Standard Setting and Securities Markets:  U.S. Versus Europe

November 29, 2007 message from Pacter, Paul (CN - Hong Kong) [paupacter@DELOITTE.COM.HK]

Some similarities to Chair of SEC, but some important differences. SEC has direct regulatory powers over securities markets, entities that offer securities in those markets, broker/dealers in securities, auditors, and others. SEC can impose penalties on those it regulates.

In Europe there is no pan-European securities regulator equivalent to the SEC with direct regulatory powers similar to the SEC's. Rather, there are 27 securities regulators (one from each member state) who have that power. Here's a link to the list:

http://www.cesr-eu.org/index.php?page=members_directory&mac=0&id=

There is a coordinating body of European securities regulators called CESR (the Committee of European Securities Regulators (http://www.cesr-eu.org/) but CESR's role is advisory, not regulatory.

When the European Parliament adopts legislation (such as securitieslegislation) the legislation first has to be transposed (legally adopted) into the national laws of the Member States. Commissioner McCreevy's role is to propose policies and propose legislation to adopt those policies in Europe, oversee implementation of the legislation in the 27 Member States (plus 3 EEA countries), and (through both persuasion and some legal authority) try to ensure consistent and coordinated implementation. The Commissioner also has outreach and liaison responsibilities outside the European Union. Because there is no pan-European counterpart to the SEC Chairman, Commissioner McCreevy generally handles top level policy liaison between the SEC and Europe.

Like the Chair of the SEC, EU Commissioners are political appointees.

Paul Pacter

Bob Jensen's threads on accounting standard setting are at http://www.trinity.edu/rjensen/Theory01.htm#MethodsForSetting

The Fall 2007 Edition of Accounting Education News (AEN from the American Accounting Association) --- 
http://aaahq.org/pubs/AEN/2007/Fall2007.pdf

Two important things to note:

In his first President's Message, Gary Previts mentions the Plumlee report on the dire shortage of accountancy doctoral students and provides a link to the AAA's new site providing resources for research and experimentation on "Future Accounting Faculty and Programs Projects" --- http://aaahq.org/temp/phd/index.cfm
Note especially the Accounting PhD Program Info link with a picture) and the PhD Project link (at the bottom):

Welcome to the preliminary posting of a new resource for the community participating in and supporting accounting programs, students, faculty, and by that connection practitioners of accounting. We plan to build this collection of resources for the broad community committed to a vital future for accounting education. This page is an initial step to creating a place where we can come together to gather resources and share data and ideas. Making A Difference: Careers in Academia Powerpoint slides created by Nancy Bagranoff and Stephanie Bryant for the 2007 Beta Alpha Psi Annual Meeting. Permission granted for use and adaptation with attribution. Accounting PhD Program Info New Research Projects by the AAA on the Trends and Characteristics of Accounting Faculty, Students, Curriculum, and Programs Part I: Future of Accounting Faculty Project (Report December, 2007) Part II: Future of Accounting Programs Project Part I will describe today's accounting academic workforce, via demographics, work patterns, productivity, and career progression of accounting faculty, as well as of faculty in selected peer disciplines using data from the national survey of postsecondary faculty (NSOPF) to establish trends, and a set of measures will be combined to benchmark the overall status of accounting against (approximately) 150 fields. This project will provide context and data to identify factors affecting the pipeline and workplace. Part II will focus on expanding understanding of the characteristics of accounting faculty, students, and accounting programs, and implications of their evolving environment. The need for the Part I project illustrates how essential it is for the discipline and profession of accounting that we establish a more standard and comprehensive process for collecting, analyzing, and reporting data about accounting students, doctoral students, faculty, curriculum, and programs. More Resources on the Changing Environment for Faculty: The Reshaping of America's Academic Workforce David W. Leslie, TIAA-CREF Institute Fellow The College of William and Mary TIAA Institute Research Dialogue Series, 2007 Jim Hasselback's* 2007 Analysis of Accounting Faculty Birthdates *Copyrighted – requests for use to J. R. Hasselback Among U.S. Accounting Academics -- 53.4% are 55 or older From the Integrated Postsecondary Education System (IPEDS) 34.8% of all full-time faculty in the U.S. are non-tenure-track -- nearly 2 in 5 of all full-time appointments Between 1993 and 2003 the proportion of all new full-time hires into "off-track" appointments increased each year from 50% to nearly 3 in 5 (58.6%) Reported in J. Schuster & M. Finkelstein (Fall, 2006). "On the Brink: Assessing the Status of the American Faculty," Thought & Action 51-62. Supply and Demand for Accounting PhDs American Accounting Association PhD Supply/Demand Resource Page A collection of resources, links, and reports related to the pipeline of future Accounting faculty. Highlights include: Report of the AAA/APLG Committee to Assess the Supply and Demand of Accounting PhDs Link to the Doctoral Education Resource Center of AACSB International (Association to Advance Collegiate Schools of Business) AICPA's Journal of Accountancy's article "Teaching for the Love of It" Deloitte Foundation Accounting Doctoral Student Survey Survey Results (Summer, 2007) Data collected by survey of attendees of the 2007 AAA/Deloitte J. Michael Cook Doctoral Consortium The PhD Project and Accounting Doctoral Students Association The PhD Project is an information clearinghouse created to increase the diversity of business school faculty by attracting African Americans, Hispanic Americans and Native Americans to business doctoral programs and by providing a network of peer support. In just 12 short years, the PhD Project has been the catalyst for a dramatic increase in the number of minority business school faculty—from 294 to 842, with approximately 380 more candidates currently immersed in doctoral studies. The PhD Project Accounting Doctoral Students Association is a voluntary association offering moral support and encouragement to African-American, Hispanic-American, and Native American Accounting Doctoral Students as their pursue their degrees and take their places in the teaching and research profession, and serve as mentors to new doctoral students. PhD Project Surveys of Students, Professors, and Deans Results of a survey among students to understand the impact of minority professors on minority and non-minority students. Accounting Firms Supporting the AAA and Accounting Programs, Faculty, and Students Deloitte Foundation Ernst & Young Foundation Grant Thornton KPMG Foundation PricewaterhouseCoopers Foundation Related Organizations Sharing Interest in Accounting Faculty and Programs AACSB International – Association to Advance Collegiate Schools of Business ACBSP – Association of Collegiate Business Schools and Programs American Institute of Certified Public Accountants Association of Government Accountants Financial Executives International Institute of Internal Auditors Institute of Management Accountants TACTYC - Teachers of Accounting in Two-Year Colleges The PhD Project

 

Professor Dan Deines at Kansas State University has a handful of Outstanding Educator Awards, including one from the AICPA. Beginning on Page 5 of the Fall 2007 edition of AEN, Dan discusses the Taylor Research and Consulting Group study of accounting education commissioned by the AICPA in 2002. The study identifies barriers to students that prevent many top students from majoring in accounting. Dan then describes a pilot program initiated by KSU in reaction to the Taylor Report. I think accounting educators outside KSU may attend some of the pilot program events.

Bob Jensen's threads on the shortage of doctoral students in accountancy are shown below.

Questions
Why must all accounting doctoral programs be social science (particularly econometrics) doctoral programs?
What's wrong with humanities research methodologies?
What's wrong about studying accounting in accounting doctoral programs?
Why are we graduating so many new assistant professors of accounting who do not know any accounting?
Hint: Similar problems exist in languages and education school PhD programs

Question
What drastic move is the AACSB International (accrediting body)  taking to deal with the shortage of graduating students from business doctoral programs (including accountancy doctoral programs)?
Hint:
It's called a “Postdoctoral Bridge to Business”

Answer

With many business schools reporting difficulty attracting Ph.D. faculty members, the Association to Advance Collegiate Schools of Business has announced the first participating institutions in new “Postdoctoral Bridge to Business” programs — short-term programs that will train new Ph.D.’s in fields outside business for faculty jobs at business schools. The programs are starting at the Grenoble Ecole de Management, Tulane University, the University of Florida, the University of Toledo and Virginia Tech.
Inside Higher Ed, September 20, 2007 --- http://www.insidehighered.com/news/2007/09/20/qt

Bob Jensen's threads on alleged reasons why there are such shortages in accountancy doctoral programs can be found at http://www.trinity.edu/rjensen/Theory01.htm#DoctoralPrograms

A cynic might conclude that this is a correctional option for naive students who earned an economics PhD in an Economics Department rather than lucky students who earned virtual economics PhDs in accountancy doctoral programs.

A realist might term this the "Bridge Over Troubled Waters" that leads to higher salaries for "90-Day Wonders" in business/accounting education --- http://www.urbandictionary.com/define.php?term=90+day+wonder

This reminds me of the Harvard math professor (I can't recall which one at the moment) who said:  "Accounting is a fascinating discipline. I think I might take a couple of hours to master it."

Question
The faculty shortage in nursing schools is even more severe than that of accounting schools. Why are there "bridges over troubled waters" in schools of nursing in the same context as the new bridges being built for non-accounting PhDs mentioned above?

Answer with a Question
Would you really want an economics PhD who took a crash course in nursing teaching the nurses who serve you?

Answer with an Answer --- http://nln.allenpress.com/pdfserv/i1536-5026-028-04-0223.pdf
The fact of the matter is that the law of supply and demand works better in schools of accounting than in schools of nursing. In general, accounting educators are among the highest paid faculty on campus. The number of unfilled tenure-track job openings in schools of accounting combined with starting salaries in excess of $130,000 per year are the main reasons that the AACSB International's "Postdoctoral Bridge to Business" just might work, although I seriously doubt whether any of the bridged students will be able to teach upper division financial accounting, auditing, and tax courses.

The fact is that the law of supply and demand works lousy in nursing schools. In spite of shortages of qualified faculty, nursing educators remain among the lowest paid faculty on campus. A Nursing International's "Postdoctoral Bridge to Nursing" probably would not work, and given my cynacism about 90-0Day Wonders it is some comfort to me that there is no such bridge over troubled waters in nursing schools.

Question
What do accounting schools and nursing schools have in common?

"The Nursing Education Dilemma," by Elia Powers, Inside Higher Ed, June 22, 2007 --- http://www.insidehighered.com/news/2007/06/22/nursing

The market for nursing graduates remains hot, and plenty of students are vying for those open positions. Enrollment in entry-level baccalaureate nursing programs increased by nearly 8 percent in 2006 from the previous year, which marked the sixth straight year of gains. Community College programs are also seeing increases in applications and enrollments.

It’s all positive news for the health care industry, which has suffered from a well-documented nursing shortage since the 1990s, when many hospitals cut their staffs and some colleges cut back their programs.

But for colleges of nursing, the increasing demand to accommodate more students presents a dilemma: Who will teach them?

When it comes to clinical nursing courses, college programs are bound to strict faculty-to-student ratios, set by individual states. One instructor to every 10 or 12 students is a fairly common ratio. So even as administrators and state lawmakers seek more slots for students, there’s a ceiling on expansion unless more faculty are recruited or produced.

That’s not happening quickly. A survey released last year by the American Association of Colleges of Nursing identified at least 637 faculty vacancies at more than 300 nursing schools with baccalaureate or graduate programs — or what amounts to a nearly 8 percent faculty vacancy rate. The majority of the openings are tenure-track positions that require applicants have a doctorate, the survey shows.

Meanwhile, there continues to be a backlog of students. In 2006, more than 38,000 nursing school candidates deemed “qualified” by the AACN were turned away from entry-level baccalaureate programs, while a total of 50,783 nursing school applicants enrolled and registered in courses. When the new students are added to the pool of all students enrolled, total enrollment rises to 133,578.

Nearly three quarters of the colleges that responded to the AACN survey pointed to faculty shortages as a reason for not accepting the applicants. Community colleges are turning away 3.3 “qualified” applicants for every one turned away by four-year institutions, said Roxanne Fulcher, director of health professions policy at the American Association of Community Colleges.

At many nursing schools, wait lists are shrinking after years of growth, officials say, not because slots are opening up, but because students are becoming frustrated that their chances of enrolling are dim.

Continued in article

Question
What do accounting schools and nursing schools have in common?

"The Nursing Education Dilemma," by Elia Powers, Inside Higher Ed, June 22, 2007 --- http://www.insidehighered.com/news/2007/06/22/nursing

The market for nursing graduates remains hot, and plenty of students are vying for those open positions. Enrollment in entry-level baccalaureate nursing programs increased by nearly 8 percent in 2006 from the previous year, which marked the sixth straight year of gains. Community College programs are also seeing increases in applications and enrollments.

It’s all positive news for the health care industry, which has suffered from a well-documented nursing shortage since the 1990s, when many hospitals cut their staffs and some colleges cut back their programs.

But for colleges of nursing, the increasing demand to accommodate more students presents a dilemma: Who will teach them?

When it comes to clinical nursing courses, college programs are bound to strict faculty-to-student ratios, set by individual states. One instructor to every 10 or 12 students is a fairly common ratio. So even as administrators and state lawmakers seek more slots for students, there’s a ceiling on expansion unless more faculty are recruited or produced.

That’s not happening quickly. A survey released last year by the American Association of Colleges of Nursing identified at least 637 faculty vacancies at more than 300 nursing schools with baccalaureate or graduate programs — or what amounts to a nearly 8 percent faculty vacancy rate. The majority of the openings are tenure-track positions that require applicants have a doctorate, the survey shows.

Meanwhile, there continues to be a backlog of students. In 2006, more than 38,000 nursing school candidates deemed “qualified” by the AACN were turned away from entry-level baccalaureate programs, while a total of 50,783 nursing school applicants enrolled and registered in courses. When the new students are added to the pool of all students enrolled, total enrollment rises to 133,578.

Nearly three quarters of the colleges that responded to the AACN survey pointed to faculty shortages as a reason for not accepting the applicants. Community colleges are turning away 3.3 “qualified” applicants for every one turned away by four-year institutions, said Roxanne Fulcher, director of health professions policy at the American Association of Community Colleges.

At many nursing schools, wait lists are shrinking after years of growth, officials say, not because slots are opening up, but because students are becoming frustrated that their chances of enrolling are dim.

Continued in article

All is Not Well in Programs for Doctoral Students in Departments/Colleges of Education
The education doctorate, attempting to serve dual purposes—to prepare researchers and to prepare practitioners—is not serving either purpose well. To address what they have termed this "crippling" problem, Carnegie and the Council of Academic Deans in Research Education Institutions (CADREI) have launched the Carnegie Project on the Education Doctorate (CPED), a three-year effort to reclaim the education doctorate and to transform it into the degree of choice for the next generation of school and college leaders. The project is coordinated by David Imig, professor of practice at the University of Maryland. "Today, the Ed.D. is perceived as 'Ph.D.-lite,'" said Carnegie President Lee S. Shulman. "More important than the public relations problem, however, is the real risk that schools of education are becoming impotent in carrying out their primary missions to prepare leading practitioners as well as leading scholars."
"Institutions Enlisted to Reclaim Education Doctorate," The Carnegie Foundation for Advancement in Teaching --- http://www.carnegiefoundation.org/news/sub.asp?key=51&subkey=2266

The EED does not focus enough on research, and the PhD program has become a social science doctoral program without enough education content. Middle ground is being sought.

All is Not Well in Programs for Doctoral Students in Departments/Colleges of Business, Especially in Accounting
The problem is that not enough accounting is taught in what have become social science doctoral programs
See http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#DoctoralPrograms

Partly the problem is the same as with PhD programs in colleges of education.
The pool of accounting doctoral program applicants is drying up, especially accounting doctoral program pool that is increasingly trickle-filled with mathematically-educated foreign students who have virtually no background in accounting. Twenty years ago, over 200 accounting doctoral students were being graduated each year in the United States. Now it's less than one hundred graduates per year, many of whom know very little about accounting, especially U.S. accounting. This is particularly problematic for financial accounting, tax, and auditing education requiring knowledge of U.S. standards, regulations, and laws.

Accounting doctoral programs are social science research programs that do not appeal to accountants who are interested in becoming college educators but have no aptitude for or interest in the five or more years of quantitative methods study required for current accounting doctoral programs.

To meet the demand of thousands of colleges seeking accounting faculty, the supply situation is revealed by Plumlee et al (2006) as quoted at http://www.trinity.edu/rjensen/395wpTAR/Web/TAR395wp.htm

There were only 29 doctoral students in auditing and 23 in tax out of the 2004 total of 391 accounting doctoral students enrolled in years 1-5 in the United States.

The answer here it seems to me is to open doctoral programs to wider humanities and legal studies research methodologies and to put accounting back into accounting doctoral programs.

Partly the problem is the same as with “two-tiered” departments of modern languages
The huge shortage of accounting doctoral graduates has bifurcated the teaching of accounting. Increasingly, accounting, tax, systems, and auditing courses are taught by adjunct part-time faculty or full-time adjunct faculty who are not on a tenure track and often are paid much less than tenure-track faculty who teach graduate research courses.

The short run answer here is difficult since there are so few doctoral graduates who know enough accounting to take over for the adjunct faculty. If doctoral programs open up more to accountants, perhaps more adjunct faculty will enter the pool of doctoral program prospects. This might help the long run problem. Meanwhile as former large doctoral programs (e.g., at Illinois, Texas, Florida, Indiana, Wisconsin, and Michigan) shrink more and more, we’re increasingly building two-tier accounting education programs due to increasing demand and shrinking supply of doctoral graduates in accountancy.

We’re becoming more and more like “two-tier” language departments in our large and small colleges.

Practitioners in  education schools generally are K-12 teachers and school administrators. In the case of accounting doctoral programs, our dual mission is to prepare college teachers of accountancy as well as leading scholars. Our accounting doctoral programs are drying up (less than 100 per year now graduating in the United States, many of whom know virtually no accounting) primarily because our doctoral programs have become five years of social science and mathematics concentrations that do not appeal to accountants who might otherwise enter the pool of doctoral program admission candidates.

Note that the above Carnegie study also claims that education doctoral programs are also failing to "prepare researchers." I think the same criticism applies to current accountancy doctoral programs in the United States. We're failing in our own dual purpose accountancy doctoral programs and need a concerted effort to become a "degree of choice" among the accounting professionals who would like to move into academe in a role other than that of a low-status and low-paid adjunct professor.

In the United States, following the Gordon/Howell and Pierson reports, our accounting doctoral programs and leading academic journals bet the farm on the social sciences without taking the due cautions of realizing why the social sciences are called "soft sciences." They're soft because "not everything that can be counted, counts. And not everything that counts can be counted."

Leading academic accounting research journals commenced accepting only esoteric papers with complicated mathematical models and trivial hypotheses of zero interest to accounting practitioners --- http://www.trinity.edu/rjensen/395wpTAR/Web/TAR395wp.htm

Accounting doctoral programs made a concerted effort to recruit students with mathematics, economics, and social science backgrounds even though these doctoral candidates knew virtually nothing about accountancy. To compound the felony, the doctoral programs dropped all accounting requirements except for some doctoral seminars on how to mine accounting data archives with econometric and psychometric models and advanced statistical inference testing.

I cannot find the exact quotation in my archives, but some years ago Linda Kidwell complained that her university had recently hired a newly-minted graduate from an accounting doctoral program who did not know any accounting. When assigned to teach accounting courses, this new "accounting" professor was a disaster since she knew nothing about the subjects she was assigned to teach.

In the year following his assignment as President of the American Accounting Association Joel Demski asserted that research focused on the accounting profession will become a "vocational virus" leading us away from the joys of mathematics and the social sciences and the pureness of the scientific academy:

Statistically there are a few youngsters who came to academia for the joy of learning, who are yet relatively untainted by the vocational virus. I urge you to nurture your taste for learning, to follow your joy. That is the path of scholarship, and it is the only one with any possibility of turning us back toward the academy.
Joel Demski, "Is Accounting an Academic Discipline? American Accounting Association Plenary Session" August 9, 2006 --- http://bear.cba.ufl.edu/demski/Is_Accounting_an_Academic_Discipline.pdf

Accounting professors are no longer "leading scholars" if they focus on accounting rather than mathematics and the social sciences --- http://www.trinity.edu/rjensen/395wpTAR/Web/TAR.htm

When Professor Beresford attempted to publish his remarks, an Accounting Horizons referee’s report to him contained the following revealing reply about “leading scholars” in accounting research:

1. The paper provides specific recommendations for things that accounting academics should be doing to make the accounting profession better. However (unless the author believes that academics' time is a free good) this would presumably take academics' time away from what they are currently doing. While following the author's advice might make the accounting profession better, what is being made worse? In other words, suppose I stop reading current academic research and start reading news about current developments in accounting standards. Who is made better off and who is made worse off by this reallocation of my time? Presumably my students are marginally better off, because I can tell them some new stuff in class about current accounting standards, and this might possibly have some limited benefit on their careers. But haven't I made my colleagues in my department worse off if they depend on me for research advice, and haven't I made my university worse off if its academic reputation suffers because I'm no longer considered a leading scholar? Why does making the accounting profession better take precedence over everything else an academic does with their time?
As quoted in Jensen (2006a) ---
http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#AcademicsVersusProfession

Advice to students planning to take standardized tests such as the SAT, GRE, GMAT, LSAT, TOEFL, etc.
See Test Magic at http://www.testmagic.com/
There is a forum here where students interested in doctoral programs in business (e.g., accounting and finance) and economics discuss the ins and outs of doctoral programs.

Question
Does faculty research improve student learning in the classrooms where researchers teach?
Put another way, is research more important than scholarship that does not contribute to new knowledge?

Major Issue
If the answer leans toward scholarship over research, it could monumentally change criteria for tenure in many colleges and universities.

AACSB International: the Association to Advance Collegiate Schools of Business, has released for comment a report calling for the accreditation process for business schools to evaluate whether faculty research improves the learning process. The report expresses the concern that accreditors have noted the volume of research, but not whether it is making business schools better from an educational standpoint.
Inside Higher Ed, August 6, 2007 --- http://www.insidehighered.com/news/2007/08/06/qt

"Controversial Report on Business School Research Released for Comments," AACSB News Release, August 3, 2007 --- http://www.aacsb.edu/Resource_Centers/Research/media_release-8-3-07.pdf

FL (August 3, 2007) ― A report released today evaluates the nature and purposes of business school research and recommends steps to increase its value to students, practicing managers and society. The report, issued by the Impact of Research task force of AACSB International, is released as a draft to solicit comments and feedback from business schools, their faculties and others. The report includes recommendations that could profoundly change the way business schools organize, measure, and communicate about research.

AACSB International, the Association to Advance Collegiate Schools of Business, estimates that each year accredited business schools spend more than $320 million to support faculty research and another half a billion dollars supports research-based doctoral education.

“Research is now reflected in nearly everything business schools do, so we must find better ways to demonstrate the impact of our contributions to advancing management theory, practice and education” says task force chair Joseph A. Alutto, of The Ohio State University. “But quality business schools are not and should not be the same; that’s why the report also proposes accreditation changes to strengthen the alignment of research expectations to individual school missions.”

The task force argues that a business school cannot separate itself from management practice and still serve its function, but it cannot be so focused on practice that it fails to develop rigorous, independent insights that increase our understanding of organizations and management. Accordingly, the task force recommends building stronger interactions between academic researchers and practicing managers on questions of relevance and developing new channels that make quality academic research more accessible to practice.

According to AACSB President and CEO John J. Fernandes, recommendations in this report have the potential to foster a new generation of academic research. “In the end,” he says, “it is a commitment to scholarship that enables business schools to best serve the future needs of business and society through quality management education.”

The Impact of Research task force report draft for comments is available for download on the AACSB website: www.aacsb.edu/research. The website also provides additional resources related to the issue and the opportunity to submit comments on the draft report. The AACSB Committee on Issues in Management Education and Board of Directors will use the feedback to determine the next steps for implementation.

The AACSB International Impact of Research Task Force
Chairs:
Joseph A. Alutto, interim president, and
John W. Berry, Senior Chair in Business, Max M. FisherCollege of Business, The Ohio State University

K. C. Chan, The Hong Kong University of Science and Technology
Richard A. Cosier, Purdue University
Thomas G. Cummings, University of Southern California
Ken Fenoglio, AT&T
Gabriel Hawawini, INSEAD and the University of Pennsylvania
Cynthia H. Milligan, University of Nebraska-Lincoln
Myron Roomkin, Case Western Reserve University
Anthony J. Rucci, The Ohio State University

Teaching Excellence Secondary to Research for Promotion, Tenure, and Pay ---
http://www.trinity.edu/rjensen/HigherEdControversies.htm#TeachingVsResearch

Bob Jensen's threads on higher education controversies are at
http://www.trinity.edu/rjensen/HigherEdControversies.htm

The Parable Of Being In The Wrong Paradigm
May 30, 2007 parable by David Albrecht [albrecht@PROFALBRECHT.COM]

Sorry to revive this thread (need a favor) after it seemed to die 10 days ago. I present this parable with apologies to Ed Scribner, our resident parable teller.

I call this The Parable Of Being In The Wrong Paradigm.

A certain professor is the sad-sack of accounting higher education. It seems as if he's always been a member of an out-of-power paradigm. He started off college as a music major. He then switched to chemistry to Spanish to creative writing to history to political science. After graduation he discovered his degree qualified him to operate the french frier at a fast food joint. Friends, unhappy with his unhappiness, advised him to pursue an MBA degree. Our professor switched to an MA in accounting.

After this graduation he failed to secure an accounting or auditing job with the Big 8-7-6-5-4, probably due to a combination of not being young enough and wearing a colored shirt to his interviews. He wanted a true job, but it was not to be for him. Count him out of the Big 8-7-6-5-4 paradigm, his first experience with the wrong paradigm.

But lo and behold, a small school hired him to teach accounting. He enjoyed it so much that he decided to pursue an accounting doctorate for that academic union card. On the bright side, he learned new ways of thinking, new ways to approach a problem, and mental flexibility (this trait gets him in trouble, though). On the dark side he tried to pass himself off as a quantoid, but he wasn't. Nor was his degree from a powerful elite university. So count him out of the elite accounting school paradigm, and count him out of a top level salary. He is again a member of the wrong paradigm.

He's been a bust as a research/publishing hound, never hitting a top four journal. Some of his pubs were practitioner oriented and out of favor in his department. His last publication was too many years ago. He hit with the Journal of Excellence in College Teaching, but was told by his dean that it wouldn't count because his article wasn't about accounting (and the journal is too lowly ranked anyway). So, count him out of the dominant accounting research paradigm and from getting annual raises from his department. He is again a member of the wrong paradigm.

He was curious fellow, though, and always eager to contribute to making things better. Intrigued by how students learned, he researched it (but never got anything published, of course). He invested the results of the research back into his classrooms and became a popular teacher. As he continued to learn about how students learn, he became more popular. Eventually, students had to line up to get into one of his classes. The department chair responded by putting in a special registration process to keep excess students away from his classes and into other sections. The lucky students in his classes thrived in his learning-centered environment, it seems that they had been hungry to learn for a long time. The traditional paradigm ("tell them and then test them") is alive and well at at his school, though. He had to endure peer-to-peer evaluations of his teaching from professors who had difficulty in helping students learn. One accounting professor, notorious for his long lectures and lethal use of Power Point, came into our professor's classroom on one of his more non-traditional approach days. After a few minutes, the notorious accounting professor angrily steamed out of the classroom, giving our professor the the lowest score ever on a peer evaluation of teaching. It seems our professor didn't cover enough content. So count him out of another dominant accounting professor paradigm, and again a member of the wrong paradigm.

Despite being considered the worst accounting professor (0 for 4) by his department, he received his university's highest award for contributing to student learning.

One day he was asked how it felt not to be a part of the crowd or a dominant accounting paradigm. He replied that not being in a correct paradigm feels like not being invited to a party. He took solace, though from reading posts to AECM. Contributors seemed to be out of at least one power paradigm, just like him. They discussed it aud nauseum, year after year. Eventually he concluded that the more people lament the power of a dominant paradigm, the more things stay the same. It is like the weather--people can talk about it a lot but no one can do anything to change it. Leaving his computer, our professor went back to work, changing the world one student at a time.

David Albrecht

What's wrong about studying accounting in accounting doctoral programs?
May 2, 2007 message from Bob Jensen to the AECM Listserv

I have a former student and very good friend who’s interested in applying for an accounting doctoral program. He’s a good student who became a better student each year of his five year program. He’s somewhat experienced as a tax accountant.

But he’s not especially interested in a doctoral program that is heavy in quantitative methods (dare I say “accountics?”).

I have a couple of suggestions for him. But before I reply to him I would like some other suggestions from the AECM regarding full-time doctoral programs that are heavier on accounting and taxation skills and a bit lighter on the quantitative methods focus of most (all?) respected accounting doctoral programs at the moment.

You may send your suggestions privately to me or share them on the AECM if you choose to do so.

Please let me know if I can forward your suggestions under your name or if I should make your suggestions to him anonymous.

I do recommend this young man for a doctoral program. He’s become very passionate about becoming an accounting educator.

Thanks,

Bob Jensen

May 2, 2007 reply from Michael Haselkorn [MHASELKORN@bentley.edu]

Bob,

He should check out Bentley College’s new PhD program. Feel free to use my name.

Mike Haselkorn

May 2, 2007 reply from Randy Kuhn [jkuhn@bus.ucf.edu]

Bob,

I would definitely recommend your student speak to some of the professors at UCF (Central Florida in Orlando) like Robin Roberts and Steve Sutton. The general approach for the PhD program here is to provide as much exposure as possible to all areas of accounting scholarship and let the student decide what area best suits them. We take five accounting seminars that include a general overview of research (Kuhn, Burrell & Morgan, etc.), behavioral accounting, accounting information systems, financial archival, and sociological. A nice mix overall. Most of us take electives outside the College of Business in psychology, sociology, education, etc. for our minor as well as for the methods requirements. We can choose a more quantitative approach but no one in the last three classes went that route. Of the nine students in the last two classes, seven came from public accounting (six audit, one tax). The program has definitely enlightened all of us to other views of accounting, research, education, and the world in general. We only accept students every other year and I believe there are one or two spots left for the Fall 2007 class. If you think our program might fit your student, then I strongly recommend that he contact Robin ASAP.

Thanks,

Randy

May 2, 2007 reply from Steve Sutton [ssutton@bus.ucf.edu]

Bob,

I’ve watched this discussion with some interest. I’m always reluctant to speak of our own PhD program in this forum because it can be taken and interpreted the wrong way. Our PhD program has carved a niche out that is different from the ‘glamour’ programs. If we have a student who applies and wishes to do “accountics” type work, we generally steer them towards a more appropriate program.

Our program has basically focused on audit, tax and systems with a focus on behavioral and public policy research. We have what I believe to be some very accomplished and bright scholars working with our students, but our research is primarily behavioral from an individual (psychology-based), organizational (sociology), and societal (critical and radical humanist perspectives) perspective(s). We believe dialogue about the professions, accounting institutions, ethical implications and the philosophy underlying all of those is critical to the role of accounting academics.

That said, a PhD is still a research degree and not a technical degree. We assume that a student that has attained an undergraduate and masters level education in accounting has the technical accounting knowledge. The PhD is about how to look at accounting with a critical thinking mind and question the rules, processes and institutions—and to ask if there is a better way.

We educate our PhD students in the traditional areas as we believe this is critical to be good colleagues and appreciating each other’s research. But we do a lot in non-traditional areas also. You might find the structure of the programming interesting (or you may not): http://www.graduate.ucf.edu/CurrentGradCatalog/content/Degrees/ACAD_PROG_94.cfm#BUPHD-ACCOUNTING 

Hope you’re enjoying retirement in the mountains. This is the time of year I miss New England.

Steve G. Sutton
KPMG Professor
Dixon School of Accounting, UCF
www.bus.ucf.edu/ssutton/ 

May 2, 2007 reply from Richard C. Sansing [Richard.C.Sansing@DARTMOUTH.EDU]

Bob,

What are your friend's aspirations? If he could describe his ideal faculty position, including the sort of research (if any) he would like to pursue, what would that be? (He may be uncertain, which is fine.)

Recommending a set of inputs is easier if the desired output is clear.

Richard Sansing

May 2, Reply from Bob Jensen

Hi Richard,

I think (surmising at this point) that he might aspire to teach accounting/tax in a small liberal arts college where publishing in top research journals is not deemed more important than a dedication for teaching accounting and inspiring liberal arts students to pursue a career in accountancy.

In spite of what some of us more familiar with research universities think, there are many such liberal arts and even smaller state-supported colleges that still place the highest emphasis on teaching and youth inspiration.

What I've discovered is that all colleges want evidence of continued scholarship, but some are much more willing to accept publication in what we might call lower-tiered journals.

Then again, this young man showed such increased aptitude for accounting theory. It may be possible that in the course of his doctoral program he gets fired up for higher level research. His father is a good statistician and systems analyst in a top university. His mother is a teacher.

Bob Jensen

May 2, 2007 reply from Richard C. Sansing [Richard.C.Sansing@DARTMOUTH.EDU]

Bob,

I would encourage your friend to think about the real option aspect of this decision. He should be very confident of his decision to not pursue a Ph.D. at a research-oriented program before bypassing that option. If he studies at Chicago and makes an informed decision not to pursue "mainstream" academic research, then he will be over-trained for his dream job at the kind of liberal arts college you describe. But he also has the option of pursuing the research route. But if he studies at a place that puts less emphasis on research methods, he has limited his options at the outset.

Richard Sansing

May 2, 2007 reply from Bob Jensen

Hi Richard,

I used to think that way. Then I had one student named XXXXX who had similar goals to YYYYY, although XXXXX was a much more brilliant math student according to the Mathematics Department at Trinity University. I made a special effort to have XXXXX admitted to an "accountics" doctoral program without having as much as one week of experience in accounting practice. XXXXX did not even intern and went straight from our Trinity University masters program to an accounting doctoral program.

To my utter disappointment XXXXX dropped out after the end of the first semester. He said he was just not interested in getting an econometrics PhD in an accounting doctoral program. He wanted an accounting PhD and discovered that he would have four or five years of econometrics, statistics, and psychometrics.

Honestly Richard, I'm not making this up. XXXXX enrolled in this accounting doctoral program about three years ago if my memory serves me correctly. With his exceptional math skills XXXXX was capable of getting his accounting (ergo econometrics PhD). He just wasn't interested in econometrics before he applied for the doctoral program, when he was in the doctoral program, or when he withdrew from the doctoral program.

I did not do XXXXX or that doctoral program any favors by pushing XXXXX in the way that you would probably have pushed XXXXX. Now when it comes to YYYYY, we have a similar situation except I don't think YYYYY has the exceptional math skills of XXXXX. YYYYY admits that he's more like his mother than his father in this regard.

YYYYY, like XXXXX, really wants to study accountancy rather than econometrics. If XXXXX wanted to be an econometrics PhD, however, he probably would have stuck it out in the accountancy doctoral program because economics PhDs are a dime a dozen relative to accounting econometricians masquerading as accountants.

My point, Richard, is that sometimes "keeping options open" is not the best advice for some types of students, especially accounting students who really do not want to become statisticians, econometricians, psychometricians, and management scientists. We've pretty much taken the study of accountancy out of doctoral programs. Those entering doctoral programs learn very little accounting beyond what they learned before entering the program.

What accountancy doctoral programs lack is imagination. Why can't there be a joint accounting/JD doctoral program in law and accountancy? Why can't there be an accounting/philosophy doctoral program? Why must virtually all accountancy doctoral programs be accounting/ECONOMICS doctoral programs for economists who want higher starting salaries?

That's my $.02.

Bob Jensen

May 2, 2007 reply from Richard C. Sansing [Richard.C.Sansing@DARTMOUTH.EDU]

1. Yes, sometimes options expire out of the money. A bad outcome ex post does not imply a bad decision ex ante.

2. Not everything you learn has to be learned in a classroom. I've learned a lot about non-profit organizations over the last ten years without ever taking a class on the subject.If it is (relatively) harder to learn about research methods on your own than it is to learn about institutional detail on your own, a program that focuses on economics and research methods is likely the most efficient way to learn. There is also an economy of scale issue. If I have five doctoral students interested in five different topics, a program that focuses on methods rather than subjects seems like the way to go; each student can learn about the institutional issues that interest them in another way.

Richard Sansing

May 2, 2007 reply from Bob Jensen

Hi Richard

Plumlee et al. (2006) discovered that there were only 29 doctoral students in auditing and 23 in tax out of the 2004 total of 391 accounting doctoral students enrolled in years 1-5 in the United States.

With the excessive shortage of new PhDs in accounting (especially in auditing, tax, and systems), I think those who get a PhD with accounting skills will have pretty good "options" to become teachers and may even become the highest paid teachers in smaller colleges.

And you have difficulty separating yourself from the fundamental profit maximization economics assumption that plagues virtually all economics models. You assume that all accounting graduates who elect to go into academe want the highest salaries and probably the lowest teaching loads possible. In fact, there are students like XXXXX and YYYYY who truly want the psychic rewards of teaching rather than earn the highest dollar and the lowest teaching load.

What may be my most important point in this exchange with you is that there are many smaller colleges that would rather have dedicated teachers of accounting rather than failed econmetricians belatedly wanting to teach accounting because they were denied tenure in a top university's accounting/econometrics program.

And your latter assumption is that accounting can be self taught. Actually most anything can be self taught, including Egon Balas who became a well known Carnegie-Mellon mathematics professor after having taught himself mathematics during ten years of solitary confinement in a Hungarian prison. But why should an accounting doctoral student have to spend four or five years studying dreaded econometrics when their first love is learning accounting, tax, auditing, or systems?

And you might've been interested in learning accountancy after you earned an economics doctorate. But there are many econometrics professors in accounting departments who do not share your view. Let me once again dredge up the best example of the Accounting Horizon's referee who rejected a paper submitted by Denny Beresford.

When Professor Beresford attempted to publish his paper appealing for accounting researchers to have more interest in the accounting profession, an Accounting Horizons referee’s report to him contained the following revealing reply about “leading scholars” in accounting research:

Begin Quote
*****************

1. The paper provides specific recommendations for things that accounting academics should be doing to make the accounting profession better. However (unless the author believes that academics' time is a free good) this would presumably take academics' time away from what they are currently doing. While following the author's advice might make the accounting profession better, what is being made worse? In other words, suppose I stop reading current academic research and start reading news about current developments in accounting standards. Who is made better off and who is made worse off by this reallocation of my time? Presumably my students are marginally better off, because I can tell them some new stuff in class about current accounting standards, and this might possibly have some limited benefit on their careers. But haven't I made my colleagues in my department worse off if they depend on me for research advice, and haven't I made my university worse off if its academic reputation suffers because I'm no longer considered a leading scholar? Why does making the accounting profession better take precedence over everything else an academic does with their time?
As quoted at http://www.trinity.edu/rjensen/theory/00overview/theory01.htm#AcademicsVersusProfession

*****************
End Quote

 

Particularly relevant in this regard is Dennis Beresford’s address to the AAA membership at the 2005 Annual AAA Meetings in San Francisco

Begin Quote
*****************
In my eight years in teaching I’ve concluded that way too many of us don’t stay relatively up to date on professional issues. Most of us have some experience as an auditor, corporate accountant, or in some similar type of work. That’s great, but things change quickly these days.
Beresford (2005)
*****************
End Quote

I'm glad that you like accounting and tax. Unfortunately, may of your econometrics friends in accounting academe hate having to teach such courses as intermediate accounting, advanced accounting, auditing, or introductory tax courses. And they interpret accounting theory as minimal accounting and maximal economic theory.

Bob Jensen

May 2, 2007 reply from Randy Kuhn [jkuhn@BUS.UCF.EDU]

When being recruited I recall my PhD coordinator showing me statistics about the number of accounting PhD students graduating each year and the general declining trend, down to around 70-75 per year. The AAA placement center at the national conference last year listed over 300 job postings. What a dilemma and not getting any better given that many of the baby boomers still have yet to retire.

The Plumlee et al. (2006) study paints an even bleaker picture. The general lack of students specializing in non-financial areas should raise a huge red flag. Will our non-financial accounting classes eventually be taught by professors outside their research area and interest? What kind of higher education will that provide? I have been fervently recruiting friends in public accounting. My approach to date has been to drop a bug in their ear during the worst of busy season then keep plugging away. So far, only one success. Many would love to enter academia but the thought of giving up four years of compensation is unpalatable and just not feasible for their families. The barriers to entry are great. Successful recruiting will take a concerted effort by us all.

May 2, 2007 reply from Richard C. Sansing [Richard.C.Sansing@DARTMOUTH.EDU]

---Bob Jensen wrote:

And you have difficulty separating yourself from the fundamental profit maximization economics assumption that plagues virtually all economics models. You assume that all accounting graduates who elect to go into academe want the highest salaries and probably the lowest teaching loads possible. In fact, there are students like XXXXX and YYYYY who truly want the psychic rewards of teaching rather than earn the highest dollar and the lowest teaching load.

---

Nonsense. From a purely financial perspective, an academic career for an accoutant is a big negative NPV. But I wouldn't trade careers with anyone.

Richard Sansing

May 3, 2007 reply from Bob Jensen

Hi Richard,

Negative NPV makes no sense to me for new accounting PhDs. With universities paying over $180,000 (including summer stipends) as starting salaries plus generous amounts of free time for personal consulting fees and textbook writing, I have a difficult time calculating a negative NPV. And consulting opportunities are relatively easy to get in top universities because the elite names of those universities are a draw for faculty opportunities to consult and write books.

Most Harvard, Wharton, MIT, NYU, and Stanford professors that I know make more in consulting and royalties than their paltry salaries over $200,000 per year plus relatively generous travel allowances. The very top universities also provide incidental funding for research ranging from $10,000 to $30,000 each year (plus summer stipends in the range of $40,000 to $60,000).

When you make the NPV calculations you must also factor in the current fringe benefits averaging 30% of starting salaries. This includes health care and TIAA-CREF contributions. The 30% probably does not even count sabbatical leaves, discounts for child care, and entertainment opportunities such as concerts and theatre.

Sure an accounting or finance professor may have cut off chances of winning the CEO lottery, but this is a low-probability career track. Becoming a partner in a large CPA firm can be lucrative, but not necessarily on a present value basis considering the first ten years at relatively low salary (around $50,000-$60,000 per year) and the necessity to buy into (usually by borrowing) the partnership for those lucky few (less than 10% of the staff accountants) who are eventually invited to become partners.

If our recent undergraduates really took the trouble to compare the NPVs, I think newly-minted accounting professors have a comparable or even better outlook if the competing alternatives are weighted by the relatively low probabilities of becoming an executive partner in a large CPA firm. Smaller CPA firms are harder to compare, because they vary to such a huge extent. Some partners of small CPA firms net over a million dollars each year and many others barely scrape out a living in their home offices.

When you couple this with the wonderful lifestyle opportunities and sabbatical leaves, I always thought of myself as having lived in tall cotton for 40 years before I retired. Now I live in grass that's becoming too tall since I've put off mowing.

Bob Jensen

May 3, 2007 reply from Randy Kuhn [jkuhn@BUS.UCF.EDU]

CPA firm salary ranges obviously vary by location, but really not all that much honestly. Here in Orlando, staff auditors fresh out of school or even experienced hires from smaller firms into the new Big 6 are receiving offers of $50 with $2-3k signing bonuses this semester. This is consistent across the more popular disciplines (audit, tax, business advisory). Business advisory (business process & IT audit/consulting) starts to pull ahead at the manager stage and takes 1-2 years less per level for promotion. Whereas audit typically takes 12 years for partner, business advisory can be as quick as 9 years with a greater probability of making partner due to the demand/supply (not many hybrids out there that know financial, business process, and IT). As a 2nd year advisory manager (10 yrs exp) my base was $100k two years ago while the first-year audit senior manager with comparable experience received less than $90k which I think is on the low-end. The month I started the PhD program, one of my friends in a nearby office made audit partner at the age of 34 receiving a bump in salary from $150k to $225k with the promotion. Not sure about his loan though.

May 3, 2007 message from Bob Jensen

Hi Richard (Sansing),

I’m still trying to find a PhD program that extends beyond the blinders of the social science research paradigm. I need to look a little closer at Bentley’s new program. Also there are a few AIS tracks in existing programs, but my guess is that the AIS majors still have to take the econometrics qualifying courses and exams.

Your NPV sidetrack took us off the main issue regarding why our leading academic journals and virtually all of our accounting doctoral programs define accounting research as a social science that requires the requisite skills in advanced statistics, econometrics, psychometrics, sociometrics, etc.

The fact of the matter is that our current doctoral programs are critically unable to meet demand according to the AACSB and Plumlee et al --- http://www.trinity.edu/rjensen/395wpTAR/03MainDocumentMar2007.htm
The supply is steadily dwindling with less than 100 graduates per year (and less than 20 a year in auditing, tax, and systems). The demand is at least ten times the supply and probably higher. Accounting education programs will soon be to the point were virtually all of the instructors have no doctorates or have only doctorates in economics, law, education, etc.

The problem as I pointed out in earlier correspondence is a mismatch between accounting graduates who want to study and do research in accounting but have neither the aptitude nor an interest in becoming social scientists (and in particular econometricians studying capital markets). 

Accounting doctoral programs increasingly have ignored other research paradigms outside the social science paradigm. For example, I do not find humanities or legal research paradigm choices being offered in any accounting doctoral program. Philosophy departments, history departments, and law schools give doctorates to students who have few, if any, social science research skills.

Is there any university in the U.S. where a doctoral student can major in accounting history without having to become a social scientist? Is there a doctoral program in the U.S. where a student can major in accounting philosophy? Is there any doctoral program in the U.S. that uses a law school research paradigm?

And lastly, I would like to point out that our leading journals and award selection committees tend to ignore submissions based upon any research paradigm other than a social science research paradigm.

The AICPA and the AAA jointly award a "Notable Contributions to Accounting Literature Award" of $2,500 and a plaque at the AAA's annual meetings. For the past 20 years, these awards have virtually all gone to empirical research using positivist research methodologies.

This year I'm on the Selection Committee for the first time. The fact that the Screening Committee only gave us empirical studies to select from for the 2007 award to be granted in Chicago makes me wonder why only empirical studies are candidates for Selection Committee evaluation.

The criteria for the award are embedded in the following paragraphs at http://aaahq.org/awards/nominat3.htm

Begin Quote
**************
The Screening Committee for the Joint AICPA/AAA Notable Contributions to Accounting Literature Award invites nominations of outstanding articles, books, monographs, or other publications for consideration. Nominations from regular and irregular (e.g., AICPA-sponsored research studies or monographs) publications, as well as from nonaccounting publications, may be submitted as long as the nominated work is relevant to accounting. Both academic and practitioner nominations will be accepted.

Nominated items must have been published within the years 2002 to 2006. Each nomination must be accompanied by a brief supporting statement (no more than 150 words) summarizing reasons for the nomination that are consistent with the award selection criteria. These criteria include: uniqueness and potential magnitude of contribution to accounting education, practice and/or future accounting research; breadth of potential interest; originality and innovative content; clarity and organization of exposition; and soundness and appropriateness of methodology.

End Quote
**************

This important award can go to both research and other scholarly literature contributions in accountancy. The Award's research literature is not restricted to empirical research and positivist methods. What is curious to me is why only this subset of the literature is repeatedly the only winning subset.

What is even more curious this is why even the literature pieces forwarded this year are only esoteric empirical research studies of dubious value to "accounting education and practice." I say of "dubious value" in the sense of highly simplified modeling assumptions and no replication of the findings by other researchers.

Shouldn't the award winning literature item be at least independently replicated if it is an empirical research study? My previous lament over lack of replication in academic accounting research can be found at http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#Replication

The accountics bias seems to be rearing up repeatedly in this award process for the past two decades. Is it because of narrowness in the nomination process? Have members of the AAA given up nominating literature that is not of an esoteric accountics nature? Is it because only empirical research is deemed notable by the Screening Committees?

For more on the accountics bias in academe, go to http://www.trinity.edu/rjensen/395wpTAR/Web/TAR395wp.htm

Also see the various commentaries at http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#AcademicsVersusProfession

May 3, 2007 reply from Paul Williams [Paul_Williams@NCSU.EDU]

I agree that the conversation has drifted a bit from the original question, but if Bob's friend has been following this discussion, he might be inclined to think ill of his prospects for doing what he wants. It is largely the case now that U.S. PhD programs are as Jagdish and Bob have characterized them.

There are a few places in the U.S. where Bob's friend might be able to pursue an interest in accounting. Central Florida and South Florida are PhD programs that offer some diversity of faculty talent that provide a doctoral student with flexibility for pursuing whatever interest excites them.

North Texas and Case Western Reserve are other places. There are probably others, but they are fewer and farther between than they were when I went through the experience. If Bob's friend is adventuresome, there are many excellent doctoral opportunities at schools outside the U.S. For example, the University of Alberta has a diverse faculty, which allows the pursuit of interests that would simply not be tolerated in most U.S. doctoral programs.

Then there are schools in the UK and Australia. Adelaide, Wollongong, Cardiff, Strathclyde, Essex, the list goes on. These places afford someone a different experience from many US programs and provide much greater freedom to follow one's intellectual bliss than the stultifying places that are the U.S. "elite."

Paul

May 11, 2007 reply from Sue P. Ravenscroft [ACCT] [sueraven@iastate.edu]
Sue gave me permission to forward a somewhat laundered version of her original message. It confirms what I've been arguing aud nauseum. The number of accounting student doctoral graduates in the U.S. plunged to less than 100 per year to meet an exploding demand for accounting professors. A major cause of the shortage of applicants to doctoral programs is that these econometrics programs do not interest most accountants in the pool of possible applicants to such doctoral programs.  Nearly all available accounting doctoral programs (not just Tier I programs) are no longer accounting programs and have no dedicated accounting courses. They’re literally social science methodology programs with most emphasis on econometrics and no choices for other research methodologies --- http://www.trinity.edu/rjensen/395wpTAR/Web/TAR395wp.htm

Dear Bob,

I was just contacted by a wonderful young woman, who graduated from Iowa State University last year. She is bright, personable, hard-working, and interested in going into a PhD program. She is NOT interested in doing a highly quantitative economics-based program, but can handle the math and statistics needed for behavioral research. I feel fortunate in the timing of her inquiry, because I observed the discussion about a young man you know who is looking into doctoral schools, and the subsequent advice from Sansing that he consider only a Tier One school because of the "alleged choices" such schools provide versus the counter-advice of actually getting training to do what one loves.

The young woman has already received the Tier One type advice and was totally taken aback and turned off by it. The assistant professor who gave her that advice told her she should take two years of college level advanced math courses and then apply, because she is definitely bright enough to go to a Tier One school and should not even consider going to a Tier Two type institution. Her goal was to enter a program in fall of 2008. After that set-back she wrote me, and I was far more encouraging.......I told her that I had just seen a rather long (albeit sometimes almost hostile) exchange about the types of programs available and the wisdom of going to the "Tier One" schools even if that wasn't where one's interest or heart lay.....This student is a wise young woman and doesn't want to be trained to do something she doesn't want to do.....

So, I am writing to ask if you have a final listing of schools that might be more open to a variety of research approaches.....If so, could you please write to me (address above or to her). I would be ever so grateful.

Thank you very much.

Best regards,

Sue Ravenscroft

May 15, 2007 reply from Dana Carpenter [dcarpenter@MATCMADISON.EDU]

I have followed the need a favor thread with great interest. I am in my mid 40'sand have taught at community colleges (with a few years at bachelor granting universities) for 20 years following 3 years with KPMG. I have always wanted to get my doctorate for personal actualization and would be interested in teaching at a regional university. I scored 99 percentile on the verbal portion of the GMAT but just average on the Mathematics. Two years ago I was told during an interview with a very prestigous school that with a few semesters of calculus I could probably gain admission to their Ph. D Program. I was also admitted to a Ph. D in management at a different college. I decided against both options. I would definitely be interested in a DBA or some of the teaching oriented or blended accounting Ph. D's that have been discussed. In my situation (with fewer years left in my career) I am really not interested in a professorship at a Top Tier University. For the same reasons I hesitate to give up a job I love and earn no income for 4 or 5 years at a minimum. I would be interested in your response to the Accounting DBA question as well as specific ideas as to programs or perhaps a different field with a concentration in accounting.

Dana Carpenter
(608) 246-6590

May 4, 2007 reply from Bob Jensen

Your experience, Dana, is very typical of the many students at all ages who are turned off by having to study five years of social science research to obtain a tenure track position to be an accounting professor.

To my knowledge, the distinction between a PhD and a DBA from a Tier 1 research university is about as marked as the distinction between ketchup vs. catsup. Both doctoral degrees are intended to instill research skills in students intent on careers in academia. The DBA used to entail a more rounded set of business courses (management, organization behavior, finance, marketing, etc.) but I think most accounting PhD and DBA programs have dropped required courses except for a few research seminars and possibly some social science (especially economics) and statistics courses.

The DBA used to focus more on the "application of theory" as opposed to the "development of new theory" in a PhD program --- http://dr-hy.com/Menu-Bar/mVita/DBA-vs-PHD.html
In my opinion, these distinctions between the two degrees have largely evaporated. The U.S. Department of Education and the National Science Foundation recognize numerous research-oriented doctoral degrees such as the D.B.A. as "equivalent" to the Ph.D. and do not discriminate between them --- http://en.wikipedia.org/wiki/Doctor_of_Business_Administration
Certainly the distinction between DBA versus PhD in business schools  is not as great as the distinction between EED and PhD in schools of education.

Probably the best known business school that offers DBA and PhD degrees is the Harvard Business School. If you major in a traditional business area (e.g., accounting, marketing, management strategy, information technology) you get a DBA. If you major in business economics, health policy, or organization behavior you get a PhD. The actual distinction between the two designations is not at all clear to me. About the only thing I can tell is that some HBS doctoral students get ketchup on their hamburgers and others get catsup.

Most certainly, having a DBA will not change the criteria for obtaining tenure later in life. I do not know of any serious university that will put higher weightings on teaching performance for DBA faculty versus higher weightings on research for PhD faculty.

Amy Dunbar provided a link to a good listing of international doctoral programs --- http://aaahq.org/ata/_ATAMenu/phd-programs.htm 

Questions raised are how large each program is and what have been the trends in growth or shrinkage. As new doctoral programs came on line, the very large doctoral programs such as those in Illinois, Michigan, Texas, Indiana, and Michigan State greatly reduced doctoral program size in the 1986-2005 period. What used to be large programs shrank greatly in size. Some smaller programs like Rice have gone out of accounting doctoral programs entirely. Some like Minnesota seem to have disappeared without making any official announcements.

A listing of the history of U.S. accounting doctoral programs is provided in your free Prentice-Hall  Hasselback Accounting Faculty Directory (at least in the hard copy version). The Doctoral Program History table is on the page preceding the start of the alphabetized listing of accounting faculty by college. In don't think this table is available in Jim's Online Directory at http://rarc.rutgers.edu/raw/hasselback/

There are some errors in the Hasselback table that are due mainly to failures of some programs to accurately report their own data to Jim. But except for Penn State, I think the recent undercounting is relatively minor.

Jim also provides the totals by year. The last column is generally way off for the most recent year because of reporting time lags. However, the preceding columns are relatively accurate.

In the past twenty years, the most accounting doctoral graduates reported for the U.S. was 207 in 1988. The least was 69 in 2003. It has not been over 100 since 2001.

The depressing Plumlee et al (2006) study is probably more accurate for the year 2004. Further analysis is provided at http://www.trinity.edu/rjensen/395wpTAR/Web/TAR395wp.htm 

Bob Jensen

May 11, 2007 reply from Bob Jensen

A summary listing of non-traditional programs was provided by Paul Williams in the listing of messages at http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#DoctoralPrograms

The snipped version is http://snipurl.com/1jb1g

One of the subsequent messages that I sent to my Student YYYYY is shown below:

Message from Bob Jensen to YYYYY

I’m particularly happy that you’re now motivated to become an accounting educator. I loved this profession.

First and foremost is your GMAT score that determines almost everything regarding admission to any respectable doctoral program. Consider all your options for having as high a score as possible.

Second you need to honestly evaluate your aptitude for statistics and mathematics. Nearly all accounting doctoral programs are tantamount to econometrics programs these days with great stress on econometrics models of capital markets data.

I don’t know if you followed the recent AECM lively exchange on this topic or not. You can read some of the messages at http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#DoctoralPrograms

A listing of doctoral programs is provided at
http://aaahq.org/ata/_ATAMenu/phd-programs.htm

I know you are somewhat interested in taxation. In nearly all instances, taxation doctoral students still have to master the econometrics requirements of capital markets research.

If you are looking for the handful of programs that allow you to customize your program and possibly cut back on the econometrics hurdles, I recommend that you look into the following programs, messages about which appear at http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#DoctoralPrograms

Bentley College (Boston) This is a new program that I don’t yet know much about. Bentley is a very good accounting and finance college, although I would not expect it to be strong for a tax concentration.

Case Western University (Cleveland)
University of Central Florida (Orlando)
University of South Florida (Tampa)
University of North Texas (Denton)

Various programs outside the U.S. (Please scroll down to the informative message from Paul Williams in this regard) --- http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#DoctoralPrograms

If I can be of further help, please let me know.

Bob Jensen

 

May 12, 2007 reply from Richard C. Sansing [Richard.C.Sansing@DARTMOUTH.EDU]

--- Sue Ravenscroft wrote (to Bob Jensen, who then posted it here):

I feel fortunate in the timing of her inquiry, because I observed the discussion about a young man you know who is looking into doctoral schools, and the subsequent advice from Sansing that he consider only a Tier One school because of the "alleged choices" such schools provide versus the counter-advice of actually getting training to do what one loves.

---

For those interested in what I actually said, as opposed to how it is characterized above, I repeat it below.

"I would encourage your friend to think about the real option aspect of this decision. He should be very confident of his decision to not pursue a Ph.D. at a research-oriented program before bypassing that option. If he studies at Chicago and makes an informed decision not to pursue "mainstream" academic research, then he will be over-trained for his dream job at the kind of liberal arts college you describe. But he also has the option of pursuing the research route. But if he studies at a place that puts less emphasis on research methods, he has limited his options at the outset."

Later in the same thread, I also said:

"My point was that the decision Bob's friend makes regarding a Ph.D. program will significantly affect the opportunities that he or she faces upon graduation, which will in turn affect subsequent academic opportunties as well. Unless one is very sure about what what one's preferences will be in the future, the course of action that preserves options has a lot to recommend it. Whether one ultimately prefers a career that features both research and teaching, or wants to teach and do no research, it would be nice to have the skill set needed to make have a real choice."

Richard Sansing

May 12, 2007 reply from Bob Jensen

Hi Richard,

Even better advice would be to avoid accounting altogether if you want to be a top researcher in a Tier 1 accounting research university. Consider the role model examples. Ron Dye (Northwestern Accounting Professor) has his doctorate and undergraduate degrees in mathematics and economics with almost no accounting. Some of our other top accounting researchers have management science, mathematics, econometrics, and psychometric doctorates with very little in the way of accountancy education and/or experience in accounting practice. What accounting they learned is when having to teach a little about it after they became professors.

I'm not trying to be facetious or cynical here. Those of us that majored in accounting for five years had to take a lot more time in college to earn a doctorate in an accounting doctoral program. It is actually quite costly in time and opportunity cost to first become an accountant and then enter one of our present accounting doctoral programs. It is far more efficient to major in economics and then earn an econometrics doctorate from a prestigious Economics Department. Equally great is to earn a doctorate in computer science.

The only risk of not having an accounting background as far as I can tell is the risk of not getting tenure in a Tier 1 accounting university. Without accounting, it is more difficult for tenure rejects to become accounting teachers in Tier 2 and Tier 3 colleges and universities. Those universities typically require more knowledge of accountancy.

Accounting majors realistically face 12 years of full-time undergraduate and graduate studies before graduating with a doctorate in an accounting program. On top of that, accounting doctoral programs prefer that doctoral candidates have 1-5 years of accounting practice experience. This adds up to 13-17 years to graduate from an accounting doctoral program.

An economics major can earn an economics doctorate in seven years of full-time studies before graduating with a doctorate from an Economics Department. If she or he bothers to earn a MBA degree along the way, it may take eight years to complete the doctorate. Under new AACSB rules, doctoral graduates in economics, statistics, mathematics, psychology, etc. are fully qualified to become accounting professors.

I must admit that I reasoned exactly like you, Richard, until I pushed Student XXXXX into a Tier 1 accounting doctoral program that he withdrew from after his first semester in spite of his being a brilliant math student (double major with accounting).This unfortunate outcome made me think more seriously about why the pool for accounting doctoral students is drying up.

Once again consider the Plumlee et al findings:  Plumlee et al. (2006) discovered that there were only 29 doctoral students in auditing and 23 in tax out of the 2004 total of 391 accounting doctoral students enrolled in years 1-5 in the United States. The number of graduates has shrunk to less than 100 per year.

If the Tier 1 accounting doctoral programs (and in fact virtually all accounting doctoral programs) require that all applicants have the advanced mathematics, statistics, and economics, we have in fact added possibly two more years to a five-year accounting program just to enter the accounting doctoral program applicant pool. Alternately, an applicant might be admitted provisionally into an accounting doctoral studies program and take the two years of econometrics preparatory courses in what becomes tantamount to a six or seven year doctoral full-time studies program in graduate school.

My conclusions are as follows.

1. To become an accounting professor in a Tier 1 accounting program it is far more efficient and possibly more effective (toward tenure) to earn social science, mathematics, or statistics doctorate outside accounting in a highly prestigious university. Accounting doctoral programs are actually inefficient alternatives to becoming an accounting professor in a Tier 1 accounting program unless you cannot get into a highly prestigious non-accounting doctoral program.

2. The pool of applicants for accounting doctoral programs is drying up. Accountants with 1-5 years of experience typically want to study accounting if they choose to enter a doctoral program. Since virtually all accounting doctoral programs in the United States are social science (particularly econometrics) programs with few if any accounting courses, these programs do not appeal to accountants. These doctoral programs might appeal to economists and statisticians, but it is far more efficient to earn economics and statistics doctorates from Departments of Economics and Statistics.

Thus I gave the wrong advice to my Student XXXXX who was a brilliant dual major in accounting and mathematics. Instead of recommending a doctoral program in accounting (where he really did not want a forced feeding of econometrics), I should've recommended that he go directly into a prestigious mathematics doctoral program. Then he could ultimately apply to become an accounting professor in a Tier 1 accounting research university after getting his mathematics doctorate.

Since the number of graduates from accounting doctoral programs is less than 100 students per year, Tier 1 research universities are often forced to seek top graduates from non-accounting doctoral programs such as econometrics and management science programs in prestigious universities.

Isn't it sad that for some accounting professors like me, majoring in accounting was wasted time.

Bob Jensen

May 13, 2007 reply from Richard C. Sansing [Richard.C.Sansing@DARTMOUTH.EDU]

Bob,

I suspect that Ron Dye would recommend studying under Ron Dye at Kellogg's accounting Ph.D. program! One way to find out-- I'll ask him and post his response.

Some of your analysis seems exaggerated. I came into the doctoral program with a very weak math background. In my three years of coursework, roughly 1/3 of my classes were accounting research seminars and 2/3 were math and economics classes. When you say:

"If the Tier 1 accounting doctoral programs (and in fact virtually all accounting doctoral programs) require that all applicants have the advanced mathematics, statistics, and economics, we have in fact added possibly two more years to a five-year accounting program just to enter the accounting doctoral program applicant pool."

you are double counting. You take those "tools" courses during the five-year accounting doctoral program, not in addition to it.

I think that trying to become an accounting researcher without taking the accounting research seminars and attending the weekly accounting research workshops would be very difficult.

I would ask someone considering an accounting academic career what sort of questions they would like to answer. Much of this thread has framed the questions in negative terms "How do I avoid course X during my doctoral program?" rather than in positive terms "How do I learn how to answer question Y?"

Richard Sansing

May 14, 2007 reply from Bob Jensen

Hi Richard,

"Three years" is bad advice these days! Your college (Dartmouth) does not have a doctoral program. Let me use as a benchmark what I view as a typical accounting doctoral program in the 21st Century. The University of Florida writes that it takes 4-5 years to complete an accounting PhD for students entering with strong mathematics backgrounds. Students who must additionally take the "mathematics preparatory courses" must anticipate six or seven years of full-time effort.

Apparently your experience (advice?) differs from the advice given by the accounting professor who advised Sue's accounting graduate to take two more years "advanced mathematics" before applying to accounting doctoral programs.

It also differs from my experience trying to place some top accounting graduates in accounting doctoral programs in recent years. Nearly all who were admitted had significantly stronger mathematics credentials than those that were rejected.  Most programs now advise applicants that (even those with math credentials and masters degrees) the accounting doctoral program will take 4-5 years (See the University of Florida statement quoted below).

In fact most universities make a concerted effort to recruit accounting doctoral program candidates who do not have accounting degrees. Virtually every accounting doctoral program has a mathematics matriculation requirement that is now quite formidable (possibly more so for applicants today than for us applicants in the 20th Century). Consider the following statement at the Fisher School of Accounting Website at the University of Florida.

Note in particular the suggested admission alternatives of "economics, engineering, mathematics, operations research, psychology, and statistics." No mention is made of such undergraduate degrees as history, philosophy, or other humanities degrees, and I suspect that unless a humanities graduate is very strong in mathematics, the chances are zero of being admitted to most any U.S. accounting doctoral program even among humanities graduates that are actively recruited by top law schools. By the way, top law schools in particular recruit accounting graduates more aggressively than accounting doctoral programs in my opinion. One of the major reasons for the shrinking pool of applicants to accounting doctoral programs is the now preferred option to go to law school (including some who want to specialize in tax and eventually teach tax at the college level with a JD credential).

Begin Quote
*************

University of Florida Ph.D. in Business Administration - Accounting

Ph.D. Program - Accounting Concentration This program is open to all applicants who have completed an undergraduate degree. Individuals with a degree in a non-business discipline (e.g., economics, engineering, mathematics, operations research, psychology, statistics) are encouraged to apply. Program Details (pdf) Students are required to demonstrate math competency prior to matriculating the doctoral program. Each student's background will be evaluated individually, and guidance provided on ways a student can ready themselves prior to beginning the doctoral course work. There are opportunities to complete preparatory course work at the University of Florida prior to matriculating our doctoral program. The accounting concentration is designed to be completed in four to five years. The first year of the program is essentially lockstep with doctoral students in economics and finance. Starting in the second year, individual course work is designed by the student in consultation with his or her supervisory committee and the accounting graduate coordinator. Other than the Accounting Seminars (listed below) there are no specific required courses after the first year of the program. Accounting Seminars: ACG 7939 Theoretical Constructs in Accounting ACG 7979 Accounting Readings and Replication ACG 7885 Empirical Research Methods in Accounting ACG 7979 Accounting Readings and Research Project ACG 7887 Research Analysis in Accounting Ph.D. Co-Major Program with the Department of Statistics A program of study for a single degree in which a student satisfies co-major requirements in two separate academic disciplines that offer the Ph.D.

End Quote
*************

Is there any accounting doctoral program in the United States that encourages humanities graduates to apply? Is there an accounting doctoral program in the entire United States that has a co-major with the Department of Philosophy or the Department of History?

As of today, The University of Florida graduated four accounting PhDs since Year 2000. As far as I can tell, none of them were undergraduate accounting majors. Degrees in engineering, economics, and mathematics most likely hastened completion of their doctoral degrees in accounting at Florida in less than six or seven years. I mention Florida only because Florida is not a unique accounting doctoral program in this regard. I commend Florida for being more honest than some when stating the program requirements.

The bottom line is that I don't think that the doctoral program that you (Richard) entered "with a very weak math background" and completed in three years makes you a relevant role model for today's applicants to doctoral programs. My reading is that today you could not even be admitted to the University of Florida accounting doctoral program unless you completed the "preparatory course work at the University of Florida prior to matriculating our doctoral program." We (you and me) are no longer role models in that regard for applicants to accounting doctoral programs.

In my case I was admitted to the doctoral program but then had to take all those extra undergraduate math, operations research, economics, and statistics courses while in the program. My PhD graduation would've been hastened at Stanford if I had majored in mathematics or statistics instead of accounting as an undergraduate. I perhaps then could've graduated in three years instead of the five full (and delightful) years that I spent in Palo Alto. Now I think it requires six or seven years in Palo Alto for candidates who must take the preparatory undergraduate courses. In my day we did not have all those accounting research seminars at the graduate level.

Bob Jensen

May 13, 2007 reply from

Bob,

You are not confused. And I am not brainwashed. ;-)

My point, as you well know, is that when we do research using archival data we need math skills. Different types of research appear to be rewarded differently, as evidenced by the salary differentials across the schools at a university.

Amy

May 14, 2007 reply from Bob Jensen

Hi Amy,

You wrote that "when we do research using archival data we need math skills."

To which I respectfully reply as follows:

Not everything that can be counted, counts. And not everything that counts can be counted.
Albert Einstein

I think that you're confining doctoral scholarship to archives that can be counted and overlooking the archives, possibly the most relevant archived information, that cannot be counted.

In the United States, following the Gordon/Howell and Pierson reports, our accounting doctoral programs and leading academic journals bet the farm on the social sciences without taking the due cautions of realizing why the social sciences are called "soft sciences." They're soft because "not everything that can be counted, counts. And not everything that counts can be counted."

It seems to me that history scholars have a much longer history of analyzing archival data than most any other type of scholars, I wonder what the discipline of history would’ve become if every history scholar over the past 1,000 years had to have two years of preparatory “advanced mathematics” before entering a doctoral program in history.

It seems to me that legal scholars have a very long and scholarly history of doing research on archival data, especially court records, I wonder what the discipline of law would’ve become if every legal scholar over the past 1,000 years had to have two years of preparatory “advanced mathematics” before entering a JD program.

Many of our serious professional problems needing research in accounting are closer to law than economics. Particularly vexing are the issues of how to account for complex contracts (e.g., those with derivatives, contingencies, and intangibles) in settings where the contracts are being written to deceive investors and creditors. Must years of advanced mathematics and econometrics necessary conditions for conducting academic research to help the profession with these contracts?

Where would we be in medicine, law, and most other professions if it was dictated on high that all their doctoral programs had to require advanced mathematics? Would they find themselves in the mess we have today in academic accounting in the United States where the pool of potential doctoral candidates is drying up?

Would we find ourselves in the mess of having to rely on adjuncts to teach more of the accounting courses than our tenure-track faculty who bargained for minimal teaching and maximal salaries and benefits so they could conduct econometric and psychometric research with models of dubious relevance to the practicing profession?

Why is it that virtually all of our doctoral programs in accounting are now being shunned by so many accounting professionals who would like to teach accounting, auditing, tax, or AIS but are turned off by having to first take preparatory courses in advanced mathematics and not have the opportunity for studying accounting in accounting doctoral programs?

In academic accounting we’ve almost all been seduced by frustrated economists in the U.S. who found a way to secure a monopoly by putting up barriers to entry that shrinks the supply of accounting doctoral graduates and lifts the salaries of accounting professors to the highest levels in every university. Most of us, especially me, have benefited from these barriers to entry. But in the process, we’ve widened the schism between professors of accounting and the accounting profession and students of accounting.

These barriers to entry to doctoral programs have frustrated practicing accountants to a point where doctoral programs like the one at the University of Florida are in many cases more appealing to non-accountants ("economics, engineering, mathematics, operations research, psychology, and statistics") who can matriculate into the program with their advanced mathematics skills and graduate from the program without every having studied the things we teach our undergraduates and masters students in accounting. In fairness, the current body of eight accounting doctoral students at the University of Florida has three candidates with undergraduate degrees in accounting. Others include a mathematics major, a statistics major, a finance major, a commerce major, and a student who majored in economics. The finance major also earned a masters of accounting degree.

It seems to me that in the United States after the Gordon/Howell and Pierson reports our accounting doctoral programs and leading academic journals bet the farm on the social sciences without heeding the due cautions of realizing why the social sciences are called "soft sciences." They're soft because "not everything that can be counted, counts. And not everything that counts can be counted."

Why is it that only outside the United States various accounting doctoral programs in prestigious universities have seen the light regarding diversity of research methodologies in academic accountancy?

Bob Jensen

May 13, 2007 reply from Richard C. Sansing [Richard.C.Sansing@DARTMOUTH.EDU]

--- Bob Jensen wrote:

Even better advice would be to avoid accounting altogether if you want to be a top researcher in a Tier 1 accounting research university. Consider the role model examples. Ron Dye (Northwestern Accounting Professor) has his doctorate and undergraduate degrees in mathematics and economics with almost no accounting. Some of our other top accounting researchers have management science, mathematics, econometrics, and psychometric doctorates with very little in the way of accountancy education and/or experience in accounting practice. What accounting they learned is when having to teach a little about it after they became professors.

--- end of quote ---

Here is Ron's response, along with the question that I posed to him.

About the question: by and large, I think it is a mistake for someone interested in pursuing an academic career in accounting not to get a phd in accounting. If you look at the "success" stories, there aren't many: most of the people who make a post-phd transition fail. I think that happens for a couple reasons. 1. I think some of the people that transfer late do it for the money, and aren't really all that interested in accounting. While the $ are nice, it is impossible to think about $ when you are trying to come up with an idea, and anyway, you're unlikely to come up with an idea unless you're really interested in the subject. 2. I think, almost independent of the field, unless you get involved in the field at an early age, for some reason it becomes very hard to develop good intuition for the area - which is a second reason good problems are often not generated by "crossovers."

The bigger thing - not related to the question you raise - but maybe you could add to the discussion is that there are, as far as I can tell, not a lot of new ideas being put forth by anyone in accounting nowadays (with the possible exception of John Dickhaut's neuro stuff). In most fields, the youngsters are supposed to come up with the new problems, techniques, etc., but I see a lot more mimicry than innovation among newly minted phds now.

Anyway, for what it's worth....

Ron

May 14, 2007 reply from Bob Jensen

Hi Richard,

I thank you for obtaining a reply from Ron Dye. He's one among a number of leading researchers who became an accounting professor without having a background in accounting. He's also one of the finest mathematics researchers in academic accounting.

What is especially interesting to me is Ron's conclusion that essentially our highly touted and highly selective accounting doctoral programs (with the highest-paid graduates in academe) in the United States are pretty much failures if we define research as the creation of new and innovative knowledge. I love his choice of the word  "mimicry" in his following conclusion:

Begin Quote
**********************

The bigger thing - not related to the question you raise - but maybe you could add to the discussion is that there are, as far as I can tell, not a lot of new ideas being put forth by anyone in accounting nowadays (with the possible exception of John Dickhaut's neuro stuff). In most fields, the youngsters are supposed to come up with the new problems, techniques, etc., but I see a lot more mimicry than innovation among newly minted phds now.

**********************
End Quote

I might add that John Dickhaut is nowhere close to being a newly-minted doctoral student. He's an old guy who got his PhD at Ohio State in 1970 before Ohio State transitioned into its present highly mathematical accounting doctoral program. This illustrates how innovative research can come from graduates of accounting doctoral programs that do not (at least way back then) require advanced mathematics.

I suggested that Ron Dye's route to becoming an accounting academic was more efficient in the sense of taking less time (three  years in an economics doctoral program at Carnegie built upon his mathematics undergraduate degree) rather than the route of entering an accounting doctoral program where it now takes 4-5 years built upon a mathematics undergraduate degree or 6-7 years built upon a typical accounting undergraduate degree if the student has to take the two years of preparatory mathematics required by many of our top accounting doctoral programs.

In terms of accountics, I think our econometrics-based accounting doctoral programs are probably better for us than doctoral programs in the economics departments because accounting doctoral students are more likely to conduct research on archival databases that are more of interest in accounting than are the databases of interest to economics departments. The downside is that the econometrics studies published in leading accounting research journals by graduates of accounting doctoral programs have probably reflected mostly "mimicry" lamented by Professor Dye.

In his message Professor Dye does not recommend that his streamlined route to becoming an accounting professor (without an accounting education background) serve as a role model. I tend to agree, although I now have newer doubts. I'm currently evaluating publications submitted for the 2007 AICPA/AAA Notable Contributions to Literature Award. The Award's Screening Committee filtered out all submissions that were not accountics papers. Among those accountics papers submitted to our Selection Committee by the Screening Committee, many of the authors do not have accounting backgrounds and some of the submissions are from such journals as Management Science and the Journal of Financial Economics. My recommendation for the award will actually be a finance professor's paper that made it through the Screening Committee. Sadly we have to go to finance and management science graduates to find our most notable contributions to accounting literature.

This is consistent with Ron's claim that among graduates of accounting doctoral programs "I see a lot more mimicry than innovation among newly minted phds now." Even some of our so-called Seminal Contributions to Accounting Research Award-winning studies mimicked a lot from prior research of economics and finance professors

Thanks to Ron Dye's reply, I'm even more concerned about our doctoral programs in accounting and our leading academic accounting journals --- http://www.trinity.edu/rjensen/395wpTAR/Web/TAR395wp.htm

Thanks for the favor Richard!

Bob Jensen

May 3, 2007 reply from J. S. Gangolly [gangolly@CSC.ALBANY.EDU]

1.
Students consider many factors before deciding to enter an accounting PhD program, some of them random and/or serendipitous (as in my case; my would-be advisor in Operations Research passed away within four months of my stay in the program). But we need to ask why there are no takers inspite of the astronomical salaries we offer, while outstanding candidates are begging to be admitted into Phd programs in disciplines where tenure-track positions are almost non-existent, or where a doctoral degree is only ticket to years of serfdom as Postdocs.

The simple answer is that our field, AS WE PORTRAY IT, is just not exciting to a young inquiring mind. In accounting there is no Fermat's last theorem to be proved (as in mathematics), nor Hilbert's entscheidungsproblem to be solved (as in Computing), nor the mind-body problem (as in philosophy), nor new chemicals to be synthesised (chemistry), grammar of lost languages to be discovered (anthropology), genes to be targeted (medicine)....

A long time ago, Yuji Ijiri tried to convince us that there were fundamental problems in accounting that are equally challenging. How many of us even remember them today, or even have heard of them?

Most of us have sought to use statistics the same way a drunk uses a lamp post -- more for support than for illumination (apologies to Mark Twain).

I personally think that often, these days, people get into a PhD for a wrong reason, and some times live to regret it.

We accounting academics, especially in the so-called research universities, are living a lie, thanks to AACSB. We portray ourselves as scholars and yet rarely interact with the scholarly community on our campuses. We claim to be academics in a professional discipline and yet hardly interact with the profession in a meaningful way. Aren't we like race horses with blinders on and no jockies?

2.
The shortage of PhD students in non-financial areas is also rigged. We make it clear to the students which side of the toast is buttered. We dump on journals in accounting other than those in the financial area which publish the so-called "mainstream" (I prefer the term stale) research. Then we make life difficult at tenure time for those who have not toed the party line. We tolerate third rate pedagogy as long as it releases time for prima donnas to indulge in stale irrelevant research. Then we squabble over what is "real" research, and why what every one else is doing is not that. Is this a recipe for recruiting young inquiring minds into our discipline?

I left the corporate world in the early seventies because I was fascinated with the problems I had to deal with there (mostly in operations) and the promise that Operations Research offered. Today, however, As someone at the front end of the baby boom generation, I sometimes wonder if, were I shopping today for a PhD program, I would leave the corporate world if my success depended on toeing the party line.

Jagdish

May 13, 2007 reply from Roger Debreceny [Roger@DEBRECENY.COM]

Just a plug for the Shidler PhD program. Given the strategic direction of the Shidler College in international management, our PhD program is somewhat different than the usual program. The program is in International Management, with specializations in accounting, marketing, MIS and so on. Details at http://shidler.hawaii.edu/Programs/Graduate/PhDinInternationalManagement/PhDOverview/tabid/382/Default.aspx . We're always looking for high quality candidates,

Roger Debreceny
Shidler College Distinguished Professor of Accounting
School of Accountancy
Shidler College of Business
University of Hawai`i at Mānoa
2404 Maile Way, Honolulu, HI 96822, USA
roger@debreceny.com     rogersd@hawaii.edu 
Office: +1 808 956 8545 Cell: +1 808 393 1352
www.debreceny.com 

May 13, 2007 reply from Dan Stone, Univ. of Kentucky [dstone@UKY.EDU]

Please add the Univ. of Kentucky to the list of doctoral programs that seek students interested in, and support, a variety of research methods and topics. For example, among the 12 doctoral students in residence currently, we have students pursuing research related to:

1. XBRL

2. Accounting issues related to environmental sustainability 3. Knowledge management in professional service firms 4. Applications of self-determination theory to motivating accounting professionals 5. Accounting methods to aid economic development in emerging economies 6. Corporate social responsibility (CSR) reporting

Information about the Univ. of Kentucky doctoral program is available at:

http://gatton.uky.edu/Programs/ACC/DoctoralDegreeInformation.html

We typically admit 2-3 students per year to the program.

Happy Mother's Day!

Dan Stone (dstone@uky.edu)
Director of Graduate Studies
University of Kentucky

June 12, 2007 reply from doctoral student Randy Kuhn [jkuhn@BUS.UCF.EDU]

Later this week, I will be attending the AAA doctoral consortium held in Tahoe each year as a representative of the University of Central.

Later this week, I will be attending the AAA doctoral consortium held in Tahoe each year as a representative of the University of Central Florida. A few minutes ago I received the message below from one of the professors who will be presenting to the doctoral candidates. Apparently, some of the students attending do not feel his non-archival style of research is worth discussing at the consortium and complained to one of the organizers prompting a well-established professor from an elite private institution to essentially justify his place on the agenda BEFORE we even arrive. I find this behavior not only completely rude and disrespectful but just plain anti-academic from many angles. These folks are complaining about one article out of 21. Should I email the organizer complaining that two-thirds of the material on the agenda is from a neo-classical, efficient markets slant in which I have no interest? My head was spinning in circles for hours trying to grapple with the analytical models that ultimately told me what I already intuitively knew. I’m game for new experiences and will embrace the opportunity to learn about others’ research. Isn’t that what academia is supposed to be about? In the back of my mind I kind of hope one of the complainers is my roommate so I can bore him to tears each night discussing how accounting choices exist, are made by people, are quite often not rational, and have mega impacts to society. Ok enough of my diatribe, see the lengthy note to the consortium participants below.

-Randy

June 12, 2007 reply from doctoral student Randy Kuhn [jkuhn@BUS.UCF.EDU]

Boy, did I misconstrue the original email from the professor. I emailed the professor to express my interest in his subject matter and he responded by stating that he did not mean to imply students had complained negatively about his articles. Rather, several students complained about the overwhelming econometrics-based research on the agenda and lack of diversity in the consortium curriculum. Big oopsy on my part! That is a much brighter situation!

June 12, 2007 reply from Sue P. Ravenscroft [sueraven@IASTATE.EDU]

Randy,

Thanks for the update....I am delighted to hear that doctoral students are finally expressing some dissatisfaction at the constrained nature of what is considered "good" research! As we attempt to replace the retiring professoriate, we need to attract more people, which should mean that we become more catholic in our research approaches, rather than more restrictive.

Sue Ravenscroft

June 12, 2007 reply from Paul Williams [Paul_Williams@NCSU.EDU]

Randy, et al.,

This is encouraging. When I attended the doctoral consortium the only thing that was on the agenda was EMH. The consortium has historically been an avenue for the ideologues (just check out who the faculty at that thing have been over the years). At the one I attended, Sandy Burton was invited for what appeared to be the sole purpose of humiliating him because of his "naïve" beliefs about accounting and security markets (he was invited to be the "normative" that the "positives" aimed to purge from the academy).

The tide may be turning. Given your interests, there are some recent books you might find useful.

Bent Flyvbjerg, "Making Social Science Matter," Cambridge University Press, 2001. Relying on research mainly from cognitive psych and sociology he makes the case that, "Predictive theories and universals cannot be found in the study of human affairs. Concrete, context-dependent knowledge is therefore more valuable than the vain search for predictive theories and universals (p. 73)."

A much better book than The Black Swan is David Orrell's (Oxford U. PhD in mathematics), "The Future of Everything: The Science of Prediction," Thunder's Mouth Press, 2007. Using the phenomena of weather, securities markets, and genetic variablility as examples he argues that complexity makes such phenomena "uncomputable," thus predicting them with mathematical precision is impossible. Those wanting to understand Bob's animus to "accountics" might find this a useful read.

Related, but specific to environmental science is Orrin H. Pilkey and Linda Pilkey-Jarvis, "useless arithmetic: Why Environmental Scientists Can't Predict the Future," Columbia University Press, 2007.

Paul

 

June 13, 2007 reply from Mac Wright [mac.wright@VU.EDU.AU]

Dear Randy, et al.,

Another book which might lend an interesting direction to a discourse on the SEC is Clarke, F., Dean, G., Oliver, K. Corporate Collapse – Accounting, regulatory and ethical failure, Cambridge University Press, Cambridge, 2003.

While directed at the Australian regulatory framework, the argument could be applied with equal validity to the SEC.

Kind regards,
Mac Wright
Co-Ordinator Aviation Program
Victoria University
Melbourne Australia

Fabio's Grad School Rulez (not humor) --- http://orgtheory.wordpress.com/grad-skool-rulz/

GMAT: Paying for Points
Test-prep services can be a big help as applicants prepare for the B-school admissions exam. Here, a rundown of some well-known players
by Francesca Di Meglio
Business Week, May 22, 2007
http://www.businessweek.com/bschools/content/may2007/bs20070522_855049.htm

If you're thinking of applying to B-school, then you're likely also wondering how to conquer the Graduate Management Admission Test (GMAT)—and whether a commercial test-preparation service, which can cost upwards of $1,000, is right for you.

Although admissions committees, even at the best-ranked B-schools, will tell you that your GMAT score is only one of many criteria for getting accepted, you still should plan on earning between 600 and a perfect 800, especially if you're gunning for the A-list. (To find the average and median GMAT scores of accepted students in individual programs, scan the BusinessWeek.com B-school profiles.)

. . .

One popular option is consulting a test-prep company that provides everything from group instruction to online courses. Here's an overview of the most popular GMAT test-preparation services in alphabetical order. For more opinions on the various test-prep services from test takers themselves, visit the BusinessWeek.com B-School forums, where this subject comes up a lot. And you can also check out BusinessWeek.com's newly updated GMAT Prep page --- http://www.businessweek.com/bschools/gmat/

Continued in article

Jensen Comment
The above article then goes on to identify the main commercial players in GMAT coaching for a fee, including those with coaching books, coaching CDs, coaching Websites, coaching courses, and one-on-one coaching tutorials with a supposed expert near where you live. The Business Week capsule summaries are rather nice summaries about options, costs, pros and cons of each coaching option.

Kaplan --- http://www.kaptest.com/

Manhattan GMAT --- http://www.manhattangmat.com/gmat-prep-global-home.cfm

Princeton Review --- http://www.princetonreview.com/mba/default.asp

Veritas --- http://www.veritasprep.com/

Business Week fails to mention one of the better sites (Test Magic) , in my viewpoint, for GMAT, SAT, GRE, and other test coaching:

Advice to students planning to take standardized tests such as the SAT, GRE, GMAT, LSAT, TOEFL, etc.
See Test Magic at http://www.testmagic.com/
There is a forum here where students interested in doctoral programs in business (e.g., accounting and finance) and economics discuss the ins and outs of doctoral programs.

Bob Jensen's threads about higher education controversies are at
http://www.trinity.edu/rjensen/HigherEdControversies.htm

Natural blondes are going extinct. It's a published fact!
Suppose this study had actually been reported a leading accounting research journal such as The Accounting Review.
Keep in mind that leading accounting research journals do not publish replication studies.
As a result few accounting researchers conduct replication studies since they cannot be published.
The logical deduction becomes that accountants would forever think that natural blondes are going extinct.

From the WSJ Opinion Journal on March 6, 2006

"Media outlets around the world, from CBS, ABC and CNN to the British tabloids" all fell for a hoax--a fake study from the World Health Organization claiming blondes are going extinct.

The Washington Post reported http://www.washingtonpost.com/wp-dyn/articles/A30318-2002Oct1.html
(Actually I think the story was removed with some very red faces)

"The decline and fall of the blonde is most likely being caused by bottle blondes, who researchers believe are more attractive to men than true blondes," said CBS "Early Show" co-host Gretchen Carlson.

"There's a study from the World Health Organization--this is for real--that says that blondes are an endangered species," Charlie Gibson said on "Good Morning America," prompting Diane Sawyer to say she's "going the way of the snail darter." . . .

"We've certainly never conducted any research into the subject," WHO spokeswoman Rebecca Harding said yesterday from Geneva. "It's been impossible to find out where it came from. It just seems like it was a hoax."

The health group traced the story to an account Thursday on a German wire service, which in turn was based on a two-year-old article in the German women's magazine Allegra, which cited a WHO anthropologist. Harding could find no record of such a man working for the WHO.

Hey, if you're a journalist, we've got a great human-interest story for you: Did you hear about the blonde who invented the solar flashlight? --- http://www.zelo.com/blonde/no_brains.asp

Now you see how ridiculous the accounting journal policy of not publishing replications becomes. Hopefully this published story in a leading U.S. newspaper (I mean The Washington Post that broke the Watergate scandal) the next time you read the findings in a leading accounting research journal.

A Fraudulent Paper Published in Nature, a Prestigious Science Journal
Another Case for Better Replication in Research Reporting

"'Grape harvest dates are poor indicators of summer warmth', as well as about scientific publication generally," by Douglas J. Keenan, Informath, November 3, 2006 ---  http://www.informath.org/apprise/a3200.htm 

That is, the authors had developed a method that gave a falsely-high estimate of temperature in 2003 and falsely-low estimates of temperatures in other very warm years. They then used those false estimates to proclaim that 2003 was tremendously warmer than other years.

The above is easy enough to understand. It does not even require any specialist scientific training. So how could the peer reviewers of the paper not have seen it? (Peer reviewers are the scientists who check a paper prior to its publication.) I asked Dr. Chuine what data was sent to Nature, when the paper was submitted to the journal. Dr. Chuine replied, “We never sent data to Nature”.

I have since published a short note that details the above problem (reference below). There are several other problems with the paper of Chuine et al. as well. I have written a brief survey of those (for people with an undergraduate-level background in science). As described in that survey, problems would be obvious to anyone with an appropriate scientific background, even without the data. In other words, the peer reviewers could not have had appropriate background.

What is important here is not the truth or falsity of the assertion of Chuine et al. about Burgundy temperatures. Rather, what is important is that a paper on what is arguably the world's most important scientific topic (global warming) was published in the world's most prestigious scientific journal with essentially no checking of the work prior to publication.

Moreover—and crucially—this lack of checking is not the result of some fluke failures in the publication process. Rather, it is common for researchers to submit papers without supporting data, and it is frequent that peer reviewers do not have the requisite mathematical or statistical skills needed to check the work (medical sciences largely excepted). In other words, the publication of the work of Chuine et al. was due to systemic problems in the scientific publication process.

The systemic nature of the problems indicates that there might be many other scientific papers that, like the paper of Chuine et al., were inappropriately published. Indeed, that is true and I could list numerous examples. The only thing really unusual about the paper of Chuine et al. is that the main problem with it is understandable for people without specialist scientific training. Actually, that is why I decided to publish about it. In many cases of incorrect research the authors will try to hide behind an obfuscating smokescreen of complexity and sophistry. That is not very feasible for Chuine et al. (though the authors did try).

Finally, it is worth noting that Chuine et al. had the data; so they must have known that their conclusions were unfounded. In other words, there is prima facie evidence of scientific fraud. What will happen to the researchers as a result of this? Probably nothing. That is another systemic problem with the scientific publication process.

Question
What is an "out of sample" test?
Hint: It's related to the concept of "replication" that almost seems to be unheard of in academic accounting research?

From Jim Mahar's Blog on June 29, 2006 --- http://financeprofessorblog.blogspot.com/

I am a big fan of so called "out of sample" tests. When researchers find some anomaly within a data set and then others test for the presence in the same data set, we really do not learn much if they find the same thing. But when a new data set is used for the test, we have a much better understanding of the possible anomaly.

In the current JFQA there is just such an article by Richard Grossman and Stephen Shore. Using a data set that goes from 1870 to 1913 for British stocks, the authors find no small firm effect, and only a limited value effect.

In their own words:
 

"Unlike modern CRSP data, stocks that do not pay dividends do not outperform stocks that pay small dividends during this period. But like modern CRSP data, there is a weak relationship between dividend yield and performance for stocks that pay dividends. In sum, the size and reversal anomalies present in modern data are not present in our historical data, while there is some evidence for a value anomaly."

Which makes me wonder how many other things we think we "know" we really don't.

The current version of the paper is not listed on SSRN, but a past version of the paper is available (at least right now) here.

The evidence lies in lack of interest in replication
I wrote the following on December 1, 2004 at
http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#AcademicsVersusProfession

Faculty interest in a professor’s “academic” research may be greater for a number of reasons. Academic research fits into a methodology that other professors like to hear about and critique. Since academic accounting and finance journals are methodology driven, there is potential benefit from being inspired to conduct a follow up study using the same or similar methods. In contrast, practitioners are more apt to look at relevant (big) problems for which there are no research methods accepted by the top journals.

Accounting Research Farmers Are More Interested in Their Tractors Than in Their Harvests

For a long time I’ve argued that top accounting research journals are just not interested in the relevance of their findings (except in the areas of tax and AIS). If the journals were primarily interested in the findings themselves, they would abandon their policies about not publishing replications of published research findings. If accounting researchers were more interested in relevance, they would conduct more replication studies. In countless instances in our top accounting research journals, the findings themselves just aren’t interesting enough to replicate. This is something that I attacked at http://www.trinity.edu/rjensen/book02q4.htm#Replication

At one point back in the 1980s there was a chance for accounting programs that were becoming “Schools of Accountancy” to become more like law schools and to have their elite professors become more closely aligned with the legal profession. Law schools and top law journals are less concerned about science than they are about case methodology driven by the practice of law. But the elite professors of accounting who already had vested interest in scientific methodology (e.g., positivism) and analytical modeling beat down case methodology. I once heard Bob Kaplan say to an audience that no elite accounting research journal would publish his case research. Science methodologies work great in the natural sciences. They are problematic in the psychology and sociology. They are even more problematic in the professions of accounting, law, journalism/communications, and political “science.”

We often criticize practitioners for ignoring academic research Maybe they are just being smart. I chuckle when I see our heroes in the mathematical theories of economics and finance winning prizes for knocking down theories that were granted earlier prizes (including Nobel prices). The Beta model was the basis for thousands of academic studies, and now the Beta model is a fallen icon. Fama got prizes for showing that capital markets were efficient and then more prizes for showing they were not so “efficient.” In the meantime, investment bankers, stock traders, and mutual funds were just ripping off investors. For a long time, elite accounting researchers could find no “empirical evidence” of widespread earnings management. All they had to do was look up from the computers where their heads were buried.

Few, if any, of the elite “academic” researchers were investigating the dire corruption of the markets themselves that rendered many of the published empirical findings useless.

Academic researchers worship at the feet of Penman and do not even recognize the name of Frank Partnoy or Jim Copeland.

Bob Jensen

Question
In science it is somewhat common for published papers to subsequently be withdrawn because the outcomes could not be replicated. In the history of accounting research has any published paper ever been "withdrawn" or “retracted” because the results could not be replicated?

"Columbia researcher retracts more studies," The New York Times via PhysOrg, June 15, 2006 --- http://www.physorg.com/news69601046.html

A Columbia University researcher has reportedly retracted four more scientific papers because the findings could not be replicated.

Chemistry Professor Dalibor Sames earlier this year retracted two other papers and part of a third published in a scientific journal, The New York Times reported Thursday. All of the papers involved carbon-hydrogen bond activation research.

Although Sames is listed as senior author on all of the papers, one of his former graduate students -- Bengu Sezen -- performed most of the experiments, the Times said.

Sames said each experiment has been repeated by at least two independent scientists who have not been able to replicate the results.

Sezen, a doctoral student in another field at the University of Heidelberg in Germany, disputed the retractions, questioning whether other members of Sames's group had tried to exactly repeat her experiments, the newspaper said.

The retraction of one paper, published in the journal Organic Letters in 2003, appeared Thursday, while the three others published in The Journal of the American Chemical Society in 2002 and 2003 are to be formally retracted later this month, the Times said.

Jensen Comment
What's disappointing and inconsistent is that leading universities pushed accounting research into positivist scientific methods but did not require that findings be verified by independent replication. In fact leading academic accounting research journals discourage replication by their absurd policies of not publishing replications of published research outcomes. They also do not publish commentaries that challenge underlying assumptions of purely analytical research. Hence I like to say that academic accounting researchers became more interested in their tractors than their harvests.

My threads on the dearth of replication/debate and some of the reasons top accounting research journals will not publish replications and commentaries are at http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#Relication 

June 17, 2006 reply from Jagdish S. Gangolly [gangolly@INFOTOC.COM]

Bob,

I have not heard of any one in accounting retracting his/her work. It does not surprise me because of what I see to be the philosophical suppositions of most empirical accounting researchers.

In my opinion, most of us in empirical accounting research are, in many ways, stuck with the philosophical suppositions of late 19th and early 20th century positivists of the Vienna school, the most vocal proponent of the ideas whose work I am familiar with is A.J. Ayer. In his view of the world, a synthetic (that is, not an analytical) sentence must be verifiABLE to be considered a scientific statement, and is added to the stock of science when verified.

The physical sciences have passed by this view, and in fact, in my opinion, regard the latter-day positivist Popperian ideas of falsificationism to be the ideal. Here, a sentence is scientific if it is FalsifIABLE. The stock of sentences that are not repeatedly falsified is science in some sense. Therefore, in most physical sciences, when a statement is falsified (by not being replicable) is treated as nonsense rather than science. For example, when the theory about cold fusion in the Utah experiments met failure in repeated attempts to replicate them, the theory was treated as nonsensical and not scientific.

The unfortunate thing is that verification (or falsification) is misinterpreted by most, since I don't think either Ayer or Popper intended their views to form a theory of meaning.

The above approach has had a whole host of severe critics. My shortlist would include C.S. Peirce, William James, Quine (though a verificationist he did not accept logical positivism), Feyerabend, Davidson, and a bunch of others.

We have twisted the meaning of Popperian as well as Logical positivist thought to consider "scientific propositions" as those "veriFIED" or "not falsiFIED". Philosopher of those schools, on the other hand used veriFIABILITY and falsiFIABILITY as criterion to answer the question whether a proposition is scientific or not. We mistake an epistemic community for a theory of meaning. While it might help reaffirm our belief in our epistemic community to do so, it certainly would not provide our community a resilient philosophical foundation. It also would make us more of a theological community.

Regards to all,

Jagdish

My 67th birthday April 30, 2005 commentary on how research in business schools has run full circle  since the 1950s.  We've now completed the circle of virtually no science (long on speculation without rigor) to virtually all science (strong on rigor with irrelevant findings) to criticisms that science is not going to solve our problems that are too complex for rigorous scientific methods.

The U.S. led the way in bringing accounting, finance, and other business education and research into respectability in separate schools or colleges the business (so called B-schools) within top universities of the country.  The movement began in the 1960s and followed later in Europe after leading universities like Harvard, Chicago, Columbia, Chicago, Pennsylvania, UC Berkeley and Stanford showed how such schools could become important sources of cash and respectability. 

A major catalyst for change was the Ford Foundation that put a large amount of money into first the study of business schools and second the funding of doctoral programs and students in business studies.  First came the Ford-Foundation's Gordon and Howell Report (Gordon, R.A., & Howell, J.E. (1959). Higher education for business. New York: Columbia University Press) that investigated the state of business higher education in general.  You can read the following at http://siop.org/tip/backissues/tipoct97/HIGHHO~1.HTM

The Gordon and Howell report, published in 1959, examined the state of business education in the United States. This influential report recommended that managerial and organizational issues be studied in business schools using more rigorous scientific methods. Applied psychologists, well equipped to undertake such an endeavor, were highly sought after by business schools. Today, new psychology Ph.D.s continue to land jobs in business schools. However, we believe that this source of academic employment will be less available in the future because psychologists in the business schools have become well established enough to have their own "off-spring," who hold business Ph.D.s. More business school job ads these days contain the requirement that applicants possess degrees in business administration.

Prior to 1960, business education either took place in economics departments of major universities or in business schools that were viewed as parochial training programs by the more "academic" departments in humanities and sciences where most professors held doctoral degrees.  Business schools in that era had professors rooted in practice who had no doctoral degrees and virtually no research skills.  As a result some universities avoided having business schools altogether and others were ashamed of the ones they had. 

The Gordon and Howell Report concluded that doctoral programs were both insufficient and inadequate for business studies.  Inspired by the Gordon and Howell Report, the Ford Foundation poured millions of dollars into universities that would upgrade doctoral programs for business studies.  I was one of the beneficiaries of this initiative.  Stanford University obtained a great deal of this Ford Foundation money and used a goodly share of that money to attract business doctoral students.  My relatively large fellowship to Stanford (which actually turned into a five-year fellowship for me) afforded me the opportunity to get a PhD in accounting.  The same opportunities were taking place for other business students at major universities around the country.

Another initiative of the Gordon and Howell Report was that doctoral studies in business would entail very little study in business.  Instead the focus would be on building research skills.  In most instances, the business doctoral programs generally sent their students to doctoral studies in other departments in the university.  In my own case, I can only recall having one accounting course at Stanford University.  Instead I was sent to the Mathematics, Statistics, Economics, Psychology, and Engineering (for Operations Research) graduate studies.  It was tough, because in most instances we were thrown into courses to compete head-to-head with doctoral students in those disciplines.  I was even sent to the Political Science Department to study (critically) the current research of Herb Simon and his colleagues at Carnegie Mellon.  That experience taught me that traditional social science researchers were highly skeptical of this new thrust in "business" research. 

Another example of the changing times was at Ohio State University when Tom Burns took command of doctoral students.  OSU took the Stanford approach to an extreme to where accounting doctoral students took virtually all courses outside the College of Business.  The entire thrust was one of building research skills that could then be applied to business problems.

The nature of our academic research journals also changed.  Older journals like The Accounting Review (TAR) became more and more biased and often printed articles that were better suited for journals in operations research, economics, and behavioral science.  Accounting research journal relevance to the profession was spiraling down and down.  I benefited from this bias in the 1960s and 1970s because I found it relatively easy to publish quantitative studies that assumed away the real world and allowed us to play in easier and simpler worlds that we could merely assume existed somewhere in the universe if not on earth.  In fairness, I think that our journal editors today demand more earthly grounding for even our most esoteric research studies.  But in the many papers I published in the 1960s and 1970s, I can only recall one that I think made any sort of practical contribution to the profession of accounting (and the world never noticed that paper published in TAR).

I even got a big head and commenced to think it was mundane to even teach accounting.  In my first university I taught mostly mathematical programming to doctoral students.  When I got a chair at a second university, I taught mathematical programming and computer programming (yes FORTRAN and COBOL) to graduate students.  But my roots were in accounting (as a CPA), my PhD was in accounting (well sort of), and I discovered that the real opportunities for an academic were really in accounting.  The reasons for these opportunities are rooted the various professional attractions of top students to major in accounting and the shortage of doctoral faculty across the world in the field of accountancy.  So I came home so to speak, but I've always been frustrated by the difficulty of making my research relevant to the profession.  If you look at my 75+ published research papers, you will find few contributions to the profession itself.  I'm one of the guilty parties that spend most of my life conducting research of interest to me that had little relevance to the accounting profession.

I was one of those accounting research farmers more interested in my tractors than in my harvests.  Most of my research during my entire career devoted to a study of methods and techniques than on professional problems faced by accounting standard setters, auditors, and business managers.  I didn't want to muck around the real world gathering data from real businesses and real accounting firms.  It was easier to live in assumed worlds or, on occasion, to study student behavior rather than have to go outside the campus. 

What has rooted me to the real world in the past two decades is my teaching.  As contracting became exceedingly complex (e.g., derivative financial instruments and complex financial structurings), I became interested in finding ways of teaching about this contracting and in having students contemplate unsolved problems of how to account for an increasingly complex world of contracts.

In accounting research since the 1950s we've now completed the circle of virtually no science (long on speculation without rigor) to virtually all science (strong on rigor with irrelevant findings) to criticisms that science is not going to solve our problems that are too complex for rigorous scientific methods.  We are also facing increasing hostility from students and the profession that our accounting, finance, and business faculties are really teaching in the wrong departments of our universities --- that our faculties prefer to stay out of touch with people in the business world and ignore the many problems faced in the real world of business and financial reporting.  For more on this I refer you to  http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#AcademicsVersusProfession

Things won’t change as long as our "scientists" control our editorial boards, and they won’t give those up without a huge fight. I’m not sure that even Accounting Horizons (AH) is aimed at practice research at the moment. The rigor hurdles to get into AH are great as of late. Did you compare the thicknesses of the recent AH juxtaposed against the latest Accounting Review? Hold one in each of each in your hands.

What will make this year’s AAA plenary sessions interesting will be to have Katherine defending our economic theorists and Denny Beresford saying “we still don’t get it.” Katherine is now a most interesting case since, in later life, she’s bridging the gap back to practice somewhat. Denny’s an interesting case because he came out of practice into academe only to discover that, like Pogo, “the enemy is us.”

I think what is misleading about the recent HBR article is that focusing more on practice will help us solve our “big” problems. If you look at the contributions of the HBR toward solving these problems in the last 25 years, you will find their contributions are superficial and faddish (e.g., balanced score card). The real problem in accounting (and much of business as well), is that our big problems don’t have practical solutions. I summarize a few of those at http://www.trinity.edu/rjensen/FraudConclusion.htm#BadNews 
Note the analogy with “your favorite greens.”

Focusing on practice will help our teaching. We can never say “never” when it comes to research, but I pretty much stand by my claims at http://www.trinity.edu/rjensen/FraudConclusion.htm#BadNews 

So what can we conclude from having traveled the whole circle from virtually no scientific method to virtually all scientific method to new calls to back off of scientific method and grub around in the real world?  What do we conclude from facing up to the fact that research rigor and our most pressing problems don't mix?

My recommendation at the moment is to shift the focus from scientific rigor to cleverness and creativity in dealing with our most serious problems.  We should put less emphasis on scientific rigor applied to trivial problems.  We should put more emphasis on clever and creative approaches to our most serious problems.  For example, rather than seek optimal ways to classify complex financial instruments into traditional debt and equity sections on the balance sheet, perhaps we should look into clever ways to report those instruments in non-traditional ways in this new era of electronic communications and multimedia graphics.  Much of my earlier research was spent in applying what is called cluster analysis to classification and aggregation.  I can envision all sorts of possible ways of extending these rudimentary efforts into our new multimedia world.

Bob Jensen on my 67th birthday on April 30, 2005

December 15, 2004 message from Dennis Beresford [dberesfo@TERRY.UGA.EDU] 

In a recent issue of Golf World, a letter writer was commenting on the need for professional golfers to be more "entertaining."  He went on to say:

"Fans pay top dollar to attend tournaments and to subscribe to cable coverage.  Not many would pay to see an accountant work in his office or watch The Audit Channel."

That's probably a true comment.  On the other hand, wouldn't at least some of us have liked to watch The Audit Channel and see what was being done on Enron, WorldCom, HeathSouth, or some of the other recent interesting situations?

Denny Beresford

December 15, 2004 reply from Bob Jensen

You know better than the rest of us, Denny, that academic accounting researchers won't tune in to watch practitioners on the Audit Channel. They're locked into the SciFi Channel.

Bob Jensen

December 1, 2004 message from Dennis Beresford [dberesfo@TERRY.UGA.EDU] 
Denny is now a professor of accounting at the University of Georgia.  For ten years he was Chairman of the Financial Accounting Standards Board and is a member of the Accounting Hall of Fame.

I've enjoyed the recent "debate" on AECM relating to the Economist article about the auditing profession.  I'm delighted to see this interest in such professional issues.  But I'm concerned that academic accountants, by and large, aren't nearly enough involved in actually trying to help solve professional issues.  Let me give an illustration, and I'd certainly be interested in reactions.

Last night our Beta Alpha Psi chapter was fortunate to have Jim Copeland as a guest speaker.  Jim retired as the managing partner of Deloitte a couple of years ago and he continues to be a leading voice in the profession through, among other things, his role in chairing a major study by the U.S. Chamber of Commerce on the auditing profession.  Jim also serves as a director of three major corporations and on their audit committees.  In short, he is the kind of person that all students and faculty should be interested in meeting and hearing.

Students turned out in fairly large numbers, as did quite a few practitioners who always are there to further their recruiting efforts.  However, only four faculty members attended (out of a group of about 18) and this included our department head and the BAP advisor, both of whom were pretty much obligated to be there. No PhD students attended.  I'm sure that some faculty members had good excuses but most simply weren't sufficiently interested enough to attend.  Perhaps at some other schools more faculty would have been there but my own experience in speaking to about 100 schools over the years would indicate that this lack of interest is pretty common.

On the other hand, this coming Friday a very young professor from another university will present a research workshop and I expect that nearly all faculty members and PhD students will be there.  The paper being discussed is replete with formulas using dubious (in my humble view) proxies for real world economic matters that can't be observed directly.  The basic conclusion of the paper is that companies are more inclined to give stock options rather than cash compensation because options don't have to be charged to expense.  Somehow I thought that this was a conclusion that was pretty clear to most accountants and business people well before now.

I've heard some faculty members say that they feel obligated to attend such workshops even if they aren't particularly interested in the paper being discussed.  They want to show support for the person who is visiting as well as reinforce the importance of these events to the PhD students.  I certainly understand that thinking and tend to share it.  However, for the life of me I can't understand why faculty members don't feel a similar "obligation" to show respect for a person like Jim Copeland, one of the most important people in the accounting profession in recent years and someone who is making a personal sacrifice to visit our school.

My purpose in this brief note is not to belittle the research paper.  But I simply observe that it would be nice if there were a little more balance between interest in professional matters and such high level research among faculty members at research institutions.  As the Economist article noted, and as should be clear to all of us in the age of Sarbanes-Oxley, etc., there are tremendous issues facing the accounting profession.  Rather than simply complaining about things, it seems to me that academics could become more familiar with professionals and the issues they face and then try to work with them to help resolve those issues.

When is the last time that you called an auditor or corporate accountant and asked him or her to have lunch to just kick around some of the tremendously interesting issues of the day?

Denny Beresford

December 1, 2004 reply from Bob Jensen  (The evidence lies in lack of interest in replication)

Hi Denny,

Jim gave a plenary session at the AAA meetings in Orlando. You may have been in the audience. I thought Jim’s presentation was well received by the audience. He handled himself very well in the follow up Q&A session.

I think academics have some preconceived notions about the auditing “establishment.” They may be surprised at some of the positions taken by leaders of that establishment if they took the time to learn about those positions. I summarized some of Jim’s more controversial statements at http://www.trinity.edu/rjensen/book04q3.htm#090104  
Note that he proposed eliminating the corporate income tax (but he said he hoped none of his former partners were in the audience).

Faculty interest in a professor’s “academic” research may be greater for a number of reasons. Academic research fits into a methodology that other professors like to hear about and critique. Since academic accounting and finance journals are methodology driven, there is potential benefit from being inspired to conduct a follow up study using the same or similar methods. In contrast, practitioners are more apt to look at relevant (big) problems for which there are no research methods accepted by the top journals.

Accounting Research Farmers Are More Interested in Their Tractors Than in Their Harvests

For a long time I’ve argued that top accounting research journals are just not interested in the relevance of their findings (except in the areas of tax and AIS). If the journals were primarily interested in the findings themselves, they would abandon their policies about not publishing replications of published research findings. If accounting researchers were more interested in relevance, they would conduct more replication studies. In countless instances in our top accounting research journals, the findings themselves just aren’t interesting enough to replicate. This is something that I attacked at http://www.trinity.edu/rjensen/book02q4.htm#Replication

At one point back in the 1980s there was a chance for accounting programs that were becoming “Schools of Accountancy” to become more like law schools and to have their elite professors become more closely aligned with the legal profession. Law schools and top law journals are less concerned about science than they are about case methodology driven by the practice of law. But the elite professors of accounting who already had vested interest in scientific methodology (e.g., positivism) and analytical modeling beat down case methodology. I once heard Bob Kaplan say to an audience that no elite accounting research journal would publish his case research. Science methodologies work great in the natural sciences. They are problematic in the psychology and sociology. They are even more problematic in the professions of accounting, law, journalism/communications, and political “science.”

We often criticize practitioners for ignoring academic research Maybe they are just being smart. I chuckle when I see our heroes in the mathematical theories of economics and finance winning prizes for knocking down theories that were granted earlier prizes (including Nobel prices). The Beta model was the basis for thousands of academic studies, and now the Beta model is a fallen icon. Fama got prizes for showing that capital markets were efficient and then more prizes for showing they were not so “efficient.” In the meantime, investment bankers, stock traders, and mutual funds were just ripping off investors. For a long time, elite accounting researchers could find no “empirical evidence” of widespread earnings management. All they had to do was look up from the computers where their heads were buried.

Few, if any, of the elite “academic” researchers were investigating the dire corruption of the markets themselves that rendered many of the published empirical findings useless.

Academic researchers worship at the feet of Penman and do not even recognize the name of Frank Partnoy or Jim Copeland.

Bob Jensen

As you recall, this thread was initiated when Denny Beresford raised concern about the University of Georgia's accounting faculty lack of interest in listening to an on-campus presentation by the recently retired CEO of Deloitte & Touche (Jim Copeland).  A leading faculty member from another major research university raises much the same concern.  Jane F. Mutchler is the J. W. Holloway/Ernst & Young Professor of Accounting at Georgia State University.  She is also the current President of the American Accounting Association.

"President's Message," Accounting Education News, Fall 2004, Page 3.  This is available online to paid subscribers but cannot be copied due to a terrible policy established by the AAA Publications Committee.  Any typos in the following quotation are my own at 4:30 this morning.

• How many of us are now sitting down with the firms that recruit our students and having good, critical discussions about the state of practice?  
  
  
• How many of us are spending our time writing articles that critically analyze the state of the profession and accounting and auditing practices for a journal like Accounting Horizons?  
  
  
• How many of us are conducting rigorous research that is focused first on the crucial practice issues and then only secondly on getting a publication in a top journal such as The Accounting Review or one of the section journals?  
  
  
• How many of us are evaluating and revamping our courses to deal with the realities of the world today?

I raise these questions because I worry that we are all too quick to blame all the problems on the practitioners.  But we must remember that we were the ones responsible for the education of the practitioners.  And unless we analyze the issues and the questions I raised, I fear that we won't make any changes ourselves.  So it is important that we examine our approaches to the classes we are teaching and ask ourselves if we are doing all we canto assure that our students are being made aware of the pressures they will face in practice and if we are helping them develop the skills they need to appropriately deal with those pressures.  In my mind these issues need to be dealt with in every class we teach.  It will do no good to simply mandate new stand alone ethics courses where issues are examined in isolation.  

Continued in  Jane’s Message to the Membership of the American Accounting Association

December 5, 2004 reply from Stone, Dan [Dan.Stone@UKY.EDU] 

I enjoyed Denny's commentary on the interplay between accounting research and practice, and, Jane's AAA President's statement on this issue.

A few thoughts:

1. Yes, accounting research is largely, though not entirely, divorced from accounting practice. This is no coincidence or anomaly. It is by design. Large sample, archival, financial accounting research -- which dominates mainstream academic accounting -- is about the role of accounting information in markets. It is not about understanding the institutions and individuals who produce and disseminate this information, or, the technologies that make its production possible. We could have an accounting scholarship takes seriously issues of accounting practice. The US institutional structures of accounting scholarship currently eliminate this possibility. Change these institutional structures and we change accounting scholarship.

2. There is a particular and peculiar hubris of financial accounting academics to assume that all accounting scholarship is, or should be, about financial accounting. Am I reading this into Denny's argument? Am I reading beyond the text here?

The unity model of accounting scholarship increasingly, which says that all accounting scholarship is or should be about financial accounting, is no coincidence or anomaly. It is by design. The top disseminators of accounting scholarship in the US increasingly publish, and the major producers of accounting scholars increasingly produce scholars who know about, only 1 small sub-area of accounting -- financial, archival accounting. Change the institutional structures of the disseminators and the producers and we change accounting scholarship.

Best,

Dan Stone 
Gatton Endowed Chair 
University of Kentucky 
Lexington, Kentucky

December 6, 2004 reply from Paul Williams [williamsp@COMFS1.COM.NCSU.EDU] 

To add to Dan's observations. He is correct that until we change the structure of the US academy nothing is going to change re practice. As Sara Reiter and I argued (with evidence) in our AOS piece, accounting in the academy has been transformed from an autonomous, professional discipline into a lab practice for a discipline for which lab practices are incidental to the main activity, i.e, accounting is an empirical sub discipline of a sub discipline of a sub discipline for which empirical work is irrelevant. The purpose of scholarship in accounting is now purely instrumental -- to create politically correct academic reputations. 

The powers that be are not interested in accounting research for its intrinsic value or for improving practice broadly understood, but only as a means to enhance their own careers (to get "hits" in the major journals). The profession is not powerless to assist in changing that structure. For example, KPMG funds (or at least used to) the JAR conferences. Stop doing that!! Why subsidize that which is doing you more harm than good? The profession has abandoned the AAA in droves -- in the mid-60s the AAA had nearly 15,000 members, 2/3 of which were practitioners. Now we are approximately 8,000 of which only about 1/7 are practitioners. If practitioners aren't happy about the academy they are not powerless to engage it. 

Bob sent us an excerpt from Jane Mutchler's presidential address suggesting things that should be done. They already have been. At the Critical Perspectives conference in New York in 2002 there were numerous sessions devoted to how academics have failed in their educational responsibilities (someone credentialed Andy Fastow). Do the firms help fund that conference? Of course not -- too left wing. Accounting Education: An International Journal dedicated an entire issue to accounting education after Enron, as has the European Accounting Review. Have any AAA journals done so? The insularity of the US academy is evident in that Jane doesn't seem aware that there already has been significant activity for at least the last three years, but none of it as visible as that which is promoted by AAA. Let's have genuine debates in Horizons where others besides those vetted for political correctness are permitted to speak to the issues. 

Let me remind you of the Briloff affair -- Abe wrote a piece for Horizons critical of the COSO report. Abe argued that the "problem" was not just small firms with small auditors. Was Abe right? Less than two years after he wrote that article we had Enron, WorldCom, Tyco, Andersen's implosion, etc. See the special issue of Critical Perspectives on Accounting, "AAA, Inc." to see first hand how the structure of the academy handles candid discussion of the profession's problems. If people aren't happy with the way the AAA manages the academy, they are not powerless to change it. The structure stays the same because of the apathy of the membership. It only takes 100 signatures to challenge for an AAA office. Since less than 100 people bother to vote (out of 8,000) it wouldn't take much effort for someone with the resources to effect significant changes. Denny could get his colleagues' attention and get them interested in attending his guests' talks by running for president of AAA -- I will gladly sign his petition to be put on the ballot for 2005. That will shake them up! Change won't happen unless enough members of the academy recognize that we have some very real, serious problems that require candid, adult conversation and a willingness to accept responsibility. 

Realize that there are more of us than there are of them (that is the whole idea of the current structure - to keep the number of them very, very small). Change the executive committee, select editors of the AAA journals that aren't committed to the narrow notion of rigor that now predominates and, as Dan says, things will change. There are plenty of qualified, thoughtful people who could manage an academy more dedicated to the practice of accounting (in all its many manifestations besides financial reporting, likely the most insignificant of accounting's functions). It just takes people with the political and financial leverage to put their efforts into altering that intellectually oppressive structure. PFW

December 1, 2004 reply from Jagdish Gangolly [JGangolly@UAMAIL.ALBANY.EDU] 

I could not agree more. May be most "top" journals suffer a case of "analysis paralysis". In a practical field such as accounting, how do we know what relevant problems are if we have little contact with the real world (and I would not count sporadic consulting as contact).

There are ways in which the academia and industry mingle in a meaningful way. In the areas I am interested in (computationally oriented work in information systems and auditing), for example, I have found a very healthy relationship between the academia and industry, and in fact far more exciting research reported in computing journals during the past three years than in accounting/auditing journals during the past 30. (I can think of work in computational auditing done by folks at Eindhoven and Delloitte & Touche; work on role-based access control at George Mason and Singlesignonnet, work on formal models of accounting systems as discrete dynamical systems done also at Delloitte and Eindhoven, work on interface of formal models of accounting systems and back-end databases done at Promatis and Goethe-Universität Frankfurt & University of Karlsruhe, to name just a few). In fact it has got to a point where I attend AAA meetings only to meet old friends and have a good time, and not for intellectual stimulation. For that, I go to computing meetings.

The reason for the schism between academia and the profession in accounting, in my opinion, is the almost total lack of accountability in academic accounting research. Once the control of "academic" journals have been wrested, research is pursued not even for its own sake, but for the preservation of control and perpetuation of ones genes. We have not had a Kuhnian paradigm shift for close to 40 years in accounting, because we haven't found the need for anomalies. We use "academic" journals the same way that the proverbial Mark Twain's drunk uses a lamp post, more for support than for illumination.

Respectfully submitted,

Jagdish

December 1, 2004 reply from Paul Williams [williamsp@COMFS1.COM.NCSU.EDU] 

Bob is right that the accounting academy in the US (not so much the rest of the world) is driven mainly by the interests of methidoliters -- those that suffer from a terminal case of what McCloskey described as the poverty of economic modernism. Sara Reiter and I had a study published in AOS last summer that included an analysis of the rhetorical behavior of the JAR conferences through time to see if the discursive practices of the "leading" forum were conducive to progressive critique -- all sciences "advance" via destruction -- received wisdom is constantly under assault. When the JAR conferences started practiioners and scholars from other disciplines like law and sociology were invited to participate. These were the people that asked the most troublesome questions, the ones who provided the most enervating critique. How did the geniuses at JAR deal with the problem of heretics in the temple? They simply stopped inviting practitioners and scholars from other disciplines. The academy in the US is an exceedingly closed society of only true believers. Accounting academics are now more interested in trying to prove that an imaginary world is real, rather than confront a world too messy for the methods (and, it must be noted, moral and political commitments) to which they unshakeably devoted REGARDLESS OF WHAT THE EMPIRICAL EVIDENCE SAYS! (As Bob notes, who in their right mind can still say market efficiency without a smirk on their face. The stock exchange, after all, has members. Does anyone know of any group of "members" that writes the rules of the organization to benefit others equally to themselves? Invisible hands, my a..)

But it must be said the profession is not without guilt in all of this. I avoid listening to big shots from the Big 4 myself because they are as predictable as Jerry Falwell. Accountants have a license, which is a privilege granted to them by the public to serve the broad society of which they are citizens. But whenever you hear them speak, all they do is whine about the evils of government regulation, the onerous burden of taxes on the wealthy (I have never heard a partner of a Big 4 firm complain that taxes were too regressive); they simply parrot the shiboleths that underlay the methodologies of academics. No profession has failed as spectacularly as accounting has just done. If medicine performed as poorly as public accounting has just done in fulfilling its public responsibilities, there would be doctor swinging from every tree. Spectacular audit failures, tax evasion schemes for only the wealthiest people on the planet, liability caps, off-shore incorporation, fraud, etc., a profession up to its neck in the corruption that Bob mentioned. But have we heard one word of contrition from this profession? Has it dedicated itself to adopting the skeptical posture toward its "clients" required of anyone who wants to do a thorough audit? Don't think so. All we still hear is the problem ain't us, it all those corrupt politicians, etc. (Who corrupted them?). And PWC has the gall to run ads about a chief courage officer -- do these guys have no shame? If the profession wants to engage with the academy with an open mind and the courage to hear the truth about itself, the courage to really want to become a learned profession (which it isn't now), then maybe we could get somewhere. But for now, both sides are comfortable where they are -- the chasm serves both of their exceedingly narrow interests. 

There are now 7 volumes of Carl's essays. Thanks to Yuji Ijiri's efforts, the AAA published the first 5 volumes as Studies in Accounting Research #22, Essays in Accounting Theory. A sixth volume, edited by Harvey Hendrickson, Carl Thomas Devine Essays in Accounting Theory: A Capstone was published by Garland Publishing in 1999. A seventh volume was being edited by Harvey when he died. I was asked to finish Harvey's work and that volume, Accounting Theory: Essays by Carl Thomas Devine has been published by Routledge, 2004. Carl also had a collection of Readings in Accounting Theory he compiled mainly for his teaching during his stint in Indonesia (I think). Those were mimeographed as well, but, to my knowledge, have never been published. I have copies of those 4 volumes but their condition is not good -- paper is yellowed and brittle. Thoughtful, curious, imaginative, humble, and kind -- we don't see the likes of Carl much anymore. His daughter Beth told me that he even approach his death with the same vibrant intellectual curiousity he brought to everything. 

PFW

December 6, 2004 reply from Ed Scribner [escribne@NMSU.EDU] 

Seems to me that most folks on this list take a pretty harsh view of the accounting research "establishment" for being closed, methodology-driven, irrelevant to practice, self-serving, and just generally in the wrong paradigm. Yet I see things like the following in the JAR and the AR that appear relevant and "practice-oriented" to me.

--- Journal of Accounting Research, Volume 42: Issue 3 "Auditor Independence, Non-Audit Services, and Restatements: Was the U.S. Government Right?"

Abstract Do fees for non-audit services compromise auditor's independence and result in reduced quality of financial reporting? The Sarbanes-Oxley Act of 2002 presumes that some fees do and bans these services for audit clients. Also, some registrants voluntarily restrict their audit firms from providing legally permitted non-audit services. Assuming that restatements of previously issued financial statements reflect low-quality financial reporting, we investigate detailed fees for restating registrants for 1995 to 2000 and for similar nonrestating registrants. We do not find a statistically significant positive association between fees for either financial information systems design and implementation or internal audit services and restatements, but we do find some such association for unspecified non-audit services and restatements. We find a significant negative association between tax services fees and restatements, consistent with net benefits from acquiring tax services from a registrant's audit firm. The significant associations are driven primarily by larger registrants.

---

I also see articles on topics other than financial accounting. Are these just window-dressing?

Journal editors are always saying that they want work that has "policy implications." Yet it seems to me that important questions in accounting tend to be more complicated than, "Does this medication cause nausea in the control group?" Tough questions are tough to address rigorously.

What are some examples of specific questions (susceptible to rigorous research) that academia should be addressing but is not?

Ed "Paton's Advocate" (am I alone?)

P.S. Many years ago a senior faculty member told me the "top" journals were a closed society, and hitting them was a matter of whom you knew. I made some naïve reply to the effect that the top journals reflected the best work--"the cream rises to the top." Next morning I found in my mailbox photocopies of the tables of contents of then-recent JARs, along with the editorial board, with lines drawn connecting names on the board with names of authors, as if it were a "matching question" on an exam.

December 1, 2004 reply from Bob Jensen

Hi Paul,

During one of the early JAR conferences that I attended had an assistant professor present a behavioral research study. A noted psychologist, also from the University of Chicago, Sel Becker, was assigned to critique the paper.

Sel got up and announced words to the affect that this garbage wasn't worth discussing.

I'm not condoning the undiplomatic way Sel treated a colleague. But this does support your argument as to why experts from other disciplines were no longer invited to future JAR conferences.

Bob Jensen

December 1, 2004 reply from Roger Collins [rcollins@CARIBOO.BC.CA] 

Paul makes some excellent points. Sociologists are interesting to listen to because they tend to get folks' backs up (and if they didn't want to do that they probably wouldn't be sociologists in the first place). That's especially the case in accounting where both the profession and the academics are (with notable exceptions) hidebound in their own way.  If you want a new perspective on things, get a sociologist to comment, throw away any half of what's been said and the remainder will still be an interesting pathway to further thought, whichever half you choose.

The scorn that certain academics in other areas show for accounting academics (and indeed, business academics in general) may be justified (sometimes? often?)- but no-one ever built bridges out of scorn. I think that if Sel Becker was really interested in advancing the cause of academic enquiry he would have figured out that whatever was going on was, from his point of view, an immature contribution and taken the time to give his views on the gap between the contribution and the issues he considered important, and identify some "road map" to move from one position to another.

But then, Sel is a "big, important" person. (From what I can gather), instead of taking a little time to build bridges he indulged in a spot of academic tribalism. Trashing a colleagues paper (isn't that something a noted member of the Rochester School was famous for?) is cheap in terms of effort and may generate some petty self-satisfaction; it may even be justified if the presenter is arrogant in turn -but again, arrogance is a destroyer rather than a builder.

On the other hand, the JAR reaction is just as bad if not worse.  Closing one's ears to criticism will only lead to the prettification of the academy; the dogmatists will have won.

Question - is there a way of enticing the various parties out of their bunkers ? If there is, what are the chances that the "generals" of the profession and academia won't use their power to squash the proposals of the "subalterns" ?

Some years ago a University of Alberta prof. had the temerity to suggest that the local oil companies' financial statements weren't all that they should have been. He was promptly jumped on from every direction. Why ? I suspect, because there is a general (not inevitably true) assumption that business schools are the "cash cows" of the university, and other academics tolerate them on that basis. (Nowadays, pharmaceutical research departments seem to be vying for that label). Maybe the only way out is poverty; poor accounting profs will have less to lose and more reason to explore..

Regards - tongue partly in cheek,

Roger Roger Collins 
UCC (soon to be TRU) School of Business.

December 2, 2004 reply from Paul Williams [williamsp@COMFS1.COM.NCSU.EDU] 

How do we bridge the chasm?

Good question. We won't be able to do that in the US until we change the structure of the AAA. I was on Council when the great debate over Accounting Horizons occurred. Jerry Searfoss, a person who served time on both sides of the chasm, was a vigorous proponent for creating a medium through which academe and practice could communicate. If you peruse the editorial board of the first issues of Horizons, it reflected this eclectic approach to scholarship. What happened to it? Look at Horizons now. Its editorial board looks just like the editorial board at The Accounting Review and its editor is a University of Chicago PhD! The AAA has a particular structure -- an organizational culture that reproduces itself generation after generation. Horizons, as originally conceived by people like Searfoss, Sack, Mautz, etc., posed a threat to the overwhelmingly anal retentive, ideological commitments (the shadow of William Paton still chills the intellectual climate of the US academy) of the organization. Anti-bodies were quickly mobilized and, voila, Horizons looks just like TAR (two years ago a plan to eliminate Horizons and Issues and roll them into one ill-defined journal was proposed). This body will protect itself at all costs (even declining membership, banal research, etc. will not dissuade them from jumping over the cliff). 

The only way to change that is to create a structure that fosters a place where Sel Beckers and Big 4 partners can say what they have to say IN PRINT and be forced to defend it as often as the Dopuchs, Demskis, Watts and Zimmermans, and Schippers of the world (who never have to defend themselves in print). That will only happen when the selection of executive committees, editors, etc. is democratic. As long as the Politburo structure of the AAA exists and the culture of fear and suspicion of ideas remains, nothing will change. Good models for what the journals should look like are the proceedings of conferences like Tinker's Critical Perspectives conference, Lee Parker's APIRA, and the IPA sponsored by Manchester. Those conferences are so much more exhilirating than the AAA meetings. I'm like Jagdish -- I go to AAA to see old friends and work for the Public Interest Section. The "technical" sessions are of little interest. When the AAA gives Seminal Contribution Awards to "contributions" lifted wholesale from the radical Lockean/monetarist wing of economics, how can you take such an organization seriously. This is particularly true when there are genuinely seminal contributions possessed by the discipline itself, e.g., Ijiri's work, Paton's Accounting Theory, Andy Stredry's budget work, Bill Cooper's QM applications, Sterling/Edwards and Bell/Chambers, etc. (the copyrights on these tell you how long it has been since accounting acted like an autonomous discipline!). 

PFW

December 2 reply from Paul Williams (after a request that he elaborate on Bill Paton)

While Carl Devine was still alive, I used to visit him whenever I could. When Jacci Rodgers and I did our work on editorial boards at The Accounting Review I consulted Carl about how the review process worked at TAR since the first time TAR published the members of an editorial board was 1967 (I beleive). According to Carl, Paton edited TAR for many years after its founding via a process that was, shall we say, less than transparent. According to Carl, Paton and Littleton between them virtually hand picked the AAA presidents for years. You can see a pattern of early presidencies -- one president not from one of the elite 15, then two from, then one, etc. This encouraged the illusion that the AAA was open to everyone, but in fact it was pretty tightly controlled. Now there is no attempt whatsoever to create the illusion of an open organization -- every president for the last 30 years (save one or two) is an elite school grad. It was never permitted to veer too far from the nucleus of schools that founded it. 

Everyone should be familiar with Paton's politics -- he was conservative in the extreme (he published a book that was a rather rabid screed on the evils of Fabian socialism). There were competing root metaphors for accounting during the era of Paton, e.g., the institutionalism of DR Scott (whose spin on the role of accounting seems prescient now that we have a few years separating us from him), there was the accounting as fulfilling social needs of Littleton etc. But what clearly has emerged triumphant was the radical free market ideology of Paton. So, even though accounting seems clearly part of the regulatory apparatus and part of the justice system in the US, the language we use to talk about what accountants are for is mainly that of efficent markets, rational economic actors, etc. No wonder Brian West is able to build such a persuasive case that accounting currently has no coherent cognitive foundation, thus, is not a "learned" profession. Accounting enables market functions in a world of economic competitors whose actions are harmoniously coordinated by the magic fingers of invisible hands (a metaphor that Adam Smith didn't set too much stock in -- it was merely an off-hand remark to which he never returned). Carl Devine has a very useful essay in Essays in Accounting theory, volume six, edited by Harvey Hendrickson (Garland) where he provides an insightful analysis of the contributions to theory of those persons of his generation and his generation of mentors (he particularly admired Mattesich.) 

Carl noted that Paton was a very effective rhetorician, so was perhaps more influential than his ideas really merited (like the relative influence of the contemporaries Malthus and Ricardo; Ricardo, the much better writer overshadowed Malthus in their day). Paton influenced a disproportionate number of the next generation of accounting academics; he was, after all, a classicaly trained economist. 

There is, in my view, absolutely no compelling reason why accountants should be the least bit concerned with new classical economic theory, but Paton, because of his influence, set the US academy on a path that brings us to where we are today. It is an interesting thought experiment (ala Trevor Gambling's buddhist accounting) to imagine what we would be doing and talking about if we had taken the institutionalists, or Ijiri's legal imagery more seriously. But, as they say here in NC, "It is what it is." 

PFW

December 2, 2004 reply from Bob Jensen

Bill Paton was all-powerful on the Michigan campus and was considered an economist as well as an accountant.  For a time under his power, a basic course in accounting was in the common core for all majors.  One of the most noted books advocating historical cost is called Introduction to Corporate Accounting Standards by William Paton and A.C. Littleton (Sarasota:  American Accounting Association, 1940).  Probably no single book has ever had so much influence or is more widely cited in accounting literature than this thin book by Paton and Littleton .  See http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#UnderlyingBases

Later on Paton changed horses and was apologetic about once being such a strong advocate of historical cost.  He subsequently favored fair value accounting, while his co-author clung to historical cost.  However, Paton never became widely known as a valuation theorist compared to the likes of Edwards, Bell , Canning, Chambers, and Sterling .  (In case you did not know this, former FASB Board Member and SEC Chief Accountant Walter Scheutz is also a long-time advocate of fair value accounting.)

You can read about the Hall of Fame’s Bill Paton at
 http://fisher.osu.edu/Departments/Accounting-and-MIS/Hall-of-Fame/Membership-in-Hall/William-A.-Paton 

Bob Jensen

December 2, 2004 reply from Jagdish Gangolly [JGangolly@UAMAIL.ALBANY.EDU] 

My earlier posts unfortunately may have implied that every onbe I mentioned continued to be a historical cost advocate -- that is not true. Paton changed his mind, as Bob mentioned.

The point I was trying to make there was the approach to theory building in accounting (something that crudely initates the axiomatic approach) that Paton essentially started. However, Paton had a "theory" in the sense of a set of axioms, but no theorems. In other words it was a sort of laundry list of axioms with out a detailed study of their collective implications (this is what struck me most while I was a student, but that might have been my problem since I came to accounting via applied mathematics/statistics). In fact most of the work of Paton & Littleton, Ijiri, Sprouse & Moonitz,... never really followed through their thoughts to their logical conclusions. One reason might have been that they did not really state their axioms in logic. Mattesich, as I understand, went a bit further, but he must have realised that a field like accounting where most sentences are deontic (normative, stated in English sentences in the imperative mood) rather than alethic (descriptive, stated in English sentences in the indicative mood). In normative systems, as even Hans Kelsen has admitted, there is no concept of truth and therefore logical deduction as we know it is not possible.

I think this becomes clear in one of the later books of Mattesich on Instrumental Reasoning (all but ignored by accountants because it is more philosophical, but in my opinion one of his most fascinating works).

I would not put Paul Grady, Carman Blough,... in the same group. For Paul Grady, for example, accounting "principles" were no more than a grab bag of mundane rules.

Leonard Spacek, one of my heroes, on the other hand, tried to emphasize accounting as communication of rights people had to resources UNDER LAW. He also emphasized fairness as an objective.

One reason for this chasm between practice and academia is that almost all practice is normatively based, whereas in the academia in accounting, for the past 40 years we have cared just about only for descriptive work of the naive positivist kind.

I hate peddling my work, but those interested might like to take a look at an old paper of mine (I consider it the best that I ever wrote) where some of these issues are discussed :

Generally Accepted Accounting Principles: Perspectives from Philosophy of Law, J. Gangolly & M. Hussein Critical Perspectives on Accounting, vol. 7 (1996), pp. 383-407.

I think we need to realise that we are not the only discipline that has gone astray from the original lofty goals.

Consider economics in the United States. In Britain, at least till the 70s (I haven't kept in touch since then), it was considered important that Economics teaching devoid of political and philosophical discussions was some how deficient; probably the main reason popular Oxford undergraduate major is PPE (Politics, Philosophy, Economics, with Economics taking the third seat). Specially in the US, attempts to make Economics value-free (wertfrei) have, to an extent also succeeded in making it a bit sterile. In his critique of Ludwig von Mises, Murray Rothbard ("Praxeology, Value Judgments, and Public Policy") states:

"The trouble is that most economists burn to make ethical pronouncements and to advocate political policies - to say, in effect, that policy X is "good" and policy Y "bad." Properly, an economist may only make such pronouncements in one of two ways: either (1) to insert his own arbitrary, ad hoc personal value judgments and advocate policy on that basis; or (2) to develop and defend a coherent ethical system and make his pronouncement, not as an economist, but as an ethicist, who also uses the data of economic science."

Or, that Economics is the "value-free handmaiden of ethics".

In accounting too, the positivists have worked hard over the past forty years or so to make it pretentiously value-free (remember disparaging references to non-descriptive work, and Carl Nelson's virtual jihad to rid accounting of "fairness" as an objective?). The result has been that it is perhaps not unfair to speak of "fair" in the audit reports just cheap talk.

Renaissance in accounting will come only when we look as much at Politics and Law as at Economics to inspire research.

Jagdish

December 3, 2004 reply from Paul Williams

For many subscribers this thread may have started to fray; to them I apologize, but I have to chime in to add a contrarian view to Bob's contention that Paton, Edwards and Bell ,etc. were advocates of fair value accounting. Fair value accounting is (in my view) a classic case of eliding into a use of a concept as if it were what we traditionally understood it to be while radically redefining it (see Feyerabend's analysis of Galileo's use of this same ploy). None of the early theorists were proponents of fair value accounting. 

They may have been advocates of replacement cost or opportunity cost, but never of "fair value," which is a purely hypothetical number generated through heroic assumptions about an undivinable future. As Carl Devine famously said, "No one has ever learned anything from the future." All subscribed to the principle that accounting should report only what actually occurred during a period of time -- this was the essence of E&B's argument that accounting data are for evaluating decisions; its value lies in its value as feedback and accounting data, therefore, categorically should not be generated on assumptions about the outcomes resulting from decisions that have already been made. The significant accomplishment of these theorists was to provide a defense of accounting's avoidance of subjective values. i.e., the accounting was in its essence objective (anyone remember Five 

Monographs on Business Income, particularly Sidney Alexander's critique of accounting measures of profit?). Now we accept seemingly without question the radical transformation of accounting affected by FASB to a system of nearly exclusively subjective values, i.e., your guess is as good as mine. In spite of the optimism people seem to express, we have no technology (nor would a believer in rational expectations theory ever expect there to be) that can divine the economic future. Perhaps a renaissance of some of these old ideas is overdo. I believe it was Clarence Darrow who opined that "Contempt for law is brought about by law making itself ridiculous." As writers of LAW (kudos to Jagdish's paper) the FASB seems to make accounting more ridiculous by the day.

 PFW

December 3, 2004 reply from David Fordham

For those who don't know, Paul is an FSU alum, and Bob is a former Seminole, too, although they pre-dated me and may have had some professional interaction with Carl Devine. ...

David Fordham

December 3, 2004 reply from Bob Jensen

Hi David,

I arrived on the faculty at FSU in 1978. Carl was a recluse for all practical purposes. I don' think anybody had contact with him except a very devoted Ed McIntyre. Paul Williams was very close to Ed and may also have had some contact.  (Paul later reminded me that Carl grew interested in discussing newer directions with Ed Arrington.)

I think Carl was still actively writing and to the walls. His labor of love may have been lost if Ed and Paul didn't strive to share Carl's writings with the world. Carl was a classic scholar who'd lived most of his life in libraries.

Carl could've added a great deal to our intellectual growth and historical foundations if he participated in some of our seminars. He was a renaissance scholar.

It would've been interesting to know how Carl's behavior might've changed in the era of email. Scholars who asked him challenging questions might've gotten lengthy replies (Carl was not concise) that he would not provide face-to-face.

Bob Jensen

Decemeber 3, 2004 reply from Mclelland, Malcolm J [mjmclell@INDIANA.EDU] 

It almost seems there's a consensus on the AECM listserv on all this! Given the widespread interest and existng intellectual wherewithal among AECMs to do it, maybe it's time to start up the "Journal of Neo-Classical Accounting Theory"? Revisiting Edwards, Bell, Sterling, Chambers, Paton, et al. certainly seems worthwhile; especially if it can be fit into or reconciled with the more recent literature in accounting and finance.

Best regards,

Malcolm

Malcolm J. McLelland, Ph.D. 
mjmclell@indiana.edu  
website: http://www.uic.edu/~mclellan  
research: http://ssrn.com/author=154711 

December 1, 2004 reply from Glen Gray [glen.gray@CSUN.EDU]

Your story does surprise me. A few years ago I convinced Barry Melancon (President) and Louis Matherne (at that time, Director of IT) from the AICPA to come to L.A. and speak at a dinner meeting of the L.A. chapter of the California Society of CPAs. The meeting was at UCLA, not my campus, however, the chapter offered to waive the $35 dinner charge for any CSUN faculty who want to attend. Other than myself, one (out of about 20) other faculty member attended the dinner. I asked some of the faculty members why they did not attend. The most common answer was something like “We know what he (Barry) is going to say—use more computers in your accounting courses.”

December 1, 2004 reply from Richard C. Sansing [Richard.C.Sansing@DARTMOUTH.EDU] 

Two thoughts in response:

First, I agree with the gist of your sentiment. Hanging around real world accountants can inform both our teaching and research, and most of us underinvest in such activities.

Second, the effect of "citizenship" considerations looks like an easy cost-benefit tradeoff to me. Seminars are attended only by faculty and doctoral students, so one's presence in the room is more noticable for a research seminar than a presentation attended by lots of undergraduates. Furthermore, the personal cost of attending a daytime event is much less than a nightime event. So if one is driven by citizenship considerations, I expect many more faculty to attend the daytime research seminar than the nightime practitioner presentation.

Richard C. Sansing 
Associate Professor of Business Administration 
Tuck School of Business at Dartmouth 
 email: Richard.C.Sansing@dartmouth.edu

December 1, 2004 reply from Chuck Pier [texcap@HOTMAIL.COM]

Dennis,

I think that you have put your finger on, or maybe stumbled onto, one of the major splits in academic accounting today. You happen to be looking at this situation from one of the "research" universities. Most all of us (I use the term "us" to refer to academic accountants) have been associated with a research university. However, many of us have only been there as students during our doctoral studies. These universities place heavy premiums on both their faculties and students for what we call "basic research" that is quite replete with formulas and theories and the like. Faculty are tenured, promoted and financially rewarded to produce cutting edge research that is published in the top journals, and doctoral students are judged on their ability to analyze and conduct similar research.

On the other hand, many of "us" teach in "teaching universities" that place more emphasis on teaching and "professional" research. In other words, research that has a direct application to either the accounting profession or the teaching of accounting. There is usually not a penalty exerted on those who chose to do the more academic research, but there is also not any special rewartds for that research either.

I feel that many of "us" at teaching schools attend the lectures that you describe with a lot more regularity than your experience at your university. For example, at my school we have a weekly meeting during the fall of our Beta Alpha Psi chapter that inculeds a presentation on a topic by one of the firms in our area. These firms include all of the big four, as well as other national, regional, and local firms. The presentations run the gamut from interview techniques for the students to the latest updates on SOX or forensic accounting. As with any sample, some are better than others and many are appropriate to just the students. Despite the uneveness of the presentations I would estimate that at least 80% of our tenure track faculty are at each meeting, with the missing 20% having some other engagement and unable to attend. There is not a single member of our faculty that routinely does not attend. These meetings are not mandatory, but most of us feel that it supports both or students and the presenters, who hire our students to attend.

I am not trying to indite or point fingers at either side of the academic accounting community but it is obvious that we each have separate priorities. I for one chose the institution that I am at for the very reason that we do have a heavy emphasis on the practioneer and the undergraduate student. I know that many would abhor what I do and could not picture themselves here. They, like me have decided what they like and what they are best suited for. I do feel that at times we who are not at the big research schools feel that we are overlooked, but I wouldn't trade my place with anyone else. I think that I am providing a good service and enjoy the opportunities that it presents.

Chuck

December 3, 2004 reply from Robin A Alexander [alexande.robi@UWLAX.EDU] 

Interesting. I too came from a math background and finally realized there was no accounting theory in the scientific sense. I also came to suspect it was not a system of measurement either because to be so, there has to be something to measure independent of the measuring tool. Rather it seemed to me accounting defined, for instance, income rather than measured it.

Robin Alexander 

December 3, 2004 reply from Bob Jensen

Hi Robin,

I think the distinction lies not so much on "independence" of the measuring tool as it does on behavior induced by the measurements themselves, although this may be what you had in mind in your message to us.

Scientists measure the distance to the moon without fear that behavior of either the earth or the moon will be affected by the measurement process. There may some indirect behavioral impacts such as when designing fuel tanks for a rocket to the moon. In natural science, except for quantum mechanics, the measurers cannot re-define the distance to the moon for purposes of being able to design smaller fuel tanks.

In economics, and social science in general, behavior resulting from measurements is often more impacted by the definition of measurement itself. Changed definitions of inflation or a consumer price index might result in wealth transfers between economic sectors. Plus there is the added problem that measurements in the social sciences are generally less precise and stable, e.g., when people change behavior just because they have been "measured" or diagnosed.

Similarly in accounting, changed definitions of what goes into things like revenue, eps, asset values, and debt values may lead to wealth transfers. The Silicon Valley executives certainly believe that lowering eps by booking stock options will affect share prices vis-a-vis merely disclosing the same information in a footnote rather than as a booked expense. Virtually all earnings management efforts on the part of managers hinges on the notion that accounting outcomes affect wealth transfers. In fact if they did not do so, there probably would not be much interest in accounting numbers See "Toting Up Stock Options," by Frederick Rose, Stanford Business, November 2004, pp. 21 --- http://www.gsb.stanford.edu/news/bmag/sbsm0411/feature_stockoptions.shtml

Early accounting theorists such as Paton, Littleton, Hatfield, Edwards, Bell, Chambers, etc. generally believed there was some kind of optimal set of definitions that could be deduced without scientifically linking possible wealth transfers to particular definitions. And it is doubtful that subsequent events studies in capital market empiricism will ever solve that problem because human behavior itself is too adaptive. Academic researchers are still seeking to link behavior with accounting numbers, but they're often viewed as chasing moving windmills with lances thrust forward.

Auditors are more concerned about being faithful to the definitions. If the definition says book all leases that meet the FAS 13 criteria for a capital lease, then leases that meet those tests should not have been accounted for as operating leases. The audit mission is to do or die, not to question why. The FASB and other standard setters are supposed to question why. But they are often more impacted by the behavior of the preparers than the users. The behavior of preparers trying to circumvent accounting standards seems to have more bearing than the resulting impacts on wealth transfers that defy being built into a conceptual framework. Where science fails accounting in this regard is that the wealth transfer process is just too complicated to model except in the case of blatant fraud that lines the pockets of a villain.

It is not surprising that accounting "theory" has plummeted in terms of books and curricula. Theory debates never seem to go anywhere beyond unsupportable conjectures. I teach a theory course, but it has degenerated to one of studying intangibles and how preparers design complex contracts such as hedging and SPE contracts that challenge students into thinking how these contracts should be accounted for given our existing standards like FAS 133 and FIN 46. One course that I would someday like to teach is to design a new standard (such as a new FAS 133) and then predict how preparers would change behavior and contracting. Unfortunately my students are not interested in wild blue yonder conjectures. The CPA exam is on their minds no matter where I try to fly. They tolerate "theory" only to the point where they are also learning about existing standards. In their minds, any financial accounting course beyond intermediate should simply be an extension of intermediate accounting.

Bob Jensen

"The Accounting Cycle:  The Conceptual Framework for Financial Reporting Op/Ed,"  by J. Edward Ketz, SmartPros, September 2006 --- http://accounting.smartpros.com/x54322.xml 

The Financial Accounting Standards Board and the International Accounting Standards Board have joined forces to flesh out a common conceptual framework. Recently they issued some preliminary views on the "objectives of financial reporting" and the "qualitative characteristics of decision-useful financial reporting information" and have asked for comment.

To obtain "coherent financial reporting," the boards feel that they need "a framework that is sound, comprehensive, and internally consistent" (paragraph P3). In P5, they also state their hope for convergence between U.S. and international accounting standards.

P6 indicates a need to fill in certain gaps, such as a "robust concept of a reporting entity." I presume that they will accomplish this task later, as the current document does not develop such a "robust concept."

Chapter 1 presents the objective for financial reporting, and the description differs little from what is in Concepts Statement No. 1. This objective is "to provide information that is useful to present and potential investors and creditors and others in making investment, credit, and similar resource allocation decisions." The emphasis lay with capital providers, as it should. If anything, I would place greater accent on this aspect, because in the last 10 years, so many managers have defined the "business world" as including managers and excluding investors and creditors. To our chagrin, we learned that managers actually believed this lie, as they pretended that the resources supplied by the investment community belonged to the management team.

FASB and IASB further explain that these users are interested in the cash flows of the entity so they can assess the potential returns and the potential variability of those returns (e.g., in paragraph OB.23). I wish they had drawn the logical conclusion that financial reporting ought to exclude income smoothing. Income smoothing leads the user to assess a smaller variance of earnings than warranted by the underlying economics; income smoothing biases downward the actual variability of the earnings and thus the returns.

Later, in the basis of conclusions, the document addresses the reporting of comprehensive income and its components (see BC1.28-31). Currently, FASB has four items that enter other comprehensive income: gains and losses on available-for-sale investments, losses when incurring additional amounts to recognize a minimum pension liability, exchange gains and losses from a foreign subsidiary under the all-current method, and gains and losses from derivatives that hedge cash flows.

The purported reason for this demarcation between earnings and other comprehensive income rests with the purported low reliability of measurements of these four items; however, the real reason for these other comprehensive items seems to be political. For example, FASB capitulated in Statement No. 115 when a number of managers objected to reporting gains and losses on available-for-sale securities because that would create volatility in earnings. (I find it curious how FASB caters to the whims of managers but claims that the primary rationale for financial reporting is to serve the investment community.) Because one has a hard time reconciling other comprehensive income with the needs of investors and creditors, it would serve the investment community better if the boards eliminate this notion of comprehensive income.

Two IASB members think that an objective for financial reporting should encompass the stewardship function (see AV1.1-7). Stewardship seems to be a subset of economic usefulness, so this objection is pointless. It behooves these two IASB members to explain the consequences of adopting a stewardship objective and how these consequences differ from the usefulness objective before we can entertain their protestation seriously.

Sections BC1.42 and 43 ask whether management intent should be a part of the financial reporting process. Given management intent during the last decade, I think decidedly not. Management intent is merely a license to massage accounting numbers as managers please. Fortunately, the Justice Department calls such tactics fraud.

Chapter 2 of this document concerns qualitative characteristics. For the most part, this presentation is similar to that in Concepts Statement No. 2, though arranged somewhat differently. Concepts 2 had as its overarching qualitative characteristics relevance and reliability. This Preliminary Views expounds relevance, faithful representation, comparability, and understandability as the qualitative characteristics.

The discussion on faithful representation is interesting (QC.16-19) inasmuch as they distinguish between accounts that depict real world phenomena and accounts that are constructs with no real world referents. They explain that deferred debits and credits do not possess faithful representation because they are merely the creation of accountants. I hope that analysis applies to deferred income tax debits and credits.

Verifiability implies similar measures by different measurers (QC.23-26). I wish FASB and IASB to include auditability as an aspect of verifiability; after all, if you cannot audit something, it is hardly verifiable. Yet, the soon to be released standard on fair value measurements includes a variety of items that will prove difficult if not impossible to audit.

Understandability is obvious, though the two boards feel that users with a "reasonable knowledge of business and economic activities" can understand financial statements. I no longer agree. Such a person might employ a profit analysis model or ratio analysis on a set of financial statements and mis-analyze a firm's condition because he or she did not make analytical adjustments for off-balance sheet items and other fanciful tricks by managers. This includes so many of Enron's investors and creditors. No, to understand financial reporting today, you must be an expert in accounting and finance.

Benefits-that-justify-costs acts as a constraint on financial reporting. While this criterion is acceptable, too often the boards view costs only from the perspective of the preparers. I wish the boards explicitly acknowledged the fact that not reporting on some things adds costs to users. When a business enterprise engages in aggressive accounting, the expert user needs to employ analytical adjustments to correct this overzealousness. These adjustments consume the investor's economic resources and thus involve costs to the investment community.

In the basis-for-conclusions section, FASB and IASB explain that the concept of substance over form is included in the concept of faithful representation (see paragraphs BC2.17 and 18). While I don't have a problem with that, I think they should at least emphasize this point in Chapter 2 rather than bury it in this section. Substance over form is a critically important doctrine, especially as it relates to business combinations and leases, so it deserves greater stress.

On balance, the document is well written and contains a good clarification of the objective of financial reporting and the qualitative characteristics of decision-useful financial reporting information. I offer the criticisms above as a hope to strengthen and improve the Preliminary Views.

My most important comment, however, does not address any particular aspects within the document itself. Instead, I worry about the usefulness of this objective and these qualitative characteristics to FASB and IASB. To enjoy coherent financial reporting, there not only is need for a sound, comprehensive, and internally consistent framework, we also must have a board with the political will to utilize the conceptual framework. FASB ignored its own conceptual framework in its issuance of standards on:

* Leases (Aren't the financial commitments of the lessee a liability?) * Pensions (How can the pension intangible asset really be an asset as it has no real world referent?) * Stock options (Why did the board not require the expensing of stock options in the 1990s when stock options clearly involve real costs to the firm?), and * Special purpose entities (Why did the board wait for the collapse of Enron before dealing with this issue?).

Clearly, the low power of FASB -- IASB likewise possesses little power -- explains some of these decisions, but it is frustrating nonetheless to see the board ignore its own conceptual framework. Why engage in this deliberation unless FASB is prepared to follow through?

J. EDWARD KETZ is accounting professor at The Pennsylvania State University. Dr. Ketz's teaching and research interests focus on financial accounting, accounting information systems, and accounting ethics. He is the author of Hidden Financial Risk, which explores the causes of recent accounting scandals. He also has edited Accounting Ethics, a four-volume set that explores ethical thought in accounting since the Great Depression and across several countries.

December 7, 2004 message from Carnegie President [carnegiepresident@carnegiefoundation.org] 

A different way to think about ... Professional Education This month's Carnegie Perspective is written by Carnegie Senior Scholar William Sullivan, whose extensively revised second edition of Work and Integrity was just released by Jossey-Bass. The Perspective is based on the book's argument that in today's environment of unrelenting economic and social pressures, in which professional models of good work come under increasing strain, the professions need their educational centers more than ever as resources and as rallying points for renewal.

Since our goal in Carnegie Perspectives is to contribute to the dialogue on issues and to provide a different way to think and talk about concerns, we have opened up the conversation by creating a forum—Carnegie Conversations—where you can engage publicly with the author and read and respond to what others have to say.

However, if you would prefer that your comments not be read by others, you may still respond to the author of the piece through CarnegiePresident@carnegiefoundation.org .

If you would like to unsubscribe to Carnegie Perspectives, use the same address and merely type unsubscribe in the subject line of your email to us.

We look forward to hearing from you.

Sincerely,

Lee S. Shulman President 
The Carnegie Foundation for the Advancement of Teaching

Preparing Professionals as Moral Agents By William Sullivan

Breakdowns in institutional reliability and professional self-policing, as revealed in waves of scandals in business, accounting, journalism, and the law, have spawned a cancerous cynicism on the part of the public that threatens the predictable social environment needed for a healthy society. For professionals to overcome this public distrust, they must embrace a new way of looking at their role to include civic responsibility for themselves and their profession, and a personal commitment to a deeper engagement with society.

The highly publicized unethical behavior that we see today by professionals is still often thought by many—physicians, lawyers, educators, scientists, engineers—as "marginal" matters in their fields, to be overcome in due course by the application of the value-neutral, learned techniques of their profession. But this conventional view fails to recognize that professionals' "problems" arise outside the sterile, neutral and technical and instead lie within human social contexts. These are not simply physical environments or information systems. They are networks of social engagement structured by shared meanings, purposes, and loyalties. Such networks form the distinctive ecology of human life.

For example, a doctor faced with today's lifestyle diseases—obesity, addictions, cancer, strokes—rather than with infectious biological agents, soon realizes that he or she must take into account how individuals, groups, or whole societies lead their lives. Or in education, it is often assumed that schools can improve student achievement by setting clear standards and then devising teaching techniques to reach them. But this approach has been confounded when it encounters students who do not see a relationship between academic performance and their own goals, or when the experience of students and parents has made trusting school authorities appear a dubious bargain.

In order to "solve" the apparently intractable problems of health care, education, public distrust, or developing a humane and sustainable technological order, the strategies of intervention employed by professionals must engage with, and if possible, strengthen, the social networks of meaning and connection in people's lives—or their efforts will continue to misfire or fail. And not only will they be less effective in meeting the needs of society and the individuals who entrust their lives to their care, but they will also find in their midst colleagues who do not uphold the moral tenets of the profession.

The idea of the professional as neutral problem solver, above the fray, which was launched with great expectations a century ago, is now obsolete. A new ideal of a more engaged, civic professionalism must take its place. Such an ideal understands, as a purely technical professionalism does not, that professionals are inescapably moral agents whose work depends upon public trust for its success.

Since professional schools are the portals to professional life, they bear much of the responsibility for the reliable formation in their students of integrity of professional purpose and identity. In addition to enabling students to become competent practitioners, professional schools always must provide ways to induct students into the distinctive habits of mind that define the domain of a lawyer, a physician, nurse, engineer, or teacher. However, the basic knowledge of a professional domain must be revised and recast as conditions change. Today, that means that the definition of basic knowledge must be expanded to include an understanding of the moral and social ecology within which students will practice.

Today's professional schools will not serve their students well unless they foster forms of practice that open possibilities of trust and partnership with those the professions serve. Such a reorientation of professional education means nothing less than a broadening and rebalancing of professional identity. It means an intentional abandonment of the image of the professional as superior and detached problem-solver. It also requires a positive engagement. Professional education must promote the opening of professional life to meet clients and patients as also fellow citizens, persons with whom teachers, physicians, lawyers, nurses, accountants, engineers, and indeed all professionals share a larger, common "practice"—that of citizen, working to contribute particular knowledge and specialized skills toward improving the quality of life, perhaps especially for those most in need.

Professional schools have too often held out to their students a notion of expert knowledge that remains abstracted from context. Since the displacement of apprenticeship on the job by academic training in a university setting, professional schools have tilted the definition of professional competence heavily toward cognitive capacity, while downplaying other crucial aspects of professional maturity. This elective affinity between the academy's penchant for theoretical abstraction and the distanced stance of problem solving has often obscured the key role played by the face-to-face transmission of professional understanding and judgment from teacher to student. This is the core of apprenticeship that must not be allowed to wither from lack of understanding and attention.

A new civic awareness within professional preparation could go a long way toward awakening awareness that the authentic spirit of each professional domain represents more than a body of knowledge or skills. It is a living culture, painfully developed over time, which represents at once the individual practitioner's most prized possession and an asset of great social value. Its future worth, however, will depend in large measure on how well professional culture gets reshaped to answer these new needs of our time

"The Practitioner-Professor Link," by Bonita K. Peterson, Christie W. Johnson, Gil W. Crain, and Scott J. Miller, Journal of Accountancy, June 2006 --- http://www.aicpa.org/pubs/jofa/jun2005/kramer.htm

EXECUTIVE SUMMARY PERIODIC FEEDBACK FROM PRACTITIONERS to faculty about the strengths and weaknesses of their graduates and their program can help to positively influence the accounting profession. CPAs ALSO CAN INSPIRE STUDENTS’ education by providing internship opportunities for accounting students, or serving as a guest speaker in class. MEMBERSHIP ON A UNIVERSITY’S ACCOUNTING advisory council permits a CPA to interact with faculty on a regular basis and directly affect the accounting curriculum. SERVING AS A “PROFESSOR FOR A DAY” is another way a CPA can promote the profession to accounting students and answer any questions they have. CPAs CAN SUPPORT STUDENTS’ PROFESSIONAL development by providing advice on proper business attire and tips for preparing resumes, and conducting mock interviews. CPAs CAN SHARE EXPERIENCES with a professor to cowrite an instructional case study for a journal, which can reach countless students in classrooms across the world. ORGANIZING OR CONTRIBUTING to an accounting education fund at the university can help fund a variety of educational purposes, such as student scholarships and travel expenses to professional meetings. PARTICIPATION BY PRACTITIONERS in the education of today’s accounting students is a win-win-win situation for students, CPAs and faculty.

Controversies in Setting Accounting Standards

SEC Seeks Stronger GASB
Securities and Exchange Commission Chairman Christopher Cox wants the Governmental Accounting Standards Board to have more clout, he said Wednesday in a speech at a community town hall meeting in Los Angeles.
SmartPros, July 19, 2007 --- http://accounting.smartpros.com/x58440.xml

Neutrality Concept in Accounting Standard Setting

In Concepts Statement No. 2, the FASB asserts it should not issue a standard for the purpose of achieving some particular economic behavior. Among other things, this statement implies that the board should not set accounting standards in an attempt to bolster the economy or some industry sector. Ideally, scorekeeping should not affect how the game is played. But this is an impossible ideal since changes in rules for keeping score almost always change player behavior. Hence, accounting standards cannot be ideally neutral. The FASB, however, actively attempts not to not take political sides on changing behavior that favors certain political segments of society. In other words, the FASB still operates on the basis that fairness and transparency in the spirit of neutrality override politics. However, there is a huge gray zone that, in large measure, involves how companies, analysts, investors, creditors, and even the media react to new accounting rules. Sometimes they react in ways that are not anticipated by the FASB.

Questions
Is there a problem with how GAAP covers one's Fannie?
Would fair value accounting help in this situation?

"Fannie Execs Defend Accounting Change Friday," by Marcy Gordon, Yahoo News, November 16, 2007 --- http://biz.yahoo.com/ap/071116/fannie_mae_accounting.html 

Fannie Mae executives on Friday defended a change in the way the mortgage lender discloses losses on home loans amid concern from analysts that it could mask the true impact of the credit crisis on its bottom line.

The chief financial officer and other executives of the government-sponsored company, which reported a $1.4 billion third-quarter loss last week, held a conference call with Wall Street analysts to explain the recent change.

Analysts peppered the executives with questions in a skeptical tone. The way Fannie discloses its mortgage losses, addressed in an article published online by Fortune, raises extra concern among analysts given that Fannie Mae was racked by a $6.3 billion accounting scandal in 2004 that tarnished its reputation and brought government sanctions against it.

Moreover, the skepticism from Wall Street comes as Fannie seeks approval from the government to raise the cap of its investment portfolio.

The chief financial officer, Stephen Swad, said in the call that some of the $670 million in provisions for credit losses on soured home loans that Fannie Mae wrote off in the third quarter likely would be recovered.

"We book what we book under (generally accepted accounting principles) and we provide this disclosure to help you understand it," Swad said.

Shares of Fannie Mae fell $4.30, or 10 percent, to $38.74 on Friday, following a 10 percent drop the day before.

"Fannie Shares Continue Plunge," by Mike Barris,  The Wall Street Journal, November 16, 2007 --- http://online.wsj.com/article/SB119522620923495790.html

Shares of Fannie Mae skidded further Friday, after falling 10% Thursday amid worries over the way the mortgage giant reports credit losses and a gloomy outlook for the housing market.

The latest decline in the company's share price came as Chief Financial Officer Stephen Swad on Friday attempted to alleviate investor concerns about the company's credit losses.

In morning trading, Fannie shares were at $41.30, down $1.75, or 4%. The shares had fallen as much as 14% early in the day before recovering somewhat. Shares of Fannie's counterpart, Freddie Mac, also fell, down $1.98, or 4.8%, to $39.91.

Thursday's drop came after Fortune magazine's Web site reported a change in the method Fannie uses to report credit losses.

Last week, the nation's biggest investor in home-mortgage loans reported that its credit losses in the year's first nine months equaled 0.04% of the company's $2.8 trillion of mortgages and related securities owned or guaranteed, up from 0.018% a year earlier. That was in line with the company's forecast.

But the company changed its method of presenting the figure, excluding unrealized losses on certain loans that were marked down to reflect current market conditions. Including those unrealized losses, the rate for this year's first nine months was 0.075%, up from 0.023% a year before.

Fannie officials said the change was made to separate realized losses from ones that haven't been realized and depend on fluctuating market values for loans. A report from J.P. Morgan Chase & Co. analyst George Sacco said the new method is similar to that used by Freddie Mac. Fannie officials noted that both the realized and unrealized losses were reflected in the earnings reported last week.

Fannie's stock had already been falling for a few weeks amid worries about how hard Fannie would be hurt by rising mortgage defaults. At an investment conference Thursday in New York, Wells Fargo & Co.'s chief executive, John Stumpf, predicted more pain for mortgage lenders in the year ahead as falling home prices cut the value of collateral, saying the nationwide decline in housing is the worst since the Great Depression.

Thursday, Fannie shares dropped $4.78, or 10%, to $43.04.

On Friday, Mr. Swad tried to explain further how the company was accounting for potential losses.

Last week, Fannie Mae reported roughly $670 million in credit losses in the third quarter related to certain charge-offs recorded when delinquent loans were purchased from mortgage-backed securities trusts. Mr. Swad explained Friday that portions of the credit losses would likely be recovered.

Though these third quarter losses were charged off, they are not considered realized losses, Mr. Swad said, because the loans backing these securities could still be "cured." Mr. Swad said the company was "required to take a charge when the market estimate is below our purchase price." The company's experience, he added, "has shown that the majority of these loans don't result in any realized losses." But he declined to be more specific about what percentage of the loans would eventually "cure."

Fannie last week released earnings for the first three quarters of the year. It reported an additional unrealized loss of $955 million in the value of private-label securities backed by subprime and Alt-A mortgages through the end of the third quarter. This was in addition to $376 million the company had previously accounted as a loss for these securities this year.

November 16, 2007 reply from Dennis Beresford [dberesfo@TERRY.UGA.EDU]

For the record, there was no "accounting change" as per this headline. A headline of "Fannie Mae follows GAAP" probably wouldn't be quite as sexy but it would be 100% accurate. The company's clear explanation of what it is required to do under GAAP is covered in the conference call that is available on Fannie Mae's web site for those accounting aficionados who want to learn more about AICPA Statement of Position 03-03 that requires companies repurchasing loans to record them at fair value. So the answer to your question is that fair value accounting apparently only complicated analysts' understanding in this case.

Denny Beresford

November 17, 2007 reply from Bob Jensen

Hi Denny,

Your comment sheds a lot of light on this apparent gap between analyst expectations and GAAP rules in this case. The SEC, FASB, and the IASB are pushing hard and steady toward fair value accounting with FAS 155, 157, and 159 just being intermediary steps along the way. At least in this case, however, required fair value accounting is allegedly contributing to the plunge in Fannie Mae’s share values.

This is another example of the unpredictability of the Neutrality Concept in standard setting. You point out (see below) that FASB seriously considers neutrality for every new standard and interpretation with the goal of having scorekeeping not affect how the game is played, but in athletics and business it is virtually impossible to change how something is scored without affecting policies and strategies. For example, when long shots in basketball commenced to earn three points rather than two points it fundamentally changed the game of basketball.

Perhaps this is all an example of what you, in 1989, termed "relevant financial information may bring about damaging consequences." (see a quote from your article below). It would have been interesting if the media reporters in 2007 had cited your 1989 article in this beating Fannie Mae is now taking by adhering to GAAP.

Bob Jensen

"How well does the FASB consider the consequences of its work?" by Dennis Beresford, All Business, March 1, 1989 ---
http://www.allbusiness.com/accounting/methods-standards/105127-1.html

Neutrality is the quality that distinguishes technical decision-making from political decision-making. Neutrality is defined in FASB Concepts Statement 2 as the absence of bias that is intended to attain a predetermined result. Professor Paul B. W. Miller, who has held fellowships at both the FASB and the SEC, has written a paper titled: "Neutrality--The Forgotten Concept in Accounting Standards Setting." It is an excellent paper, but I take exception to his title. The FASB has not forgotten neutrality, even though some of its constituents may appear to have. Neutrality is written into our mission statement as a primary consideration. And the neutrality concept dominates every Board meeting discussion, every informal conversation, and every memorandum that is written at the FASB. As I have indicated, not even those who have a mandate to consider public policy matters have a firm grasp on the macroeconomic or the social consequences of their actions. The FASB has no mandate to consider public policy matters. It has said repeatedly that it is not qualified to adjudicate such matters and therefore does not seek such a mandate. Decisions on such matters properly reside in the United States Congress and with public agencies.

The only mandate the FASB has, or wants, is to formulate unbiased standards that advance the art of financial reporting for the benefit of investors, creditors, and all other users of financial information. This means standards that result in information on which economic decisions can be based with a reasonable degree of confidence.

A fear of information

Unfortunately, there is sometimes a fear that reliable, relevant financial information may bring about damaging consequences. But damaging to whom? Our democracy is based on free dissemination of reliable information. Yes, at times that kind of information has had temporarily damaging consequences for certain parties. But on balance, considering all interests, and the future as well as the present, society has concluded in favor of freedom of information. Why should we fear it in financial reporting?

Continued in article

 

Bob Jensen's threads on standard setting are at http://www.trinity.edu/rjensen/Theory01.htm

Bob Jensen's threads on Accrual Accounting and Estimation are at http://www.trinity.edu/rjensen/Theory01.htm#AccrualAccounting

Bob Jensen's threads on fair value accounting are at http://www.trinity.edu/rjensen/Theory01.htm#FairValue

Bob Jensen's threads on Fannie Mae's enormous problem (the largest in history that led to the firing of KPMG from the audit and a multiple-year effort to restate financial statemetns) with applying FAS 133 --- http://www.trinity.edu/rjensen/caseans/000index.htm#FannieMae

Question
Is a major overhaul of accounting standards on the way?
Hint
There may no longer be the tried and untrusted earnings per share number to report!
Comment
It would be interesting to see a documentation of the academic research, if any, that the FASB relied upon to commence this blockbuster initiative. I recommend that some astute researcher commence to probe into the thinking behind this proposal.

"Profit as We Know It Could Be Lost With New Accounting Statements," by David Reilly, The Wall Street Journal, May 12, 2007; Page A1 --- http://online.wsj.com/article/SB117893520139500814.html?mod=DAT

Pretty soon the bottom line may not be, well, the bottom line.

In coming months, accounting-rule makers are planning to unveil a draft plan to rework financial statements, the bedrock data that millions of investors use every day when deciding whether to buy or sell stocks, bonds and other financial instruments. One possible result: the elimination of what today is known as net income or net profit, the bottom-line figure showing what is left after expenses have been met and taxes paid.

It is the item many investors look to as a key gauge of corporate performance and one measure used to determine executive compensation. In its place, investors might find a number of profit figures that correspond to different corporate activities such as business operations, financing and investing.

Another possible radical change in the works: assets and liabilities may no longer be separate categories on the balance sheet, or fall to the left and right side in the classic format taught in introductory accounting classes.

ACCOUNTING OVERHAUL

Get a glimpse of what new financial statements could look like, according to an early draft recently provided by the Financial Accounting Standards Board to one of its advisory groups.The overhaul could mark one of the most drastic changes to accounting and financial reporting since the start of the Industrial Revolution in the 19th century, when companies began publishing financial information as they sought outside capital. The move is being undertaken by accounting-rule makers in the U.S. and internationally, and ultimately could affect companies and investors around the world.

The project is aimed at providing investors with more telling information and has come about as rule makers work to one day come up with a common, global set of accounting standards. If adopted, the changes will likely force every accounting textbook to be rewritten and anyone who uses accounting -- from clerks to chief executives -- to relearn how to compile and analyze information that shows what is happening in a business.

This is likely to come as a shock, even if many investors and executives acknowledge that net income has flaws. "If there was no bottom line, I'd want to have a sense of what other indicators I ought to be looking at to get a sense of the comprehensive health of the company," says Katrina Presti, a part-time independent health-care contractor and stay-at-home mom who is part of a 12-woman investment club in Pueblo, Colo. "Net income might be a false indicator, but what would I look at if it goes away?"

The effort to redo financial statements reflects changes in who uses them and for what purposes. Financial statements were originally crafted with bankers and lenders in mind. Their biggest question: Is the business solvent and what's left if it fails? Stock investors care more about a business's current and future profits, so the net-income line takes on added significance for them.

Indeed, that single profit number, particularly when it is divided by the number of shares outstanding, provides the most popular measure of a company's valuation: the price-to-earnings ratio. A company that trades at $10 a share, and which has net profit of $1 a share, has a P/E of 10.

But giving that much power to one number has long been a recipe for fraud and stock-market excesses. Many major accounting scandals earlier this decade centered on manipulation of net income. The stock-market bubble of the 1990s was largely based on investors' assumption that net profit for stocks would grow rapidly for years to come. And the game of beating a quarterly earnings number became a distraction or worse for companies' managers and investors. Obviously it isn't known whether the new format would cut down on attempts to game the numbers, but companies would have to give a more detailed breakdown of what is going on.

The goal of the accounting-rule makers is to better reflect how businesses are actually run and divert attention from the one number. "I know the world likes single bottom-line numbers and all of that, but complicated businesses are hard to translate into just one number," says Robert Herz, chairman of the Financial Accounting Standards Board, the U.S. rule-making body that is one of several groups working on the changes.

At the same time, public companies today are more global than local, and as likely to be involved in services or lines of business that involve intellectual property such as software rather than the plants and equipment that defined the manufacturing age. "The income statement today looks a lot like it did when I started out in this profession," says William Parrett, the retiring CEO of accounting firm Deloitte Touche Tohmatsu, who started as a junior accountant in 1967. "But the kind of information that goes into it is completely different."

Along the way, figures such as net income have become muddied. That is in part because more and more of the items used to calculate net profit are based on management estimates, such as the value of items that don't trade in active markets and the direction of interest rates. Also, over the years rule makers agreed to corporate demands to account for some things, such as day-to-day changes in the value of pension plans or financial instruments used to protect against changes in interest rates, in ways that keep them from causing swings in net income.

Rule makers hope reformatting financial statements will address some of these issues, while giving investors more information about what is happening in different parts of a business to better assess its value. The project is being managed jointly by the FASB in the U.S. and the London-based International Accounting Standards Board, and involves accounting bodies in Japan, other parts of Asia and individual European nations.

The entire process of adopting the revised approach could take a few years to play out, so much could yet change. Plus, once rule makers adopt the changes, they would have to be ratified by regulatory authorities, such as the Securities and Exchange Commission in the U.S. and the European Commission in Europe, before public companies would be required to follow them.

As a first step, rule makers expect later this year to publish a document outlining their preliminary views on what new form financial statements might take. But already they have given hints of what's in store. In March, the FASB provided draft, new financial statements at the end of a 32-page handout for members of an advisory group. (See an example.)

Although likely to change, this preview showed an income statement that has separate segments for the company's operating business, its financing activities, investing activities and tax payments. Each area has an income subtotal for that particular segment.

There is also a "total comprehensive income" category that is wider ranging than net profit as it is known today, and so wouldn't be directly comparable. That is because this total would likely include gains and losses now kept in other parts of the financial statements. These include some currency fluctuations and changes in the value of financial instruments used to hedge against other items.

Comprehensive income could also eventually include short-term changes in the value of corporate pension plans, which currently are smoothed out over a number of years. As a result, comprehensive income could be a lot more difficult to predict and could be volatile from quarter to quarter or year to year.

As for the balance sheet, the new version would group assets and liabilities together according to similar categories of operating, investing and financing activities, although it does provide a section for shareholders equity. Currently, a balance sheet is broken down between assets and liabilities, rather than by operating categories.

Such drastic change isn't likely to happen without a fight. Efforts to bring now-excluded figures into the income statement could prompt battles with companies that fear their profit will be subject to big swings. Companies may also balk at the expense involved.

"The cost of this change could be monumental," says Gary John Previts, an accounting professor at Case Western Reserve University in Cleveland. "All the textbooks are going to have to change, every contract and every bank arrangement will have to change." Investors in Europe and Asia, meanwhile, have opposed the idea of dropping net profit as it appears today, David Tweedie, the IASB's chairman, said in an interview earlier this year.

Analysts in the London office of UBS AG recently published a report arguing this very point -- that even if net income is a "simplistic measure," that doesn't mean it isn't a valid "starting point in valuation" and that "its widespread use is justification enough for its retention."

Such opposition doesn't surprise many accounting experts. Net income is "the basis for bonuses and judgments about what a company's stock is worth," says Stephen A. Zeff, an accounting professor at Rice University. "I just don't know what the markets would do if companies stopped reporting a bottom line somewhere." In the U.S., professional investors and analysts have taken a more nuanced view, perhaps because the manipulation of numbers was more pronounced in U.S. markets.

That said, net profit has been around for some time. The income statement in use today, along with the balance sheet, generally dates to the 1940s when the SEC laid out regulations on financial disclosure. But many companies have included net profit in one form or another since the 1800s.

In its fourth annual report, General Electric Co. provided investors with a consolidated balance sheet and consolidated profit-and-loss account for the year ended Jan. 31, 1896. The company, whose board at the time included Thomas Edison, generated "profit of the year" -- what today would be called net income or net profit -- of $1,388,967.46.

For the moment, net profit will probably exist in some form, although its days are likely numbered. "We've decided in the interim to keep a net-income subtotal, but that's all up for discussion," the FASB's Mr. Herz says.

Accounting Rule Is Eased for Foreign Companies
Federal regulators tentatively agreed Wednesday to ease an accounting requirement for foreign companies that trade on United States exchanges. The action by the Securities and Exchange Commission paves the way for a related change that would allow public companies to choose between international and United States accounting standards when reporting financial results. The step taken by the S.E.C. on Wednesday would eliminate a requirement for foreign companies to reconcile their financial results with United States standards called generally accepted accounting principles, or GAAP. Foreign companies, which already adhere to what are called international financial reporting standards, say the S.E.C. mandate is burdensome and costly. The change, which awaits formal adoption after a 75-day public comment period, would apply to 2008 annual reports, which are submitted in early 2009.
Associated Press, "Accounting Rule Is Eased for Foreign Companies," The New York Times, June 21, 2007 --- http://www.nytimes.com/2007/06/21/business/worldbusiness/21sec.html

From The Wall Street Journal Accounting Weekly Review on March 30, 2007

"Accounting Firms Seek Overhaul," by Tad Kopinski, Institutional Shareholder Services ISS, November 20, 2006 ---
http://blog.issproxy.com/2006/11/accounting_firms_seek_overhaul.html

The six biggest international audit firms have called for a complete overhaul of corporate financial reporting as the U.S. and Europe move toward convergence of international audit standards.

In a Nov. 8 report, the accounting firms propose to replace static quarterly financial statements with real-time, Internet-based reporting that encompasses a wider range of performance measures, including non-financial ones. The report was signed by the chiefs of PricewaterhouseCoopers International, Grant Thornton International, Deloitte, KPMG International, BDO International, and Ernst & Young. The report can be downloaded here.

"We all believe the current model is broken," Mike D. Rake, KPMG's chairman, told the Financial Times. "There are significant shortcomings to U.S. GAAP [Generally Accepted Accounting Principles] and issues of concern with International Financial Reporting Standards. We're not in a very happy situation."

Rake noted that quarterly reporting and the short-term focus on companies' ability to meet Wall Street earnings expectations helped foster accounting scandals. The firms have been working on their proposals for more than a year.

The large discrepancy between the "book" and "market" values of many listed companies is clear evidence that the content of traditional financial statements is of limited use, the report said. The audit firms recommend using non-financial measures that would provide more valuable indications of a company's future prospects, such as customer satisfaction, product or service defects, employee turnover, and patent awards.

The report said the following developments need to occur to ensure capital market stability, efficiency, and growth:

--Investor needs for information are well defined and met;
--The roles of the various stakeholders in these markets--financial statement preparers, regulators, investors, standards setters, and auditors--are aligned and supported by effective forums for continuous dialogue;
--The auditing profession is vibrant, sustainable, and provides sufficient choice for all stakeholders in these markets;
--A new business-reporting model is developed to deliver relevant and reliable information in a timely way;
--Large, collusive frauds are more and more rare; and
--Information is reported and audited pursuant to globally consistent standards.
 

ICGN Expresses Concerns Over Convergence

Meanwhile, the International Corporate Governance Network (ICGN) has expressed concerns about a draft proposal on harmonizing international and U.S. accounting standards. The ICGN argues that the draft doesn't pay sufficient attention to shareholder rights and the stewardship role of boards and investors.

"Convergence must be there to raise standards," ICGN Executive Director Anne Simpson told the Financial Times. "Convergence for its own sake is not of value."

The ICGN letter was in response to a request for comment by the International Accounting Standards Board (IASB) and its U.S. counterpart, the Financial Accounting Standards Board (FASB) on a discussion paper on harmonization objectives. The IASB and the FASB have been working on harmonizing the two accounting systems since October 2002 and have set 2008 as the goal for finalizing the process.

Unlike the current IASB auditing framework, the discussion paper endorses a model more similar to U.S. standards, dropping a key shareowner safeguard embedded in U.K.-style standards, the ICGN noted. Rather than focusing audits on past transactions, the discussion paper calls for audits to focus on "decision-usefulness" that can affect company cash flows, the letter said.

"We are concerned that this emphasis on the ability to forecast the future does not fully capture the requirements of stewardship, which is concerned with monitoring past transactions and events," Mark Anson, the CEO of Hermes Pensions Management who chairs the ICGN, wrote in the Nov. 2 letter. (A Hermes affiliate is a part owner of ISS.)

"In many jurisdictions, financial statements provide significant input into the decisions we make as shareholders, by providing an account of past transactions and events and the current financial position of the business," the ICGN letter noted. "In de-emphasizing things that are particularly [relevant to shareholders' risks and rights], the standards setters could achieve the perverse effect of actually increasing the cost of capital."

The ICGN includes more than 400 institutional and private investors, corporations, and advisers from 38 countries with capital under management in excess of $10 trillion, according to its Web site. The ICGN letter also was signed by Claude Lamoureux, CEO of the Ontario Teachers' Pension Plan.

A copy of the IASB discussion paper, which was published in July, can be downloaded here.

Bob Jensen's threads on fair value accounting are at http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#FairValue

Bob Jensen's threads on troubles in the big international accounting firms are at http://www.trinity.edu/rjensen/Fraud001.htm

Bob Jensen's threads on proposed reforms are at
http://www.trinity.edu/rjensen/FraudProposedReforms.htm

Question
Will the U.S. adopt all IFRS international standards while the European Union cherry picks which standards it will adopt?

From The Wall Street Journal Accounting Weekly Review on April 27, 2007

"SEC to Mull Letting U.S. Companies Use International Accounting Rules," by David Reilly, The Wall Street Journal, Page: C3 --- http://snipurl.com/WSJ0425

TOPICS: Accounting, Financial Accounting, Financial Accounting Standards Board, Securities and Exchange Commission

SUMMARY: The article describes the SEC's willingness to consider allowing U.S. companies to use USGAAP or International Financial Reporting Standards (IFRS) in their filings. This development stems from the initiative to allow international firms traded on U.S. exchanges to file using IFRS without reconciling to USGAAP-based net income and stockholders' equity as is now required on Form 20F. "SEC Chairman Christopher Cox said the agency remains committed to removing the reconciliation requirement by 2009. Such a move was the subject of an SEC roundtable and is being closely watched by European Union officials." The SEC will accept comments this summer on its proposal to eliminate the reconciliation requirements. If the agency does implement this change, then it will consider allowing U.S. companies the same alternative.

QUESTIONS:
1.) What is a "foreign private issuer" (FPI)? Summarize the SEC's current filing requirements for these entities.

2.) Why is the SEC considering allowing U.S. companies to submit filings under IFRS rather than U.S. GAAP?

3.) Why might the SEC's decision in this matter "spell the demise of USGAAP"?

4.) Define "principles-based standards" and contrast with "rules-based standards." Give an example in either USGAAP or IFRS requirements for each of these items.

5.) "Some experts don't think a move away from U.S. GAAP would necessarily be bad." Who do you think would hold this opinion? Who would disagree? Explain.

6.) Define the term convergence in relation to global standards. Who is working towards this goal?

Reviewed By: Judy Beckman, University of Rhode Island

Jensen Comment
Canada has already decided to adopt the IFRS in place of domestic Canadian standards.

Also see ""Strengthening the Transatlantic Economy," by José Manuel Barroso (European Commission President), April 27, 2007 --- http://www.iasplus.com/europe/0704barroso.pdf

Also don't assume that the European Union automatically adopts each IASB international standard. For example, the EU may not adopt IFRS 8 --- http://www.iasplus.com/standard/ifrs08.htm

Bob Jensen's threads on differences between the international and U.S. standards are summarized at http://www.trinity.edu/rjensen//theory/00overview/theory01.htm#FASBvsIASB

Complicated Accounting Rules and Employee Pressures

November 7, 2006 message from Amy Dunbar [Amy.Dunbar@BUSINESS.UCONN.EDU]

I am teaching a class, Research for Accounting Professionals, and I have been thinking about how to prepare my students for the "real world." I am looking for some insight re: the apparent increased pressure on accountants. For example, some say that the financial reporting environment is rivaling the tax world for the number of new rules that come out every year. I counted the number of statements issued since per year and found that the 1980s was the busiest period, with 1982 being the highest year with 18 statements. Does anyone know why that was? If the number of statements isn't increasing, is it the guidance from SEC that has increased, or is the pressure coming from the SOX environment with its emphasis on internal controls? Has the internal control guidance stepped up? Or is the pressure simply the same pressure that all business people are facing from increased global competition?

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Amy Dunbar
University of Connecticut
School of Business
Department of Accounting
2100 Hillside Road, Unit 1041 Storrs, CT 06269

November 8, 2006 reply from Bob Jensen

Hi Amy,

I don’t think you can compare numbers of FASB/SEC statements with any sort of confidence. How do you compare FAS 133 (incredibly complex) with FAS 157 (relatively simple)? The problem is not the number of new standards but the way new standards merely add to a growing mountain of previous standards that does not go away --- the mountain just grows higher and higher.

Our students must face an exceedingly complex world of technology. They must have skills in pivot tables, client databases, knowledge databases, ERP, and things that were just not crashing down on our graduates in the 1980s.

I personally think that a negative externality of technology has been increased risk of fraud that increases pressures on auditors. For example, technology has made it lucrative to steal IDs. Now we have huge conspiracies to steal those IDs, as witnessed by the recent reporting of a gang, including hotel owners, managers, and employees, that were stealing IDs at multiple hotels. Internal controls have just not kept pace with the level of theft risks and temptations, and our graduates are under pressures to invent newer  internal controls in complicated IT systems. Hacker/Cracker criminals themselves are extremely sophisticated and skilled. Our networked enemies can be anywhere on the globe.

Pressures are coming from a wide variety of interacting causes, not the least of which is SOX which is basically aimed at improving audit quality. What you had back in the 1980s was auditing sham! Firms like Andersen were removing much of the detail testing and trench work out of the audits, thereby taking much of the pressure off of auditors in the field --- http://www.trinity.edu/rjensen/fraud001.htm#RiskBasedAuditing
The world’s worst audit in history, WorldCom, brought this sham into the light.

The audit scandals (spread rather evenly among firms), litigation losses, the nose dive of reputation of the CPA profession, and SOX turned much of this around and now the audit firms are trying to restore the professionalism of their work with a dramatic increase in funding to do the job. But the pressures are bound to increase as well if auditors really try to do professional work.

You have audit firms being fired (the way KPMG was fired from Fannie Mae and E&Y was fired from TIAA/CREF). You have clients paying millions upon millions to restate financial statements because of bad auditing (e.g., Fannie is spending over $100 million to produce restatements). This is bound to pressure auditors assigned to do the job right. One of my former students brought in by PwC to help generate Fannie’s restatements said that he had to become an expert on valuing derivatives using a Bloomberg terminal (as part of the restatement effort). How many of our accounting education programs teach students how to value interest rate swaps on a Bloomberg terminal?

But mostly I think the pressure is on our graduates to deal with incredibly tough contracts that their professors and their supervisors themselves do not understand. Pressure is put on our green-as-grass new graduates to understand and explain contract complexity all the way up the food chain in their firms.

Below is a message that I received yesterday from a recent graduate who went to work immediately for AT&T rather than one of the big auditing firms. It helps explain how our young graduates encounter contracts that do not appear in our textbooks and how they must have skills and knowledge well beyond what we taught in the past Century.

 

Hey again Dr. Jensen, I have another derivatives situation! Do you know anything about zero coupon bonds that are puttable? I guess they are a relatively new transaction type that banks are trying to push. I guess the theory is that you sacrifice some additional risk (by allowing the bondholder to put to you) in return for a lower interest rate than a typical zero coupon bond. It is my interpretation that written options don't count for hedge accounting status unless they offset another derivative instrument (FAS 133, P 396-401). It is also my interpretation that this is a situation which would create a difference in the bond value which would be reflected as an income statement (other income/expense) effect. However, I think the financial components of the situation are over my head, and my boss is trying to tell me that he thinks that all of this transaction would either run through interest expense or there would be a huge increase in income in the first period represented (with no MTM throughout). I don't understand these arguments. Do you have any idea what he is getting at? I am really grateful for any help you can provide, but I am starting to feel bad about emailing you. I have always assumed that you enjoyed these kind of discussions, but if you don't please don't feel obligated to answer. Just let me know - I don't want to disturb your retirement! As always, hope things are well. Thanks again so much. Andrew

 My response to him is too long to repeat here, but you can read a bit more about puttable bond accounting at http://www.trinity.edu/rjensen/acct5341/speakers/133glosf.htm

Each new message from a frustrated former student makes me happier that I’m retired in the high hills.  I would not want to be one of these young men and women today.

Bob Jensen

November 8, 2006 reply from J. S. Gangolly [gangolly@CSC.ALBANY.EDU]

Years ago, I suggested one of my doctoral students (now a colleague) to prepare a graph that shows how the various standards are related. The result was the graph attached.

Here, we represent each standard as a point, equidistant from each other, on the circumference of a circle. Then we draw an arrow from standard A to standard B if standard A amended Standard B. The result is the attached graph. It looks more like an oval because I had to compress the image to fit powerpoint slide.

The graph helps us understand the dynamics of standards, forces us to ask questions as to why standards may be frequently revised, why interpretation of "the GAAP" as opposed to standards becomes difficult, and behooves us to ask what needs to be done.

This sort of a graph is used in information retrieval as well as exploratory data analysis. I teach using this figure in my statistics course for accountants (and not Accounting "Theory" course).

Those interested in my first class of the semester, please go to the following link:

http://www.albany.edu/acc/courses/acc522.fall2006/classnotes/acc522sept142006.ppt 

Hope I am not too far off the mark.

Regards,

Jagdish

November 8, 2006 reply from Jim Formosa [Jim.Formosa@NSCC.EDU]

I believe that SOX and the PCOAB shocked the FASB for a while and I am not sure that the shock has worn off. I remember reading in several journals that, with the advent of the PCOAB, the FASB became tentative. Then I believe you have to consider the FASB process which requires drafting and approvals with the constant threat of legislative interference at the federal level. Many have questioned the long-term efficacy of the FASB process itself. I believe in full disclosure and feedback in the rule making process but it should not take years - expensing options as only one of several examples.

I have also read that many believe the FASB is fast becoming a dinosaur that has outlived its usefulness- it will certainly be interesting.

Jim Formosa, M.S., CPA
Certified Senior WebCT Trainer
Associate Professor of Accounting
Nashville Community College 615-353-3420 FAX 615-356-1213

November 8, 2006 reply from J. S. Gangolly [gangolly@CSC.ALBANY.EDU]

1. Codification is a neanderthal concept and a vestige of the disastrous Napoleonic rule in Europe. It is expensive, does nothing to resolve whatever ambiguities that might be present (in fact it might exacerbate them), has high maintenance, and totally ignores all the developments in information technologies over the past century. In fact, in my humble opinion, codification is the accounting equivalent of Iraq (I am, of course, exaggerating here). What is needed is NOT radical reconstitutive surgery of the body of accounting standards (as in Iraq) by first disemboweling them, but a philosophical reflection of the way we draft standards (and how we use them) that is informed by the developments in information technology.

In my humble opinion, the emerging technologies surrounding the semantic web initiative of W3C is the way to go, but that involves considerable research investments.

Years ago I tried a dialogue with some firms (and also with FASB through some friends) about supporting research in the area, but my plea fell on deaf ears (except for Arthur Andersen - their Litigation Support people, who showed considerable interest before they tragically disbanded).

2. Your second question as to why people still refer to SASes rather than their codification, I think I can safely rest my case in 1. above. Codification adds little value at great cost. Codification is for the lazy people who want their thinking done for them.

If the standards are drafted well, codification is a trivial task. One can have an algorithm for codification in less than a semester of a competent doctoral student's time. Drafting the standards well is another matter, and is a profoundly intellectual activity. We can not do that without adequate theories of language competence, language use, reasoning, and theories of textual interpretation (similar to legal hermeneutics). And having examined the standards as well as EDGAR filings over the past few years, I can safely say that we in accounting are quite lacking in each of these.

Regards,

Jagdish

November 8, 2006 reply from J. S. Gangolly [gangolly@CSC.ALBANY.EDU]

Bob,

1. That accounting standards standards have become complex over the years is true. It is also perhaps true that they are nowadays better drafted compared with the philosophical ramblings in very early "standards". However, I personally don't think they are anywhere close to the tax code in complexity (and of course length. For example, section 10 of SFAS 133, a relatively long paragraph for SFASes, is dwarfed by, for example section 351 of the Tax code, a relatively average paragraph).

I will not resort to midieval torture of the reader by reproducing the two sections side-by-side. But the elegance of the tax code and the lack thereof is there plainly to be seen.

One of the problems with drafting in accounting standards is in the way definitions are stated. In accounting, the definitions are often given by examples rather than definitions with exceptions to the definitions. That is not the only problem. There are a slew of problems that I wrote about in an article titled "Some thoughts on the Engineering of Financial Accounting Standards" that I wrote a long time ago (in the second volume on AI in Accounting edited by Miklos Vasarhelyi.

It would be an interesting exercise comparing the complexities between the two texts after developing appropriate metrics. I am not sure accounting standards would measure up to the tax code, but I am no expert in either field. Perhaps some one like Amy who is one in both can enlighten us.

Jagdish

November 9, 2006 reply from Bob Jensen

Jagdish,

Codification with enforcement suppresses some types of atrocious behavior. For example, thousands of CEOs commenced to steal from investors by backdating stock options until disclosure rules were put in place.

Without codification and enforcement there's anarchy. With excess codification freedom and creativity is suppressed. It's just very, very difficult to set the bar optimally because Arrow's Impossibility Theorem proved it to be impossible --- http://en.wikipedia.org/wiki/Impossibility_theorem 

We are thus doomed to forever debate codes of behavior ad infinitum.

As usual you make good points. However, financial contracting is so complex that I'm like Amy is with tax accounting. I cannot imagine trying to account on a subjective judgment basis without codification. Without codification comparability is virtually impossible with exotic financial structurings.

It's possible to reduce the problem with simplified rules/laws such as eliminating 90% of the personal tax code with a new flat tax, eliminating accrual accounting in favor of cash flow financial reporting, or reporting on a "fair value" basis for all assets and liabilities. But the social impacts of a flat tax are contentious. Cash flow reporting is a license for CEOs to mislead and manipulate investors with cash flow timing manipulations. Fair value reporting creates more fiction than fact (such as wild earnings fluctuations of perfect hedges that eliminate cash flow or FX risk).

Codification sets parameters on major types of behavior. What is "right" versus "wrong" becomes anarchy if those parameters become subjective variables. The never-ending debate becomes one of deciding what are the "major types of behavior" to be codified since it is impractical and undesirable to set a parameter for every element of behavior. In the case of financial structuring we keep inventing new "major types." For example, the interest rate swap was invented in 1984 and quickly became a major way to raise capital before it even had to be disclosed (FAS 119) and eventually booked (FAS 133) in Year 2000.

We are thus doomed to forever debate codes of behavior and accounting standards ad infinitum.

My threads containing earlier arguments on this issue (e.g., Beresford versus Ketz) are shown below.

Bob Jensen

March 28, 2006 message from Denny Beresford [DBeresfo@TERRY.UGA.EDU]

A House of Representatives subcommittee is going to have a public hearing on Wednesday that has the objective of discussing "ways to promote more transparent financial reporting, including current initiatives by regulators and industry."

See the press release at:
http://financialservices.house.gov/news.asp?FormMode=release&id=777&NewsType=1  for further details.

Denny Beresford

House Committee on Financial Services --- http://snipurl.com/BakerSub

Baker Subcommittee to Advocate Transparency in Financial Reporting

The Financial Services Subcommittee on Capital Markets, Insurance and Government Sponsored Enterprises, chaired by Rep. Richard H. Baker (LA), will convene for a hearing entitled Fostering Accuracy and Transparency in Financial Reporting. The hearing will take place on Wednesday, March 29 at 10 a.m. in room 2128 of the Rayburn building.

Members of the Subcommittee are expected to discuss ways to promote more transparent financial reporting, including current initiatives by regulators and industry.

For the capital markets to operate most efficiently, information about public companies must be understandable, accessible, and accurate. Corporate statements are mathematical summaries meant to convey a company’s condition. The four basic documents which must be filed with the U.S. Securities and Exchange Commission (SEC) are at the heart of investor disclosure: the income statement, the cash flow statement, the balance sheet, and the statement of changes in equity.

Among the current initiatives to improve the clarity and usefulness of public company information is a trend away from quarterly earnings forecasting, the use of technology to decrease complexity, and a review of the various accounting standards and how they interact.

Subcommittee Chairman Baker said, "If U.S. markets are to remain on top in an increasingly competitive global marketplace, we need to move away from the complex and cumbersome and explore technological and other methods of enhancing the clarity, accuracy, and efficiency of our accounting system. At the same time, we need to look at whether earnings forecasting and the beat-the-street mentality, which appears to have contributed to some of the executive malfeasance of the past several years, truly serves the best interest of investors or the goal of long-term economic growth."

The corporate scandals several years ago revealed weaknesses in the financial reporting system. While many companies were violating financial reporting requirements, regulatory complexity also may have contributed to some lapses in compliance.

Fraud, general manipulation of statements, and regulatory complexity all contribute to a reduction in the usefulness of financial statements and all may obfuscate the picture of companies’ financial health. A number of recent studies have argued against the practice of predicting future quarterly earnings, concluding that the drive to “make the numbers” can lead to poor business decisions and the manipulation of earnings.

Congress, regulators, and the industry subsequently have assessed financial reporting failures and have reacted with efforts aimed at strengthening the system, including many provisions of The Sarbanes-Oxley Act of 2002.

More recent initiatives by regulators to streamline financial reporting standards and accounting include:

• A Financial Accounting Standards Board (FASB) review of complex and outdated accounting standards;
• The use of principles-based, rather than rules-based, accounting;
• FASB’s continued cooperation with the International Accounting Standards Board on the convergence of accounting standards; and
• The use of eXtensible Business Reporting Language, or XBRL, a computer code which tags data in financial statements. The use of XBRL allows investors to quickly download financial data onto spreadsheets for analysis.

Public Companies have been filing financial statements with the SEC since the passage of the Securities Exchange Act of 1934.

March 28, 2006 reply from Bob Jensen

Hi Denny,

 I know that we disagree on the principles based standards initiative. My negative position on this is outlined somewhat at
http://snipurl.com/JensenPBS

I just don't think the principles based Ten Commandments are sufficient to discard all statutes on felony law. I don't think we can discard all FDA rules on drug testing and replace them with principles based guidelines for pharmaceutical companies to follow. The same can be said for environmental protection regulations, child protective services, and whatever. Sometimes we need detailed rules so we have better guidance as to what is right and what is wrong in specific and complex circumstances.

You and I go back to the old days (and we passed the CPA exam). GAAP was much less complex and could virtually be memorized. We go back to the days when much was left to "auditor judgment."

But we also go back to the days when CEOs were not fanatics about hitting analyst forecasts. We go back to days when top-tier management compensation did not swing heavily an eps number. We go back to the days when debt was debt and equity was equity. More importantly we go back to the days when an auditor could actually understand contracts being written.

In the past CEOs respected auditor decisions and did not threaten auditors like in so many companies are doing today. Too many times in recent years we've seen where virtually all big auditing firms have caved in to pressures from large clients such as the way KPMG caved in on Fannie Mae and Andersen caved in on various big clients --- http://www.trinity.edu/rjensen/fraud001.htm#others

 I think that less complex principles based standards will only increase conflicts between clients and auditors. Neither will know that rules (albeit complex rules as in the case of derivatives, leases, VIEs, and pensions) are being broken if there are no detailed rules to be broken.

 I think the absence of detailed rules greatly increase inconsistencies in "auditor judgment." I think absence of detailed rules takes away auditor bargaining chips when dealing with clients.

I guess my bottom line conclusion is that the global world of contracting, risk management, and mezzanine debt is totally unlike the simpler world back in the old days when we were auditor whippersnappers.

 Bob Jensen

Principles-Based Versus Rules-Based Accounting Standards

"Standing on Principles In a world with more regulation than ever, can the accounting rulebook be thrown away?" byAlix Nyberg Stuart, CFO Magazine September 01, 2006 ---
http://www.cfo.com/article.cfm/7852613/c_7873404?f=magazine_featured

As Groucho Marx once said, "Those are my principles, and if you don't like them...well, I have others."

Groucho would enjoy the heated stalemate over principles-based accounting. Four years after the Sarbanes-Oxley Act required the Securities and Exchange Commission to explore the feasibility of developing principles-based accounting standards in lieu of detailed rules, the move to such standards has gone exactly nowhere. ad

Broadly speaking, principles-based standards would be consistent, concise, and general, requiring CFOs to apply common sense rather than bright-lines. Instead of having, say, numerical thresholds to define when leases must be capitalized, a CFO could use his or her own judgment as to whether a company's interest was substantial enough to put a lease on the balance sheet. If anything, though, accounting and auditing standards have reached new levels of nitpickiness. "In the current environment, CFOs are second-guessed by auditors, who are then third-guessed by the Public Company Accounting Oversight Board [PCAOB], and then fourth- and fifth-guessed by the SEC and the plaintiffs' bar," says Colleen Cunningham, president and CEO of Financial Executives International (FEI).

Indeed, the Financial Accounting Standards Board seems to have taken a principled stand in favor of rule-creation. The Board continues to issue detailed rules and staff positions. Auditors have amped up their level of scrutiny, in many cases leading to a tripling of audit fees since 2002. And there is still scant mercy for anyone who breaks the rules: the annual number of restatements doubled to more than 1,000 between 2003 and 2005, thanks to pressure from auditors and the SEC. The agency pursued a record number of enforcement actions in the past three years, while shareholder lawsuits, many involving accounting practices, continued apace, claiming a record $7.6 billion in settlements last year and probably more in 2006.

Yet the dream won't die. On the contrary, principles are at the heart of FASB's latest thinking about changes to its basic accounting framework, as reflected in the "preliminary views" the board issued in July with the International Accounting Standards Board (IASB) as part of its plan to converge U.S. and international standards. Principles-based accounting has been championed by FASB chairman Robert Herz, SEC commissioner Paul Atkins, SEC deputy chief accountant Scott Taub, and PCAOB member Charlie Niemeier in various speeches over the past six months. And they're not just talking about editing a few lines in the rulebook.

"We need FASB, the SEC, the PCAOB, preparers, users, auditors, and the legal profession to get together and check their respective agendas at the door in order to collectively think through the obstacles," says Herz. "And if it turns out some of the obstacles are hardwired into our structure, then maybe we need some legal changes as well," such as safe harbors that would protect executives and auditors from having their judgments continually challenged. Even the SEC is talking about loosening up. Most at the agency favor the idea of principles instead of rules, says Taub, even knowing that "people will interpret them in different ways and we'll have to deal with it."

Standards Deviation Why lawmakers are so set on principles and what exactly those principles would look like is all a bit hazy right now. "Post-Enron, the perception was that people were engineering around the accounting rules. We looked around the world and saw that England had principles-based accounting and they didn't have scandals there, so we decided this was the way to go," recounts CVS Corp. CFO David Rickard, a Financial Accounting Standards Advisory Committee (FASAC) member.

But Rickard considers the approach "naive." His firsthand experience with principles-based accounting, as a group controller for London-based Grand Metropolitan from 1991 to 1997, left him unimpressed. "We had accounting rules we could drive trucks through," he says.

Would such a change be worth the trouble? A recent study that compared the accrual quality of Canadian companies reporting under a relatively principles-based GAAP to that of U.S. companies reporting by the rules suggests that there may be no effective difference between the two systems. The authors, Queen's University (Ontario) professors Daniel B. Thornton and Erin Webster, found some evidence that the Canadian approach yields better results, but conclude that "stronger U.S. oversight and greater litigation risk" compensate for any differences.

U.S. GAAP is built on principles; they just happen to be buried under hundreds of rules. The SEC, in its 2003 report on principles-based accounting, labeled some standards as being either "rules" or "principles." (No surprise to CFOs, FAS 133, stock-option accounting, and lease accounting fall in the former category, while FAS 141 and 142 were illustrative of the latter.) The difference: principles offer only "a modicum" of implementation guidance and few scope exceptions or bright-lines. ad

For FASB, the move to principles-based accounting is part of a larger effort to organize the existing body of accounting literature, and to eliminate internal inconsistencies. "Right now, we have a pretty good conceptual framework, but the standards have often deviated from the concepts," says Herz. He envisions "a common framework" with the IASB, where "you take the concepts," such as how assets and liabilities should be measured, and "from those you draw key principles" for specific areas of accounting, like pensions and business combinations. In fact, that framework as it now stands would change corporate accounting's most elemental principle, that income essentially reflects the difference between revenues and expenses. Instead, income would depend more on changes in the value of assets and liabilities (see "Will Fair Value Fly?").

For its part, the SEC has also made clear that it does not envisage an entirely free-form world. "Clearly, the standard setters should provide some implementation guidance as a part of a newly issued standard," its 2003 report states.

The catch is that drawing a line between rules and principles is easier said than done. Principles need to be coupled with implementation guidance, which is more of an art than a science, says Ben Neuhausen, national director of accounting for BDO Seidman. That ambiguity may explain why finance executives are so divided on support for this concept. Forty-seven percent of the executives surveyed by CFO say they are in favor of a shift to principles, another 25 percent are unsure of its merits, and 17 percent are unfamiliar with the whole idea. Only 10 percent oppose it outright, largely out of concern that it would be too difficult to determine which judgments would pass muster.

A Road to Hell? As it stands now, many CFOs fear that principles-based accounting would quickly lead to court. "The big concern is that we make a legitimate judgment based on the facts as we understand them, in the spirit of trying to comply, and that plaintiffs' attorneys come along later with an expert accountant who says, 'I wouldn't have done it that way,' and aha! — lawsuit! — several billion dollars, please," says Rickard.

Massive shareholder lawsuits were a concern for 36 percent of CFOs who oppose ditching rules, according to CFO's survey, and regulators are sympathetic. "There are institutional and behavioral issues, and they're much broader than FASB or even the SEC," says Herz, citing "the focus on short-term earnings, and the whole kabuki dance around quarterly guidance."

Continued in article

"The Accounting Cycle: Herz Encourages Simpler Accounting: Again, Bah, Humbug!" by: J. Edward Ketz, SmartPros, December 2005 --- http://accounting.smartpros.com/x50933.xml

Robert Herz, chairman of the Financial Accounting Standards Board, spoke at the AICPA National Conference on Current SEC and PCAOB Developments* on December 6. Similar to the speech by SEC Chairman Christopher Cox on the previous day, Mr. Herz directed his comments to the proposition "that we need to reduce the complexity of our reporting system." The proposition may be true, but Herz did little to advance the cause in his speech.

In particular, Robert Herz merely asserted his beliefs without adding any logic or any evidence that the reporting system is too complex. Worse, he touts principles-based accounting as the savior for the world of financial reporting, but again provides no argumentation to support his hypothesis. Maybe it’s because there is none. (Read the full speech.)

Given that we have two chairmen making some brash comments about the complexity of accounting, let’s investigate this further. Is complexity really bad? Is complexity really the major problem with financial reporting?

Is complexity bad?

Suppose a patient visits his or her general practitioner about some medical problem. After some initial testing, the general practitioner refers the patient to a specialist. The patient obtains a copy of the referral letter, but has difficulty reading it. Should a government agency intervene, complaining that the letter is "too complex" and require medical doctors to apply plain English?

I think the answer is obvious -- of course not. When one doctor writes to another physician, he or she may employ scientific jargon. They are both trained in biology, chemistry, and medicine. The complex vocabulary and the complex theories that they utilize actually improve the communication process. The additional complexity allows a doctor to make more precise statements about the patient's condition and about possible solutions to the medical problem. Requiring plain English statements would create greater ambiguity and distort the communication process.

Of course, when the doctor talks with the patient, he or she must use plain English. Because the patient does not have medical training, the patient will not understand the more precise language and therefore the communication process will suffer if the physician employs medical language. As the physician employs the less precise language of everyday English, the patient will learn more about the medical problem and possible future tests. Some communication with a less precise language is better than virtually no communication with a more powerful language designed for experts.

While the analogy isn't perfect, it fits the accounting scenario. When business enterprises report on their financial condition and on their results during the past year (or quarter), they can more precisely convey their message by applying a more precise accounting language. This text, however, is meant for those trained in finance and in accounting. Complexity can actually improve the communication process when the recipient is a sophisticated user.

Naïve financial statement readers may not understand the language of accounting, but they are not necessarily hurt by that situation. Just as general practitioners can revert from a medical language to everyday language when they speak with patients, financial analysts and brokers can employ plain English when they speak with clients. In this manner, the messages contained in an annual (or quarterly) report become disseminated to a wide audience.

More precise language and better economic theories will improve the communication between business enterprises and sophisticated users, even if the reports are complex. Sophisticated users can then translate the messages into plain English and convey these stories to naïve users.

Is complexity really the major problem?

When remonstrating the overly complex accounting rules and when touting principles-based accounting, Chairman Herz points to "bright lines" as an example of what's wrong with current-day standards. I agree with him that such bright lines constitute a problem, but the problem isn’t the complexity introduced by these bright lines. The problem is that these bright lines are arbitrary and capricious. Instead of relying upon economic theory, the FASB (and the SEC whenever it enters the skirmish) has invented these bright lines that have no meaning and no empirical referent.

Consider leases: the FASB created the 90 percent cutoff point for deciding whether a lessee had to capitalize a lease, but it never informed us why. If the present value of the future cash commitments equals 89.9 percent of the property's fair value, then the lease is an operating lease; but if it equals 90 percent, then the lease is a capital lease. What economic theory does the FASB rest its decision on? No theory at all. The board randomly and recklessly introduced this bright line into the literature.

If the board really wanted to improve financial reporting, then it would require lessees to capitalize all leases that had duration greater than one year. You introduce no fictitious bright lines and ironically, you simplify the accounting! More importantly, the rule would require corporations to tell it as it is rather than distort the economic reality of the lease.

Continued in article

Jensen Comment
Although there is a ground swell of support for both principles-based accounting standards and greatly simplified standards, I'm inclined to be against both movements.  Business contracting, especially risk diffusion and management contracting, is becoming so complex that I think principles-based standards and greatly simplified standards are moves in the wrong direction.  Powerful new financial analysis tools in networked communications, meta-tagging (e.g., XBRL), and database sharing (eventually object-oriented database elements) will be greatly harmed if complex standards do not accompany complex contracting.  I think Professor Ketz has taken a bold stand in the above article, and I personally take the same stance.  This, of course, puts me at odds with the current and many former directors of standard setting bodies (e.g., the FASB and the IASB), including my very good friend Dennis Beresford who sides with Bob Herz and probably influenced Bob Herz.  See http://www.trinity.edu/rjensen//theory/00overview/theory01.htm

I'm not necessarily arguing in favor of more bright lines.  We can perhaps avoid these bright lines with more details, albeit complex details, about contracts, hedging strategies, hedging effectiveness, mezzanine debt contracts, VIEs, etc.  Years ago Bill Beaver (in an innovative unpublished working paper) argued in favor of database reporting to get around some of the bright lines problems.  This is more complex reporting, but we can have develop the technologies needed to analyze database reporting.  What we cannot do is do away with complex standards to deal with how complex contracts are reported in the databases.  The standards are what makes comparisons between databases possible.

The analogy relating accounting to medicine is on target.  In this era of DNA advances in medicine, we do not want medical standards to become less complex in a more complex world of knowledge.  We hope the standards become more complex to match the increased complexity of our understanding.  Similarly, we hope the standards of accounting become more complex to match the increased complexity of contracts around the world.

"The Accounting Cycle: Herz Encourages Simpler Accounting: Again, Bah, Humbug!" by: J. Edward Ketz, SmartPros, December 2005 --- http://accounting.smartpros.com/x50933.xml

Robert Herz, chairman of the Financial Accounting Standards Board, spoke at the AICPA National Conference on Current SEC and PCAOB Developments* on December 6. Similar to the speech by SEC Chairman Christopher Cox on the previous day, Mr. Herz directed his comments to the proposition "that we need to reduce the complexity of our reporting system." The proposition may be true, but Herz did little to advance the cause in his speech.

In particular, Robert Herz merely asserted his beliefs without adding any logic or any evidence that the reporting system is too complex. Worse, he touts principles-based accounting as the savior for the world of financial reporting, but again provides no argumentation to support his hypothesis. Maybe it’s because there is none. (Read the full speech.)

Given that we have two chairmen making some brash comments about the complexity of accounting, let’s investigate this further. Is complexity really bad? Is complexity really the major problem with financial reporting?

Is complexity bad?

Suppose a patient visits his or her general practitioner about some medical problem. After some initial testing, the general practitioner refers the patient to a specialist. The patient obtains a copy of the referral letter, but has difficulty reading it. Should a government agency intervene, complaining that the letter is "too complex" and require medical doctors to apply plain English?

I think the answer is obvious -- of course not. When one doctor writes to another physician, he or she may employ scientific jargon. They are both trained in biology, chemistry, and medicine. The complex vocabulary and the complex theories that they utilize actually improve the communication process. The additional complexity allows a doctor to make more precise statements about the patient's condition and about possible solutions to the medical problem. Requiring plain English statements would create greater ambiguity and distort the communication process.

Of course, when the doctor talks with the patient, he or she must use plain English. Because the patient does not have medical training, the patient will not understand the more precise language and therefore the communication process will suffer if the physician employs medical language. As the physician employs the less precise language of everyday English, the patient will learn more about the medical problem and possible future tests. Some communication with a less precise language is better than virtually no communication with a more powerful language designed for experts.

While the analogy isn't perfect, it fits the accounting scenario. When business enterprises report on their financial condition and on their results during the past year (or quarter), they can more precisely convey their message by applying a more precise accounting language. This text, however, is meant for those trained in finance and in accounting. Complexity can actually improve the communication process when the recipient is a sophisticated user.

Naïve financial statement readers may not understand the language of accounting, but they are not necessarily hurt by that situation. Just as general practitioners can revert from a medical language to everyday language when they speak with patients, financial analysts and brokers can employ plain English when they speak with clients. In this manner, the messages contained in an annual (or quarterly) report become disseminated to a wide audience.

More precise language and better economic theories will improve the communication between business enterprises and sophisticated users, even if the reports are complex. Sophisticated users can then translate the messages into plain English and convey these stories to naïve users.

Is complexity really the major problem?

When remonstrating the overly complex accounting rules and when touting principles-based accounting, Chairman Herz points to "bright lines" as an example of what's wrong with current-day standards. I agree with him that such bright lines constitute a problem, but the problem isn’t the complexity introduced by these bright lines. The problem is that these bright lines are arbitrary and capricious. Instead of relying upon economic theory, the FASB (and the SEC whenever it enters the skirmish) has invented these bright lines that have no meaning and no empirical referent.

Consider leases: the FASB created the 90 percent cutoff point for deciding whether a lessee had to capitalize a lease, but it never informed us why. If the present value of the future cash commitments equals 89.9 percent of the property's fair value, then the lease is an operating lease; but if it equals 90 percent, then the lease is a capital lease. What economic theory does the FASB rest its decision on? No theory at all. The board randomly and recklessly introduced this bright line into the literature.

If the board really wanted to improve financial reporting, then it would require lessees to capitalize all leases that had duration greater than one year. You introduce no fictitious bright lines and ironically, you simplify the accounting! More importantly, the rule would require corporations to tell it as it is rather than distort the economic reality of the lease.

Continued in article

Jensen Comment
Although there is a ground swell of support for both principles-based accounting standards and greatly simplified standards, I'm inclined to be against both movements.  Business contracting, especially risk diffusion and management contracting, is becoming so complex that I think principles-based standards and greatly simplified standards are moves in the wrong direction.  Powerful new financial analysis tools in networked communications, meta-tagging (e.g., XBRL), and database sharing (eventually object-oriented database elements) will be greatly harmed if complex standards do not accompany complex contracting.  I think Professor Ketz has taken a bold stand in the above article, and I personally take the same stance.  This, of course, puts me at odds with the current and many former directors of standard setting bodies (e.g., the FASB and the IASB), including my very good friend Dennis Beresford who sides with Bob Herz and probably influenced Bob Herz.  See http://www.trinity.edu/rjensen//theory/00overview/theory01.htm

I'm not necessarily arguing in favor of more bright lines.  We can perhaps avoid these bright lines with more details, albeit complex details, about contracts, hedging strategies, hedging effectiveness, mezzanine debt contracts, VIEs, etc.  Years ago Bill Beaver (in an innovative unpublished working paper) argued in favor of database reporting to get around some of the bright lines problems.  This is more complex reporting, but we can have develop the technologies needed to analyze database reporting.  What we cannot do is do away with complex standards to deal with how complex contracts are reported in the databases.  The standards are what makes comparisons between databases possible.

The analogy relating accounting to medicine is on target.  In this era of DNA advances in medicine, we do not want medical standards to become less complex in a more complex world of knowledge.  We hope the standards become more complex to match the increased complexity of our understanding.  Similarly, we hope the standards of accounting become more complex to match the increased complexity of contracts around the world.

"The Accounting Cycle:  The Conceptual Framework for Financial Reporting Op/Ed,"  by J. Edward Ketz, SmartPros, September 2006 --- http://accounting.smartpros.com/x54322.xml 

The Financial Accounting Standards Board and the International Accounting Standards Board have joined forces to flesh out a common conceptual framework. Recently they issued some preliminary views on the "objectives of financial reporting" and the "qualitative characteristics of decision-useful financial reporting information" and have asked for comment.

To obtain "coherent financial reporting," the boards feel that they need "a framework that is sound, comprehensive, and internally consistent" (paragraph P3). In P5, they also state their hope for convergence between U.S. and international accounting standards.

P6 indicates a need to fill in certain gaps, such as a "robust concept of a reporting entity." I presume that they will accomplish this task later, as the current document does not develop such a "robust concept."

Chapter 1 presents the objective for financial reporting, and the description differs little from what is in Concepts Statement No. 1. This objective is "to provide information that is useful to present and potential investors and creditors and others in making investment, credit, and similar resource allocation decisions." The emphasis lay with capital providers, as it should. If anything, I would place greater accent on this aspect, because in the last 10 years, so many managers have defined the "business world" as including managers and excluding investors and creditors. To our chagrin, we learned that managers actually believed this lie, as they pretended that the resources supplied by the investment community belonged to the management team.

FASB and IASB further explain that these users are interested in the cash flows of the entity so they can assess the potential returns and the potential variability of those returns (e.g., in paragraph OB.23). I wish they had drawn the logical conclusion that financial reporting ought to exclude income smoothing. Income smoothing leads the user to assess a smaller variance of earnings than warranted by the underlying economics; income smoothing biases downward the actual variability of the earnings and thus the returns.

Later, in the basis of conclusions, the document addresses the reporting of comprehensive income and its components (see BC1.28-31). Currently, FASB has four items that enter other comprehensive income: gains and losses on available-for-sale investments, losses when incurring additional amounts to recognize a minimum pension liability, exchange gains and losses from a foreign subsidiary under the all-current method, and gains and losses from derivatives that hedge cash flows.

The purported reason for this demarcation between earnings and other comprehensive income rests with the purported low reliability of measurements of these four items; however, the real reason for these other comprehensive items seems to be political. For example, FASB capitulated in Statement No. 115 when a number of managers objected to reporting gains and losses on available-for-sale securities because that would create volatility in earnings. (I find it curious how FASB caters to the whims of managers but claims that the primary rationale for financial reporting is to serve the investment community.) Because one has a hard time reconciling other comprehensive income with the needs of investors and creditors, it would serve the investment community better if the boards eliminate this notion of comprehensive income.

Two IASB members think that an objective for financial reporting should encompass the stewardship function (see AV1.1-7). Stewardship seems to be a subset of economic usefulness, so this objection is pointless. It behooves these two IASB members to explain the consequences of adopting a stewardship objective and how these consequences differ from the usefulness objective before we can entertain their protestation seriously.

Sections BC1.42 and 43 ask whether management intent should be a part of the financial reporting process. Given management intent during the last decade, I think decidedly not. Management intent is merely a license to massage accounting numbers as managers please. Fortunately, the Justice Department calls such tactics fraud.

Chapter 2 of this document concerns qualitative characteristics. For the most part, this presentation is similar to that in Concepts Statement No. 2, though arranged somewhat differently. Concepts 2 had as its overarching qualitative characteristics relevance and reliability. This Preliminary Views expounds relevance, faithful representation, comparability, and understandability as the qualitative characteristics.

The discussion on faithful representation is interesting (QC.16-19) inasmuch as they distinguish between accounts that depict real world phenomena and accounts that are constructs with no real world referents. They explain that deferred debits and credits do not possess faithful representation because they are merely the creation of accountants. I hope that analysis applies to deferred income tax debits and credits.

Verifiability implies similar measures by different measurers (QC.23-26). I wish FASB and IASB to include auditability as an aspect of verifiability; after all, if you cannot audit something, it is hardly verifiable. Yet, the soon to be released standard on fair value measurements includes a variety of items that will prove difficult if not impossible to audit.

Understandability is obvious, though the two boards feel that users with a "reasonable knowledge of business and economic activities" can understand financial statements. I no longer agree. Such a person might employ a profit analysis model or ratio analysis on a set of financial statements and mis-analyze a firm's condition because he or she did not make analytical adjustments for off-balance sheet items and other fanciful tricks by managers. This includes so many of Enron's investors and creditors. No, to understand financial reporting today, you must be an expert in accounting and finance.

Benefits-that-justify-costs acts as a constraint on financial reporting. While this criterion is acceptable, too often the boards view costs only from the perspective of the preparers. I wish the boards explicitly acknowledged the fact that not reporting on some things adds costs to users. When a business enterprise engages in aggressive accounting, the expert user needs to employ analytical adjustments to correct this overzealousness. These adjustments consume the investor's economic resources and thus involve costs to the investment community.

In the basis-for-conclusions section, FASB and IASB explain that the concept of substance over form is included in the concept of faithful representation (see paragraphs BC2.17 and 18). While I don't have a problem with that, I think they should at least emphasize this point in Chapter 2 rather than bury it in this section. Substance over form is a critically important doctrine, especially as it relates to business combinations and leases, so it deserves greater stress.

On balance, the document is well written and contains a good clarification of the objective of financial reporting and the qualitative characteristics of decision-useful financial reporting information. I offer the criticisms above as a hope to strengthen and improve the Preliminary Views.

My most important comment, however, does not address any particular aspects within the document itself. Instead, I worry about the usefulness of this objective and these qualitative characteristics to FASB and IASB. To enjoy coherent financial reporting, there not only is need for a sound, comprehensive, and internally consistent framework, we also must have a board with the political will to utilize the conceptual framework. FASB ignored its own conceptual framework in its issuance of standards on:

* Leases (Aren't the financial commitments of the lessee a liability?) * Pensions (How can the pension intangible asset really be an asset as it has no real world referent?) * Stock options (Why did the board not require the expensing of stock options in the 1990s when stock options clearly involve real costs to the firm?), and * Special purpose entities (Why did the board wait for the collapse of Enron before dealing with this issue?).

Clearly, the low power of FASB -- IASB likewise possesses little power -- explains some of these decisions, but it is frustrating nonetheless to see the board ignore its own conceptual framework. Why engage in this deliberation unless FASB is prepared to follow through?

J. EDWARD KETZ is accounting professor at The Pennsylvania State University. Dr. Ketz's teaching and research interests focus on financial accounting, accounting information systems, and accounting ethics. He is the author of Hidden Financial Risk, which explores the causes of recent accounting scandals. He also has edited Accounting Ethics, a four-volume set that explores ethical thought in accounting since the Great Depression and across several countries.

Suggestions for accountancy from the Directors of the SEC and the FASB

From The Wall Street Journal Accounting Weekly Review on December 9, 2005

TITLE: SEC's Cox Wants Simpler Rules, More Competition for Accounting
REPORTER: Judith Burns
DATE: Dec 06, 2005
PAGE: C3
LINK: http://online.wsj.com/article/SB113381176660114298.html
TOPICS: Accounting, Auditing, Auditing Services, Public Accounting, Sarbanes-Oxley Act, Securities and Exchange Commission

SUMMARY: Questions relate to helping students understand the status various influences on the accounting profession from the AICPA, the SEC, the FASB, and the legislature via the Sarbanes-Oxley Act.

QUESTIONS:
1.) Where did SEC Chairman Christopher Cox describe the ways in which he wants to see change in the accounting and auditing professions? What is the purpose of that organization? (Hint: you may find out about the organization's mission via its web site at www.aicpa.org 

2.) In accordance with law, how is the Securities and Exchange Commission (SEC) responsible for accounting and reporting requirements in the United States? Hint: you may investigate the SEC's mission via its web site at www.sec.gov 

3.) What are the issues associated with complex accounting rules? Who establishes those rules? In what way are those rules influenced by the SEC?

4.) The SEC has named an interim chairman of the Public Company Accounting Oversight Board (PCAOB). How is this speech's topic related to the process of change in leadership at the PCAOB?

5.) Commissioner Cox indicated his concern over the fact that only 4 public accounting firms perform audit and accounting work for most of the publicly traded companies in the U.S. and that regulators may have contributed to that concentration. How is that the case? What might regulators do to change that situation?

"SEC's Cox Wants Simpler Rules, More Competition for Accounting," by Judith Burns, The Wall Street Journal, December 6, 2005; Page C3 --- http://online.wsj.com/article/SB113381176660114298.html

U.S. securities regulators hope to make accounting rules less complicated while increasing competition in a field now dominated by just four firms, Securities and Exchange Commission Chairman Christopher Cox said.

Addressing a meeting of the American Institute of Certified Public Accountants, Mr. Cox called for clearer, more straightforward accounting rules, saying that would benefit investors, public companies and accountants.

"Plain English is just as important in accountancy," he said.

Mr. Cox also raised concern about concentration in the U.S. accounting profession, with the Big Four firms -- Deloitte & Touche LLP, Ernst & Young LLP, KPMG and PricewaterhouseCoopers -- handling the vast majority of public-company audits. He said this "intense concentration" isn't desirable, adding that regulators need to consider whether their rules are inhibiting competition in the field.

SEC Commissioner Paul Atkins, who also addressed the meeting, acknowledged that regulators were surprised by the cost of internal-control rules that took effect for the largest U.S. companies last year, and he said he hopes such costs will be lower this year.

The rules stem from the Sarbanes-Oxley Act, passed by Congress in 2002. They mandate that public companies make an annual examination of their internal controls related to financial reporting, subject to review by these companies' outside auditors.

The SEC is "at an early stage" in considering who should head the Public Company Accounting Oversight Board now that William McDonough, its former chairman, has stepped down, Mr. Atkins said.

Last week the SEC named oversight board member Bill Gradison, a member of Congress, as interim oversight board chairman. Mr. Atkins said Mr. Gradison, an Ohio Republican, could be in the running as a permanent chair "if he wants to be."

In repeated speeches, Dennis Beresford, former Chairman of the FASB, has called for simplification of accounting standards and guidelines.  For example see the following reference:
"Can We Go Back to the Good Old Days?" by Dennis R. Beresford, The CPA Journal --- http://www.nysscpa.org/cpajournal/2004/1204/perspectives/p6.htm 

December 6, 2005 message from Dennis Beresford [dberesfo@terry.uga.edu]

National Conference on Current SEC and PCAOB Developments. His talk is available at: http://www.sec.gov/news/speech/spch120505cc.htm 

He had three main messages:

1. Accounting rules need to be simplified. "The accounting scandals that our nation and the world have now mostly weathered were made possible in part by the sheer complexity of the rules." "The sheer accretion of detail has, in time, led to one of the system's weaknesses - its extreme complexity. Convolution is now reducing its usefulness."

2. The concentration of auditing services in the Big 4 "quadropoly" is bad for the securities markets. The SEC will try to do more to encourage the use of medium size and smaller firms that receive good inspection reports from the PCAOB.

3. The SEC will continue to push XBRL. "The interactive data that this initiative will create will lead to vast improvements in the quality, timeliness, and usefulness of information that investors get about the companies they're investing in."

A very interesting talk - one that seems to promise a high level of cooperation with the accounting profession.

Denny

Bob Jensen's threads on XBRL are at
http://www.trinity.edu/rjensen/XBRLandOLAP.htm

Convergence of foreign and domestic accounting rules could catch some U.S. companies by surprise
Although many differences remain between U.S. generally accepted accounting principles (GAAP) and international financial reporting standards (IFRS), they are being eliminated faster than anyone, even Herz or Tweedie, could have imagined. In April, FASB and the IASB agreed that all major projects going forward would be conducted jointly. That same month, the Securities and Exchange Commission said that, as soon as 2007, it might allow foreign companies to use IFRS to raise capital in the United States, eliminating the current requirement that they reconcile their statements to U.S. GAAP. The change is all the more remarkable given that the IASB was formed only four years ago, and has rushed to complete 25 new or revamped standards in time for all 25 countries in the European Union to adopt IFRS by this year. By next year, some 100 countries will be using IFRS. "We reckon it will be 150 in five years," marvels Tweedie. "That leaves only 50 out."
Tim Reason, "The Narrowing GAAP:  The convergence of foreign and domestic accounting rules could catch some U.S. companies by surprise," CFO Magazine December 01, 2005 ---
http://www.cfo.com/article.cfm/5193385/c_5243641?f=magazine_coverstory

David Fordham wrote the following after a very long and very interesting illustration of corporate accounting:

*****************
Seeing businesses in Europe, I'm learning that the European laws are to accountants what weight lifting is to the Mr. Atlas competition. The really good European accountants are without peer when it comes to working within the system to turn a profit under the rules. So this begs the question: should we more agressively teach accountants how to help their managers? Would we be more valuable as "trusted partners" to management if we could be more helpful in this way?
******************

Jensen Comment:

First I would note that in Europe most financing was and still is raised from banks who work in close partnership with companies. As in Japan, these banks are almost insiders that can get most any kind of information they want irrespective of accounting rules.

Until the IASB wanted to crack into the U.S. Stock exchanges, the IAS standards were pretty much milk toast. If the former IASC (it was IASC in those days) standards had replaced the FASB standards, U.S. Corporations would have been ecstatic with IASC off-balance sheet financing opportunities and opportunities to create hidden reserves and manage earnings. European companies are notorious for managing earnings with hidden reserves.

Whether the two Davids (Albrecht and Fordham) like it or not, the FASB has struggled to make management of earnings and the hiding of debt more difficult in the U.S. The standards are now almost incomprehensible (especially for derivatives, SPEs, mezzanine financing, re-insurance, etc.) because U.S. companies countered the FASB standards with ever-increasing exotic financial contracts.

Before complaining about the complexity of FASB standards, first take a serious look at the absolute nightmare of complexity of the financial and insurance contracting. Especially look at the absolutely ridiculous derivative financial instrument contracts that are intentionally designed to be too complex for accountants or trust investors to understand --- http://www.trinity.edu/rjensen/FraudRotten.htm#DerivativesFrauds 

Many exotic contracts are relatively new. We now have over $100 trillion in interest rate swaps that were not even invented until 1984.

One of my favorite quotations is a 1994 quotation from Denny Beresford while, as Chairman of the FASB, he was making a presentation in NYC at the annual AAA meetings. He was at the time being extremely pressured by the SEC to issue what became FAS 133 in 1998.

The quotation went something like this:

*******************
"The Director of the SEC, Arthur Levitt, tells me the three main problems for the SEC and FASB are derivatives, derivatives, and derivatives. I had to ask some experts to tell me what a derivative is, because until now I thought a derivative was something a person my age takes when prunes don't quite do the job. John Stewart of Arthur Andersen tells me that there are over 1,000 kinds of complex derivative contracts . . . "
********************

Once again, David, my main point to you is that accounting standards outside the U.S., Canada, Australia, and New Zealand, did not have to be too complex since most financing was raised from insiders (mostly banks) who had inside information sources. The countries with the complex standards rely more on equity investors who only get the information provided to the public by companies. The FASB has declared that protection of the public investors is its number one priority (as is also the case with the SEC).

The real problem we are now facing is that corporations no longer take accounting seriously other than as something to get around. This has led to an ever-increasing game where the FASB discovers misleading accounting, writes a new standard or interpretation, and subsequently discovers how corporations are re-writing contracts to get around the new standard.

Will this vicious cycle ever cease? Not as long as corporate managers continue to view accounting as an opportunity to creatively paint rosy portraits.

David Albrecht asked:
"Has anyone a good definition of financial statement transparency?"

Jensen reply:
Here's one paper that discusses the problem of transparency ---http://www.accenture.com/xdoc/en/ideas/outlook/6_2005/pdf/share_value.pdf
The snipped version is http://snipurl.com/ShareholderValue

October 18, 2005 reply from Bender, Ruth [r.bender@CRANFIELD.AC.UK]

I just want to point out that the UK, which is in Europe, doesn't meet Bob's description of mostly bank finance. Our financing is much like that of the US - mostly equity, and our lenders are kept at arm's length from the board.

And a lot of our accountants are howling at the way IFRS change the accounts. It's not that people are trying to hide things by using lax standards (although, from my experience as an auditor, I know that this does of course happen). It's the fact that we and others don't understand accounts any more! I'm doing some research at the moment that involves interviewing experienced CFOs of large listed companies. Almost all of them are complaining that the IFRS, being 'market' facing, are making a nonsense of the numbers, because in most cases there isn't a market, and so they are having to use poor proxies. It's taking us away from factually based accounts and into a world of estimates - which in some ways makes earnings management easier, not harder! That was the gist of the FT article that David cited.

Incidentally, there is a really interesting paper about the fundamental differences between US and UK approaches to financial regulation and standards, that sets out why convergence is going to be a problem - if it ever happens. The title is "Where economics meets the law: US reporting systems compared to other markets" and you can download it from the ICAEW's website at
http://www.icaew.co.uk/members/index.cfm?AUB=TB2I_79757|MNXI_79757

Outline is:

"In particular the paper examines: * the evolution of the US financial reporting model; * contrasting approaches to accounting and auditing: 'principles' versus 'prescription'; * shareholder rights and the governance function of annual financial statements; * investor behaviour and corporate governance; * accounting convergence with the US or recognition of the differences.

Divided by common language is the first in the Beyond the myth of Anglo-American corporate governance series which aims to:

Challenge commonly held assumptions regarding the perceived similarity of US and UK corporate governance systems; Identify possible areas for convergence and, where not practical, clarify why elements of one system may not be appropriate for incorporation into another; Anticipate developments and set out challenges for future thinking about the US and UK models and encourage transatlantic dialogue."

Regards

Dr Ruth Bender
Cranfield School of Management UK

Dr. Ijiri was one of my major professors in the doctoral program at Stanford.  I'm naturally drawn to things he writes.  He is one of the long-time advocates of historical cost based accounting.  He is in fact much more dedicated to it than Bill Paton (but not Ananias Littleton) where Paton and Littleton are best known advocates of historical cost accounting.  The following is the lead article in the Journal of Accounting and Public Policy, July/August 2005, pp. 255-279.

US accounting standards and their environment:
A dualistic study of their 75-years of transition

Yuji Ijiri
Tepper School of Business, Carnegie Mellon University

Abstract
This article examines the 75-year transition of the US accounting standards and their environment.  It consists of three parts, each having two themes: Part (1) Past changes: 1. The first market crash and the second market crash; 2. Facts-based accounting and forecasts-based accounting,  Part (II) Present issues: 3. The reform legislation (Sarbanes-Oxley Act) and the reform administration; 4. Procedural fairness and pure fairness, and Part (III) Future trends: 5. Forecast protection and forecast separation; 6. Principles-based systems and rules-based systems.  These themes are each examined from dualistic perspectives by contrasting two fundamental concepts or principles.  The article concludes with the strong need to focus on "procedural fairness" in establishing accounting standards as well as in implementing the reform legislation and administration, in contrast to "pure fairness" that is almost impossible to achieve by anyone.

Accounting Rules So Plentiful "It's Nuts"
There are perhaps 2,000 accounting rules and standards that, when written out, possibly exceed the U.S. tax code in length. Yet, there are only the Ten Commandments. So Bob Herz, chairman of the rule-setting Financial Accounting Standards Board, is asked this: How come there are 2,000 rules to prepare a financial statement but only 10 for eternal salvation? "It is nuts," Herz allows. "But you're not going to get it down to ten commandments because the transactions are so complicated. . . . And the people on the front lines, the companies and their auditors, are saying: 'Give me principles, but tell me exactly what to do; I don't want to be second-guessed.' " Nonetheless, the FASB (pronounced, by accounting insiders, as "FAZ-bee") is embarking on efforts to simplify and codify accounting rules while improving them and integrating them with international standards.
"Accounting Rules So Plentiful 'It's Nuts' ; Standards Board Takes on Tough Job to Simplify, Codify," SmartPros, June 8, 2005 --- http://accounting.smartpros.com/x48525.xml

Jensen Comment:  Shyam Sunder (Yale University) is the 2005 President-Elect of the American Accounting Association --- http://aaahq.org/about/Nominees2005.htm

From Jim Mahar's blog on July 18 2005 --- http://financeprofessorblog.blogspot.com/

SSRN-Social Norms versus Standards of Accounting by Shyam Sunder --- http://papers.ssrn.com/sol3/papers.cfm?abstract_id=725821

A few highlights from the paper:

"Historically, norms of accounting played an important role in corporate financial reporting. Starting with the federal regulation of securities, accounting norms have been progressively replaced by written standards....[and]enforcement mechanisms, often supported by implicit or explicit power of the state to impose punishment. The spate of accounting and auditing failures of the recent years raise questions about the wisdom of this transition from norms to standards....It is possible that the pendulum of standardization in accounting may have swung too far, and it may be time to allow for a greater role for social norms in the practice of corporate financial reporting."

"The monopoly rights given to the FASB in the U.S. (and the International Accounting Standards Board or IASB in the EU) deprived the economies, and their rule makers, from the benefits of experimentation with alternative rules and structures so their consequences could be observed in the field before deciding on which rules, if any, might be more efficient. Rule makers have little idea, ex ante, of the important consequences (e.g., the corporate cost of capital) of the alternatives they consider."

"Given the deliberate and premeditated nature of financial fraud and misrepresentation (and other white color crimes), "clarifications of the rules invite and facilitate evasion"

And my favorite!

"Indeed the U.S. constitution, a document that covers the entire governance system for the republic, has less than 5,000 words. The United Kingdom has no written constitution. A great part of the governance of both countries depends on norms. Do accountants deal with greater stakes?"

BTW: I like the prescriptions called for as well, but will allow you to read those (pages 20 to 22 of paper)

Cite: Sunder, Shyam, "Social Norms versus Standards of Accounting" (May 2005). Yale ICF Working Paper No. 05-14. http://ssrn.com/abstract=725821

Let me close by citing Harry S. Truman who said, "I never give them hell; I just tell them the truth and they think its hell!"
Great Speeches About the State of Accountancy
"20th Century Myths," by Lynn Turner when he was still Chief Accountant at the SEC in 1999 --- http://www.sec.gov/news/speech/speecharchive/1999/spch323.htm

It is interesting to listen to people ask for simple, less complex standards like in "the good old days." But I never hear them ask for business to be like "the good old days," with smokestacks rather than high technology, Glass-Steagall rather than Gramm-Leach, and plain vanilla interest rate deals rather than swaps, collars, and Tigers!! The bottom line is—things have changed. And so have people. Today, we have enormous pressure on CEO’s and CFO’s. It used to be that CEO’s would be in their positions for an average of more than ten years. Today, the average is 3 to 4 years. And Financial Executive Institute surveys show that the CEO and CFO changes are often linked. In such an environment, we in the auditing and preparer community have created what I consider to be a two-headed monster. The first head of this monster is what I call the "show me" face. First, it is not uncommon to hear one say, "show me where it says in an accounting book that I can’t do this?" This approach to financial reporting unfortunately necessitates the level of detail currently being developed by the Financial Accounting Standards Board ("FASB"), the Emerging Issues Task Force, and the AICPA’s Accounting Standards Executive Committee. Maybe this isn’t a recent phenomenon. In 1961, Leonard Spacek, then managing partner at Arthur Andersen, explained the motivation for less specificity in accounting standards when he stated that "most industry representatives and public accountants want what they call ‘flexibility’ in accounting principles. That term is never clearly defined; but what is wanted is ‘flexibility’ that permits greater latitude to both industry and accountants to do as they please." But Mr. Spacek was not a defender of those who wanted to "do as they please." He went on to say, "Public accountants are constantly required to make a choice between obtaining or retaining a client and standing firm for accounting principles. Where the choice requires accepting a practice which will produce results that are erroneous by a relatively material amount, we must decline the engagement even though there is precedent for the practice desired by the client." We create the second head of our monster when we ask for standards that absolutely do not reflect the underlying economics of transactions. I offer two prime examples. Leasing is first. We have accounting literature put out by the FASB with follow-on interpretative guidance by the accounting firms—hundreds of pages of lease accounting guidance that, I will be the first to admit, is complex and difficult to decipher. But it is due principally to people not being willing to call a horse a horse, and a lease what it really is—a financing. The second example is Statement 133 on derivatives. Some people absolutely howl about its complexity. And yet we know that: (1) people were not complying with the intent of the simpler Statements 52 and 80, and (2) despite the fact that we manage risk in business by managing values rather than notional amounts, people want to account only for notional amounts. As a result, we ended up with a compromise position in Statement 133. To its credit, Statement 133 does advance the quality of financial reporting. For that, I commend the FASB. But I believe that we could have possibly achieved more, in a less complex fashion, if people would have agreed to a standard that truly reflects the underlying economics of the transactions in an unbiased and representationally faithful fashion. I certainly hope that we can find a way to do just that with standards we develop in the future, both in the U.S. and internationally. It will require a change in how we approach standard setting and in how we apply those standards. It will require a mantra based on the fact that transparent, high quality financial reporting is what makes our capital markets the most efficient, liquid, and deep in the world.

Landmark Exposure Draft containing joint proposals to improve and align accounting for business combinations

"IASB and FASB Publish First Major Exposure Draft Standard," AccountingWeb, July 11, 2005 --- http://www.accountingweb.com/cgi-bin/item.cgi?id=101084

The International Accounting Standards Board (IASB), based in London, and the US Financial Accounting Standards Board (FASB) have announced publication of an Exposure Draft containing joint proposals to improve and align accounting for business combinations. The proposed standard would replace IASB’s International Financial Reporting Standard (IFRS) 3, Business Combinations and the FASB’s Statement 141, Business Combinations.

Sir David Tweedie, IASB Chairman and Bob Herz, FASB Chairman, emphasized the value of a single standard to users and preparers of financial statements of companies around the world as it improves comparability of financial information. "Development of a single standard demonstrates the ability of the IASB and the FASB to work together,” Tweedie continued.

Continued in article

"Can We Go Back to the Good Old Days?" by Dennis R. Beresford, The CPA Journal --- http://www.nysscpa.org/cpajournal/2004/1204/perspectives/p6.htm 

Recently I visited my pharmacy to pick up eyedrops for my two golden retrievers. Before he would give me the prescription, the pharmacist insisted I sign a form on behalf of Murphy and Millie, representing that they had been apprised of their rights under the new medical privacy rules. This ludicrous situation is a good illustration of how complicated life has gotten.

I was still shaking my head later that same day when I was clicking mindlessly through the 150 or so channels that my local cable TV service makes available to me. I happened to land on The Andy Griffith Show, and the few minutes I spent with Andy, Barney, Opie, and Aunt Bea got me thinking about the Good Old Days. Wouldn’t it be nice, I thought, to go back to the Good Old Days of the profession in the early 1960s when I graduated from college?

Back then, accounting was really simple. The Accounting Principles Board hadn’t issued any standards yet, and FASB didn’t exist. So we didn’t have 880 pages listing all of the current rules and guidance on derivative financial instruments, for example. The totality of authoritative GAAP at that time fit in one softbound booklet about one-third the size of the new derivatives guidance.

In those Good Old Days, the SEC had been around for quite a while but it rarely got excited about accounting matters. Neither mandatory quarterly reporting nor management’s discussion and analysis (MD&A) had yet come into being, for example. And annual report footnotes could actually be read in an hour or so.

The country had eight major accounting firms, and becoming a partner in one was a truly big deal. Lawsuits against accounting firms were rare, and almost none of them resulted in substantial damages against the accountants.

In short, accounting seemed more like a true profession, with good judgment and experience key requirements for success.

Of course, however much we might like to return to simpler times, it’s easier said than done. And most of us would never give up the many benefits of progress, such as photocopiers, personal computers, e-mail, the Internet, and cellphones. But I think that accounting rules may have become more complicated than necessary.

Let me start with a mea culpa. You may remember the famous line from the comic strip Pogo: “We have met the enemy, and he is us!” Well, you may be tempted to rephrase that quote to “We have met the enemy, and he is … Beresford!”

I plead guilty to having led the development of 40 or so new accounting standards over my time at FASB. A number of them had pervasive effects on financial statements, and some have been costly to apply. I always tried to be as practical as possible, however, although probably few would say that I was 100% successful in meeting that objective.

In any event, more-recent accounting standards and proposals seem to be getting increasingly complicated and harder to apply. Even the best-intentioned accountants have difficulty keeping up with all of the changes from FASB, the AICPA, the SEC, the EITF, and the IASB. And some individual standards, such as those on derivatives and variable-interest entities, are almost impossible for professionals, let alone laypeople, to decipher.

Furthermore, these days, companies are subject to what I’ll call quadruple jeopardy. They have to apply GAAP as best they can, but they are then subject to as many as four levels of possible second-guessing of their judgments.

First, the external auditors must weigh in. Second, the SEC will now be reviewing all public companies’ reports at least once every three years. Third, the PCAOB will be looking at a sample of accounting firms’ audits, and that could include any given company’s reports. Finally, the plaintiff’s bar is always looking for opportunities to challenge accounting judgments and extort settlements. Broad Principles Versus Detailed Rules

I suspect that all this second-guessing is what leads many companies and auditors to ask for more-detailed accounting rules. But we may have reached the point of diminishing returns. In response to the complexity and sheer volume of many current standards, some have suggested that accounting standards should be broad principles rather than detailed rules. FASB and the SEC have expressed support for the general notion of a principles-based approach to accounting standards. (It’s kind of like apple pie and motherhood: Who can object to broad principles?) Of course, implementing such an approach is problematic.

In 2002, FASB issued a proposal on this matter. And last year the SEC reported to Congress on the same topic. Specific things that FASB suggested could happen include the following:

Standards should always state very clear objectives. Standards should have a clearly defined scope and there should be few, if any, exceptions (e.g., for certain industries). Standards should contain fewer alternative accounting treatments (e.g., unrealized gains and losses on marketable securities could all be run through income rather than the various approaches used at present). FASB also said that a principles-based approach probably would include less in the way of detailed interpretive and implementation guidance. Thus, companies and auditors would be expected to rely more on professional judgment in applying the standards.

The SEC prefers to call this approach “objectives-based” rather than “principles-based.” SEC Chief Accountant Donald Nicolaisen recently repeated the SEC’s support for such an approach, agreeing with the notion of clearly identifying and articulating the objective for each standard. Although he also suggested that objectives-based standards should avoid bright-line tests such as lease capitalization rules, he called for “sufficiently detailed” implementation guidance, including real-world examples.

Although FASB and the SEC may have reached a meeting of the minds on the overall notion of more general principles, they may disagree on the key point of how much implementation guidance to provide. FASB thinks that a principles-based approach should include less implementation guidance and rely more on judgment, while the SEC thinks that “sufficiently detailed” guidance is needed, and I suspect that would make it difficult to significantly reduce complexity in some cases.

In any event, FASB recently said that it may take “several years or more” for preparers and auditors to adjust to a change to less detail. Meantime, little has changed with respect to individual standards, which if anything are becoming even harder to understand and apply.

I’ve heard FASB board members say that FASB Interpretation (FIN) 46, on variable-interest entities (VIE), is an example of a principles-based standard. I assume they say this because FIN 46 states an objective of requiring consolidation when control over a VIE exists. But the definition of a VIE and the rules for determining when control exists are extremely difficult to understand.

FASB recently described what it meant by the operationality of an accounting standard. The first condition was that standards have to be comprehensible to readers with a reasonable level of knowledge and sophistication. This doesn’t seem to be the case for FIN 46. Many auditors and financial executives have told me that only a few individuals in the country truly know how to apply FIN 46. And those few individuals often disagree among themselves!

Such complications make it difficult to get decisions on many accounting matters from an audit engagement team. Decisions on VIEs, derivatives, and securitization transactions, to name a few, must routinely be cleared by an accounting firm’s national experts. And with section 404 of the Sarbanes-Oxley Act (SOA) and new concerns about auditor independence, getting answers is now even harder. For example, in the past, companies would commonly consult with their auditors on difficult accounting matters. But now the PCAOB may view this as a control weakness, under the assumption that the company lacks adequate internal expertise. And if auditors get too involved in technical decisions before a complex transaction is completed, the SEC or the PCAOB might decide that the auditors aren’t independent, because they’re auditing their own decisions.

When things become this complicated, I wonder whether it’s time for a new approach. Maybe we do need to go back to the Good Old Days.

Internal Controls

Today, financial executives are probably more concerned about internal controls than new accounting requirements. For the first time, all public companies must report on the adequacy of their internal controls over financial reporting, and outside auditors must express their opinion on the company’s controls. Many people have questioned whether this incredibly expensive activity is worth the presumed benefit to investors. While one might argue that the section 404 rules are a regulatory overreaction, shareholders should expect good internal controls. And audit committees, as shareholders’ representatives, must demand those good controls. So this has been by far the most time-consuming topic at all audit committee meetings I’ve attended in the past couple of years.

Companies and auditors are spending huge sums this year to ensure that transactions are properly processed and controlled. Yet the most perfect system of internal controls and the best audit of them might not catch an incorrect interpretation of GAAP. A good example of this was contained in the PCAOB’s August 2004 report on its initial reviews of the Big Four’s audit practices. The report noted that all four firms had missed the fact that some clients had misapplied EITF Issue 95-22. As the New York Times (August 27, 2004) noted, “The fact that all of the top firms had been misapplying it raised issues of just how well they know the sometimes complicated rules.”

Responding to a different criticism in that same PCAOB report, KPMG noted, “Three knowledgeable informed bodies—the firm, the PCAOB, and the SEC—had reached three different conclusions on proper accounting, illustrating the complex accounting issues registrants, auditors and regulators all face.”

Fair Value Accounting

Even those who are very confident about their understanding of the current accounting rules shouldn’t get complacent: Fair value accounting is right around the corner, making things even harder. In fact, it is already required in several recent standards.

To be clear, I’m not opposed in general to fair value accounting. It makes sense for marketable securities, derivatives, and probably many other financial instruments. But expanding the fair value concept to many other assets and liabilities is a challenge.

Consider this sentence from FASB’s recent exposure draft on fair value measurements: “The Board agreed that, conceptually, the fair value measurement objective and the approach for applying that objective should be the same for all assets and liabilities.” In that same document, FASB said, “Users of financial statements generally have agreed that fair value information is relevant.”

So the overall objective of moving toward a fair value accounting model seems clear. Of course, that doesn’t necessarily mean that we will get there soon. In fact, in the same exposure draft the board said that it would continue to use a project-by-project approach to decide on fair value or some other measure. But in reality the board has been adopting a fair value approach in most recent decisions:

SFAS 142, on goodwill, requires that impairment losses for certain intangible assets be recognized based upon a decline in the fair value of the asset. SFAS 143, on asset retirement obligations, requires that these liabilities be recorded initially at fair value rather than what the company expects to incur. SFAS 146, on exit or disposal activities, calls for the fair value of exit liabilities to be recorded, not the amount actually expected to be paid. FIN 45, on guarantees, says that a fair value must be recorded even when the company doesn’t expect to have to make good on a guarantee. A fair value approach is also integral to other pending projects, including the conditional asset retirement obligation exposure draft. Under such a standard, a company might have to record a fair value liability even when it doesn’t expect to incur an obligation. Fair value is also key to projects on business combination purchase procedures; differentiating between liabilities and equity; share-based payments (stock options); and the tremendously important revenue recognition project.

I have three major concerns about such pervasive use of fair value accounting. First, in many cases determining fair value in any kind of objective way will be difficult if not impossible. Second, the resulting accounting will produce answers that won’t benefit users of financial statements. Third, those answers will be very difficult to explain to business managers, with the result that accounting will be further discredited in their minds.

The approach that FASB is using for what I would call operating liabilities is particularly troubling. Take, for example, a company that owns and operates a facility that has some asbestos contamination. The facility is safe and can be operated indefinitely, but if the company wanted to sell the property it would have to remediate that contamination. The company has no plans to sell the property. But FASB’s exposure draft on conditional asset retirement obligations calls for the company to estimate and record a fair value liability. This would be based on what someone else would charge now to assume the obligation to clean up the problem at some unspecified future date. The board admits that it might be difficult to determine what the fair value would be in this case, and companies could omit the liability if they simply couldn’t make a reasonable estimate.

Although FASB and the SEC expect most companies to be able to make a reasonable estimate, in reality I think that will be possible only rarely. Even more important, does it really make sense to record a liability when the company might believe that there is only a 5% chance that it will have to be paid? Consider how this line of reasoning might apply to litigation. Presently, liabilities are recorded only when it’s probable that a loss has been incurred and that a reasonable estimate of the loss can be made. So if a company were sued for $1 billion but there were only a 1% chance that it would lose, nothing would be recorded. The fair value approach would seem to call for a liability of $10 million in this case, based on 1% of $1 billion.

One might think this kind of accounting will apply only in the distant future, but FASB is due to release its proposal on purchase accounting procedures in the next few months, and I understand that the proposal will require exactly this kind of accounting.

In addition to the very questionable relevance of this, I don’t know how anyone would ever be able to reasonably determine the 1% likelihood I assumed. How would an auditor attest to the reliability of financial statements whose results depend significantly on such assumptions? And where would an auditor go to obtain objective audit evidence against which to evaluate such assumptions?

Fair value definitely makes sense in certain instances, but FASB seems intent on extending the notion beyond the boundaries of common sense. FASB also seems to have an exaggerated notion of what companies and auditors are actually capable of doing. Perhaps we should consider FASB’s faith in the profession to be a compliment. Rather than feeling complimented, however, I think that this just makes many of us long for the Good Old Days.

Fair Value Accounting and Revenue Recognition

Currently, asset retirement obligations and exit costs apply to only a few companies, and even guarantees are not an everyday issue. All companies, however, have revenues—or at least they hope to have them. And for the past year or so, FASB has been engaged in a complete rethinking of revenue recognition. This, of course, was precipitated by the numerous SEC enforcement cases on improper revenue recognition. Most cases, however, involved failure to follow existing standards, and most cases also resulted in premature recognition of revenue.

Now there’s no doubt that the current revenue accounting rules are overly complicated, with many specific rules depending on the type of product or service being sold. But FASB’s current thinking would replace these rules with an asset and liability–oriented approach based on fair value accounting. This may well make revenue accounting even more complicated than the detailed rules that we are at least used to working with.

For example, assume product A is being sold to a customer. It costs $50 to produce product A and the customer has agreed to pay a nonrefundable $100 in exchange for the company’s promise to deliver this hot product next month. What should the company record at month-end?

Most accountants would probably think first of the traditional approach and conclude that the earnings process had not been completed. Because product A hasn’t been completed and shipped to the customer, the $100 credit is unearned income. Some aggressive accountants would probably say that the company should record the sale now because the $100 is nonrefundable. In that case the company would probably also record a liability for the $50 cost that will be incurred next month.

FASB has a surprise for both. The board is presently thinking about whether revenue for what it calls the “selling activity”—the difference between the $100 received and the assumed fair value of the obligation to deliver the product—should be recorded now. This assumed fair value would be the estimated amount that other companies would charge to produce product A. In other words, it’s the hypothetical amount a company would have to pay someone else to assume the obligation to produce the product. The company would have to make this assumption even though it is 100% sure that it will make the product itself rather than have someone else make it.

If one could ever determine what other companies would charge, I suspect that the amount would be higher than the $50 expected cost, because another company probably would require a risk premium to produce a product that it isn’t familiar with. It would want to earn a profit as well. Let’s assume in this case that the fair value could be determined as $80. If so, the company would record now $20 of revenue and profit for what FASB calls the selling activity. Next month it would record the $80 remaining amount of revenue, along with the $50 cost actually incurred. It’s unclear when the company would record sales commissions, delivery costs, and similar expenses, but I assume these would have to be allocated somehow.

Given that this project was added to FASB’s agenda in large part because of premature recognition of revenue in some SEC cases—Enron recognized income based on the supposed fair value of energy contracts extending 30 years into the future—it is ironic that the project may well mandate recognition earlier than most accountants would consider appropriate. That kind of premature revenue recognition is now generally prohibited, but other examples could follow, depending on the outcome of this FASB project.

Although the revenue recognition project is still in an early stage and both my understanding and the board’s positions could change, FASB seems determined to use some sort of fair value approach to revenue recognition in many cases. If this happens, we will all be wishing for the Good Old Days to return.

Is All That EITF Guidance Really Necessary?

In early 2004, FASB’s board members began reviewing all EITF consensus positions. A majority of board members now have to “not disagree” with the EITF before those positions become final and binding on companies. This gives FASB more control over the EITF process, and it should prevent the task force from developing positions that the board sees as inconsistent with existing GAAP.

Although I think the task force has done a great deal of good over its 20-year existence (I was a charter member), I think it’s time to challenge whether everything that the EITF does is necessary or even consistent with its original purpose. Too many of the task force’s topics in recent years can’t really be called “emerging issues.” Rather, the task force often takes up long-standing issues where it thinks that some limitations need to be placed on professional judgment.

For example, a couple of years ago the SEC became concerned about the accounting for certain investments in other companies. For years we’ve had standards that call for recognition of losses when market value declines are “other than temporary.” The EITF discussed this matter at eight meetings over two years and also relied on a separate working group of accounting experts. Earlier this year, a final consensus position was issued. It includes a lengthy abstract that tells companies what factors to consider, including the following matters:

Evidence to support the ability and intent to continue to hold the investment; The severity of the decline in value; How long the decline has lasted; and The evidence supporting a market price recovery. So now we have a “detailed rule” on this matter. Will this result in more consistency in practice? Will investors and other users of financial statements receive better information as a result? Is the result worth the additional effort?

Moreover, after two years of effort on this project, FASB had to reconsider the whole thing because no one had considered the effect on debt securities held as available for sale by financial institutions. So now the board is developing even more specifics to deal with the unintended consequences of the rule.

Again, I support the EITF, and I believe it has generally done a great job. The members try to develop practical ways to deal with current problems. Nonetheless, both the task force and FASB may need to more carefully challenge whether all of the EITF’s projects are really needed. If FASB actually issued relatively broad standards, there probably would be a need for the EITF to provide supplemental guidance on some issues. But we now seem to have the worst of all worlds, with quite detailed accounting standards being accompanied by even more detailed EITF guidance.

A Multitude of Challenges

I don’t intend to seem overly critical of FASB and others who are working to improve financial reporting. It’s a tough job, and the brickbats always outnumber the bouquets. If I didn’t strongly support accounting standards setting I wouldn’t have spent 10 Qs years on the inside of the process. Still, those years at FASB, as well as my time before and after, have caused me to develop strong views on these issues. And I truly do believe that standards have gotten just too complicated.

The announced move to broader principles is one I fully support. That job won’t be easy, but it has to be tried or the sea of detail will become even deeper in the near future. FASB needs to actually start doing this and not allow its actions to speak otherwise. And companies, auditors, and regulators need to support such a move and resist the temptation to seek answers to every imaginable question. Furthermore, companies and auditors may have to become more principled before a principles-based approach will work.

Part of this process could be for the EITF to be more judicious in what it takes on. Also, I urge FASB to reevaluate its attitude toward fair value accounting. I believe FASB is moving much faster in this area than preparers, auditors, and users of financial statements can accommodate. Furthermore, the SEC and other regulators may not yet be on board with this new thinking.

In the final analysis, we won’t be able to return to my so-called Good Old Days. But we have to make sure that what accounting and accountants can do is meaningful and operational. We never want to look back and ask, “Remember the Good Old Days, when accounting was important?”

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CPA Journal Editorial Board member Dennis R. Beresford, CPA, was recently named the 2005 recipient of the Gold Medal for Distinguished Service from the AICPA. He received the award on October 26, during the fall meeting of the Institute’s governing council in Orlando. Beresford is the Ernst & Young Executive Professor of Accounting at the J.M. Tull School of Accounting at the University of Georgia, Terry College of Business. From 1987 to 1997, he was chairman of FASB. Prior to joining FASB, he was national director of accounting standards for Ernst & Young.ecently I visited my pharmacy to pick up eyedrops for my two golden retrievers. Before he would give me the prescription, the pharmacist insisted I sign a form on behalf of Murphy and Millie, representing that they had been apprised of their rights under the new medical privacy rules. This ludicrous situation is a good illustration of how complicated life has gotten.