Accounting

Accounting

Part One: Positive Accounting Theory

Positive accounting theories are more beneficial to accounting practice than normative accounting theories

Accounting theories provide a foundation of knowledge, understanding and guidelines for practices. However it is important to hold a clear understanding of the focus and purpose of different accounting theories if they are to be utilized effectively. Two primary accounting theories which provide a basis for understanding the how and the why of accounting practices are positive accounting theory and normative accounting theories. The function, application and the benefit of these two theories will be considered to determine which is the more beneficial in regard to accounting practice.

“Positive accounting is the branch of academic research in accounting that focuses on explaining and predicting observed accounting practices”. The basic premise of positive accounting theory revolves around agency theory and assumes that accounting information is an economic and political commodity where people act in their own self interest 1. By undertaking this approach to accounting research it is possible to predict how different parties respond to one another, and moreover provide an understanding of why parties respond or behave in this manner. This gives rise to two central aspects on positive accounting theory that seek to define behaviours of principles and agents of the firm and include; the efficiency perspective or ex ante that deals with the agent's objective to maximize the firm's value; and secondly, the opportunistic perspective or ex post that deals with the agent's objective to maximize his or her personal interests 2. Positive accounting theory provides practical explanations when it comes to financial decisions undertaken by management. It considers motivation and incentives faced by management when making these important decisions such as disclosure requirements and hence provides analysts greater incites as to why certain decisions were undertaken.

Normative accounting theory is somewhat the opposite of positive accounting theory and is defined by as, “a prescriptive theory that is stated in terms of what should occur in order to achieve the theory's objective. Normative accounting theories prescribe the correct way to account”. The normative approach to accounting theory is primarily concerned with developing theories that prescribe what should happen, rather then developing theories that prescribe what actually happened 2. The conceptual framework is a dominate form of normative accounting theory and Godfrey, et. al 3 dictate a conceptual framework in the context of financial accounting as “a definitive statement of the nature and purpose of financial accounting and reporting and which provides guidance for all accounting practice”. The Financial Accounting Standards Boards believes a conceptual framework to be integral as it adds a level of rigor and discipline that will result in more consistency in final statements and general modes of practice (The Financial Accounting Standards Board (2001). The primary function of this framework is to provide agreed standards, to remove the ambiguity and personalisation of the decision making process. Hence a conceptual framework is a firm example of normative accounting theory as it is prescriptive, detailing how practices should ...