To What Extent Is Accounting Conceptual Framework Positive or Normative Theory - Essay Example

Running Head: Conceptual Frame Work and Accounting Theory Name Course Course instructor Unit name Date submitted Executive summary/abstract This article reviews the extent to which conceptual framework is perceived to either be normative or positive. The study will begin by defining key terms, their importance and development with a view of focusing on identifying whether it is effective in managing accounting practices. The methodology defined in this study is continuous research especially based on accounting theories, concepts, principles standards and values. Our result clearly affirms that conceptual framework extends in relation to normative as opposed to positive theory. It further enlightens us on how the accounting conceptual framework contributes or constitutes within the accounting theory. We also find that normative theory is widely involved in describing what is entailed in financial accounting and reporting. Constant research and studied continue to indicate that more accountant tend to use normative theory constantly as a way to understand accounting conceptual frame work as more finding clearly dictates to this. Table of Contents Table of Contents 3 1.0 Introduction 4 2.0 Definition of a Conceptual framework 5 2.1 Importance of conceptual frame work 5 2.2 Development of conceptual framework 6 3.0 Definition of accounting in relation to accounting 6 3.1 Importance of theory in accounting 7 3.2 Types of accounting theories 7 3.2.1 Prescriptive/normative theories 7 3.2.2 Inductive theory 8 3.2.3 Predictive/ positive theory 8 4.0 Extent in which conceptual framework constitute a normative theory 9 5.0 Conclusion 13 6.0 References 15 Staunton, J. (2003) A Statement of Accounting Concepts for Level 1 of the Conceptual Framework: A journal for accounting, finance and business studies 15 1.0 Introduction Accounting is widely termed as the language required in business worldwide.in the same way that a language is a mean of communication, accounting serves as a communication that relates to several aspects found in businesses. Although this term is widely recognized among business men traders and business profession, other entities also requires utilizing accounting. These entities include; legal firms ranging from individual all the way to government prepare accounting so as to obtain information regarding their financial performances. The purpose of this paper is to review the contribution of conceptual framework and accounting theory in the shaping of accounting practices and concepts (Bullen, 2005). It aims in identifying several concepts which are essential in accounting thus providing a clear understanding of effective of conceptual framework and theories based on accounting. This review is therefore arguably given aforementioned publication of certain reviews in relation to general accounting processes. Evidently, many accountants are torn between understanding and believing in what they are taught or what they believe to be true. It is from this argument that Financial Accounting Standards Board (FASB) and International Accounting Standards Board (IASB) decided to come up with a universally accepted conceptual framework so as accountants can base they argument through utilizing principled basis. Conceptual framework began being worked upon in 1979, whereby its main idea was to come up with accounting standards which were believed to be principled based and also one which was in connection to the various existing accounting theories (Bullen, 2005). 2.0 Definition of a Conceptual framework A conceptual framework lays down the models essential for the organization and handing in of monetary information and or information. The standards regulations and principles of accounting that are appropriate as stated beneath the AASB 101 (Presentation of Financial Statements) and AASB 108 (Accounting Policies, Changes in Accounting Estimates and Errors) are based on that framework. 2.1 Importance of conceptual frame work Conceptual frame work is a essential element when considering issues related to accounting. Its main importance involves provision of a structure which facilitates the creation of financial reports standards and ensuring these same standards are formed on the basis of fundamental principles. By doing this it is evident that standards are prevented from becoming transitory or ad hoc. Without a clear understanding of a proper conceptual framework, most of accounting standards are likely to be based on an expedient solution focus at a particular issue, other than a solution which is interlinked with a defined unified theory of accounting (Bullen, 2005). Evidently, conceptual frame work is important especially in the development of principles especially those in connection to accounting standards. Research indicates that for standards to be termed as principle based, they are not only required to be collected as convection but rather they need to be rooted in various fundamental concepts. That is why standards need to incorporate a framework so as to result to coherent financial reporting and accounting. With increased globalization and improved technology, there has been growth in new challenges which required an establishment of a conceptual framework to resolve them. For instance if a company want to sell two issues of bond through either cash or with ounces of silver in relation to that which will worth more during maturity. It is very difficult to determine the future value of the named bonds without using a reliable conceptual framework which will ultimately prescribe accounting standard to resolve such a situation (Bullen, 2005). As a way of exercising proper judgment with the help of principled based standards created through a conceptual framework, accounting practitioners have been able to dismiss several alternatives to come up with one ultimate solution acceptable by all. 2.2 Development of conceptual framework It is evident that several organizations, accounting committees and interested individuals have been observed to establish their own conceptual framework over the years. But no single framework created has been universally accepted on practical basis. It is through recognizing the need of coming up with a more accepted frame work worldwide did AASB started developing a conceptual framework. The framework was perceived to be the basis for setting up accounting standards which would be important in solving financials report with controversies (Bullen, 2005). 3.0 Definition of accounting in relation to accounting Normal definition of a theory is a well-organized body of ideas in connection to truth of matter commonly derived from fact correlated to it. In accounting this definition is sharply adjust so as to fit in into accounting concepts and ideas. In accounting a theory is defined as rational reasoning connected in certain sets of principles namely; provision of a general framework whereby accounting practices are monitored and that which guides the establishment of new procedures and practices of accounting. 3.1 Importance of theory in accounting It is evident that without theories to guide accounting principles and values there would no need to study or rather practice it. Accounting theory ensures that there is a general platform of references whereby accounting practices and concepts are evaluated on. It widely focuses on encompassing set of statements or preposition linked to rules or logical reasoning which governs accounting behavior and practices (Gore & Zimmerman, 2007). 3.2 Types of accounting theories There are three types of accounting theories namely normative or prescriptive, inductive theories and predictive also known as positive theories. An overview of these three theories indicates there is greater variability in these types of theories. 3.2.1 Prescriptive/normative theories This theory is based widely on researcher perception or belief which is likely to occur in certain accounting circumstances. It widely focuses on describing what financial accounting should entail, what should be considered to be an asset or a liability and how they should be valued. Since the prescriptive theory are not established on observation, there are not widely reflected on accounting practices and concepts (Gore & Zimmerman, 2007). For example, when a chamber has requested for the assessment of assets at a certain market value at that time when historical accounting cost then, this theory was an accepted norm. The conceptual framework behind this given example is viewed as a normative or prescriptive accounting theory. It is evident that there are certain normative characteristic both quantitative and qualitative that are essential in creating entities related to accounting frame work which are efficient in managing accounting practices. Further, it is clear that accounting conceptual framework tend to extend toward normative theory in the sense that it prescribes what elements of financial statement and reporting are, what are the various rules and measurement required in relation to accounting elements displayed within the conceptual framework. Without proper connection between normative theory and conceptual framework developed accounting standards will be more of ad hoc manner limiting consistency in accounting practices and standards. 3.2.2 Inductive theory Here, the theory is created on the basis of observation and later conclusions are drawn from these observations as opposed to normative theory. This kind of theory is considered to be an approach possible in the older modified especially in accounting construction. Here, accounting practices which are considered to have developed in either a haphazard or pragmatic fashion were critically observed and it was from these generalized observations that it was documented as an accounting theory (Vorster, 2007). 3.2.3 Predictive/ positive theory This theory focuses on elaborating and forecasting accounting practices as opposed to prescribing them. These theories are perceived to focus on various observations which usually result to an accounting research normally termed as a positive accounting research. It is evident that this theory assists in predicting future outcome by critically studying observations of current occurrences. For instance, it gives managers a clear indication of what kind of accounting policies are needed in certain circumstances especially during financial crisis (Vorster, 2007). 4.0 Extent in which conceptual framework constitute a normative theory Conceptual framework has the ability to enable interested parties to understand certain topics that are otherwise not easily understood. The AASB financial framework focuses on the financial statements for users with minimal business and economic knowledge and is willing to study the information with reasonable diligence. The conceptual framework from its conception had a purpose of keeping the transactional records between two parties involved in a transaction. It was also purposed to communicate information of the results of the transaction to the interested parties. Sophistication the accounting transactions placed greater demands for the accounting disclosure. To meet this demands the accounting framework was responsible for the creation of the rules that ensured that accounting data is processed in order and there is consistency in the reporting framework. The accounting framework has the role of ensuring the accounting rules are not voluminous and conflicting. This will enhance coherence in the accounting processes and formulate principles that will ensure the accounting practices are standardized. It is an attempt aimed at enabling the harmonization of accounting practices and that the accounting bodies are inherently consistent (Staunton, 2003). The setting of the AAS financial accounting standard is normative-pragmatic course of action as the normatively constructed proposals are to be uncovered to interested entities to ensure that the final outcome is acceptable. The framework provides a description on how to recognize an asset that is for financial statement purposes which have normative characteristics. Based on the AASB, the conceptual framework prescribes the nature of the nature, functions and the limits of monetary reporting and accounting. The practice of involving the conceptual framework in the accounting processes builds the confidence of the public. The conceptual framework is a constituent of the normative theory as it thought to have the philosophies, procedures and regulations of accounting. 6the principles describe the processes that are involved in an accounting process (Gibson and Goyen, 1996). The conceptual framework identifies only elements that are permitted in AAS monetary statements as liabilities. They could only be measured by the use of substantial estimation degree. Provisions that do not meet the categories of the liabilities are to be treated as appropriations of earnings that have been returned. Provisions according to AAS are the downward modifications to the measurement of assets. As such, accounting framework is more of an applied science than an art. It deals with much more than generalization of conventions and practices that is in existence. The elements of financial statements in the accounting framework give definitions of the broad classification of the items found in the monetary statements. In non-business organization, the framework purposes to provide guidelines for nonprofit and government institutions (Gore & Zimmerman, 2007). The accounting framework consists of financial statements that give vital information to meet common needs of users. They are able to make informed economic decisions on when to buy or hold on to an asset or equity investment. The financial statements provide profitable avenues to assess the accountability of the management and its ability to pay and give other settlements to its employees (Gore & Zimmerman, 2007). It certainly provides information and guidelines on what should be incorporated in financial statements of business enterprises. In a profitable firm, the financial statements are able to give important information that determines the distributable profits and dividends. The accounting framework is normative as it defines the intended user of the accounting information. This include: the present and possible investors and creditors. In addition, the framework defines and sets the objectives that are essential in the making of a rational investment and credit decision. Effective objectives set in the identification of credit as an asset and not a liability is vital in cases of the provision of loans. This is also vital as it provides the users to predict and assess the timings improbability of the money flows. The accounting information in the framework is reliable and verifiable and represents the faithfulness and neutrality of the given information (Sterling, 1982). The accounting framework is normative in nature as is able to give the ways in which the entity’s activities can be regulated. It also is able to provide and effectively utilize the national income statistics. The accounting framework through the financial statements is able to assess the amounts for security that is lent to an entity as they are to be prepared using the accounting model that relies on the recoverable historical cost in addition to the ostensible capital maintenance theory (Rosenfield, 2005). In essence, the framework deals with questions relating to disclosure of loans and the financial statements. The conceptual framework utilizes the idea of identifying the financial effects of past business transactions and actions. These have the predictive ability for future events. The framework identifies that the equity value could be characterized as a current value of anticipated prospects in cash flow or profits. This identifies the usefulness of utilizing the equity value to measure the usefulness and worth of an asset. This aids the investors and interested parties in the estimation of the future money flows (Storey, 1998). This is also important as the effects of future transactions are able to be realized as the market price is the best measure of an assets market price. The framework is normative as it identifies the vitality in the revaluation of assets as they could either depreciate or appreciate with time. The revaluation of assets gives the right market value of the asset at that given time thus being able to place price value relevance on it. This will be able to determine the changes of the face value of an asset over a specific period of time. The AASB account framework being is able to identify and differentiate between the core deposit on intangible assets and liabilities whose omissions could result in the inference trouble which relates to their fair usefulness as they are much more likely to correlate with the fair value estimations and monetary instruments. It is reasonable to argue that through critical understanding of what is a conceptual framework and normative theory there is great correlation existing between the two. Evidently, conceptual framework tries to provide normative theory with structured principles with its great deal of prescription. Prescription is in the form of action where by description of asserts is required basing on financial statement purpose (AASB/AARF). This prescription clearly indicates a further extent of one which has acquired normative characteristics. According AASB, just like the prescriptive theory, nature, function and limits related to financial reporting and accounting are defined by way of prescription. The views of many accountants in relation to conceptual framework are that an effective framework has to be established there must exists a normative theory usually developed consistently and logically. Importantly, there is great need to first understand what is actually meant by acquiring an asset or liability in relation to the development of a conceptual framework (Hicks, 1946). 5.0 Conclusion In conclusion in as much as measurement in monetary exposure has been conversed in specialized and educational accounting mediums for centuries, there is little agreement on the strategy that is to be assumed. The AAS, utilizes an assortment of dimension methods and procedures for effective outcomes in the embracing of various individual procedures and amalgamation of measures in monetary information. The measurement perceptions and methods conversed in the accounting writing recognize and categorize the individual procedures and permutations acceptable by modern Australian Accounting Standards. Suggestions for procedures forms which is receiving recognition within the communal segment and might be chosen as the minimal controversial option. However, it will show inconsistencies with the present necessities of most of our accounting principles. 6.0 References Australian Accounting Standards Boards, (1995) Definition and Recognition of the Elements of Financial Statements Melbourne/Caulfield: AASB/AARF. Bullen, H. (2005). A new conceptual framework project: Revisiting the concepts. Journal by Financial Accounting Standards Board. Pp. 1-18. Directorate of Distance Education Maharshi Dayanand University. (2004).Accounting theory. ROHTAK : Maharshi Dayanand University. Gibson, Kathy and Goyen, Michelle (1996) Financial measurement and Australian accounting standards. Accounting Research Journal, 9 (1). pp. 56-72. ISSN 1030-9616 Gore, R. & Zimmerman, D. (2007). Building the foundation of financial reporting: the conceptual framework. The CPA journal. Pp. 1-5. Hicks, J. (1946) Value and Capital, Second Edition Oxford: Clarendon Press. Rosenfield, P. (2005) ‘The Focus of Attention in financial Reporting”, Abacus, Vol.41, No.1, pp. 1–20. Staunton, J. (2003) A Statement of Accounting Concepts for Level 1 of the Conceptual Framework: A journal for accounting, finance and business studies Sterling, R (1982) “The Conceptual Framework: an Assessment,” Journal of Accountancy, November, pp.103–108. Storey, K and Storey, S. (1998)FASB Special Report, The Framework of Financial Accounting Concepts and Standards, January. Vorster, Q. (2007). The conceptual framework, accounting principles and what is believed to be true. Accounting journal. pp. 1-4. Read More