User:Pkearney/Philosophy of accounting

The philosophy of accounting is the conceptual framework for the professional preparation and auditing of financial statements and accounts. The issues which arise include the difficulty of establishing a true and fair value of an enterprise and its assets; the moral basis of disclosure and discretion; the standards and laws required to satisfy the political needs of investors, employees and other stakeholders.

Introduction
The accounting profession regulates the manner in which enterprises report their financial results through standards issued by national accounting standards bodies. International Accounting Standards Board (IASB) establishes standards which define how transactions should be presented in financial statements. National accounting bodies have, with the exception of the Financial Accounting Standards Board (FASB) in the USA, have substantially harmonised their standards with the international standards.

IAS 1.5 defines the purpose of financial statements as follows: Financial statements are a structured financial representation of the financial position of and the transactions undertaken by an enterprise. The objective of general purpose financial statements is to provide information about the financial position, performance and cash flows of an enterprise that is useful to a wide range of users in making economic decisions. Financial statements also show the results of management's stewardship of the resources entrusted to it.

IAS 1.10 defines how financial statements should be presented Financial statements should present fairly the financial position, financial performance and cash flows of an enterprise. The appropriate application of International Accounting Standards, with additional disclosure when necessary, results, in virtually all circumstances, in financial statements that achieve a fair presentation.

Ontological Issues
Ontology, as a branch of philosophy deals with the issue of whether reality or substance exists as an absolute (i.e. independently of our perceptions) or if our perceptions are reality. In financial reporting, substance and economic reality regarded as being of greater importance than legal form (para. 35 of the IASB Framework) and as a result, ontology is an important issue in financial reporting.

In philosophy, it is recognised that there are various perspectives on what reality actually is. The following are examples:


 * Objective Reality: Reality exists independently of our perception. No matter how we look at it, it is always the same. It continues to exist, even if we stop believing it exists.
 * Subjective Reality: Reality exists in our minds and may appear differently depending upon the circumstances or context from which it is viewed. It exists because we believe it exists.
 * Normative Reality: Reality exists as a definition of how things ought to be - in some ways bridging the gap between objectivity and subjectivity.

Substance over Form
In financial reporting, the issue of substance over form is evidenced in a number of areas including:


 * Finance Leases
 * Goodwill and Intangible Assets.
 * Revaluation of Investments
 * Accounting for Inflation

Baker & Hayes argue that failure to apply the concept of substance over form at Enron caused investors and creditors would have a unrealistic view of the company’s financial position.

The distinction in financial reporting between substance and form raises important concerns in ontology and the philosophy of law. Accounting standards require the reporting of the substance of the matter, rather than merely the legal form of a transaction. For example, finance Leases may be treated as sales rather than as lease expenses, in spite of their legal form.

The real-world consequences of reporting form rather than substance can be severe. Baker and Hayes argue that failure to apply the concept of substance over form at Enron caused investors and creditors to have a unrealistic view of the company’s financial position.

Truth
Concepts such as faithful representation, neutrality, prudence and completeness all contribute to the qualitative reliability of financial reports This raises epistemological concerns.

The IASB does not present a definition of what it considers to be fair presentation but para, 46 of the Framework  states:

Financial statements are frequenty described as showing a true and fair view of, or as presenting fairly, the financial position, performance and cash flows of an enterprise. Although the framework does not deal directly with such concepts, the application of the principal qualitative characteristics and of appropriate accounting standards normally results in financial statements that convey what is generally understood as a true and fair view of, or as presenting fairly such information.

Ethical Issues
Ethics, as a branch of philosophy deals with the issue of whether truth exists as an absolute (i.e. independently of our perceptions) or if truth is a construct of our minds. In financial reporting, concepts such as faithful representation, neutrality, prudence and completeness all contribute to the qualitative reliability of financial reports (para. 31 to 38 of the IASB Framework). Ethics and truthfulness00 in therefore an important issue in [[financial reporting.

From a philosophical perspective, truth has no single definition; it is expressed in a number different theories:


 * Correspondence Theory: Truth corresponds to the actual state of affairs - implies that an objective reality.
 * Coherence Theory: Truth has coherence with some specified set of propositions or beliefs.
 *  Constructivist Theory: Truth, reality and knowledge are "constructed" in our minds, there is no absolute.
 *  Consensus Theory: Truth is borne from consensus between parties.
 *  Pragmatic Theory: Truth is that quality which has the most value when applied in actual practice.
 * Pluralist Theory: There may be more than one property that makes something true - and therefore more than one version of the truth.

The IASB does not present a definition of what it considers to be fair presentation but para, 46 of the  Framework  states:

Financial statements are frequenty described as showing a true and fair view of, or as presenting fairly, the financial position, performance and cash flows of an enterprise. Although the framework does not deal directly with such concepts, the application of the principal qualitative characteristics and of appropriate accounting standards normally results in financial statements that convey what is generally understood as a true and fair view of, or as presenting fairly such information.

Paragraph 24 of the Framework states that:

Qualitative characteristics are attributes that make the information provided in the financial statements useful to its users...."

The following qualitative characteristics are defined in the Framework:


 * Understandability: The information should by users, however, the framework (para 25) acknowledges that some users may not be able to understand the information.
 * Relevance: The information should be relevant to the decision making needs of its users - in terms of "evaluating past, present and future events"
 * Reliability: The information should be free of any material error or bias: it should present the substance of transactions with neurality, prudence and completeness.
 * Comparability: Users should be able to compare results over time or compare the results of different enterprises and evaluate their relative positions with confidence.

In the absence of accounting standards that specify how these characteristics should be applied, these concepts have wise scope for interpretation. It may be argued that the concept of truth as reflected in the IASB framework is a coherence theory of truth in that it defines truth in terms of a set of guiding principles.

Knowledge and Understanding
Knowledge may be defined as a belief that is true and justified.

Harmonisation and Context
The International Accounting Standards Board was established in 2001 with the responsibility of for promulgating international accounting standards. The establishment of a single standard setting body was the result of each country defining its own set of accounting standards - effectively presenting financial truth a different way.

The following factors have been identified as the major causes for the diversity of accounting policies adopted by each country:


 * Level of Inflation
 * Stage of Economic Development
 * Political Stability
 * Legal System
 * Language and Culture

Accounting Research
A significant aspect of research in the field of accounting is concerned with whether or not users of financial information are adequately informed of the financial affairs of an enterprise by its financial reports. One approach to assessing whether this is so is to compare the results of corporate performance with stock prices and evaluate whether

Gaffikin (2007) describes the history of research in this context as having evolved through two phases


 *  Normative Phase: Up until about 1970, research tended to view stock prices as a reflection of a partially informed market and benchmarked stock values against fundamental valuations.
 *  Positive Phase: Since about 1970, research have been influenced by new philosophies - especially the Efficient Markets Hypothesis of Fama (1965) and the Capital Asset Pricing Model of Sharpe (1964) and Lintner (1965) which regard market valuations as a reflection of all available information.

In effect, this reflects a shift in thinking from:


 * Trying to understand how best to present financial reports in order to inform the market better, to
 * Trying to understand whether the market knows something that ought to be reflected in published financial reports.

IASB and FASB Statements
IASB statements are identified as IAS x.y or IFRS x.y, where x is the statement number and y is the paragraph number. IAS statements are those formulated before the International Accounting Standards Committee was reformed to become the IASB.

The IASB has also publishes a "Framework" which explains the foundational concepts upon which accounting standards are based.

Paragraph 24 of the Framework states that:

Qualitative characteristics are attributes that make the information provided in the financial statements useful to its users...."

The following qualitative characteristics are defined in the Framework:


 * Understandability: The information should by users, however, the framework (para 25) acknowledges that some users may not be able to understand the information.
 * Relevance: The information should be relevant to the decision making needs of its users - in terms of "evaluating past, present and future events"
 * Reliability: The information should be free of any material error or bias: it should present the substance of transactions with neurality, prudence and completeness.
 * Comparability: Users should be able to compare results over time or compare the results of different enterprises and evaluate their relative positions with confidence.

In the absence of accounting standards that specify how these characteristics should be applied, these concepts have wise scope for interpretation.

Philosophy in Related Professions

 * Philosophy of Law
 * Philosophy of Economics
 * Philosophy of Mathematics

Accounting Standards Topics

 * Global Accounting Standards
 * US Accounting Standards
 * Chinese Accounting Standards


 * Canadian Accounting Standards
 * United Kingdom Accounting Standards