Positive Accounting Theories and Hypotheses Impact on Financial Statements
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This assignment explores the implications of Positive Accounting Theories (PAT) hypotheses such as Bonus plan, Debt covenant, and Political cost on financial statements. It discusses how managers make decisions based on these theories and their impact on disclosure and independent variables.
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HI6025 Accounting Theory and Current Issues 1
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Table of Contents Introduction....................................................................................................................................3 Positive accounting theories (PAT) hypotheses..........................................................................4 a. Bonus plan hypothesis...............................................................................................................6 b. Debt covenant hypothesis..........................................................................................................8 c. Political cost hypothesis...........................................................................................................10 Conclusion....................................................................................................................................12 References.....................................................................................................................................13 2
Introduction The assignment includes a brief about the positive theory implication. There is the inclusion of the various positive hypothesis such as Bonus plan hypothesis, Debt covenant hypothesis, and Political cost hypothesis. The assignment includes the implication of these theories on the financialstatementsofthecompany.Themanagerdecisionsdependingonthesituation surrounding the company are stated in the assignment. There is also discussion and interpretation about the relation of the disclosure with that of the independent variable based on the regression and correlation and justified as null hypotheses or not. 3
Positive accounting theories (PAT) hypotheses The positive accounting theory is the prediction of the policies a manager may follow for the good of the company. It is a type of Accounting branch which predicts the action and policies that can be adopted by the managers being beneficial for the company in terms of cost and application rather than what actually should be done for the true and fair view of the financial statements (Alayemi, 2015). It helps the managers to be flexible and decide the policies depending on the environment that is around the company. The managers try to present the financial statement of the company depending upon the personal interest as well as the company interest. The positive accounting theories are how the financial statement is presented by the managers depending on the situation of the company (Shil, 2014). The tendency of the managers to disclose the amount and the quantity is affected by the factors such as the political pressure, social and corporate pressure, personal interest, company and goodwill interest etc. There are three types of hypothesis that are derived from the Positive accounting theories hypotheses which are:- 4
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a. Bonus plan hypothesis b. Debt covenant hypothesis c. Political cost hypothesis 5 P o s iti v e a c c o u n ti n g T h e o r ie s h y p o th e s e sBonus Plan Hypotheses Debt Covenant Hypothesis Political Cost Hypotheses
International Journal of Business and Social Science-Corporate Social and Environmental Disclosure: A Positive Accounting TheoryView Point a. Bonus plan hypothesis The bonus plan hypothesis states that if the remuneration of the managers is dependent upon the performance of the company then they will tend to follow and adopt the accounting policies that show a higher degree of performance of the company. The Bonus plan hypothesis states that the managers will provide the information which can be in the interest of them instead of the company. They will be focused on adopting the policy that can benefit them. The priority and objective will be of personal interest instead of the company. They will adopt something that will help them to increase the personal wealth. The incentives and the bonus of the companies are dependent upon the performance indicators such as stock exchange rates, maximisation of the sales, maximisation of the profit, or the gross profit company earned etc. The Managers try to manipulate the financial statement based on which there can be the decision of the accounting policies. The managers may choose the accounting policy which shows higher stock at the end of the year or may allocate the cost in a way that the gross profit or net profit the company increases. The managers will work with the motive of personal interest instead of the principal interest. It can be stated with the Bonus plan hypothesis that there is having a positive relationship between the disclosure and bonus plan. The disclosure of the social and corporate governance depends upon the profitability stated by the managers. The manager discloses more with an increase in the profitability of the company. It was seen with the help of the research that was conducted that the disclosure quantity increases with political sensitivity and vice versa in case of the disclosure quality that is being made by the managers. When the research was done for the five years it was seen that the there was a positive slope in the regression of the factors that were taken.It can be interpreted with the help of the research that with the increase in the independent variable the disclosure amount increases. It can be seen that the null hypothesis must be rejected for the same. 6
The Bonus plan implication can be done that degree of the variable factor is positive with the degree of the disclosure. The manager generally discloses the CSR and other activities in the annual report of the company to show the transparency and efficiency of the company. It helps in generating the trust and also to showcase the performance and profitability of the company. 7
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b. Debt covenant hypothesis The debt covenant policy is related to the presentation of the better profit in the financial statement by adopting different accounting policies so that the liquidity and the position of the company to repay debts and interest looks good. The debt covenant hypothesis states that the income is shown by managers depending upon the debt factor that is there in the company. If the company is having a higher amount of Debt in the capital structure of the company the managers want to show a higher income so that it does not create distrust among the creditors and stockholders. Since the company is having a large amount of debt the problem of disclosure is also faced by the creditors which can be overcome by appropriate agreement of the disclosure. The risk increases with the increase in the debt factor of the company, therefore, the managers try to adopt the strategy and accounting policies that can be best suitable to increase the income of the company. The ratios are being used by the lenders, creditors, and stockholders to determine the performance and stability of the company such as debt-equity ratio which helps in determining the debt component in the capital structure. The Debt covenant is also in a positive relationship with the social disclosure. The higher the debt is more is the disclosure by the companies. It is expected that the debt led to increasing in the risk therefore to maintain the transparency among them the disclosure is made as much as possible. It can also be said that the company invested in the CSR reduces with increase in the debt due to a high degree of the debt covenant. This is one way that the managers try to decrease the investment in social responsibility and increase the income. It is implied that the transparency and appropriate disclosure can also lead to decrease in the debt covenant of the company. As per the research conducted it was seen that the coefficient was negative for the years and was positive for only of two years result in positive prediction. The result that was gathered with the information of the research is failed to reject the null hypothesis. The result that was stated was that there was a negative relationship between the leverage and corporate social responsibility. It can be implied with the decision that the company will disclose less in case of an increase of the debt component in the capital structure of the company. 8
The implication of the debt covenant hypothesis is that the managers adopt the accounting policies depending upon the debt of the company. They are focussed on the increasing the income to ensure that the financial statement looks strong and the creditors and stockholders havesatisfaction.AspertheDebtcovenanthypothesis,themanagerswilldisclosethe information depending upon the debt but as per the research conducted it could be seen that the disclosure and debt have an inverse relationship. 9
c. Political cost hypothesis The political cost hypothesis states that with an increase in the business the company or the managers tend to show a lesser profits than the actual in order to save them from the examination, legalities and tax implication that can be imposed of the financial statements. They are more likely to be different from the smaller companies in terms of implementation of the accounting policies as per the regular accounting standards. The big firms are widely spread with the reach of political rules and regulation which make them adopt the policies best suited for them. There is also sometimes doubt about the figures in the financial statement of the company because of this and lead to distrust among the shareholders of the company. The high profits and earning usually attract the attention of the public and other authorities. The company uses the disclosures so that the goodwill of the company is maintained. With the disclosure, the value of the company rises in the eyes of the social communities that are surrounding the company. It depends on the managers the policies that are being used by them depending on the situations and pressure. It can be implied that generally, the companies motive is to minimise the pressure rather than indulging in any improper activities and become negative in the eyes of government and law. There are various techniques that are being used by the companies in order to show the transparency along with the corporate responsibilities by adopting Corporate Social Responsibility (CSR) in the company. The managers sometimes use the earning management tool for the disclosure of the profit at a higher or lower side. The judgment and cases are being used for the alteration of the financial reports while adopting the earning management tool. The policies are being determined in a way neither that nor the GAAP policies are violated and the financial statements are showed as they want with the earning management. There is a relation between the political pressure and the strategies of the company as well as between the disclosure and corporate social. The research carried on depending upon the methodology of regression and coefficient taking the Social and environment disclosure, return on assets, long-term debt and the logarithm of the market capitalisation all the results came positive. It can be implemented with the help of the 10
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results that with an increase in the independent variable there is an increase in the Social and environment disclosure thus rejecting the null hypothesis. There was a significant positive coefficient while determining the data. It can be stated with the political hypothesis that it can be useful to the company but can affect the true motive of preparation of the financial statement. It can sometimes pass incorrect information and can mislead the investors and other stakeholders of the company. The managers try to show the profit in a way that they do not attract the attention but it is necessary that they are as per the Accounting standards or/and any other governing authorities such as GAAP. The disclosure also depends on the social pressure that the company receives. The managers disclose that much which does not harm the image of the company and even provide a transparency but it affects the decision making of the shareholders. 11
Conclusion It can be concluded with the help of the assignment that the Positive accounting theories hypothesis is the prediction in which the managers will adopt the policies and strategy. It can be stated that the Bonus hypothesis and Political cost hypothesis are positively related to the variable that is taken for the research whereas in case of the Debt covenant hypothesis disclosure was negatively related to the independent variable. It can also be defined that the Debt covenant and Political cost hypothesis are adopted based on the interest and profitability of the company interest whereas in case bonus hypothesis they are linked to the performance of the Managers, therefore, they are more likely on the basis of the manager interest. It can also be concluded that the financial statement of the company are as per the governing authorities and it is important to maintain the social and political pressure for the better disclosure. 12
References ï‚·Alayemi, S.A., 2015. Choice of accounting policy: Effects on analysis and interpretation of financial statements. American Journal of Economics, Finance and Management, 1(3), pp.190-194. ï‚·Shil, S., 2014. Positive Accounting Theory and Changes in Accounting Principles: An Exploratory Inquiry into Bangladeshi Listed Companies. Independent Business Review, Volume 7 Number 2. ï‚·Setyorini, C.T. and Ishak, Z., 2012. Corporate social and environmental disclosure: A positive accounting theory view point.International Journal of Business and Social Science,3(9). 13