,SOLUTION MANUAL FOR Contemporary Issues in
Accounting, 3rd Edition Rankin
Notes
1- The file is chapter after chapter.
2- We have shown you few pages sample.
3- The file contains all Appendix and Excel sheet
if it exists.
4- We have all what you need, we make update
at every time. There are many new editions
waiting you.
5- If you think you purchased the wrong file You
can contact us at every time, we can replace it
with true one.
Our email:
, Solutions manual
to accompany
Contemporary issues in
accounting
3rd edition
by
Rankin et al.
Not for distribution in full. Instructors may post selected solutions for questions assigned as
homework to their LMS.
© John Wiley & Sons Australia, Ltd 2022
, Chapter 1: Contemporary issues in accounting
Chapter 1: Contemporary issues in accounting
Contemporary issue 1.1
Dick Smith hearings reveal questionable accounting of rebates
Questions
1. This article states ‘accounting standards are currently unclear’ with regard to how to
account for rebates. Given these rebates seem to be quite common, can you think of
any reasons the accounting for these could be unclear and why there may not be an
accounting standard that specifies exactly how to account for these particular
transactions?
2. This article claims that profits were overstated by Tesco ‘because it had booked
rebates from suppliers before receiving them’. Do accounting principles require cash
to be received before recognising items in the accounting? If not, why should
accounting be implicated in these profit overstatements?
3. A note prepared by PricewaterhouseCoopers claims that supplier rebates are
complex and as accounting requirements are unclear.
Ultimately, getting rebate accounting correct relies on a culture and leadership that
encourages accounting for the commercial substance of rebate arrangements and
discourages short‐term profit maximisation.
What do you think is meant by ‘getting the accounting correct’? Can you identify any
factors that would influence the exercise of professional judgement in this context?
1. The key reason would be that rebates vary significantly and are often complex. These can
involve for example:
Rebates related to inventory (e.g. retrospective volume rebates)
Other rebates (e.g. involving contributions to marketing and promotional costs or
activities).
These rebates will be tailored to the particular circumstances (as the PWC notes states these
vary widely “reflecting the different elements of the goods and services exchanged between
suppliers and retailers”.)
Given the complexities and variations in these rebates, it would not be feasible for the
accounting standards to specify exactly how to account for every possible rebate in every
particular context/circumstance. The principles in the standards should be applied to reflect
the substance of the particular rebate contract/arrangement. For example, if the rebate related
to volume rebates we would need to apply the principles relating to cost of inventory in IAS
2/AASB 102 Inventories.
Students should also consider if the accounting standards were to specify exactly how such
rebates were to be accounted for:
Is it likely such prescriptions would take a conservative approach (e.g. not allow
these rebates to be recognised/factored into costing of inventory until virtually
certain)? If this occurred would it necessarily result in faithful representation.
© John Wiley and Sons Australia, Ltd 2022 1.1
,Solution manual to accompany: Contemporary issues in accounting 3e by Rankin et al. Not for distribution in
full. Instructors may post selected solutions for questions assigned as homework to their LMS.
This would amount to a ‘rules’ based approach. If this were to occur, could the
contracts be drawn so they do not fall within the types of rebate contracts specified
in the standards?
2. A key accounting principle is the accrual basis: that the effects of transactions and events
are recognised in accounting records when they occur, not when the cash is received or paid.
Therefore accounting principles do not require cash to be received before recognising an item.
For example, we do not defer recognition of revenue when sales are made on credit.
However, the accounting standards do specify recognition criteria. For example:
For assets it is expected that future economic benefits will be received.
For revenue, the amount of any variable consideration can only be recognised to the
extent that highly likely it will not reverse.
Given that these rebates often are contingent on/linked to future events/circumstances – such
as the sale of a particular volume/amount of inventory – this requires estimation and judgment.
For example, in the article it states that “Dick Smith breached accounting standards by booking
its rebates as profit before these were actually sold”. The argument here is based on the
circumstances of Dick Smith where the inventory was not able to be sold. However, if a
company has a history of easily selling and forecasts indicate that it will sell at least the amount
of inventory required to receive the rebate, then it would be expected to be entitled to this rebate
(and thus would reduce the cost of inventory by the rebate expected to be received).
It could be argued that accounting is implicated as:
It does not require certainty (or is not conservative enough), and./or
In these cases there were inappropriate estimations/judgments made.
3. ‘Getting the accounting correct’ would mean that the accounting reflects the substance of
the arrangements and applies the principles of the standards to reflect a true and fair view.
Remember that the objective of financial accounting is to provide useful information to users,
that is relevant and faithfully represents what it purports to represent.
Factors that could influence professional judgment in this context would be:
Complexity and variation in arrangements, which leads to more possible alternative
accounting treatments.
The continent nature of these rebates involves uncertainties which need to be assessed
and evaluated and this can make these more problematic and ambiguous.
Given the above, pressure from clients/companies to exercise professional judgment
‘favourably’ for the company.
In addition, the apparent widespread ‘early’ booking of such rebates would seemingly
further justify that this may be ‘acceptable practice’.
© John Wiley and Sons Australia, Ltd 2022 1.2
, Chapter 1: Contemporary issues in accounting
Contemporary issue 1.2
Blockchain technology: everything you need to know
Questions
1. This article explains that blockchain is both transparent and secure. Would the
adoption of a technology such as blockchain mean that accountants would no longer
need to use professional judgement in determining how to account for or report
transactions and events?
2. Identify any technologies or programs that are currently used in accounting firms or
for undertaking accounting tasks in businesses. Using the internet to research, are
there any developments or available alternatives for these technologies?
1. The simple answer is no; the introduction of blockchain does not mean that professional
judgment would no longer be required. This is because:
The nature of blockchain is that it is essentially a database that is an alternative to the
traditional ledger. The advantage is in processing and also verification. However a
transaction would still need to be added to the database and determining how to record
the transaction would still require professional judgment. Further, financial reporting
requires the determination of what information to present (e.g. application of
materiality) and how, and such decisions would still require professional judgement.
2. A simple internet search reveals that a range of programs and technologies are used in
accounting firms or to undertake accounting tasks. These range from:
general programs (such as excel, word, email)
accounting packages (such as MYOB, XERO, QuickBooks) which are also now cloud
based
audit software (such as eAudit: IDEA Data Analysis)
tax preparation software
document management software for client files
project management programs.
Answers re developments or alternatives will vary depending on what students find in their
searches. However predictions are that:
There will be development of intelligent automated (smart) software that will replace
routine tasks and automate complex and multifaceted processes.
Use of Cloud based programs will further increase.
© John Wiley and Sons Australia, Ltd 2022 1.3
,Solution manual to accompany: Contemporary issues in accounting 3e by Rankin et al. Not for distribution in
full. Instructors may post selected solutions for questions assigned as homework to their LMS.
Contemporary issue 1.3
Some answers, more questions over Dick Smith failure
Questions
1. This article explicitly refers to earnings management research. How has this research
been used in this article to assist in explaining the Dick Smith failure?
2. The article states ‘If one subscribes to the conclusions within accounting research’.
This proviso implies that others may question the conclusions of the research used in
this article. Can you think of reasons why particular theories or research would not
be accepted?
3. This article states that the auditors, Deloitte, questioned the rebates, realised that
inventory values were too high, yet certified that the company was a going concern.
A review of the 2015 annual report indicates that inventory represented almost 60%
of total assets and was twice the net asset amount. However, in this report there is no
mention of these rebates or their impact on profit and the audit report does not
suggest any issues of concern. Referring to the previous definition of professional
judgement in this chapter, in your opinion what elements in that definition may not
have adequately been practiced?
1. Earnings management is defined there as “a manger’s use of accounting discretion through
accounting policy choices to portray a desired level of earnings in a particular reporting
period”. However as the article discusses, earnings can also be managed by not simply
manipulating accounting but by manipulating actual transactions or activities. This article has
used the research relating to ‘real activities management’ to analyse the actions of Dick Smith
to determine if the transactions (activities) entered into by the company have been chosen, not
on the basis of the ‘good business’, but because these transactions enabled the company to
improve their reported financial position. Further the research has been used to explain:
Why Dick Smith used such earnings management strategies (as needed to ‘support’
expectation of growing business).
That such earnings management strategies assist in short term and ultimately have a
negative effect in longer term (and so exacerbate issues for companies in financial
distress).
2. The conclusions referred to in the article are essentially that incentives for managers to make
decisions, not on basis of sustaining business but rather on managing earnings figures, would
increase and therefore, given that decisions not made to promote long term profitability it was
dangerous (in terms of the company’s survival).
However, the article notes research that indicates that 80% of CFOs surveyed indicated that
they would undertake some form of earnings management. Yet there is no indication that such
earnings management would result in such companies necessarily failing.
There may also be other theories that could explain the demise of Dick Smith or the actions
that were taken. For example, in the Enron scandal the corporate culture was implicated.
© John Wiley and Sons Australia, Ltd 2022 1.4
, Chapter 1: Contemporary issues in accounting
3. The definition in the text from the American Accounting Association defines professional
judgment as:
Professional judgment is a process used to reach a well‐reasoned conclusion that is
based on the relevant facts and circumstances available at the time of the conclusion.
A fundamental part of the process is the involvement of individuals with sufficient
knowledge and experience. Professional judgment involves the [clarification of issues
and objectives, and the] identification, without bias, of reasonable alternatives;
therefore, careful and [unbiased] consideration of information that may seem
contradictory to a conclusion is key to its application. In addition, both professional
scepticism and objectivity are essential to the process and to reaching an appropriate
conclusion.
Professional judgment would have been required to make decisions regarding:
The disclosure and accounting for the rebates
The (over) valuation of inventory
Assessment of whether the company was a going concern.
The article states Deloittes questioned (or was aware of some of these issues), but ultimately
did not exercise their professional judgment to, for example, require disclosure or changes in
accounting for the rebates (or indicate going concern basis dubious).
In relation to definition could be argued that:
Given relevant facts and circumstances at the time the conclusion reached was not ‘well-
reasoned”
Failure to consider information carefully or in unbiased way
Did not exercise professional scepticism or objectivity.
© John Wiley and Sons Australia, Ltd 2022 1.5
,Solution manual to accompany: Contemporary issues in accounting 3e by Rankin et al. Not for distribution in
full. Instructors may post selected solutions for questions assigned as homework to their LMS.
Review questions
1.1 ‘Accounting is merely a technical exercise and all accountants need to do is follow the
rules’. Drawing on your understanding of accounting, discuss whether this statement
is correct. (LO1)
Students should disagree with this statement and note the following:
The nature of accounting is that it is not like a ‘hard science’ where there is one correct
answer.
Although there are accounting standards that prescribe the accounting treatment for
specific transactions/events these often do not include ‘black and white’ rules. The
standards are primarily principles based requiring consideration of substance over form
and the exercise of judgement in applying these. The text notes that even simply
applications, such as choosing a depreciation method requires judgement. Further some
accounting standards allow a choice. As the text states:
The shift to principles‐based standards acknowledges that the mechanistic
compliance to a set of rules may not result in the accurate portrayal of the
economic substance events and transactions. Although guidance is provided in
the standards, the application of the principles requires the exercise of
judgement.
As the text notes it is unlikely that the standards (‘rules’) will cover every possible
transaction/ event or directions for the application of the principles in every potential
scenario. Therefore judgment (and choices) will be required.
The text notes that the standards often lag behind events and transactions in the real
world. Therefore even if the standards contained simple rules to follow, there may not
yet be standards about emerging new transactions.
1.2 What is meant by ‘professional judgement’? Consider the Pathways Vision Model in
figure 1.1 and explain the role of professional judgement in accounting. (LO1)
The definition in the text from the American Accounting Association defines professional
judgment as:
Professional judgment is a process used to reach a well‐reasoned conclusion that is
based on the relevant facts and circumstances available at the time of the conclusion.
Students may consider common definitions such as:
Judgment is the ability to make considered decisions.
Professional is one engaged/qualified in a particular profession.
The American Accounting Association further states in relation to professional judgment
that:
A fundamental part of the process is the involvement of individuals with sufficient
knowledge and experience. Professional judgment involves the [clarification of issues
and objectives, and the] identification, without bias, of reasonable alternatives;
therefore, careful and [unbiased] consideration of information that may seem
contradictory to a conclusion is key to its application. In addition, both professional
scepticism and objectivity are essential to the process and to reaching an appropriate
conclusion.
© John Wiley and Sons Australia, Ltd 2022 1.6
, Chapter 1: Contemporary issues in accounting
Thus the first requirement for professional judgment is a person who has the requisite
knowledge and skill set given the particular context.
If we consider the pathways model (figure 1.1) this clarifies that:
There are no ‘black and white’ choices but what the model calls ‘shades of grey’
Thus judgments are required by accountants to determine the appropriate accounting
treatment and the resulting information to be provided.
Critical thinking underpins accounting (i.e. professional) judgment. This would
include the need to:
- clarify the issues
- identify appropriate alternatives
- analyse carefully information.
All of these would require an understanding of objectives and evaluation of potential impacts.
From the Pathways model students should see that the role of professional judgment is
fundamental in accounting. This is evidenced by the fact that the American Accounting
Association have identified this as the defining attribute of the accounting profession.
Students may want to consider the alterative. If there was no need for judgment in
accounting, what role would an accounting professional have? If accounting was simply the
application of a set of specified and immutable rules - a mechanical exercise – surely a
software program could largely replace accountants.
1.3 Define what is meant by ‘theory’ and explain how theory is useful. Do you think
theory needs to be considered in accounting? (LO2)
As the text notes there is no simple definition of ‘theory’ and it can mean different things in
different contexts. The following are dictionary definitions of what a theory is:
a belief or principle that guides actions or behaviour (such as behavioural theories of
positive reinforcement or theories in management about motivating employees)
an idea or set of ideas that is intended to explain something (such as Darwin’s theory
of evolution)
the set of principles on which a subject is based or of ideas that are suggested to
explain a fact or event (such as economic theory or the theory of relativity)
more generally, a conjecture or an opinion.
Accountants are required to exercise professional judgment and underpinning this is critical
thinking. Critical thinking requires a considered analysis of information and, identification and
evaluation of alternatives. Professional judgment will also require (as outlined in the Pathways
model) accountants to decide, given their analysis, what information should be provided to
optimise decision making by users. Thus, students should see that theory (and related research)
will be required in the exercises of professional judgment. For example, how could alternative
accounting treatments or disclosures be considered without an understanding of how
information is used, or impacts on investment decisions?
So for example, theory needs to be considered in financial accounting to reflect the decision-
making behaviour of managers and investors, company policies, political activity or
professionalism of accountants.
© John Wiley and Sons Australia, Ltd 2022 1.7
Accounting, 3rd Edition Rankin
Notes
1- The file is chapter after chapter.
2- We have shown you few pages sample.
3- The file contains all Appendix and Excel sheet
if it exists.
4- We have all what you need, we make update
at every time. There are many new editions
waiting you.
5- If you think you purchased the wrong file You
can contact us at every time, we can replace it
with true one.
Our email:
, Solutions manual
to accompany
Contemporary issues in
accounting
3rd edition
by
Rankin et al.
Not for distribution in full. Instructors may post selected solutions for questions assigned as
homework to their LMS.
© John Wiley & Sons Australia, Ltd 2022
, Chapter 1: Contemporary issues in accounting
Chapter 1: Contemporary issues in accounting
Contemporary issue 1.1
Dick Smith hearings reveal questionable accounting of rebates
Questions
1. This article states ‘accounting standards are currently unclear’ with regard to how to
account for rebates. Given these rebates seem to be quite common, can you think of
any reasons the accounting for these could be unclear and why there may not be an
accounting standard that specifies exactly how to account for these particular
transactions?
2. This article claims that profits were overstated by Tesco ‘because it had booked
rebates from suppliers before receiving them’. Do accounting principles require cash
to be received before recognising items in the accounting? If not, why should
accounting be implicated in these profit overstatements?
3. A note prepared by PricewaterhouseCoopers claims that supplier rebates are
complex and as accounting requirements are unclear.
Ultimately, getting rebate accounting correct relies on a culture and leadership that
encourages accounting for the commercial substance of rebate arrangements and
discourages short‐term profit maximisation.
What do you think is meant by ‘getting the accounting correct’? Can you identify any
factors that would influence the exercise of professional judgement in this context?
1. The key reason would be that rebates vary significantly and are often complex. These can
involve for example:
Rebates related to inventory (e.g. retrospective volume rebates)
Other rebates (e.g. involving contributions to marketing and promotional costs or
activities).
These rebates will be tailored to the particular circumstances (as the PWC notes states these
vary widely “reflecting the different elements of the goods and services exchanged between
suppliers and retailers”.)
Given the complexities and variations in these rebates, it would not be feasible for the
accounting standards to specify exactly how to account for every possible rebate in every
particular context/circumstance. The principles in the standards should be applied to reflect
the substance of the particular rebate contract/arrangement. For example, if the rebate related
to volume rebates we would need to apply the principles relating to cost of inventory in IAS
2/AASB 102 Inventories.
Students should also consider if the accounting standards were to specify exactly how such
rebates were to be accounted for:
Is it likely such prescriptions would take a conservative approach (e.g. not allow
these rebates to be recognised/factored into costing of inventory until virtually
certain)? If this occurred would it necessarily result in faithful representation.
© John Wiley and Sons Australia, Ltd 2022 1.1
,Solution manual to accompany: Contemporary issues in accounting 3e by Rankin et al. Not for distribution in
full. Instructors may post selected solutions for questions assigned as homework to their LMS.
This would amount to a ‘rules’ based approach. If this were to occur, could the
contracts be drawn so they do not fall within the types of rebate contracts specified
in the standards?
2. A key accounting principle is the accrual basis: that the effects of transactions and events
are recognised in accounting records when they occur, not when the cash is received or paid.
Therefore accounting principles do not require cash to be received before recognising an item.
For example, we do not defer recognition of revenue when sales are made on credit.
However, the accounting standards do specify recognition criteria. For example:
For assets it is expected that future economic benefits will be received.
For revenue, the amount of any variable consideration can only be recognised to the
extent that highly likely it will not reverse.
Given that these rebates often are contingent on/linked to future events/circumstances – such
as the sale of a particular volume/amount of inventory – this requires estimation and judgment.
For example, in the article it states that “Dick Smith breached accounting standards by booking
its rebates as profit before these were actually sold”. The argument here is based on the
circumstances of Dick Smith where the inventory was not able to be sold. However, if a
company has a history of easily selling and forecasts indicate that it will sell at least the amount
of inventory required to receive the rebate, then it would be expected to be entitled to this rebate
(and thus would reduce the cost of inventory by the rebate expected to be received).
It could be argued that accounting is implicated as:
It does not require certainty (or is not conservative enough), and./or
In these cases there were inappropriate estimations/judgments made.
3. ‘Getting the accounting correct’ would mean that the accounting reflects the substance of
the arrangements and applies the principles of the standards to reflect a true and fair view.
Remember that the objective of financial accounting is to provide useful information to users,
that is relevant and faithfully represents what it purports to represent.
Factors that could influence professional judgment in this context would be:
Complexity and variation in arrangements, which leads to more possible alternative
accounting treatments.
The continent nature of these rebates involves uncertainties which need to be assessed
and evaluated and this can make these more problematic and ambiguous.
Given the above, pressure from clients/companies to exercise professional judgment
‘favourably’ for the company.
In addition, the apparent widespread ‘early’ booking of such rebates would seemingly
further justify that this may be ‘acceptable practice’.
© John Wiley and Sons Australia, Ltd 2022 1.2
, Chapter 1: Contemporary issues in accounting
Contemporary issue 1.2
Blockchain technology: everything you need to know
Questions
1. This article explains that blockchain is both transparent and secure. Would the
adoption of a technology such as blockchain mean that accountants would no longer
need to use professional judgement in determining how to account for or report
transactions and events?
2. Identify any technologies or programs that are currently used in accounting firms or
for undertaking accounting tasks in businesses. Using the internet to research, are
there any developments or available alternatives for these technologies?
1. The simple answer is no; the introduction of blockchain does not mean that professional
judgment would no longer be required. This is because:
The nature of blockchain is that it is essentially a database that is an alternative to the
traditional ledger. The advantage is in processing and also verification. However a
transaction would still need to be added to the database and determining how to record
the transaction would still require professional judgment. Further, financial reporting
requires the determination of what information to present (e.g. application of
materiality) and how, and such decisions would still require professional judgement.
2. A simple internet search reveals that a range of programs and technologies are used in
accounting firms or to undertake accounting tasks. These range from:
general programs (such as excel, word, email)
accounting packages (such as MYOB, XERO, QuickBooks) which are also now cloud
based
audit software (such as eAudit: IDEA Data Analysis)
tax preparation software
document management software for client files
project management programs.
Answers re developments or alternatives will vary depending on what students find in their
searches. However predictions are that:
There will be development of intelligent automated (smart) software that will replace
routine tasks and automate complex and multifaceted processes.
Use of Cloud based programs will further increase.
© John Wiley and Sons Australia, Ltd 2022 1.3
,Solution manual to accompany: Contemporary issues in accounting 3e by Rankin et al. Not for distribution in
full. Instructors may post selected solutions for questions assigned as homework to their LMS.
Contemporary issue 1.3
Some answers, more questions over Dick Smith failure
Questions
1. This article explicitly refers to earnings management research. How has this research
been used in this article to assist in explaining the Dick Smith failure?
2. The article states ‘If one subscribes to the conclusions within accounting research’.
This proviso implies that others may question the conclusions of the research used in
this article. Can you think of reasons why particular theories or research would not
be accepted?
3. This article states that the auditors, Deloitte, questioned the rebates, realised that
inventory values were too high, yet certified that the company was a going concern.
A review of the 2015 annual report indicates that inventory represented almost 60%
of total assets and was twice the net asset amount. However, in this report there is no
mention of these rebates or their impact on profit and the audit report does not
suggest any issues of concern. Referring to the previous definition of professional
judgement in this chapter, in your opinion what elements in that definition may not
have adequately been practiced?
1. Earnings management is defined there as “a manger’s use of accounting discretion through
accounting policy choices to portray a desired level of earnings in a particular reporting
period”. However as the article discusses, earnings can also be managed by not simply
manipulating accounting but by manipulating actual transactions or activities. This article has
used the research relating to ‘real activities management’ to analyse the actions of Dick Smith
to determine if the transactions (activities) entered into by the company have been chosen, not
on the basis of the ‘good business’, but because these transactions enabled the company to
improve their reported financial position. Further the research has been used to explain:
Why Dick Smith used such earnings management strategies (as needed to ‘support’
expectation of growing business).
That such earnings management strategies assist in short term and ultimately have a
negative effect in longer term (and so exacerbate issues for companies in financial
distress).
2. The conclusions referred to in the article are essentially that incentives for managers to make
decisions, not on basis of sustaining business but rather on managing earnings figures, would
increase and therefore, given that decisions not made to promote long term profitability it was
dangerous (in terms of the company’s survival).
However, the article notes research that indicates that 80% of CFOs surveyed indicated that
they would undertake some form of earnings management. Yet there is no indication that such
earnings management would result in such companies necessarily failing.
There may also be other theories that could explain the demise of Dick Smith or the actions
that were taken. For example, in the Enron scandal the corporate culture was implicated.
© John Wiley and Sons Australia, Ltd 2022 1.4
, Chapter 1: Contemporary issues in accounting
3. The definition in the text from the American Accounting Association defines professional
judgment as:
Professional judgment is a process used to reach a well‐reasoned conclusion that is
based on the relevant facts and circumstances available at the time of the conclusion.
A fundamental part of the process is the involvement of individuals with sufficient
knowledge and experience. Professional judgment involves the [clarification of issues
and objectives, and the] identification, without bias, of reasonable alternatives;
therefore, careful and [unbiased] consideration of information that may seem
contradictory to a conclusion is key to its application. In addition, both professional
scepticism and objectivity are essential to the process and to reaching an appropriate
conclusion.
Professional judgment would have been required to make decisions regarding:
The disclosure and accounting for the rebates
The (over) valuation of inventory
Assessment of whether the company was a going concern.
The article states Deloittes questioned (or was aware of some of these issues), but ultimately
did not exercise their professional judgment to, for example, require disclosure or changes in
accounting for the rebates (or indicate going concern basis dubious).
In relation to definition could be argued that:
Given relevant facts and circumstances at the time the conclusion reached was not ‘well-
reasoned”
Failure to consider information carefully or in unbiased way
Did not exercise professional scepticism or objectivity.
© John Wiley and Sons Australia, Ltd 2022 1.5
,Solution manual to accompany: Contemporary issues in accounting 3e by Rankin et al. Not for distribution in
full. Instructors may post selected solutions for questions assigned as homework to their LMS.
Review questions
1.1 ‘Accounting is merely a technical exercise and all accountants need to do is follow the
rules’. Drawing on your understanding of accounting, discuss whether this statement
is correct. (LO1)
Students should disagree with this statement and note the following:
The nature of accounting is that it is not like a ‘hard science’ where there is one correct
answer.
Although there are accounting standards that prescribe the accounting treatment for
specific transactions/events these often do not include ‘black and white’ rules. The
standards are primarily principles based requiring consideration of substance over form
and the exercise of judgement in applying these. The text notes that even simply
applications, such as choosing a depreciation method requires judgement. Further some
accounting standards allow a choice. As the text states:
The shift to principles‐based standards acknowledges that the mechanistic
compliance to a set of rules may not result in the accurate portrayal of the
economic substance events and transactions. Although guidance is provided in
the standards, the application of the principles requires the exercise of
judgement.
As the text notes it is unlikely that the standards (‘rules’) will cover every possible
transaction/ event or directions for the application of the principles in every potential
scenario. Therefore judgment (and choices) will be required.
The text notes that the standards often lag behind events and transactions in the real
world. Therefore even if the standards contained simple rules to follow, there may not
yet be standards about emerging new transactions.
1.2 What is meant by ‘professional judgement’? Consider the Pathways Vision Model in
figure 1.1 and explain the role of professional judgement in accounting. (LO1)
The definition in the text from the American Accounting Association defines professional
judgment as:
Professional judgment is a process used to reach a well‐reasoned conclusion that is
based on the relevant facts and circumstances available at the time of the conclusion.
Students may consider common definitions such as:
Judgment is the ability to make considered decisions.
Professional is one engaged/qualified in a particular profession.
The American Accounting Association further states in relation to professional judgment
that:
A fundamental part of the process is the involvement of individuals with sufficient
knowledge and experience. Professional judgment involves the [clarification of issues
and objectives, and the] identification, without bias, of reasonable alternatives;
therefore, careful and [unbiased] consideration of information that may seem
contradictory to a conclusion is key to its application. In addition, both professional
scepticism and objectivity are essential to the process and to reaching an appropriate
conclusion.
© John Wiley and Sons Australia, Ltd 2022 1.6
, Chapter 1: Contemporary issues in accounting
Thus the first requirement for professional judgment is a person who has the requisite
knowledge and skill set given the particular context.
If we consider the pathways model (figure 1.1) this clarifies that:
There are no ‘black and white’ choices but what the model calls ‘shades of grey’
Thus judgments are required by accountants to determine the appropriate accounting
treatment and the resulting information to be provided.
Critical thinking underpins accounting (i.e. professional) judgment. This would
include the need to:
- clarify the issues
- identify appropriate alternatives
- analyse carefully information.
All of these would require an understanding of objectives and evaluation of potential impacts.
From the Pathways model students should see that the role of professional judgment is
fundamental in accounting. This is evidenced by the fact that the American Accounting
Association have identified this as the defining attribute of the accounting profession.
Students may want to consider the alterative. If there was no need for judgment in
accounting, what role would an accounting professional have? If accounting was simply the
application of a set of specified and immutable rules - a mechanical exercise – surely a
software program could largely replace accountants.
1.3 Define what is meant by ‘theory’ and explain how theory is useful. Do you think
theory needs to be considered in accounting? (LO2)
As the text notes there is no simple definition of ‘theory’ and it can mean different things in
different contexts. The following are dictionary definitions of what a theory is:
a belief or principle that guides actions or behaviour (such as behavioural theories of
positive reinforcement or theories in management about motivating employees)
an idea or set of ideas that is intended to explain something (such as Darwin’s theory
of evolution)
the set of principles on which a subject is based or of ideas that are suggested to
explain a fact or event (such as economic theory or the theory of relativity)
more generally, a conjecture or an opinion.
Accountants are required to exercise professional judgment and underpinning this is critical
thinking. Critical thinking requires a considered analysis of information and, identification and
evaluation of alternatives. Professional judgment will also require (as outlined in the Pathways
model) accountants to decide, given their analysis, what information should be provided to
optimise decision making by users. Thus, students should see that theory (and related research)
will be required in the exercises of professional judgment. For example, how could alternative
accounting treatments or disclosures be considered without an understanding of how
information is used, or impacts on investment decisions?
So for example, theory needs to be considered in financial accounting to reflect the decision-
making behaviour of managers and investors, company policies, political activity or
professionalism of accountants.
© John Wiley and Sons Australia, Ltd 2022 1.7
