Reality Construction is Irrelevant in Accounting
|✅ Paper Type: Free Essay||✅ Subject: Accounting|
|✅ Wordcount: 2566 words||✅ Published: 8th Feb 2020|
Accounting initially did not have a knowledge base, and this has evolved with time. It is subject to many rules and regulations that change with time. It is through accounting concepts and conventions that its knowledge is based. The view of external realism has been subject to discussion by many researchers (Morgan 1988; Lukka 1990; Tinker, 1991). Economic reality is a social construct affected by cultural factors (Jaara, 2014). According to Hines, (1988), accounting is a language, and by communicating reality, we construct reality.
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Accounting practice and research have for a long time been underlying the concept of economic reality. Many accountants and accounting standard-setting bodies have always held that it is possible for accounting to achieve a fair representation of economic reality based on traditional epistemic values relating to numerical notation (Suzuki, 2003). Besides Lukka (2010), notes that the view that economic reality is a social construct faces the challenge of external realism claiming that accounting does not represent reality instead it constructs reality.
There is knowledge in accounting and epistemology is the theory of knowledge. Science basis is founded on facts meaning that it has an objective foundation. According to Morgan, (1988), scientists shape knowledge through constructs that develop interpretations of their difficult encounters. According to Accounting and Its Role in Society. (2018), accounting is not pure science and was designed by people for various objectives. It is affected by changes in society, unlike science.
The conceptual framework accepted in the mid-1970s formed the basis of accounting standards and concepts. Accounting Standard Board (ASB) in the UK and the FASB in the USA helped in designing of the conceptual framework. The international accounting standard committee (IASC) came up with a framework for the preparation and presentation of financial statements, (O’Regan,2006). It provided accountants with principles and procedures that would enable them to fully satisfy the needs of the readers of financial statements they prepare.
Statement of Standard Accounting Principles SSAP2 of 1971 was designed to lay down the accounting disclosure guidelines. Traditional principles of accruals, consistency, prudence and going concern put in place to underpin accounting, (Barden, 2000).
Accruals comprise of all expenses not paid at the end of accounting period. The accrual concept states that costs should match with the incomes. Recording of revenues is when earned. It recommends that the record of payment be made when they are incurred but not when paid.
Consistency is accounting convection that holds that once a particular accounting method in recording a transaction it should be used over some time. Assumes all company’s financial reports are prepared using the same techniques and procedures. Any change in one of these is subject to disclosure in the reports affected.
Prudence principle holds that accountants should not overestimate revenue amounts recognized or underestimating of expenses. They are encouraged to be conservative in recording assets amount and not to minimize liabilities. This concept contradicted the concept of neutrality since it advocated for one’s judgment and opinion, (Paterson, 2006)
Going concern principle holds that the business will on operating in the next foreseeable future. The company is presumed to stay in business, and its assets values will endure. According to Elizabeth (2004), the concept contradicts the prudence principle as accountants are required to make fundamental assumptions on the future viability of the entity.
Fred21 emphasized the relevance of principles of going concern and accruals while considering prudence and consistency as qualities. SSAP2 was later replaced in 2000 by the ASB Financial Reporting Standard 18 (FRS18). FRS18 recognizes going concern and accruals concepts as playing a significant role in financial settlements. It considered consistency and prudence less relevant. It advocated for the provision of information that is relevant in comparison purposes. It also set out guidelines on the preferred application of accounting policies and techniques. Although it includes the true and fair view concept, it did not expound deeply to explain what it all encompasses, (Alexander & Britton, 1993).
Other SSAPs are SSAP9 guides on the recording of stock and long-term contracts. SSAP13 outlines accounting of research and development and FRS15 describes and explain tangible fixed assets.
SSAP 2 laid the basis for accounting knowledge and a denominator for SSAP’s that would follow later. Accounting practice has significantly been made reliable and consistent by SSAPs and FRSs designed with time. FRS18 was an improvement of SSAP2 but did not cover gaps and inconsistencies.
Many researchers were of the opinion that the conceptual framework comprised of many assumptions in deciding what is to constitute the decision-making process, (Deegan and Unerman, 2011). The duo also viewed the conceptual framework as a useful tool in organizing and formulation of normative accounting research.
Both David Solomon and Tony Tinker used imagery to develop accounting theory. Solomon used various metaphors such as journalist, speedometer, and telephone. Accountants should be like a journalist reporting news not making it. They should capture the real economic speed of business and impartially convey new like a telephone. He also says that accountants like cartography should produce maps of economic reality, (Tinker, 1991). According to Solomon (Tinker, 1991), accounting and journalism relate to each other the information they present is presumed to be true and neutral.
Tinker criticism to the imageries was that journalist disregards facts when presenting reality. The automotive speedometer poorly represented financial reporting as drivers can tamper with it. The telephone leads to biases while maps are distorted by human behaviour to describe facts, (Tinker, 1991).
Solomon theory is considered by Tinker to cause problems in understanding the true and fair view. A true and fair picture is meant to mean the accounts are prepared ethically within standards and unbiased. Solomon was of the opinion that it is possible to have reality in accounting reports. Tinker was of the contrary emphasizing use of research can establish real values of commodities and difference to the commodity prices.
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Accounting is a language, and therefore it cannot represent the world as it is, (McKernan, 2006). Meaning that accounting as a medium to describe reality is prone to distortion, (Tinker, Merino, and Neimark, 1982). Both Mckernan and Solomon agreed at some point that objective representation of reality is possible in accounting. Accounting can be said then to present socially constructed reality and makes an input in reality creation of financial and economic sense. Constructionist view in accounting as noted by Lukka (2010), is useful in grasping economic reality, but it ignores broad areas and unique concepts mostly seen as uninteresting noise.
Accounting as a social construct provides with insight on the role it plays in the economy (Lukka, 1990). Political, religious, economic and other interest from the people is some of the factors that affect financial reporting (Tinker, 1991; Napier, 1993). Social reality and economic reality are inseparable, as accounting creates reality it presents socially constructed reality, (Morgan, 1988).
According to Morgan (1982), accountants construct reality by representing situations in one way. Many accounting policies and standards trace their basis on subjective judgments, (Deegan and Unerman, 2011). Subjective judgments comprise assumptions made since accounting is socially constructed. It is the use of this personal judgment in the preparation of financial statements. Politics at times has influenced the development of accounting standards. Broadbent and Laughlin (2002), identifies that the application of these standards together with rules formed through subjective judgment end up in the accounting records and statements.
Management applies accounting standards selectively in a manner that is beneficial to them, (Watts and Zimmer, 1990). Sikka et al. (1999 p.26) agree with Watta and Zimmer saying that there is manipulation of information to justify a decision. The National Coal Board (NCB) used false figures in preparing its financial statements failing to reflect the actual outcome of business performance, (Berry et al., 1985 p.10). Later the closing of the pit was an indication of the accounting failure to express the truth in their work. There was disruption of the society’s welfare due to job loss. People experienced the increased cost of living as electricity became expensive. The government had to raise taxes to cover the lost income from the pits. The society faced these problems due to the failure of hiding the actual performance of the firm. The information in the financial statement failed to justify the coal pit closure.
People see accountants as individuals who represent the reality as it is which is not the case. They are forced and trained to follow accounting practices employed by an organization that might not give the real information on the ground. This fact makes accounting statements lack objectivity since what they represent is influenced by external force making it not real. Accounting data should match with the events that data is supposed to represent; this concept popularly known as representational faithfulness (Gordon & Gallery, 2012). This concept emphasis substance over form and economic reality. Accounting information about a particular organization on a specific issue can persuade the public to accept an inevitable fact. According to the Financial Reporting Standards and Accounting Policies, consistency and prudence are desirable qualities that any accountant should possess.
In conclusion, the conceptual framework played a significant role in the development of accounting standards and concepts although it had the incompletion problem. It provided the necessary tools for applying various accounting policies. The idea of a true and view of information presented and represented by financial statements is subject to the different interpretation of different people. SSAP2 transition to FRS18 brought clarification of accounting policies and standards. Even after the transition subjectivity in accounting is still evident. Accounting in its attempt to construct reality has faced challenges, but some level of reality construction is achievable. Failure by an accountant to present the real business performance is contrary to the basic concept of true and view (Solomons, 1991). Such a mistake has adverse effects on the society in general because they do not get to know the truth.
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