Accounting Theory
Topic : Accounting History
after Luca Pacioli
1
Accounting & Capitalism
Beginning in the fifteenth century,
economic power began to shift from
Italy to England. The economic
philosophy that prevailed from the
15th to 17th centuries is called
mercantilism. The mercantilist school
of thought created a system where
the central govt attempted to control
and regulate all the phases of
business activity.
2
Accounting & Capitalism
There were rules for governing labor,
methods of production, types and
quality of products, selling prices,
methods of marketing etc. but such
rules were difficult to enforce.
3
By the late 18th century, a new principle
concerning
business
became
widely
accepted. The principle was that the
economic initiative should come from
individuals rather than from the govt. It is
difficult to say exactly when capitalism
emerged or when the industry revolution
started, bit the middle or the later part of
the 18th century appears to be the safe
assumptions.
4
Capitalism
The focal point of capitalism is
market which is self regulated by a
price mechanism made by operative
by supply and demand. Capitalism
results in certain notion such as
private property, money, credit
,capital
and
profit
become
institutionalized that is they become
integral part of the economy.
5
Capitalism and double entry
system
Double entry and capitalism are
connected intimately as form and
content. Double entry bookkeeping
has proceeded from the same root of
capitalism.
6
Sombart’s arguments
Two
essential
characteristics
of
capitalism according to Sombart are
:
1)profit making
2)economic rationality.
Economic rationality implies that
participants choose resources in
relation to their goals, so that
maximum benefit are expected.
7
Sombart’s arguments
Sombart believed that double entry
bookkeeping was one of the
technological devices that propelled
the development of capitalism. With
respect to profit making, Sombart
gave
twofold
answer:
Firstly
accounting is the way to determine
profit in capitalistic enterprise.
8
Cont….
He gave the following two reasons why
double entry contributed to the growth
of business enterprise:
a) Double entry book keeping permitted the
separation of owner and business itself
thus
facilitating
the
growth
of
corporation in capitalistic economy
b) Double entry book keeping represent
the flow of capital through the business
entity i.e. capital –nominal account-profit
and loss-capital.
9
Sombart’s arguments
Secondly, accounting helped in
formulate the concept of capital
quantitatively. In double entry
system, capital is easily defined and
determined.
10
Sombart’s arguments
On the double entry effect on the economic
rationality Sombart offered 3 reasons:
a) From the business firm, production and
consumption are reduced to calculation since
only transaction that affect the entity are
recorded and expressed in monetarily.
b) Double entry allows planning and control.
c) Double entry helped in construction of a
conceptual framework by defining the assets,
liabilities, revenues , expenses and profit.
11
Disagreement with Sombart
Yamey ,an economist objects to Sombart’s
arguments. His points are:
a) Business firm 16th to 18th century did not keep
their account to have an accurate check of
capital and profit, but simply as a ready record
of transaction.
b) His second point is that there is no need for a
double entry system to determine profit and
capital, a single entry can do it
c) Double entry can only assist the business firm
to solve the routine problem
d) Accounting data can not help to select among
the alternate opportunities.
12
The UK
By the end of the 18th
century:
The concept of Joint
Stock company was
developed in England.
Permanent existence;
Limited liability of
shareholders;
Transferability of
shares.
13
The UK
Therefore, there was a need for the
development of audit profession and
govt regulation.
In 1844: The Companies Act: The
concept of audited B/S came but
again dropped in 1900.
14
Professional accounting societies
The first professional body of
accountant was formed in Scotland in
1853, the Society of Accountant in
Edinburgh. This was followed by
other group in Glasgow(1855) and
Aberdeen(1867). Soon after the
establishment ,3 Scottish societies
decided to constitute a General
Examining board and to adopt the
designation of Chartered Accountant.
15
Professional accounting societies
In 1870, the first English societies
were formed in Liverpool and
London. Three similar group were
after established. But , professional
accountant decided to exclude the
unqualified people. As a result these
5 organization formed The Institute
of Chartered Accountant in England
and Wales(ICAEW)
16
Cont…
To be a member of the institute one
has to pass a series of examination
and serve five years.
17
Professional accounting societies
The concept of fair presentation of
financial result and position is also of
British origin. Professional accounting
thinking and practice was developed
in UK and later exported Australia,
Canada , USA and other countries.
18
Professional accounting societies
The first professional organization to
be formed in North America was the
Association of Accountant in
Montreal, The Institute of Chartered
Accountant of Ontario was
established in 1883 followed by a
Dominion Association of Chartered
Accountant. (renamed Canadian
institute of Chartered Accountant ) in
1902.
19
Professional accounting societies
The first professional accounting
origination in U.S The Institute of
Accountant and Bookkeepers was
founded in 1882. In 1886 the
American Association of Public
accountant was established which
became the AICPA
20
The USA
During 20th century, the major
development of financial accounting
shifted to the USA.
Stock market crash: 1929 : Great
depression.
As a result: SEC was created by the
Securities Act of 1934: insisted a
disclosure based regulatory structure.
Famous monograph: An Introduction to
corporate accounting standards by Paton
and Littleton in 1940: put huge
21
The USA
Historical cost: still the primary basis
of accounting.
Recent development: Arguments on
‘fair value’- valuation of any asset or
liability on the basis of its market
value, the discounted present value
of its future receipts, or in some
cases by means of a mathematical
model.
22
Authoritative bodies
The most powerful authoritative body
is SEC created in 1934. it has
jurisdiction among all the companies
to issue securities and listed in the
stock exchange.
They have the legal power to
prescribe the accounting standard
and procedure for these companies.
23
Accounting principles
Though accountants labored long
and hard to find these basic
principles, little success were
achieved.
Never agreed with ‘what accounting
principles are’ !!!!!!!!!!!
24
Cont….
FASB:
Prior to FASB:
The authoritative body in the private
sector was Committee on Accounting
Procedure (CAP) which operated
between 1938 and 1959 and the
Accounting Principle Board (APB)
which operated between 1559 to
1973.
25
Cont….
The
FASB
was
created
by
the
recommendation of the AICPA sponsored
study group because of the dissatisfaction
of the APB.
FASB has seven members who are
appointed by the trustees of the Financial
Accounting Foundation (FAF). The trustee
of FAF come from variety of different
organization like: AICPA, AAA, NAA,
26
IASB
The IASB, based in London, began
operations in 2001. The IASB is
committed to developing, in public
interest, a single set of high quality,
global accounting standards that
require transparent and comparable
information in general purpose F/Ss.
27
An overview:
The IASB co-operates with national accounting
standard-setters to achieve convergence in
accounting standards around the world.
The IASB is selected, overseen and funded by the
IASC Foundation.
Financial support is received from the major
accounting firms, private financial institutes and
industrial companies throughout the world,
central and development banks and other
international and professional organization.
28
Cont…
The IASB consists of fourteen members
(twelve full-time and two part-time) and
has full discretion in developing and
perusing the technical agenda for setting
accounting standards.
The main qualification for membership of
the IASB are professional competence and
practical experience.
The publication of a standard, exposure
draft, of final IFRIC Interpretation requires
approval by nine of the IASB’s fourteen
members.
29
Some other notable events
Stock market boom in 1990s and its
collapse in the early 20
‘hi-tech’ industries crash
30
Some other notable events
Numerous financial reporting
irregularities: Specially in terms of
revenue recognition.
Most notable
Enron
WorldCom Inc.
31
So…regulation became imperative
Most notable  Sarbanes Oxley Act:
Passed by the US Congress in
2002………………
Target:
improving corporate governance
Tightening audit function.
Public Company Accounting Oversight
Board (PCAOB): Sets auditing standards
and inspect and discipline auditors of
public companies.
Introduction of audit committees.
32
IFRS
2005:
New era: Because,  the financial rules
for a worldwide capital market..
25 EU member states;
Australia
NZ
Russia
South Africa
So, now, major guidelines are either:
US GAAP  IFRS
33
IFRS
Canadian GAAP (very similar to US
GAAP) will be eliminated and
replaced by IFRS in 2011.
China required that listed companies
employ IFRS beginning with 2007
financial reporting.
In 2007, the SEC dropped the former
reconciliation requirement (to US
GAAP) that had long applied to
foreign private registrants reporting
34
Norwalk Agreement
In 2002.
An agreement between FASB and
IASB.
Done for the ‘convergence’ of two
sets of standards.
A number of revisions of either US
GAAP or IFRS have already taken
place to implement this commitment,
with more changes expected in the
near future.
35