ACF3100 Advanced Financial Accounting

Lecture One Frameworks & Events After the Reporting Period

Brief Details
Assessment
10% individual essay due in week 4
20% group research report
20% mid semester test in week 8 tutorials
50% final exam

Learning Objectives
Explain and define an accounting standard
Evaluate the distinction between rules-based and principles-based standards
Apply the theories and concept of regulation to the production of accounting information
Analyse standard setting as a political process
Understand the benefits and challenges of harmonisation of accounting standards
Understand what constitutes an event occurring after the end of the reporting period, and how to deal
with an adjusting event and a non-adjusting event after the reporting period

Where does this fit into unit learning goals?

Examine contemporary financial accounting issues
Apply a range of theories of accounting to explain accounting practices and appreciate the
judgements, estimations and assumptions influencing accounting numbers
Critically assess and appreciate changing influences in standard setting and regulatory requirements
Apply judgement, communication and problem solving skills to deal with advanced financial
accounting issues

Part A - Accounting Standards

The objective of general purpose financial statements (GPFSs) per SAC 2 (paras 26-7) and the
Conceptual Framework is:
o To provide information to report users for making and reviewing resource allocation decisions
o To assist managers and others to discharge accountability
What is the purpose of standard setting?
Accounting standards regulate the way in which:
o Financial transactions are accounted for, and
o How transactions are aggregated and financial information is presented/disclosed (financial
reporting)

Rules-Based Versus Principles-Based Standards

Rules-based standards are sets of detailed rules that must be followed when preparing financial
statements
Principles-based standards are based on a conceptual framework that provides a broad basis for
accountants to follow
o The focus is on the economic and substance of a transaction, engaging the professional
judgment and expertise of those preparing financial statements

Advantages of Rules-Based Standards

Financial statements easier to prepare
Financial statements are more comparable

1
 ACF3100 Advanced Financial Accounting

Specific rules compliance is easier

o There is less interpretation and subjectivity
o So less opportunistic behaviour

Disadvantages of Rules-Based Standards

Rules-based standards can be complex
Organisations can structure transactions to circumvent unfavourable reporting
Standards are likely to be incomplete or even obsolete by the time they are issued
Manipulated compliance with rules makes auditing more difficult
Managers may select treatments that do not reflect the underlying economic substance
The judgement and choice involved in many of the decisions mean that comparability among financial
statements may be reduced

Quiz
The IFRS requires that a lease should be capitalised as an asset and a liability when it transfers substantially all
the risks and rewards to the lessee. The IFRS contains no numerical or other technical rules surrounding that
vague principle, which is itself based on the principle of substance over form.

In order to make the same principle practicable and auditable in the U.S., SFAS 13 requires capitalisation when
any one of four technical tests are satisfied, including cases where the length of the lease equals or exceeds 75
percent of the useful life of the asset or where the present value of the lease payments equals or exceeds 90
percent of the fair value of the asset.

Standards Rules- or Principles- Based?

IFRS Principles-based

US GAAP Rules-based

AASB Principles-based

Defining Regulation
Regulation is the policing, according to a rule, of a subjects choice of activity, by an entity not directly part to or
involved in the activity

Elements of Regulation
Intention to intervene
Restriction on choice to achieve certain goals
Exercise of control by a party independent of those directly involved the activity

Theories of Regulation
Accounting information is a public good
Therefore, some argue it is likely to be under-produced without regulation
Others suggest supply would exist without regulation
There are competing theories regarding the need for and intention of regulation

Signalling Theory
Suggests reporting entities can increase their value through financial reporting.

2
 ACF3100 Advanced Financial Accounting

Companies face a competitive capital market populated by sophisticated investors

Above-average entities motivated to show that they are better than non-reporting entities
Non-reporting entities are perceived as of even poorer quality than before
Creates a virtuous cycle when regulation is not necessary
Perfect Market Firm self-regulation / Voluntary disclosure No need for regulation
Not realistic this theory has been challenged by public interest theory
Signal to the market, and market will function by itself through self-regulation

Public Interest Theory

Disputes signalling theory that relies on the function of a perfect, free-market economy
Public interest theory assumes:
o Economic markets are generally not perfect
o Regulation is virtually costless this is unreasonable as regulation is very expensive
Concludes that regulation is supplied in response to the demands of the public for the correction of
these inefficient or inequitable market practices
Challenged by capture theory

Capture Theory
Capture theory holds that regulation is supplied in response to the demands of self-interested groups
trying to maximise the incomes or interests of their members
o People are rational utility maximisers
o The coercive power of government can be used to give valuable benefits to particular groups
o Regulation can be viewed as a product that is governed by the laws of supply and demand

Political Nature of Setting Accounting Standards

There is a mix of private and public participation in the standard setting process. Parties that have an interest in
accounting standards often have conflicting interests, eg:
Internal stakeholders may like flexibility
External stakeholders may like comparability
Auditors like objective (auditable) reporting

Lobbying
Those affected by accounting standards have an incentive to lobby standard setters to achieve a
favourable outcome
Lobbying is viewed as a mechanism through which regulators are informed about policy issues
Those affected must decide:
o Whether they should lobby
o Which method of lobbying they should use
o When they should lobby
o What arguments they should use to support their position

Lobby Groups in Australia

Major players in Australia seem to be:
G100
Large accounting firms
Professional accounting bodies
ASX
Major banks

3
 ACF3100 Advanced Financial Accounting

Advantages of Regulation dont discuss all in exam, do two or three in detail

Increased efficiency in allocating capital: when we have regulation, we require company to provide
quality information, users will be able to make better decision making
Cheaper production
Check on perquisites
Public confidence: regulation means that information is more reliable
Standardisation
Public good

Disadvantages of Regulation
Difficult to achieve efficiency and equity: what may benefit one party may not benefit another eg. LIFO
(not currently in Aus) may benefit one party but will not benefit another
Determining the optimal quantity of information is problematic: what is optimal for one party may not
be enough for another every firm is unique and regulation = one size fits all approach
Regulating is difficult to reverse
Communication is restricted
Reporting entities are different
There is lobbying

Timeline: Australian Accounting Standards

International Accounting Standards

From 2000, Australia adopted a policy of harmonisation with international accounting standards
In 2002, the FRC made the decision that Australia would adopt international accounting standards
from 1 January 2005
Previously AASB used to be responsible for developing standards, but since 2002 Australia has adopted
IFRS
Compliance with AASB ensures compliance with IFRS but the standards are not identical
o Less choices in accounting treatment
o Additional requirements
o Australian standards are sector neutral
Determined that ASRB was no longer independent, as was influenced by certain industries

Effect of Adoption of IFRS

From 2005, Australia ceased development of domestic accounting standards
o Australia has less influence over the development of standards that Australian companies use
Australia participates in international standard setting process and contributes to the development of a
single set of worldwide accounting standards
o Australia is part of the Asian-Oceania Standard Setters Group

4
 ACF3100 Advanced Financial Accounting

Many changes made to the standards eg: intangibles

The IASB and the FASB: convergence of accounting standards

Accounting Harmonisation
Benefits (outweigh the problems)
International comparability
Reduced cost of capital:
Reduced conflicting reporting requirements: good for MNCs

Problems
Various methods of implementation lead to inconsistencies
Listed entities underestimated the complexities, effects and costs of IFRSs: eg. costs of intangible
assets likely to change, effects R&D companies
Compromise leads to diversity