. 11 RELEVANCE VERSUS RELIABILITY OF INFORMATION ¢༊  Relevant information —༉  Information about future firm performance ¢༊  Reliable information —༉  Representationally faithful —༉  Free from bias —༉  Verifiable ¢༊  Under ideal conditions, —༉  Complete relevance and reliability is attained ¢༊  Under non-ideal conditions —༉  Greater relevance requires more estimates —༉  But, more estimates decrease reliability —༉  Trade-off between relevance and reliability ¢༊  Accounting is one of many information sources —༉  Should provide relevant and reliable information to aid in valuation decisions made by individuals —༉  But accounting information system itself often trade off between relevance and reliability ¢༊  Fair Value versus Historical Cost accounting? 12 RELEVANCE VERSUS RELIABILITY OF INFORMATION Relevance ¢༊  Current value accounting ¢༊  Historical ¢༊  Cash Reliability cost accounting flow accounting 13 LEVEL OF DISCLOSURE – COSTS VERSUS BENEFITS Source: Barth (1999) Valuation-based Accounting Research 14 VALUAT...
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This note was uploaded on 09/30/2013 for the course ACC 3103 taught by Professor Jianming during the Fall '13 term at Nanyang Technological University.

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