Advanced Financial Accounting Tutorial Questions

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Week 1: Disclosure

Some researchers believe that even in the absence of regulations, there is an incentive present to provide credible information about the operations and position of the entity to external parties in form of lower costs to the entity’s operations.

This view is based on the assumption that stakeholders of the entity who are not actively engaged in managing the entity, will assume that the managers are operating the business for personal benefits, in the absence of information about the entity’s performance for a period (Solomon, 2007). This belief supports the idea that lesser the amount of information available, the more risk the external parties will associate with the investments in the entity and thus will require higher returns on the amounts contributed, thus manifesting as higher cost of capital for the entity solely because of non-disclosure of the operational performance  (Solomon, 2007).

This disincentive to withholding information about the operation of the entity will encourage the managers to voluntarily provide credible and optimal amount of useful information of the entity’s performance  (Solomon, 2007). More amount of information will result in higher confidence of investors.

Another basis of this belief is that managers’ remuneration is based on past performance of the entity, and thus to command a higher amount of remuneration, they will try not only to adopt strategies that will improve the entity in short and long term periods but will also highlight this information through adequate disclosures to interested external parties (Brunelli & Carlo, 2019).

Carrying on with the market related incentive to providing information, an entity that Is silent about its operations is more likely to be underperforming and thus is under a risk of being taken over by another entity that will likely replace the presumed ineffective management with more efficient one  (Brunelli & Carlo, 2019).

Thus, even in the absence of regulation, the managers will be encouraged to disclose both good and bad news about the entity, which may sound counter-intuitive but the market will assess a silent entity as an entity that has very bad news to disclose  (Brunelli & Carlo, 2019).

Another perspective to take into account is that the reputation of the managers and the entity that withholds bad information which is subsequently opened to the public Is likely to deteriorate, with little to no possibility of recovery  (Brunelli & Carlo, 2019). 

This belief system presents these arguments to prove that the entity with above mentioned characteristics will be likely to have a higher cost of capital than others.

Week 2: Conceptual Frameworks

Conceptual frameworks, in general, organize the premises and concepts that underlie corporate accounting, particularly financial accounting (Pounder, 2009). It offers a conceptual basis for accounting standards and, as a result, is expected to help provide a better understanding of these standards and enhance foreseeability in their interpretation.

For this reason, the conceptual framework themselves have no force of law. However, the ASIC act allows the AASB to make accounting standards under the force of law under section 334 of the Corporations Act  (Pounder, 2009).

The accounting standards themselves dictate that when a specific standard is not available on a particular matter or the existing standards do not provide sufficient guidance regarding that matter, the conceptual framework is to be used in a prudent manner to work out a reasonable solution to the problem which does not contradict the guidance of another standard  (Pounder, 2009). 

Thus the accounting standard AASB 108, which has the force of law pursuant to the Corporations Act , requires management to refer to the IASB/AASB conceptual framework where a specific issue is not addressed in a particular accounting standard (Mills, 2017). That is, in the absence of a specific accounting standard to address an issue, reporting entities must be guided by the IASB/AASB conceptual framework.

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