Swinburne University ACC80005 Financial Accounting Theory Assessment

This report is a take-home assessment for the Financial Accounting Theory course, ACC80005, at Swinburne University of Technology. It addresses seven questions covering various aspects of financial accounting theory. The questions delve into capital markets research, normative accounting theory concerning climate risk disclosures, behavioural accounting studies on retail investors, and stakeholder theory. The report examines how share prices react to market information, the role of climate risk disclosures in financial statements, how emotional considerations influence investor decisions, and why companies shift focus from shareholders to stakeholders. The assessment requires the application of theoretical frameworks to real-world scenarios and provides a comprehensive analysis of financial accounting principles and their practical implications.

Financial Accounting 1
Financial accounting theory
Student Number
Class & Course Code
Trimester Number
Professor
University
The City & State
Date
Word Count
Question One 469
Question Two 491
Question Three 511
Question Four 481
Question Five 511
Question Six 462
Question Seven 471

Financial Accounting 2
Question 1: After reading the above extract, explain the fall in the TPG Telecom share price
referring to capital markets research?
The $15 billion possible mergers between Vodafone Hutchison Australia and TPG Telecom was
announced on August 22, 2018. The merger would serve two purposes. First, enhance the
effective competition of the two firms against the Australian Telecom giants such as Optus and
Telstra. Second, the merger would reduce the capital cost of rolling out the 5G networks over the
next five years. Immediately the announcement was made, the share price of TPG Telecom
jumped to the highest level for the first time in two years (Smyth & White, 2018). However, the
Australian Competition and Consumer Commission (ACCC) accidentally leaked its decision not
to approve the merger on May 8, 2019. The share price of TPG immediately fell by 13.5%
following the release of the information. Subsequently, the market value of TPG dropped by $1
billion. The scenario clearly explains how the share price is sensitive to new/ market information
(Colangelo, 2019).
Several factors influence the fluctuation of share prices. Current market information has a quick
influence on the performance of the stock market. Investors rely on sensitive news to decide on
whether to buy or sell shares. Expectation and confidence influence the investors buying
behaviours. Optimistic news increases the urge to buy shares leading to an increase of share price
and the entity’s market value. Likewise, pessimistic news causes panic in the market, pushing
investors to sell the shares held. Subsequently, the share loses value leading to the reduction of
the market value of a company. Investors rely on news to predict the future performance of a
given stock (Pedersen, 2019, p. 65).

Financial Accounting 3
The pessimistic news caused the going down of TPG’s share price, that is, the disapproval of the
proposed merger by ACCC. The company had experienced a low share pricing before the
announcement of the possible merger. Investors were optimistic that TPG would perform better-
leading wealth maximisation. Investors rushed to invest in the company’s stock after projecting a
positive performance in the future. However, after the failure of the proposed merger, investors
believed that TPG profitability level would fall to the previous level before the possible merger
was announced. Investors thought that the leaked news was bad and would lead to reduced sales
and profitability of TPG. Although the bad news might have been short-lived, investors did not
want to take chances. In reality, no investors want to incur losses. As a result, investors show it
wishes to withdraw their investment by selling at a lower price than the original price. Investors
were worried the news would have a long term impact leading to the loss of their initially
invested amount. It would be better to sell at a lower price than lose the entire investment in the
long run. Within a day, TPG’s share price and market value had dropped significantly (Chew,
2016, p. 91).
Question 2: After reading the above extract, answer the following question. Using a normative
theory, explain why the general purpose financial statements of entities whose business model
depends on extracting, transporting, and burning fossil fuels may include climate risk disclosures
in their General Purpose Financial Statements?
Normative accounting theory is based on how accounting processes should be accomplished. The
theory relies on different approaches to make correct accounting decisions. A normative theory of
accounting holds that accounting practices should be acceptable, normal, and of best practice.
The theory is not only concerned with what is happening now, but what will happen in the future
(Breton, 2018, p. 111). For example, the IASB’s conceptual framework is a good example of

Financial Accounting 4
normative accounting theory because it tells accountants about what should be done for financial
reports to be considered relevant and of faithful representation.
Organisations such as the GRI and IIRC have been pushing for the adoption of sustainability
financial reporting and integrated financial reporting, respectively. The two reporting methods
seek the inclusion of non-financial aspects of organisational performance. The actions of business
entities impact the community and environment which they operate. Both internal and external
stakeholders should be informed about how an organisation affect or is affected by the
environment and society. Today the society want to associate only with companies that invest
back to the society and the environment. Investors want to invest in companies with a sustainable
growth practice (Devi, 2016, p. 63).
The actions by entities whose business model depends on extracting, transporting, and burning
fossil fuels have a significant impact on the community and environment. Communities expect
such companies to put in place mechanisms to rectify the severe impact of their business
activities on the environment. Moreover, lawsuits against companies operating in these sectors
are on the rise (Grayston, 2019). On the other hand, investors are reluctant to invest in companies
with an unstable future. Companies operating in the mining industry are associated with a
significant level of climate-related risks. Investors are interested in climate-related risks because
they are associated with acute natural disasters, climate change, change in policies, and legal
issues.
The information about climate-related risks has a significant influence on the investor's decision-
making process. However, the conventional accounting method does not allow the disclosure of
adequate information in the financial reports. Moreover, the accounting method does not make it

Financial Accounting 5
mandatory to publish information about the impact of climate-related risks and the ability of
companies to create value. Companies view the inclusion of information on climate risks in the
financial notes as part of corporate social responsibility (CSR). The practice is contrary to the
normative accounting theory which seeks the provision of adequate information that would allow
investors to make the best possible investing decisions (AASB/ AUASB, 2018).
Considering the impact of climate-related risks on the community and society, the affected
parties are likely to turn against companies operating in the mining sector as a result investor
would lose their money. Therefore, companies should be compelled to provide more and specific
information in their annual reports about their exposure and management of climate-related risks.
Investors should then rely on such information to make informed decisions (Devi, 2016, p. 187).
Question Three: Assume that you a behavioural accounting researcher. How would you design
an accounting study to investigate whether the claim made in the above extract that emotional
considerations often influence people's decisions is relevant to retail investors?
When faced with multiple investment choices, investors tend to choose the option they deem as
most useful in terms of fewer risks or high returns. More often, investors make mistakes because
their decisions were based on emotions and not on merits. Retail investors do not contract experts
to make investment decisions on their behalf. Overconfidence has been cited as the main reason
which influences wrong decision making by retail investors (Henderson, 2004).
The accounting study to determine whether or not emotional considerations often influence
investment decisions is relevant to retail investors should be designed in several sections, as
explained below.

Financial Accounting 6
a) Research problem: The first step would be to establish how investors’ psychological
status and emotions can lead to investment biasness. The researcher would rely on behavioural
science to establish the relationship between emotions, psychology, and investment mistakes by
retail investors (Bryman & Bell, 2015, p. 76).
b) Research objectives: To examine whether or not the claim that emotional considerations
often influence people's decisions are relevant to retail investors.
c) Literature and theoretical review: Previous studies would be relevant to understanding
how cognitive biasness would lead to wrong investment choices by retail investors. Theories such
as efficient market hypothesis, herding theory, and prospect/ loss aversion theory would also be
analysed to shed more light on the research problem and objectives. Other issues under study
would be factors that influence investment decisions by retail investors and the decision-making
process (Mooreland, 2015, p. 69).
d) Research design: The study will follow a descriptive design. Descriptive research design
is useful because it describes the real situation in relations to attitudes, behaviour, characteristics,
and values.
e) Population and size: The study will choose a retail investor in the stock market. Investors
operating in the stock market are mostly influenced by emotions when making investment
decisions. Assuming that the chosen study market comprises of 3.1 million investors, a sample
size of 100 respondents would be considered appropriate.
f) Data collection: The claim cannot be tested without collecting and analysing data.
Therefore, a questionnaire containing both open and closed questions will be developed. The
questions will be categorised into several sections with each section addressing a different issue.
Generally, the questions will revolve around investment decisions, overconfidence, herding

Financial Accounting 7
effect, optimism, and reliance on accounting information to make investment decisions (Bryman
& Bell, 2015, p. 83).
g) Data analysis: The collected data would then be analysed to test whether or not the claims
in the research objective are valid.
In summary, behavioural finance has been used to explain how human behaviours affect decision
making. Likewise, economic views have been based on emotions, cognitive errors, and
psychology. This study seeks to add more information on the already existing literature. In doing
so, the researcher will have to consider the previous literature and theoretical studies to design an
outline of the study. Therefore, the research outline explained above is deemed appropriate to
ascertain the validity of the claim, “people’s decisions are often influenced by emotional
considerations is relevant to retail investors” (White & Koonce, 2016, p. 89).
Question four: After reading the above extract, use stakeholder theory to explain why a listed
company might shift its focus from shareholders to stakeholders?
Several stakeholders are involved in the contemporary operations of listed companies. Besides
shareholders, other stakeholders involved directly in activities of any company are employees,
customers, government, suppliers, creditors, and the community. For a long time, companies
were focused more on creating value for the shareholders at the expenses of other stakeholders.
The level of competition is the market has increased; resources are becoming limited, and
technological advancement have changed how companies operate. Companies are slowly shifting
their attention from creating value for their shareholders to engagement other stakeholders in
creating sustainable value. In other words, listed companies are shifting from profit maximising
to value creation (Bonnafous-Boucher & Rendtorff, 2016, p. 118).

Financial Accounting 8
Shifting focus from shareholders to stakeholders can be explained using the stakeholder theory.
Stakeholder theory was developed by R. Edward Freeman in 1983. The theory states that
corporations should focus on fulfilling the interests of all stakeholders as the only way of creating
value. Stakeholder engagement has three key benefits; positive impact on the customers and
employees; increased investment and financial benefits; and ethical benefits. Although the
corporation should focus on creating value for all stakeholder groups, more attention should be
on employees, customers, and community (Balch, 2018).
Listed corporations have identified six ways of creating value by engaging stakeholders. First,
creating a better relationship with the stakeholders. Companies develop products, services, and
activities that benefit the community to create value. Companies also enter into partnerships with
suppliers and community to develop socially and environmentally responsible products and
services. Likewise, flexible work schedules have been developed to motivate employees. Second,
companies engage in creating a better work environment. A good relationship with environmental
groups and government agencies leads to environmental preservation (Vidal & Berman, 2015, pp.
911-31).
Third, corporations increase their customer base by engaging in activities such as educating
customers about the products and services offered, developing products that can meet multiples
purpose and engaging stakeholders in dialogues. Fourth companies engage in developing social
infrastructure and amenities such as roads, educations centres, and recreations centers to improve
the living standards of the community. Fifth, companies engage in reputation building as a way
of improving their relationship with stakeholders. Reputation is built through operating ethically
and professionally. Companies engage in campaigns that would directly benefit the community.
For example, planting trees and preservation of the environment are examples of activities that

Financial Accounting 9
enhance organisational reputation. Sixth, Corporations engage stakeholder in dialogues to either
develop efficient and effective collaboration or resolves arising conflicts between a company and
respective stakeholders (Mastilo, et al., 2017, pp. 155-61).
In summary, focusing on fulfilling the needs of shareholders alone cannot sustain any
organisation. Companies should improve their engagement with external stakeholders to have a
sustainable growth. On the other hand, stakeholders only buy from companies that would
effectively meet their needs. Therefore, meeting the needs of the stakeholders in the only way of
creating sustainable value for listed companies.
Question Five: Ernst and Young state that the inconsistent application of IFRS undermines its
value as a single set of global standards. Provide arguments in support of the position taken by
Ernst and Young. (Maximum word limit: 500 words) (10 marks)
Both FASB and IASB come together to develop IFRS which would support harmonisation of the
global accounting standards. Converging different accounting standards into one would lead to
easy comparability of financial reports and statements. To date, over 150 countries have adopted
the IFRS.
On the other hand, some countries such as the US and Japan have chosen to adopt edited versions
of IFRS which fit their previous accounting standards. The U.S., for example, decided to align its
GAAP with IFRS. However, some factors have hindered the efforts to harmonise the IFRS to a
single accounting system globally. The factors hindered provisions of quality accounting reports
as well as comparability (Ernst & Young, 2012, pp. 4-10).
Two factors- language translation and national culture- have been cited to undermine the value of
IFRS as a single set of global accounting standards. The difference in national languages and

Financial Accounting 10
cultures require rigorous interpretation of IFRS. As a result, interpreted versions of IFRS cannot
sufficiently enhance comparability financial reports across jurisdictions.
a) Difference in cultures
Studies have suggested that difference in national cultures causes accountants to apply
accounting standards differently. Cultural issues of secrecy and conservativism influence
application of accounting values. The impact of cultural beliefs on accounting standards also
influence the measurement and disclosure of financial elements such as assets, equity, liabilities,
income, and expenses. Although IFRS is based on accounting principles, national cultures highly
influence the application, judgment, and interpretation of accountants. Accountants tend to follow
interpretations that favours their national cultures. Different studies have considered culture to be
a pervasive factors that cause inconsistent application and interpretation of principle based IFR
accounting standards. Different application of IFRS leads to the creation of different financial
statements and reports. Subsequently, it is difficult to compare the performance of Multinational
corporations operating in different jurisdictions (TSAKUMIS, et al., 2009, p. 64).
b) Language translation
Countries that have adopted IFRS have different national languages. Effective application of
IFRS requires interpretation of IFRS from the European English to another language that fit
respective users. Translation of IFRS causes a threat to the consistency and comparability
objectives of financial reporting. IASB created the International Accounting Standards
Committee Foundation (IASCF) in 1997 to foresee the translation of IFRS. To date, IFRS has
been translated into over 50 languages. Studies have shown that it has been hard to translation
IFRS without distorting the original meaning. For example, the translation of the word remote as

Financial Accounting 11
used under IAS 37, Provisions, Contingent Liabilities and Contingent Assets, and in IAS 31,
Interests in Joint Ventures into Spanish, French, German has proved difficult. IASCF noted that
it was hard to translate the word without distorting its intended meaning under IFRS English
version (Obradovic, 2014, pp. 231-43).
The adoption of IFRS as a single accounting standard globally can only be effective if national
cultures have a common objective. However, the convergence of national cultures cannot happen
in the new future. Therefore inconsistent application of IFRS will continue to happen as far as the
difference in national cultures and translation exist (EFRAG, 2017, pp. 1-3).
Question Six: After reading the above extract explain using the Positive Accounting Theory
(PAT) why the management of CIMIC would ‘engineer’ its accounts? (Maximum word limit: 500
words) (10 marks)
Earning management or rather, manipulation of the financial statement is a global problem. There
are several reasons why companies such CIMIC engage in management of their accounts to have
favaourable financial statements. Although the Australian Securities and Exchange Commission
(ASEC) has put in place initiatives to mitigate the menace, the management incentive structures
and conflict of interest among between the management/ internal auditors and shareholders make
it difficult. In other words, conflict of interest and loopholes within the AASB creates a perfect
environment for earnings management (Loussikian, 2019).
The positive accounting theory (PAT) can be applied to examine the reasons behind the
management of earnings by the management of organisations. According to the PAT, firms are
interested in increasing their survival rate in the market by maximising their profit and
minimising their expenses. In most cases, competitive of a firm is based on its ability to increase

Financial Accounting 12
profitability level. Considering that accounting policies determine the financial performance of
companies, managers choose policies that would advance firms’ performance (Deegan, 2013, p.
95). PAT is based on three hypotheses. Bonus plan hypothesis states that managers are likely to
choose accounting policies that shift future earnings to the present financial year. In doing so, the
managers would increase their bonuses. Debt covenant hypothesis states that managers use
accounting policies that support shifting future earnings to the present financial period. Such an
action would deceive creditors that the company can meet its financial obligations. Moreover,
firms are influenced by the political cost hypothesis to engage in earnings management.
Managers would choose accounting policies that support deferring current earnings to future
financial years to avoid paying high corporate tax (Franceschetti, 2017, p. 71).
There are three main reasons which allow companies to engage in the manipulation of financial
management. First, most corporations practice performance-based compensation. Earnings of
managers reduce when a firm performs poorly. Likewise, managers would have increased earns
when the annual profit increases. Therefore, managers are likely to present rosy financial
statements to meet the established targets and boost their income (Berk, 2008, p. 80).
Second, Loopholes within accounting policies makes it easier for managers to manipulate
financial statements. Accounting policies gives managers/ accountants several options for
recording financial elements in the statements. The gaps in the accounting standards give
managers the flexibility to present financial positions of their companies as they deem fit.
Third, auditors have been blamed for the failure of leading corporate firms globally. Shareholders
and investors rely on auditors reports to give them a true and fair value of a company. Therefore,
the close relationship between the management and auditors make it easier for managers to