1.

Accounting theory therefore means: consistent

• ‘a description, explanation or a prediction [of – theories about how investors make decisions and
accounting practice] based on observations and/or what information they need and use can explain
logical reasoning’ which accounting measures are most useful and
• ‘logical reasoning in the form of a set of broad suggest ways to improve the functionality of
principles that financial statements (e.g. by increasing the use of
(1) provide a general framework of reference by fair values)
which accounting practice can be evaluated and – theories about corporate social responsibility can
(2) guide the development of new practice and suggest that companies also need to provide
right mix of debt and equity, ensuring long-term information about any environmental impacts of their
value creation without exposing themselves to undue activities.
financial distress.
There are a number of reasons theories might
Also, Definition of Accounting Theory: be accepted Reasons Why Accounting Theory
Accounting theory is a set of logical principles and Can Be Accepted:
methodologies that guide accounting practices and 1. Empirical Support: A theory is accepted when it is
financial reporting. It involves a framework of supported by real-world data and can be tested and
assumptions, definitions, and concepts used to study validated through observation and experimentation.
and apply financial accounting methods. In essence, 2. Logical Consistency: Theories are more likely to be
accounting theory seeks to explain why and how accepted if they are internally consistent and do not
certain accounting methods are used, and it provides contradict themselves.
a foundation for the development of new accounting 3. Practical Relevance: If a theory helps solve real-
standards and policies. world accounting problems or improves the quality of
financial reporting, it gains acceptance.
theories can do different things and in accounting 4. Universality: The broader the application of a
there are many, some of which describe, explain or theory across different contexts, the higher its
predict accounting practice and others chances of being accepted globally.
that provide recommendations or suggestions about 5. Predictive Power: A theory that can accurately
what accounting practice should be. Theories inform predict future financial behavior or outcomes will be
our everyday lives and provide important information more accepted in practice.
that can be used in making decisions, such as
whether to sail off into the horizon, or whether to 2. Capital market research: Capital market
recycle and reduce waste. Theories can provide the research considers the relationship between security
same benefits in accounting by: (share) prices and accounting information. Given that
• describing and explaining current accounting investors are often seen as the traditional users of
practices, for example: accounting reports, it makes sense to see how much
– capital market theory describes how share prices share prices reflect and are affected by accounting
react to accounting information information.
– researchers investigating financial reporting failures Ball and Brown21 and Beaver22 began the research
(such as Enron) have, after identifying stream known as capital market research, which
factors that have contributed to these problems (e.g. investigated the use (and impact) of accounting
lack of independence of auditors, rules‐based information by capital markets. Given that a key role
accounting standards and share‐based compensation identified by researchers prior to this had been that
payments), arrived at theories about why these accounting information should be useful to investors,
failures have occurred. this research provided descriptions and explanations
• predicting accounting practice, for example: of market behaviours and reactions to accounting
– agency or contracting theory, as well as explaining information.
why managers may change the way in which Accounting policy choice research
they account (i.e. the accounting policies) for items Another major school of accounting research is
in the financial statements, makes predictions accounting policy choice research (this is often
about the accounting policies that will be chosen by known
managers in particular circumstances. simply as ‘positive accounting theory’ because of its
• providing principles to take into account when domination of research for a significant period),
taking action or making decisions; for example: which began with Watts and Zimmerman. This
– in management accounting courses you will have research attempted to explain the motivations
used theories of capital budgeting, which might behind the accounting choices made by managers
involve calculating net present values of projects and and its significant position continues. Agency (or
payback periods, to help decide which projects contracting) theory,
to invest in. which underlies much of this research, is considered
– a theory of asset recognition helps to determine in the chapter that focuses on theories in accounting.
when and how assets should be included in the Accounting information processing research:
financial statements. Given that the objective of financial accounting is to
• helping to identify problems and deficiencies with provide information to aid decision making, this
current accounting practice and make improvements, research investigates the use (and users) of
for example: information in the decision‐making process, often
– the Conceptual Framework for accounting provides using theories and models from psychology. One
the basic principles on which to base example here is the Brunswick Lens model, which
accounting standards (the more detailed reporting can be used to
rules), which can make accounting practice more
examine how specific types of information are used
in, for example, investment decisions by a particular - Inflation: Refers to the rate at which the general
user of financial accounting information (say an level of prices for goods and services is rising,
investor). eroding purchasing power. As inflation increases,
Critical accounting research Critical accounting each unit of currency buys fewer goods and services.
research considers the role of accounting in society Inflation can be caused by factors like increased
and its social context and aims to develop: a critical demand, supply chain disruptions, or monetary
understanding of the role of accounting processes policies. Central banks often aim to manage inflation
and practices and the accounting profession in the within a target range to maintain economic stability.
functioning of society and organisations with an - Fair Value Accounting: A method of accounting
intention to use that understanding to engage (where where assets and liabilities are measured and
appropriate) in changing these processes, practices reported at their current market value (fair value)
and the profession.24 This type of research considers rather than historical cost. Fair value is the price that
the social context of accounting. Such research often would be received to sell an asset or paid to transfer
challenges and questions the current state of a liability in an orderly transaction between market
accounting and in particular the relationships (and participants. Fair value accounting aims to provide
relative power or influence) of the participants. It can more relevant and timely information about the value
adopt a social welfare perspective or rely on of assets and liabilities, reflecting current market
philosophical perspectives and theories (e.g. those of conditions.
Marx, Habermas or Foucault).
International accounting research :With Fair value accounting
increasing calls for more uniform accounting There has been an increasing use of fair value as the
standards worldwide and effort towards measurement basis for many items in financial
harmonisation of financial accounting, this research statements and fair value is viewed as the preferred
area grew in the second half of the twentieth century. alternative by many to address the criticisms of the
This has included research into differences in historical cost approach traditionally used in
accounting practices and also considered contextual accounting. However, the determination of fair value
and cultural influences on financial accounting. There in particular circumstances is problematic as it
are of course other areas of research (such as those involves subjectivity and this can lead to possible
specifically relating to auditing and accounting manipulations, distortions and inconsistencies. With
history). Research about an issue in accounting can this in mind, this chapter outlines the application of
involve many types of research and research areas. fair value in specific contexts, considering the
For example, the issue of environmental accounting guidance and direction provided in the international
and disclosures could involve: • documenting the accounting standard.
environmental disclosures made by companies and Define Accounting Theory. Explaining the need for
evaluating the quality of these disclosures. • accounting theory and the reasons why theory can
determining whether environmental disclosures have be accepted.
been used in decisions — this could involve
information processing research and trying to identify Need for Accounting Theory:
how decision makers have used this information or 1. Standardization: Accounting theory helps to
could involve capital market research by examining develop consistent standards and principles (such as
market reactions to the disclosure of such IFRS and GAAP) that make financial reports
information. • examining the motivations behind comparable across firms and countries.
companies’ disclosure (or nondisclosure) of 2. Decision Making: It provides a theoretical basis
environmental information. • examining the impact that supports users of financial statements—like
that accounting’s focus on measurable financial costs investors, managers, and regulators—in making
(rather than externalities such as environmental informed decisions.
costs) has on environmental impacts made by 3. Regulatory Guidance: Helps standard-setting
companies, so taking a more critical approach. bodies and governments in formulating, improving,
and interpreting accounting policies.
5. - Ethics: Refers to the moral principles that guide 4. Educational Purpose: It aids in teaching and
an individual's or organization's behavior, decisions, understanding the rationale behind accounting
and actions. Ethics involve considering what is right, practices and how financial information should be
wrong, fair, and just in various contexts, such as recorded and reported.
personal, professional, or societal. Ethics help 5. Problem Solving: Helps to address emerging
individuals and organizations navigate complex financial reporting issues, such as sustainability,
situations, make decisions, and act in ways that digital assets, or blockchain accounting.
respect the rights and dignity of others. . *Accounting Policy Choice Research*
- Professional Integrity: Involves upholding a set Accounting policy choice research explores why and
of principles and values in a professional context that how companies select specific accounting methods
promote honesty, trustworthiness, fairness, and and policies from among the alternatives allowed by
respect. Professional integrity means being accounting standards. This research investigates the
consistent in words and actions, taking responsibility factors influencing these choices, such as
for one's work, and adhering to ethical standards and management incentives, regulatory environment, tax
codes of conduct relevant to one's profession. It considerations, and the desire to influence reported
builds trust with colleagues, clients, and the public, earnings or financial position. It also examines the
and is essential for maintaining a positive consequences of these choices on financial reporting
professional reputation and contributing to a healthy quality, investor perceptions, and firm valuation.
work environment. 3. *Accounting Information*
Accounting information refers to the financial data
and reports generated by an organization’s
accounting system. This information includes
financial statements (income statement, balance
sheet, cash flow statement), notes, and disclosures
that provide insights into a company’s financial
performance, position, and cash flows. Accounting
information is used by various stakeholders—such as
investors, creditors, management, and regulators—to
make informed economic decisions.
4. *International Accounting Research*
International accounting research studies accounting
practices, standards, and regulations across different
countries and cultures. It focuses on the
harmonization and convergence of accounting
standards (e.g., IFRS vs. GAAP), the impact of
cultural, legal, and economic differences on
accounting practices, and cross-border financial
reporting issues. This research helps understand how
globalization affects accounting and financial
reporting and supports the development of more
comparable and transparent international financial
information.