Accounting Theory Review

Topics: Economics, Risk, Risk aversion Pages: 6 (1209 words) Published: January 10, 2014

Module 1: Accounting under ideal conditions
 Ideal conditions; certainty and uncertainty (including differences & similarities), dividend irrelevancy, arbitrage, accretion of discount, abnormal earnings  RRA - SFAS69; weaknesses of RRA (relevant but not as reliable)  Historical Accounting Revisited mixed measurement model, (relatively reliable but lacks relevance), revenue recognition, recognition lag  Relevance VS Reliability -> tradeoffs (Without ideal conditions, complete relevance & reliability are not jointly attainable therefore necessary to trade off these two desirable characteristics, NI does not exist as a well-defined economic construct

Module 2: Decision usefulness approach to financial reporting  Decision Usefulness Approach - theory of investor decision making in order to infer the nature and types of information that investors need.  PV Model (doesn’t work well in practice)

 Single Person Decision theory (concept of utility, investor maximizing his/her return; prior & posterior probabilities; Bayes Theorem)  Information System (conditional probabilities; main & off main diagonals; progression of GN/BN -> future expected earnings -> future expected returns; positive relationship b/w F/S & payoffs)  Rational Risk Averse Investor (risk averse, chooses highest expected utility)  Principle of Portfolio Diversification (trade-off b/w risk and expected return; firm specific & market wide factors, beta risk)  Optimal Investment decisions (including / ignoring transaction costs)  Beta Risk (covariance calc, portfolio expected value & variance)  Decision Usefulness approach & standard setting bodies (primary user groups, characteristics of information required)

Mod 3 Efficient Securities Market
 Efficient Securities Market (semi strong form, relative concept, fair game, random walk)  Market Prices reflecting all available information (Beaver study -consensus forecast, rational expectations)  Beaver’s arguments - Implications for financial reporting (4 points)  Informativeness of Price (noise traders, partially informative)  Capital Asset Pricing model (cost of capital, separation of expected and unexpected returns, calculate abnormal return)  Information asymmetry (adverse selection; timeliness of reporting; estimation risk)  Social significance of properly working securities markets (penalties & incentives)  Full disclosure -> MD&A

Module 4 Information Perspective on decision Usefulness
 Information Approach to Decision Usefulness – extent of security price change indicates decision usefulness  Predicting Investor Behaviour (4 points; Beaver - increase in volume of share trading)  Factors which complicate finding the market response (3 points)  Ball & Brown study (market responding to GN & BN in earnings, possible reasons for anticipation effect, recognition lag)  Earnings Response Co-Efficients (ERC – magnitude of unexpected return) Beta

Capital Structure
Earnings Quality
Persistence (price irrelevant, transitory, permanent; look at components of F/S notes to identify which items are persistent and which are non-persistent) Growth Opportunities
Similarity of Investors’ Expectations
Informativeness of price
 Implications of ERC research – importance of disclosure  Measuring Investors’ Earnings Expectations - Time series approach, Analysts’ forecasts  Greatest Market Price Response =Best accounting policy? (public good VS private good, investor use of information)  Information content of RRA - reasons for weak results for explanatory power of RRA

Module 5: Measurement Approach to Decision Usefulness
 Measurement approach - more fair values incorporated into F/S proper  Are Security Markets Efficient? (limited attention, overconfidence; representativeness, self attribution bias; share price momentum)  Prospect Theory (Kahneman and Tversky)

 Is Beta dead? (beta not stationary)
 Excess Stock Market Volatility
 Stock Market...
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