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Abstract:
Growth of online auctions and other forms of e-commerce has been hampered by concerns about the privacy, integrity, and security of online transactions. To earn the trust of their participants, new e-commerce organizations, like traditional organizations, have to reach the state of expectations equilibrium or control - a state where the actual behavior of participants corresponds to what others expect them to do. Since e-commerce companies provide electronic platforms where buyers and sellers interact directly with each other (as well as with the platform operator), establishing control in e-commerce enterprises requires broadening of the traditional definition of "internal control" to encompass the activities of "outsiders" such as customers, and suppliers.

This paper presents a framework for analyzing the control environment of online auctions and identifies privacy and denial of service attacks as two new classes of risks faced by e-commerce companies. Using the control policies and practices of a leading consumer online auction company (eBay) as an illustrative example, we suggest possible ways of controlling these risks. This analysis identifies the demand for new kinds of assurance services for e-commerce to support privacy, integrity and security of online transactions. E-commerce assurance services available at the end of year 2000 (e.g. WebTrust) fall short of what is needed to establish expectations equilibrium or control in online auction firms. The merits of developing proprietary (e.g., PWC privacy standards) versus industry standards (e.g. WebTrust) for e-commerce assurance services are also discussed.

E-commerce, Online auctions, Control, Assurance, Privacy, Integrity, Security

Abstract:
Fraud detection is usually done by looking for red flags and various other cues of deceit. Research in auditing and psychology has questioned the effectiveness of these methods. Here we summarize work on constructing a new cognitive approach to understanding both success and failure at detecting financial statement fraud (Johnson, Grazioli, Jamal and Berryman 2001; Johnson, Grazioli, Jamal and Zualkernan 1992). We begin by analyzing the information processing problem than an auditor must solve to detect the presence of deceptive financial information. We then describe a theory of the solution to this problem, i.e. a theory of successful fraud detection. The theory is used as a yardstick to evaluate the actual behavior of Big 4 firm audit partners engaged in the review of real cases of financial statement fraud. An analysis of the errors made by these auditors allows us to formulate and test hypotheses on where they succeed, where they fail, and the cognitive processes that underlie both success and failure.

Financial statement fraud detection, Cognitive processes, Deception detection, Errors

Abstract:
The Securities and Exchange Commission (SEC) recently issued a call for comment on a proposal to accept financial statements prepared in accordance with international financial reporting standards (IFRS) without reconciliation to U.S. GAAP. Accounting researchers have attempted to assess the quality of IFRS using different methods and criteria. While we are skeptical of drawing direct conclusions about the SEC's proposal based on this research, there is adequate evidence that both IFRS and U.S. GAAP provide useful information to investors and other users of financial statements. Moreover, we see no conclusive research evidence that financial reports prepared using U.S. GAAP are better than reports prepared using IFRS. The prudent approach when faced with alternatives with no clear difference in quality is to promote competition among them, which supports adopting the SEC's proposal to permit foreign private issuers a choice between IFRS and U.S. GAAP. Therefore, to help improve U.S. and international GAAP through standards-setting competition, we recommend that the Commission also consider extending the choice of IFRS to U.S. companies, and require all companies to indicate clearly whether they are filing under U.S. GAAP or IFRS. Finally, we recommend that the Commission and its staff investigate and seek feedback on the educational consequences of its proposed actions. This attention will help educators better prepare future professionals to implement these proposed regulatory changes.

Financial Reporting, U.S. GAAP, IFRS, SEC, Reconciliation

Abstract:
Concern about privacy, integrity, and security of online transactions hampers absorption of e-commerce technologies as a normal way of doing business. To gain acceptance and trust of their participants, all organizations much achieve control or expectations equilibrium - a state where participants choose to do what others expect of them. Establishing control in e-commerce requires us to expand the traditional view of internal control to encompass the activities of customers, suppliers, and other "outside" users of their electronic platforms. We present a framework for analyzing control in online auctions. Privacy, authentication, and denial-of-service attacks are three classes of risk especially prevalent in e-commerce. Using the control practices of eBay as an illustrative example, we suggest possible ways of controlling these risks. Privacy, integrity, and security of online transactions demand new types of assurance services in e-commerce. We analyze assurance services available in 2002 and discuss challenges and opportunities facing existing services such as WebTrust. The merits of developing proprietary versus industry standards, and simple operational vertification of client-specific policies for e-commerce assurance services are also discussed.

Abstract:
Government regulation of financial reporting by publicly listed firms, coupled with a punitive regime for violation of generally accepted accounting principles (GAAP), has been in place in the United States for seven decades. Whether this regime is effective or useful is an open question, especially in the absence of data on the behavior of unregulated economies. Privacy disclosure in e-commerce is essentially an unregulated environment with some parallels to financial disclosure. A study of privacy standards, disclosures practices and demand for audits can help accountants and security regulators project the consequences of a competitive regime sans regulation for accounting standards, disclosure and audit practices, and the effectiveness of opt-out practices of 100 high-traffic e-commerce Web sites. We observe four diverse sets of privacy standards (TRUSTe, BBB Online, WebTrust, and PWC Privacy) competing in this market, attracting clienteles of their own as reflected in privacy policies and the disclosure of such policies. With a few exceptions, actual disclosure and opt-out practices correspond reasonably well to stated policies in e-commerce. There is little evidence that the prevailing competitive regime induces a race to the bottom with respect to privacy standards and disclosures. We explore the implications of these results for the consequences of a competitive regime for regulation of financial reporting.

e-commerce, Privacy, Regulatory Competition, Financial Reporting Standards

Abstract:
Government regulation of financial reporting by publicly listed firms, coupled with a punitive regime for violation of Generally Accepted Accounting Principles (GAAP) has been in place in the United States for seven decades. Whether this regime is effective or useful is an open question, especially in the absence of data on the behavior of unregulated economies. Privacy disclosure in e-commerce is essentially an unregulated environment with some parallels to financial disclosure. A study of privacy standards, disclosures practices and demand for audits can help accountants and security regulators project the consequences of a competitive regime sans regulation for accounting standards, disclosure and audit practices.

In this paper we set up a framework for such a study, gather data from the field, and analyze privacy standards, privacy disclosure practices, and the effectiveness of opt-out practices of one hundred high traffic e-commerce websites. We observe four diverse sets of privacy standards (Truste, BBB Online, WebTrust and PWC Privacy) competing in this market, attracting clienteles of their own as reflected in privacy policies and the disclosure of such policies. With a few exceptions, actual disclosure and opt-out practices correspond reasonably well to stated policies in e-commerce. There is little evidence that the prevailing competitive regime induces a race to the bottom with respect to privacy standards and disclosures. We explore the implications of these results for the consequences of a competitive regime for regulation of financial reporting.

E-commerce, Privacy, Regulatory Competition, Reporting Standards

Abstract:
This paper constructs a model of professional expertise as an attribute of an accounting firm rather than just an attribute of individual experts. This model leads to the identification of three strategies applicable to accounting firms. A Knowledge firm develops and sells proprietary knowledge to a selective clientele, whereas a Full Service firm develops and sells general professional knowledge to a broad clientele. A Relationship firm is in-between the other two firm types. Associations are hypothesized between these strategies and a variety of firm activities such as client selection, diffusion (or concentration) of expertise within the firm, sharing of expertise within the firm, and formalization of quality control processes. A questionnaire was completed by 219 audit and tax partners and consulting, insolvency and forensic accounting principals in 15 public accounting firms, including the Big Five. Results are consistent with the existence of three distinct types of firms. Results also indicate that partners are aware of local pressures that they personally face (e.g,. need to sell more services to clients) and less aware of the effect of broad structural features of the firm (e.g., size, decision aids). The key structural features that are salient to partners involve need for selectivity in choosing clients, and the need for the firm to develop specialized proprietary technical knowledge.

Firm level expertise; Expertise management; Proprietary knowledge; Client selection; Audit firm structure; Knowledge management

Abstract:
For three centuries, Anglo-American Governments have been creating regulation and governance reforms (including mandatory audit requirements) in reaction to fraud. The most recent attempt in the U.S. is the Sarbanes-Oxley Act (SOX). The Capital Markets Leadership Task Force Report in Canada (Boritz 2006) is consistent with this philosophy of providing comfort to investors that more mandatory audit procedures can protect them from fraud. I argue in this paper that government regulators have been selling investors a myth that auditing cannot live up to. Mandatory audit is an ineffective procedure for protecting investors from fraud. To protect investors from fraud, regulators can require all publicly traded companies to purchase fraud insurance. An alternative option is to de-regulate auditing, and let auditors find ways to create value for shareholders. The current regulatory system is distorting auditor incentives and has led to a short sighted audit profession. SOX (and the CMLTF report) do not fix any of the structural problems in accounting and auditing.

Abstract:
We present data on privacy practices in e-commerce under the European Union's (EU's) formal regulatory regime prevailing in the United Kingdom (U.K.), and compare it to the data from a previous study of United States (U.S.) practices that evolved in the absence of government laws or enforcement. The codification by the EU law, and the enforcement by the U.K. government, improves neither the disclosure nor the practice of e-commerce privacy relative to the U.S. Regulation in the U.K. also appears to stifle development of a market for web assurance services. Both U.S. and U.K. consumers continue to be vulnerable to a small number of e-commerce websites who spam their customers, ignoring the latter's expressed or implied preferences. These results raise important questions about finding a balance between enforced standards and conventions in the domain of financial reporting. In the second half of the twentieth century, financial reporting has been characterized by a preference for legislated standards, and a lack of faith in its evolution as a body of social conventions. Evidence on whether this faith in standards over conventions is justified remains to be marshaled.

e-commerce, privacy, regulatory competition, and financial reporting standards

Abstract:
Conventions as well as standards influence the practice of financial reporting. Reporting standards arise as legislated rules, enforced by the power of law. Conventions evolve over time through trial and practice, and are upheld by socioeconomic rewards and sanctions. Financial reporting in the second half of the twentieth century has been characterized by a preference for legislated standards, and a lack of faith in its evolution as a body of social conventions. Evidence on whether this faith in standards over conventions is justified remains to be marshaled. We present data on privacy practices in e-commerce under the European Union's (EU's) formal regulatory regime prevailing in the United Kingdom (U.K.), and compare it to the data from a previous study of United States (U.S.) practices that evolved in the absence of government laws or enforcement. The codification by the EU law, and the enforcement by the U.K. government, improves neither the disclosure nor the practice of e-commerce privacy relative to the U.S. Regulation in the U.K. also appears to stifle development of a market for web assurance services. Both U.S. and U.K. consumers continue to be vulnerable to a small number of e-commerce websites who spam their customers, ignoring the latter's expressed or implied preferences. These results are germane to the rules versus principles debate in accounting, and raise important questions about finding a balance between enforced standards and conventions in the domain of financial reporting.

e-commerce, privacy, regulatory competition, and financial reporting standards

Abstract:
The American Accounting Association's Financial Accounting Standards Committee is pleased to have an opportunity to express its views on the FASB's Call for Preliminary Views on its Conceptual Framework. We applaud the decision of the FASB to develop a Conceptual Framework and seek comments on its preliminary views and hope the financial reporting community will participate enthusiastically in this important activity.

While we understand the importance of a Conceptual Framework, especially for accounting standard setting, we have deep reservations about the current document. In our response we explain why we think that the Preliminary Conceptual Framework is unlikely to be helpful in setting conceptually sound accounting standards. In particular, as you will see, we have reservations about the following key points:

1. We believe the Preliminary Conceptual framework is too focused on an investment role of accounting, and neglects the more important stewardship role of accounting.

2. The reliance on fair values that are not grounded on actual relevant market transactions (such as mark to model numbers) are not trustworthy. We believe that provision of soft accounting
numbers will be harmful to the relevance and usefulness of accounting numbers.

3. We agree with the FASB's desire for neutral accounting numbers. However, given management's upward bias in reporting, we feel that conservative standards are required to produce neutral accounting numbers, and

4. We believe the FASB's standards should not be determined based only on a conceptual framework. Concepts such as relevance are too broad to be useful in determining a specific standard. A more rigorous field-performance-testing model is needed before conducting real world experiments with new accounting standards. We recommend allowing companies more flexibility in their reporting choices to allow market forces a greater role in setting accounting standards.

In closing, despite our reservations about the Conceptual Framework, we applaud the FASB's desire to seek views on its preliminary effort and hope to participate again as this important activity progresses further.

Abstract:
We analyze a previously unreported set of data on discretionary accruals made by high and low foresight managers in Tan and Jamal's (2006) experiment to identify differences in the methods by which these managers use discretion in GAAP to manage earnings. In Tan and Jamal's (2006) experiment, financial managers operate a virtual firm in which they make operating and accounting accrual decisions in order to generate smooth earnings. Our results indicate that compared to high foresight managers, low foresight managers use more earnings-increasing accruals when smoothing earnings. Low foresight managers also use more accruals with long reversal periods than high foresight managers. High foresight managers, in contrast, make more earnings-decreasing accruals when smoothing earnings. High foresight managers use significantly more accounting accruals with a short reversal period than low foresight managers. Implications for investors and regulators are discussed.

Accounting discretion, managerial foresight, accrual management, reversal of accruals, earnings management

Abstract:
The Securities and Exchange Commission (SEC) issued a call for comment on a proposal to adopt a Roadmap for potential use of international financial reporting standards (IFRS) by U.S. Companies. We comment on five key issues raised by the SEC proposal. First, we propose that the need for a global regulator is overstated. A global regulator is unlikely to help achieve the stated goals of comparability and consistency of financial reporting on a global basis. We favor allowing U.S. companies to choose use of U.S. GAAP or IFRS rather than mandating one global monopoly set of standards. Second, we agree that the focus on auditing is a very relevant issue that deserves more attention from standard setters. Gains from adopting principles based accounting standards such as IFRS are likely to be realized only if auditors are also principles based. Third, while we have serious concerns about governance and financing mechanisms of IASB, we recommend that all regulatory actions cannot be held to a standstill while structural changes are made to the IASB. Fourth, we are not in favor of requiring reconciliation schedules from U.S. companies using IFRS. We view such reconciliations as being costly and unnecessary. Fifth, we recommend that the SEC pay more explicit attention to the educational and professional judgment consequences of its proposals.

This comment was developed by the Financial Accounting Standards Committee of the American Accounting Association and does not represent an official position of the American Accounting Association.

U.S. GAAP, IFRS, SEC, Reconciliation, Roadmap

Abstract:
Standard setters and most academics maintain that accounting standards ought to rest on a set of guiding principles stated explicitly in a “conceptual framework.” The FASB and IASB are currently involved in a project to refine conceptual framework documents developed earlier. At this point, it is not clear what their final product will look like; its defining characteristics as well as the substantive content can only be surmised. This paper addresses the issues that FASB and IASB face, including the question of what a conceptual framework should be all about. First, we suggest characteristics that a conceptual framework ought to exhibit. Most of these suggestions are based on our critique of the existing framework and the FASB-IASB work in progress. Second, we present a model framework that meets our criteria. We emphasize up front that this framework is quite explicit. It goes to the heart of what a framework document should do: it places specific restrictions on what constitutes admissible accounting standards. The purpose of our effort is to stimulate broad discussion of alternative approaches to foundational documents and to offer a specific example of such an alternative approach.

FASB, IASB, Conceptual Framework, Accounting Standards, Financial Reporting

Abstract:
Mandatory certification of the financial reports of publicly-held corporations by independent auditors has been a key element in U.S. regulatory framework to improve financial reporting. The economic consequences of mandatory certification remain controversial. Although each market is unique, comparative analyses of certification services across markets can yield useful insights into the value and consequences of mandatory audit of financial reports. Using a framework for analysis of certification services, we report: (1) descriptive data about certification activity for a range of private sector goods; (2) qualifications and interests of experts who provide online certification or opinion for a fee; and (3) analysis of an online market for certification of baseball card.

We find that (1) markets for certification services are ubiquitous in the economy, many with potential for conflicts of interest; (2) the grading scales vary from pass/fail to 100 points with greater use of the former by government agencies; (3) the unregulated market for baseball card certification is dominated by firms who also sell other services; (4) buyers of certification services are willing to pay more for stricter grading; and (5) the net returns to the purchase of stricter certification services are higher, i.e., there is little evidence of a race-to-the-bottom. These observations from unregulated markets for certification services raise interesting questions about several maintained assumptions about the federal regulation of certification of corporate
financial reports (e.g., the importance of independence).

Abstract:
Managers use smooth earnings patterns to communicate their firm's superior earnings prospects to investors. These managers require a knowledge of future earnings (or foresight) in order to determine the level of smoothing in each financial period. However, with discretion in GAAP, low foresight managers can also smooth earnings. To prevent managers from misrepresenting their firm's prospects, regulators have advocated a reduction in accounting discretion. This paper reports an experiment that examines (1) whether managers are able to use operational variables to smooth earnings when accounting discretion is reduced, and (2) whether reducing accounting discretion creates less difficulty for high foresight managers to smooth earnings than for low foresight managers.

The study shows that when accounting discretion is reduced, high foresight managers are more capable of smoothing earnings than low foresight managers. Reduced accounting discretion motivates high foresight managers to manage investments in order to reduce their firm's earnings variability. These results provide support for a policy of reducing accounting discretion in order to prevent misrepresentation by managers. However, a disadvantage of this policy is that high foresight managers who use smooth earnings to communicate with shareholders may resort to operational smoothing, which could be detrimental to a firm's long-term growth.

Accounting discretion, managerial foresight, income smoothing, operating decisions, earnings management.

Abstract:
Managers use smooth earnings patterns to communicate their firm's superior earnings prospects to investors. These managers require a knowledge of future earnings (or foresight) in order to determine the level of smoothing in each financial period. However, with discretion in GAAP, low foresight managers can also smooth earnings. To prevent managers from misrepresenting their firm's prospects, regulators have advocated a reduction in accounting discretion. This paper reports an experiment that examines (1) whether managers are able to use operational variables to smooth earnings when accounting discretion is reduced, and (2) whether reducing accounting discretion creates less difficulty for high foresight managers to smooth earnings than for low foresight managers. The study shows that when accounting discretion is reduced, high foresight managers are more capable of smoothing earnings than low foresight managers. Reduced accounting discretion motivates high foresight managers to manage investments in order to reduce their firm's earnings variability. These results provide support for a policy of reducing accounting discretion in order to prevent misrepresentation by managers. However, a disadvantage of this policy is that high foresight managers who use smooth earnings to communicate with shareholders may resort to operational smoothing, which could be detrimental to a firm's long-term growth.

Accounting discretion, managerial foresight, income smoothing, operating decisions, earnings management

Abstract:
Financial accounting standards in the U.S. are developed by private standard setting organizations (SSOs) that operate under the oversight of a government agency. The primary accounting SSO (FASB) has been criticized for writing too many standards (standards overload), the complexity of its standards, the processes by which its standards are set, and the absence of a competitive mechanism to help set standards. The present study seeks to assess the validity of these concerns by looking at standard setting processes in the broader economy.

The study consists of three parts. In Section 1, we present some historical data on standard setting activity and document standards set by 604 private and 80 government SSOs in the U.S. We find that there is a time trend in favour of greater reliance on private rather than government SSOs. Accounting standard setters are late entrants in the field of setting standards and appear to be relatively slow in developing new standards. However, accounting standards are relatively long and complex, thus possibly justifying complaints of standards overload. In Section 2, we propose a framework for analysis of the types of standards (quality versus co-ordination) and the processes by which standards are set (monopoly versus competition). We present some data on how standards are set by Government SSOs and provide a detailed comparison of the standard setting processes of four competing technology oriented SSOs relative to the FASB. The comparison highlights a number of features where the FASB differs from other SSOs. These include: the use of sanctions, the threshold of agreement required for standards adoption, and standards competition. In Section 3, we provide data on standards competition in the economy. This includes a case study of internet telephony where competing SSOs have fundamentally transformed the telecommunications industry. Implications for accounting standard setting are discussed.

Abstract:
Under what conditions is government regulation better at protecting market participants than private, evolving, market-driven protections? An intriguing answer to that question emerges if we examine a relatively unregulated area of market participant protection: e-commerce privacy. In the United States, the privacy of participants engaged in e-commerce is largely unregulated by government; instead, many commercial websites contract with third parties to establish privacy protection codes and certify to Web surfers that the Web sites adhere to those codes. In the United Kingdom, on the other hand, e-commerce privacy is a matter of government regulation and enforcement by an agency created for that purpose. An analysis of these two very different approaches to online privacy suggests that private protections perform as well as - and perhaps even better than - government-regulation.

Regulation, privacy, privacy protection, internet, internet privacy, internet regulation, government regulation, regulation by markets

Abstract:
An implicit assumption of prior literature on strategic behavior of auditors is that auditors know the preferences of their colleagues. In this study, we conduct an experiment to investigate the validity of this assumption. In our experiment, we match a manager with a pair of top and mediocre audit seniors, as assessed by their firm. Each auditor predicts the choices that will be made by other auditors on two tasks that differ in their level of ambiguity. Our results show no difference in the accuracy among managers, top seniors, and mediocre seniors when they predict the choices made by specific individual auditors for both tasks. When predicting the number of managers and seniors who will choose a specific option on the high-ambiguity task, managers outperform top seniors, who in turn outperform mediocre seniors. For the low-ambiguity task, we find no difference among managers, top seniors, and mediocre seniors. Our results provide some limited support for models of strategic auditor behavior, and indicate that the ability to predict the choices of others is a dimension of an auditor's expertise.

Audit expertise; Strategic auditor behavior; Auditor preference

Abstract:
An implicit assumption of prior literature on strategic behavior of auditors is that auditors know the preferences of their colleagues. In this study, we conduct an experiment to investigate the validity of this assumption. In our experiment, we match a manager with a pair of top and mediocre audit seniors, as assessed by their firm. Each auditor predicts the choices that will be made by other auditors on two tasks that differ in their level of ambiguity. Our results show no difference in the accuracy among managers, top seniors, and mediocre seniors when they predict the choices made by specific individual auditors for both tasks. When predicting the number of managers and seniors who will choose a specific option on the high-ambiguity task, managers outperform top seniors, who in turn outperform mediocre seniors. For the low-ambiguity task, we find no difference among managers, top seniors, and mediocre seniors. Our results provide some limited support for models of strategic auditor behavior, and indicate that the ability to predict the choices of others is a dimension of an auditor's expertise.

Audit expertise; Strategic auditor behavior; Auditor preference

Abstract:
Jamal and Sunder [Journal of Economic Behavior and Organization, 32 (1966) 273] showed that the median prices in double auctions populated by zero-intelligence (ZI) traders whose trading limits are set by two biased heuristics tend to converge to the same equilibrium as if their trading limits were set by applying Bayes' rule. This note provides an analytical explanation of why the repeated use of biased heuristics approximates Bayes rule.

Aggregate Market Rationality, Bayaesian Equilibrium, Double Auction, Biased Heuristics

Abstract:
Jamal and Sunder (1996) showed that the median prices in double auctions populated by zero-intelligence (ZI) traders whose trading limits are set by two biased heuristics tend to converge to the same equilibrium as if their trading limits were set by applying Bayes' Rule. This note provides an analytical explanation of why the repeated use of biased heuristics approximates Bayes rule.

Aggregate Market Rationality, Bayesian Equilibrium, Double Auction, Biased Heuristics

Abstract:
In recent years public accounting firms have been caught in a media firestorm fuelled by corporate fraud, disappointed investors and aggressive regulators. The collapse of Arthur Andersen, attributed partly to the way the firm was managed, including incentives for partner performance, and stories of cozy auditor-client relations involving numerous firms, have triggered questions about how well accounting firms are managed. Some former Arthur Andersen partners (e.g., Wyatt 2004; Toffler 2003) have proposed that greed and mismanagement by senior partners contributed to the demise of Arthur Andersen. Much of the trouble happened in the US - what about Canada? Have the management practices of Canadian public accounting firms changed after all this?

Abstract:
The FASB and the IASB recently issued a joint discussion paper entitled, Preliminary Views on Revenue Recognition in Contracts with Customers. The Boards requested comments on whether their proposed model for revenue recognition would improve the usefulness of the financial statement information for financial decision makers. This paper sets forth the AAA's Financial Accounting Standards Committee's responses to several of the Boards' specific questions. In summary, we support the Boards' proposed comprehensive revenue recognition standard based on the following options: (1) the customer consideration approach (based on initial contract price measurement); (2) no recognition of revenue at contract inception (by assigning the initial contract price to performance obligations); (3) allocation of the transaction price to multiple performance obligations based on the relative stand-alone prices of each performance obligation. We also recommend that the Boards carefully consider the following clarifications as they develop the final exposure draft. The definition of a contract should include the words legally enforceable to describe the contract. A performance obligation must be verifiable. While the transfer of an asset to the customer or the acceptance of a service by the customer normally signals the recognition of revenue, we encourage the Boards to carefully consider situations (like long-term construction or mining) when the completion of intermediate performance obligations could trigger revenue recognition prior to the transfer of title. Absent special consideration of these situations, companies may be forced to re-write contracts in sub-optimal ways in an effort to recognize revenue continuously throughout a long-term construction project or in the process of mining or farming. Consider the difficulties that may arise in allocating the initial transaction price to multiple performance obligation contracts when the individual performance obligations are not normally sold on a stand-alone basis.

Financial Accounting Standards Board, International Accounting Standards Board, Revenue Recognition, Contracts

Abstract:
The Financial Accounting Standards Board's (FASB's) and the International Accounting Standard Board's (IASB's) issued a joint Discussion Paper entitled, Preliminary Views on Financial Statement Presentation. The Boards are seeking comments on whether their proposed model for financial statement presentation would improve the usefulness of the financial statement information for financial decision makers. This paper sets forth the AAA's Financial Accounting Standards Committee's summary comments as well as responses to several of the Boards' specific objectives and principles-related questions. Overall, we believe that the model has several appealing qualities, but also has several potential problems. Many of the problems that we discuss related to potential learning impediments for users to adapt to the new presentation format.

Financial Accounting Standards Board, International Accounting Standards Board, Exposure Draft, Financial Statement Presentation

Abstract:
We investigate factors that may influence auditors' overconfidence in other auditors' technical knowledge. We conducted an experiment using natural teams comprising audit seniors and managers. We find that audit managers' (seniors') overconfidence in audit seniors' (managers') technical knowledge is larger (smaller) for a high complexity task than for a low complexity task, for both individual and group predictions. These results indicate that overconfidence is influenced by task complexity, and that the effect differs between audit managers (who make downstream predictions of seniors' knowledge) and audit seniors (who make upstream predictions about managers' knowledge).

overconfidence, technical knowledge, task complexity, auditor rank

Abstract:
The Financial Accounting Standards Committee of the American Accounting Association (the Committee) is charged with responding to requests for comments from standard-setters on issues related to financial reporting. The Financial Accounting Foundation (FAF) recently released for public comment, Proposed Changes to Oversight, Structure, and Operations of the FAF, FASB, and GASB (the proposal). Our commentary concerns four issues in the proposal which have the most relevance for accounting standard setting:

1. Reduce the size of the FASB from seven members to five;
2. Retain the FASB simple majority voting requirement;
3. Realign the FASB composition; and
4. Provide the FASB Chair with decision-making authority to set the FASB technical agenda.

We disagree with all four of these proposals. The current FASB is set up consistent with a political appointment model rather than a model designed to create an independent standard setting board. The four proposals put forth by the FAF increase the political nature of the FASB, further concentrate decision making power, and make it difficult to get general acceptance of accounting standards. We propose that the FAF move in the opposite direction. In particular, we recommend that the FAF not reduce the FASB size, and adopt a supermajority requirement not a simple voting requirement. If the majority cannot convince other members of the FASB about their views, how can we attain general acceptance of accounting standards in society? We also want a FASB that is open to more diverse views and more democratic. We urge the FAF to increase its engagement with the accounting community instead of becoming more elitist and further concentrating power in the hands of a powerful chairman and a small standard setting board.

FAF, FASB

Abstract:
The Canadian Accounting Standards Board (AcSB) issued an exposure draft on a proposal to adopt a separate 'Made in Canada' GAAP for private enterprises. This new GAAP is justified as being consistent with the current FASB/IASB conceptual framework, but as being responsive to the different cost/benefit considerations facing private entities vis-à-vis public entities. We viewed this proposal as being innovative and responsive to the differential financial reporting needs of private entities. We proposed that the AcSB should develop a separate conceptual framework to guide the future evolution of this new GAAP and not rely only on cost-benefit considerations. We sketched a preliminary conceptual framework that could be used to develop and justify the type of changes proposed in this exposure draft. We then responded to the specific questions asked in the exposure draft and were very supportive of the concepts proposed. First, we support the proposed GAAP which is based on historical cost with very minimal reliance on fair values. Second, we expressed agreement with the proposal to reduce the amount of required disclosures for private enterprises given their significant economic differences from public companies. Third, we agreed with the proposal to drop provision of significant guidance and especially (ex-post) emerging issues committee interpretations (EIC’s). We are in favour of a principles based GAAP and the provision of detailed authoritative guidance is not conducive to professional judgment. We also suggested a series of transition issues that the AcSB should consider including the mechanism for financing the standard setting board, the need to ensure compatibility between accounting and auditing standards, and a process for adjusting the education system (both in Universities and professional exams) to support this new private enterprise GAAP. This comment was developed by the Financial Accounting Standards Committee of the American Accounting Association and does not represent an official position of the American Accounting Association.

accounting standards, private GAAP

Abstract:
Managers sometimes implement accounting standards (such as the lease standard) opportunistically to move debt off balance-sheet. Regulators and standard setters are considering the adoption of principles-based accounting standards to reduce such opportunism. However, there are lingering concerns about whether principles-based standards can be properly implemented and enforced. We report results of an experiment where highly experienced financial managers, with incentives to structure a transaction off balance sheet, take a reporting position on how a lease is to be disclosed. We manipulate the type of GAAP (principles-based, rules-based) and the type of auditor (client-oriented, principles-oriented, or rules-oriented). Our results show that a move towards more principles-based standards is likely to result in improved financial reporting quality only when there is a corresponding shift in auditors’ mindsets towards beings more principles-oriented.

principles-based standards, rules-based standards, auditor type, off balance sheet debt, transaction structuring

Abstract:
We investigate factors that influence an auditor's accuracy in knowing how their subordinates, peers, and superiors view his/her own technical competence (metaperception). Extant literature on reputation management in auditing contexts depicts preparers of audit workpapers as strategic agents (subordinates) who stylize workpapers and engage in behaviors to enhance their reputations with reviewers (superiors). These superiors, in turn, are represented as strategically engaging in coping behaviors in response to such stylization attempts. A necessary condition, among others, for them to do so on a sustainable basis is accurate metaperception. We report the results of an experiment that investigates determinants of auditors' metaperception accuracy. Our participants comprise teams of audit partners, managers, and seniors who work together in the field. Each auditor performs two tasks of varying complexity, and predicts whether other team members can accurately perform the task, and what other team members assess to be his/her performance on the tasks. Results show that accuracy in knowing what others think of one's technical proficiency (metaperception) is generally high, particularly when the predictor auditors are partners and managers; however, metaperception accuracy is asymmetric and varies depending on the predictor auditor, the target auditor being predicted and task complexity. Implications are discussed.

reputation management, audit workpaper review, metaperception

Abstract:
We investigate factors that influence an auditor's accuracy in knowing how their subordinates, peers, and superiors view his/her own technical competence (metaperception). Extant literature on reputation management in auditing contexts depicts preparers of audit workpapers as strategic agents (subordinates) who stylize workpapers and engage in behaviors to enhance their reputations with reviewers (superiors). These superiors, in turn, are represented as strategically engaging in coping behaviors in response to such stylization attempts. A necessary condition, among others, for them to do so on a sustainable basis is accurate metaperception. We report the results of an experiment that investigates determinants of auditors' metaperception accuracy. Our participants comprise teams of audit partners, managers, and seniors who work together in the field. Each auditor performs two tasks of varying complexity, and predicts whether other team members can accurately perform the task, and what other team members assess to be his/her performance on the tasks. Results show that accuracy in knowing what others think of one's technical proficiency (metaperception) is generally high, particularly when the predictor auditors are partners and managers; however, metaperception accuracy is asymmetric and varies depending on the predictor auditor, the target auditor being predicted and task complexity. Implications are discussed.

reputation management, audit workpaper review, metaperception

Abstract:
Using Hollinger Inc., KPMG and Ms. Marilyn Stitt as our focus, we engage the accounting profession in a conversation about how to support an audit partner who exercises good professional judgment and acts with integrity. We interviewed Chartered Accountants who were current and/or recently retired partners of Big 4 firms (other than KPMG), partners of small accounting firms, corporate directors, and investment advisors or other users of financial statements. We explored three broad questions with our participants. The first question focused on assessing the audit of Hollinger Inc. The second question asked participants to consider how auditors who exercise good professional judgment can be supported by the profession. The third question asked participants to consider how auditors who exercise good professional judgment could be recognized, celebrated and publicized by the profession. We find that participants have mixed feelings towards the audit of Hollinger and feel that support for partners should come from within the firm. We propose the establishment of a Canadian Accounting Hall of Fame to recognize accountants who display technical excellence and act with courage, integrity and good judgment.

Auditing, litigation, professional integrity

Abstract:
The Financial Accounting Standards Committee of the American Accounting Association (the Committee) is charged with responding to requests for comments from standard-setters on issues related to financial reporting. The Financial Accounting Standards Board (FASB) recently requested comments on its Preliminary Views on Financial Instruments with Characteristics of Equity (PV). The committee believes that the PV introduces concepts and definitions involving financial statement elements that more properly would be considered at the conceptual framework level. Therefore, the committee respectfully requests that FASB take no further action regarding the proposed standard exposed in the Preliminary Views on Financial Instruments with Characteristics of Equity until the conceptual and definitional issues are resolved at the conceptual framework level.

Financial Reporting, FASB, Financial Instruments, Equity

Abstract:
Two key assumptions underlying the regulation of U.S. financial reporting are the need to mandate the certification of financial statements, and to require that this certification be performed by independent auditors. Private incentives to demand (and supply) certification are thought to be insufficient, and independence is thought to be necessary for quality audit. In this study, we collect archival data on certification activity in the economy, and conduct a field experiment on an unregulated online market for certification of baseball cards to investigate the validity of these assumptions.

Our results show that: (1) Private markets for certification services are ubiquitous in the economy, many with potential for conflict of interest; (2) The grading scales used in certification reports vary from pass/fail to scales with 5-100 points with greater use of the former by government agencies; (3) the unregulated market for baseball card certification is dominated by firms who also sell other services; and (4) Certification agencies who cross sell services provide better quality audits than completely independent certification agencies. Our results suggest that the assumption that private incentives are insufficient for a well-functioning audit market may need further scrutiny. In addition, our results suggest that independence is not a necessary condition for obtaining audit quality.

Mandatory audit, independence, regulation, certification services, financial reporting, accounting

Abstract:
We report results of a field investigation of the process by which clients and prospective auditors acquire information about each other and enter an engagement. Often we assume that knowledge required for contracting is readily known by contracting agents, while in fact it must be acquired through a complex courtship process by agents with private and conflicting incentives. To examine this important aspect of the market for audit services, we obtain documents and conduct interviews on requests for audit proposal (RFPs) issued by a publicly traded Canadian company, as well as a Canadian government organization. We observed: (1) significant management control in selection of the external auditor; (2) asymmetry of transparency, whereby the client gathers detailed information about prospective auditors from multiple sources, but the auditors are reluctant to press prospective clients for information; (3) a selection process that requires the auditor to provide references from senior officers of current and past clients, and repeatedly demonstrate responsiveness and commitment to the prospective client’s management; and (4) extensive price competition, where one audit firm offered a bid materially below the previous year’s audit fee, and another firm offered three fee levels for different bundles of services. Implications of these observations for opacity of audit quality, auditor risk management, expertise differentiation, and auditor rotation are discussed.

Auditor-Client engagement, auditor rotation, independence, field study

Abstract:
We present data on privacy practices in e-commerce under the European Union`s formal regulatory regime prevailing in the United Kingdom and compare it with the data from a previous study of U.S. practices that evolved in the absence of government laws or enforcement. The codification by the E.U. law, and the enforcement by the U.K. government, improves neither the disclosure nor the practice of e-commerce privacy relative to the United States. Regulation in the United Kingdom also appears to stifle development of a market for Web assurance services. Both U.S. and U.K. consumers continue to be vulnerable to a small number of e-commerce Web sites that spam their customers, ignoring the latter`s expressed or implied preferences. These results raise important questions about finding a balance between enforced standards and conventions in financial reporting. In the second half of the 20th century, financial reporting has been characterized by both a preference for legislated standards and a lack of faith in its evolution as a body of social conventions. Evidence on whether this faith in standards over conventions is justified remains to be marshaled.

Abstract:
The SEC has proposed a strategic plan which sets out its mission, vision, and values, identifies four strategic goals, a set of desired outcomes associated with each strategic goal, and a list of performance measures for assessing the SEC’s effectiveness in attaining its goals. We affirm the need for vigorous enforcement of securities law and offer some research based insights and performance indicators. We also acknowledge the importance of disclosure, but propose that the SEC needs to develop a disclosure framework and develop better operational indicators of quality of disclosure. It is important to appreciate the benefits of disclosure as well as its limits and potential dysfunctional consequences. We also discuss the need for an independent accounting standard setter and recommend that the SEC take a greater role in enhancing the independence of FASB.


This comment was developed by American Accounting Association’s Financial Accounting Standards Committee and does not represent an official position of the American Accounting Association.

SEC Plan, Disclosure Accounting Standards, Enforcement

Abstract:
The Canadian Accounting Standards Board (AcSB) recently issued an exposure draft to adopt separate GAAP for private enterprises. This new GAAP is justified as being consistent with the current FASB/IASB conceptual framework, but is sensitive to the different cost/benefit considerations facing private entities. We view this proposal as being innovative and responsive to the differential reporting needs of private entities. In this article we explain our reasoning and conclusions on several issues raised by the exposure draft starting with a discussion about the need for a separate conceptual framework for private enterprises. We sketch a preliminary conceptual framework that could be used to develop and justify the type of changes proposed in this exposure draft. We then discuss key issues raised in the exposure draft such as reliance on historical cost as the key basis of measurement, the significant reduction in disclosure requirements for private enterprises, and stopping the emerging issues committee from providing implementation guidance (no EIC’s). We also comment on the mechanism for financing the standard setting board, the need to ensure compatibility between accounting and auditing standards, and a process for adjusting the education system to support this new private enterprise GAAP.

Regulatory Competition, Private Enterprises, GAAP

Abstract:
Managers sometimes implement accounting standards (such as the lease standard) opportunistically to move debt off balance-sheet. Regulators are under pressure to adopt principles-based accounting standards to reduce such opportunism. However, there are lingering concerns about whether principles-based standards can be properly implemented and enforced. We report results of an experiment where highly experienced financial managers, with incentives to structure a transaction off balance sheet, take a reporting position on how a lease is to be disclosed. We manipulate the type of GAAP (principles-based, rules-based) and the type of auditor (client-oriented, principles-oriented, or rules-oriented). Our results show that when the auditor is client-oriented, the nature of GAAP does not matter, and that a move towards more principles-based standards is likely to result in improved financial reporting quality only when there is a corresponding shift in auditors' mindsets towards beings more principles-oriented.

principles-based standards, rules-based standards, auditor type, off balance sheet debt, transaction structuring

Abstract:
In this study, we address the question of what kinds of cognitive representations auditors use in a situation of potential financial statement fraud. We divide the problem of detecting fraud into two parts: detecting the frame management has constructed to mask the fraud, and detecting the fraud. We examine two ways proposed by Kahneman and Tversky (1986) for detecting a frame: (1) use of multiple representations that provide alternative interpretations of data in the financial statements; and (2) use of a procedure that transforms financial statement data into a standard representation.Twenty-four audit partners served as participants in the study. Each partner conducted a simulation of a concurring partner review. All auditors reviewed four cases in which management had created a misleading description of the company (a frame) and a financial statement fraud The results support Kahneman and Tversky's proposal that frames can be detected by transforming a problem into a standard representation. Auditors who used a standard representation successfully detected management's frame, aggregated the items, and detected fraud on all four cases. Auditors who used a standard representation followed a procedure specified by generally accepted auditing standards (HB: 5130, SAS 47) for aggregating items. Auditors who used multiple representations detected management's frame on all four cases. However, these auditors did not use the aggregation procedure specified by auditing standards and failed to detect the fraud on all four cases.