ACCOUNTING IN EVOLUTION

Class Announcements

Assignment #1 due January 13th to 16th ; available on-line

Assignment #2 due January 20th; available on-line

January 16th in LAB – CICA Hanbook

Class Objectives

1. Understanding accounting as a developing practice

2. Investigating the responsiveness of accounting to changes in the needs of society

3. Understanding the infancy and sophistication of professional accounting system

Accounting Theory

Environment of Accounting is both complex & very challenging

Product of accounting is information – a powerful and important commodity Absence of perfect or true accounting

concepts and standards Individual will not be unanimous in their

reaction to the same information

Accounting Theory The goal of accounting theory is to

provide a set of principles and relationships that provide an explanation for observed practice and predict unobserved practices

Development of accounting is important because of the role accounting plays in our economic society. Role of accounting is to report how an

organization utilizes scarce resources. A single universally accepted basic

accounting theory does not exist; a multiplicity of theories have been proposed.

Accounting: Value in Information Jean Coutu Group (PJC) Inc. posted higher-

than-expected net profit in the third quarter on lower revenues.

Longueuil, Que.-based Coutu reported on Thursday net profit of $62.5-million or 30 cents per share, up from$56.2-million or 26 cents in the year-earlier period.

See http://www.theglobeandmail.com/globe-investor/markets/stocks/chart/?q=pjc.a-T

Accounting: Theory & Users

Conditions for Accounting 1) Existence of a need for information for

decision making (decision usefulness) in face of information asymmetry

2) Development of means, tools & techniques for satisfying decision making needs

As tasks of accounting became more difficult and focus shifted to users’ needs, a theory became necessary

Accounting: Preconditions

1) Literacy - ability to read & write 2) Efficient Numbering systems - place

value 3) Writing Materials - convenient &

inexpensive 4) Money - unit of account/medium of

exchange

Accounting: Evolution of Society

Accounting evolves as society evolves; reacting to society's need for information

Transition from a system to enable merchants to control his own system to a system to provide information to investors

The history of accounting follows major historical events: Ancient Civilizations Middle Ages – feudal system; ownership Renaissance Period (1300-1500) - Ventures Industrial Revolution (1700) – Large scale manufacturing, capital needs Stock Market Crash (1929) – Audit and GAAP Technology Bubble (2000) – Revenue Recognition Internet Accessibility (2000) - XBRL Enron (2002) – Corporate Governance, SPE’s Market Collapse (2008) – Financial Instruments; banking regulation Global Harmonization (2011) - IFRS

Accounting: Record Keeping

Need existed to record incomplete transactions and the accumulation of wealth

Simple records did not summarize or classify data

Ledgers were not closed until something eventful happened like death of a partner

Accounts receivable was one of the earliest forms and requirements of accounting; other abstract concepts took longer to evolve

Accounting: Double Entry Bookkeeping

Double entry bookkeeping is the foundation for accounting today.

Duality concept requires that two sides to each transaction be recognized

No negative numbers to use Brother Luca Pacioli’s treatise on mathematics

contained a section on double entry bookkeeping (1494)

T accounts were developed to show increases on one side and decrease on the other “subtraction by opposition”

SEC sought to regulate the double entry system of account that had flourished.

Accounting: Business Structure

1) Formal Business Organizations 2) Public Accountants 3) Audited Financial Statement

Requirements 4) GAAP

1)The Business Organization Early trading operated as ventures Partnerships existed in the 13th & 14th centuries Corporation established by royal charter up to the

1700’s (i.e.; HBC) Joint stock on voyages were forerunners of corporations Joint Stock Companies Act of 1844 & 1855 permitted the

existence of corporations, limited liability and transferability of shares

Transferability of shares led to the Stock Market (1773 London; 1792 NYSE)

Need for information about shares investors are trading Need for auditing and government regulation

2) Public Accountants

Babylonian scribes were used to make records of contracts and receipts

Columbus was accompanied by an auditor appointed by the Spanish court to “figure the cost of gold and spices he would accumulate”

Bankruptcies and liquidations were chief forms of work Edinburgh Society of Accountants (1854) Institute of Accountants and Adjusters of Canada (1879) Institute of Chartered Accountants of Ontario (1883)

3) Audited Financial Statements In medieval times evaluation of reasonableness

was done by Babylonian scribes 1844 Joint Stock Companies Act required audits

but subsequently dropped requirement Auditing done on a voluntary basis Securities Act of 1934 focused on protection of

investors and required audited financial statements

SEC established 1934 following stock market crash Hampered by lack of accounting principles

2010 International GAAS introduced

3a)Auditors’ Report 1915

We have audited the books and accounts of the year ended December 31, 1915, and we certify that, in our opinion, the above balance sheet correctly sets forth its position as at the termination of the year and that the accompanying profit and loss account is correct.

3b) Auditors’ Report 1933 We have made an examination of the balance sheet of

the ABC Corporation as at December 31, 1933 and of the statement of income and surplus for the year 1933. In connection therewith, we examined or tested accounting records of the company and other supporting evidence and obtained information and explanations from officers and employees of the company; we also made a review of the accounting methods and of the operating and income account for the year, but we did not make a detailed audit of the transaction. In our opinion, based on such examination, the accompanying balance sheet and related statement of income and surplus fairly present, in accordance with accepted principles of accounting consistently maintained by the company during the year under review, its position at December 31, 1933 and the results of its operations for the year.

4) GAAP Following stock market crash Securities Act (1934)

was established giving SEC power to make standards

Standard creation delegated to professionals by SEC in US

No theoretical basis of choosing among the various alternatives and no authoritative voice

1968 CICA Handbook became authority 1975 CBCA required adherence to it 2011 CICA adopts IFRS (International Financial

Reporting Standards) 2011 CICA adopts ASPE 2011 Public Accountability GAAP

4a) GAAP: Early 20th Century Standards Balance sheet is the most important financial

report Balance sheet is basically a statement of asset

values and liabilities Cost is satisfactory basis of valuation of assets (i.e..

with depreciation) Contributing to the Great Depression was appraisal of

assets Patton and Littleton’s (1940) lithograph made a

case for historical cost base Income tax and historical cost base of accounting

shifted focus to the income statement

4b) GAAP: Standards Evolve Early 1900s Various principles applied inconsistently Accounting profession and accountants

lacked authority Management favored freedom in

reporting No well defined theory or standards on

which to base opinions

4c) GAAP: Standards Evolve Post 1929 No consensus on a conceptual framework Establishment of accounting standard

committees Lack of support for standards, internally and

externally Belief that standards could not be imposed SEC (1938) permits profession to lead way in

formulation of accounting principles Lack of accounting principles

Reduce inconsistencies New reporting principles deduced from principles

4d) GAAP: Standards Evolve 1970’s Profession required disclosure of departure from its

standards SEC regarded accounting practices as authoritative Accounting standard bodies issue significant amount of

standards and principles Reference to CICA Handbook in CBCA made essentially

status of law EIC (1984) formed to deal with issues on a timely basis Technology bubble (2000) revised revenue recognition Enron (2002) reinforced consolidation of SPE’s Market failure on asset-backed securities (2008)

focused attention on current (market) value

4e) GAAP: International Standards Emergence of global marketplace US standard setting process is

predominant in Canada, UK and Australia (albeit worldwide)

US standards are more restrictive International Accounting Standards

Committee (IASC) – harmonization International standards adopted for 2011

in Canada

4f) GAAP: Century of Change 1. Intense regulation quite distinct from the

previous centuries 2. Domination of the field by public

accountants as opposed to managerial accountants

3. Increasing pressure to move to a uniform accounting system

4. Accounting Standards (IFRS,ASPE) 5. Increased Regulation (e.g. SOX, NP 201) 6. Auditor Litigation (e.g. Enron, Livent) 7. Technology – XBRL; internet