C HA PTER 2 REVIEW OF LITERATURE. A brief history of Development of Accounting. 2.2 Review of Literature

Transcription

1 C HA PTER 2 REVIEW OF LITERATURE ^ 2.1 A brief history of Development of Accounting 2.2 Review of Literature

2 R eview o f Literature 21 CHAPTER 2 REVIEW OF LITERATURE 2.1 A Brief history of development of Accounting Accounting practices have been developing with the development of human civilization. Accounting has evolved and emerged, as have medicine, law and other fields of human activity in response to the social and economic needs of society. Bookkeeping and accounting appeared not as a chance phenomenon but distinctly in response to a world need.1 With passage of time and changes in need of human beings, there are lots of additions and deductions to accounting to make it more meaningful. Accounting records have been found dating back several thousands of years in various parts of the world. These records indicate the level of development during that period. For example, the Zenon Papyri, which was discovered in 1915, contains information about the construction projects, agricultural activities and business operations of the private state of Apollonius for a period of 30 years dining the third B.C. According to Hains, The Zenon Papyri give evidence of a surprisingly elaborate accounting system which had been used in Greece since fifth century B.C. '. Jawahar Lai, Accounting Theory, Himalaya Publishing House, p -1,2002.

3 Review o f Literature 22 and which in the wake of Greek trade or consequent gradually spread throughout the Eastern Mediterranean and Middle East. 2 The accounting system of Zenon s contained provisions for responsibility accounting, a written record of all transactions, a personal account for wages paid to employees, Inventory records and records of assets acquisition and disposal. In addition, there is the evidence, that all accounts were audited. 3 Thus, there was a elaborate accounting system in B.C. in Greece. The Romans also kept elaborate records in numbers expressed through letter of alphabet. As they expressed numbers in alphabet, they were not able to develop any structural system of accounting. After renaissance when the Italians were pursuing trade and commerce, and the need arose to keep accurate records of all transactions. They used the Arabic numeral system and the basis of arithmetic, and an evolving trend towards the double entry book-keeping system as we use today being developed. Double entry was first recorded in 1340 in Genoa. The first trader s books containing double entry related to the period 1410 to The practice of double entry book-keeping was found in descriptive form, in It was Fra Luca Pacioli, the Italian who included a description of double entry book-keeping for the first time in his book Summa de Arithmetica Geometria Proportioni et Proportionalita. But it was not a full description of double entry book-keeping; rather it formalized the practices and ideas that had been evolving over the years. Until the seventeenth century, the practice o f periodically balancing of ledger not generally accepted. 2. H.P. Haiti, A ccounting Control in the Zenon Papyri, The A ccounting R eview (O ct. 1966), p-foyy. Ib id -P Andrew Higson, Corporate financial reporting, Theory and practice,, Sage Publication, 2003, (p-48)

4 Review o f Literature 23 Therefore, until that period there was no periodic calculation of profit and statement of balance sheet. Statement o f profit and loss and statement of balances emerged about Initially the primary motive for separate financial statements was to obtain information regarding capital. Consequently, balance sheet data were stressed and refined in various ways while expenses and incomes data were viewed as incidental.6 With the passage of time, the ongoing business organization is replaced by isolated ventures as a result, it becomes necessary to develop records that reflect a continuing investment of capital employed and periodical summarized results of activities. By the 19th century, bookkeeping was expanded into accounting and die concept of net worth emerged. However, till that period, profit was considered as an increase in assets from any source and the concept of cost and income were not developed. In the wake of industrial revolution there was a greater need to bring together large amount of capital, as a result, the corporate forms of business venture emerged. The ownership concept shifted from proprietary ownership to shareholder ownership, in case of corporate enterprises and a company is regarded as separate entity. In case of corporate forms of business shareholders invested in the business in the anticipation of profit. The income of the companies after interest and tax belongs to the shareholders. This leads to greater emphasis on income. For determination of income accounts have to close for a periodical intervals as a result periodicity postulate o f accounting becomes more prominent. 5. A.C. Littleton; Accounting Education in 1900, N ew York, AICPA, Jhon L. Cary; The Rise o f the Accounting Profession (New York, AICPA, 1993), p- 5.

5 Review o f Literature 24 In case of companies there was a diversion of ownership and management, financial reporting i.e. stewardship accounting (reporting by management to absentee owners) become integral to communicate performance of management to owners. This also makes it necessary to get annual accounts audited by independent agencies, and leads to the birth o f the financial auditing. During the beginning o f 20m century, there was a revolutionary development of financial accounting. As large-scale business becomes more and more complex some new technique of analysis were evolved to face growing competition. Cost accounting and management accounting developed during this period to analyze costs and make proper planning and control in business decision in the competitive environment. Financial statement was no longer regarded as indicator of past performance but greater emphasis was laid to make it more decision usefulness to users. During the last 50 years, accounting has been developed as full-fledged information system. Many theoretical concepts and new techniques were developed and put in to practice. Now, in addition to measure revenue and expenses, emphasis has been laid to measure social welfare, human resource development by business. Thus, new concepts of societal responsibility accounting, human resource accounting and inflation accounting etc. are added with accounting world to make accounting more informative and relevant to users. Another significant development that took place in accounting world is the international harmonization of accounting. With the dynamic growth of global trade and the accelerated internationalization of capital markets, the financial statements produced in one country are used in other countries more and more frequently. This has brought accounting harmonization to the forefront as an international business

6 Review o f Literature 25 issue. Considering this need the International Accounting Standard Committee (LASC) [now International Accounting Standard Board (IASB)] was formed in 1973 to develop internationally accepted accounting standards, so that there should be uniformity in accounting principles that are used for world wide financial reporting. Thus, accounting as a branch of social science has developed in different dimensions to cope up with the growing needs of the society. In fifteenth and sixteenth century, it was developed as financial accounting, which shows the result of the business operation through income and position statement. Cost accounting has been branched out of the financial accounting after the industrial revolution. It is concerned with the ascertainment of cost of production. Later on, it helps in cost control and cost reduction, which helps the entity to safeguard the manufacturing. The next chronological development of accounting is the management accounting to aid management in planning and control functions. The present emerging accounting branches are: 1. Human Resource Accounting: It is the accounting for people as organizational resource. It is the process of the measurement of cost and value of people for the organization. Though, human resource accounting is primarily used as a managerial tool for effective utilization and management of human capital, it is also helpful to external users in making investment and other users in making long-term investment decisions. The concept of human resource accounting is still new and authoritative pronouncement about measurement and valuation o f human assets is still absent. 2. Inflation Accounting: Inflation accounting is the process where the financial statement is prepared taking into consideration effect of price level changes. As changing value of money is the normal character, historical cost basis financial

7 Review o f Literature 26 statement is unable to reflect the actual results of business, so the need of inflation adjusted financial statement considered in the inflationary environment. 3. Social Accounting: Social accounting is the identification, measurement and reporting of the social and economic effects o f an institution on the society. It is the reporting of cost of existence of an institution and benefit of existence of such institution to the society. 4. Environmental Accounting: Environmental accounting, in the context of accounting is the estimation and reporting of environmental liabilities and cost incurred to discharge such liabilities. However, the concept of environmental accounting is not very much developed due to lack of any regulation about measurement and disclosures by the accounting regulators, but many corporate bodies try to use such practices. This brings environmental accounting issue in the forefront. Now accounting has been developing in many areas that are not related to measurement of profit and loss and financial position but is facilitate the users of accounting information to take rational economic decisions. 2.2 Review o f Literature: A research study needs to examine the statement of the problems in context to the past thinking and its validity on its own aspect. What aspects are dealt by the earlier studies and what are left out in those studies are to be critically evaluated for complete acceptance of the topic. It also requires the futuristic approach on the subject. It is therefore essential to study the earlier working on the subject and this study would be an approach to fill up the gaps between earlier studies and the present studies. The

8 R eview o f Literature 27 following are some of the works done earlier, with special emphasis on different aspects: 1. Indian Accounting Standard and GAAP: In the book Indian Accounting Standard and GAAP, Dolphy D Souza makes a mix presentation of accounting theory and practice. In his study he deals with Indian Accounting Standards not only from the view point of their interpretation and practical application but also from the reference to the basic concepts on which standards are underpinned. In the introductory part, he makes a brief description of GAAP and the Indian GAAP. He also discusses the various accounting standards as per Income Tax Act 1961 and Companies Act Simultaneously, he includes the consequence of needs of different new accounting standards due to changing business environment. In the later part of the book, he makes an elaborate discussion of various accounting standards, background for formulation of such standards and comparison o f Indian Accounting Standards with International Accounting Standards and US GAAP. The book is extremely helpful to give knowledge about Indian Accounting standards, International Accounting Standards and U.S. GAAP. 2. Accounting Standards and Corporate Accounting Practice: T. P. Ghose, in his book, Accounting Standards and Corporate Accounting practices presents the view on accounting failures and trends of global financial reporting. He includes discussion on regulatory mechanism in the various leading country of the world to have overview on regulatory mechanism in global prospective, and efforts made by such regulatory bodies including Securities Exchange commission (SEC), International Organization for Securities Commission (IOSCO) and International Accounting Standard Board (IASB) to develop a common set o f accounting rules. He also makes various

9 Review o f Literature 28 accounting practices done by Indian corporate houses along with respective accounting standards. In his book, he includes some other practices like employee stock options, corporate governance, accounting for derivatives instruments, corporate environmental reporting, inflation accounting, etc. where there is absence of Indian Accounting Standards. He published the book in two volumes, the first volume covers global environment of financial reporting, financial statements and twenty-nine accounting standards. The second volume covers some other'important accounting issues like accounting for financial service industry, valuation and voluntary disclosures, accounting failures including CARO, financial risks management and complementary development. His book was undoubtedly an important contribution to the field of accounting world but he fails to comment on suitability of accounting practice in changing environment. Again, the book explains on what is rather than what should be. 3. Indian Accounting Standards: Indian Accounting Standards written by Asish K. Bhattacharyya is one of the important additions in the literature of accounting. In the book all the accounting standards (AS), accounting standard interpretations (ASI) and guidance note issued by Institute of Chartered Accountant of India has been comprehensively discussed. The book also discussed the relevant provisions of International Financial Reporting Standards (IFRS) and U.S.GAAP and traced out the difference in the provisions between IFRS, U.S. GAAP and the AS. The book provides a comprehensive guide on accounting standards and includes the conclusion on each discussion. However, the book fails to address other some reporting issues where accounting standards are silent. 4. Accounting Theory: Another important study in the field of accounting development is made by E. S. Hendrickson, published as Accounting Theory. In his

10 Review o f Literature 29 book, he covers the different approaches to the development of accounting theory. According to him three significant approaches to the development of accounting theories are - the inductive-deductive approach, capital market theories, and individual decision-making processes. In the book, the author describes the evaluation of accounting theory and practice. He classified accounting theory at three basic levels - (1) the structural level, including the relationship between and within procedural systems and financial reports (2) the semantic interpretation level - the relationships of descriptions and measurements to real world phenomenon and (3) the Behavioral level - the reactions of all individuals affected by accounting reports including users and producers of accounting information. He also discusses the basic framework of accounting theory relating to income determination, cash and fund flow and problems o f assets measurement and classification. 5. Accounting Theory an Introduction: Prof L.S. Porwal in his book Accounting Theory an Introduction has discussed some relevant issues of accounting in changing business environment. In the introduction, he explains the role of accounting information and relationship between accounting and environment. According to him, with the development of a country, accounting system has assumed higher significance. Prof. Porwal divides his study into three parts, the theoretical framework that includes the structure of accounting theory, approaches to the formulation of accounting theory, conceptual framework for financial accounting and development of accounting thought. In the second part he discusses the elements of financial statements and their reporting and disclosures under which examination have been made regarding revenue, expenses, gains, losses, assets, liabilities, accounting for changing prices, statement o f changes in financial statement and various disclosures to

11 Review o f Literature 30 financial statement. The third part deals with contemporary issues in accounting such as cash flow statement, accounting for corporate social performance and accounting for human resources. 6. Corporate Financial Reporting Theory and Practice: Another important study in the field of accounting is Corporate Financial Reporting Theory and Practice made by Andrew Higson. In his study he explores the major issues faced in contemporary financial reporting including its inter-relationship with external auditing and provision of assurance to those outside the reporting entity. In the study, he includes description about accounting theory and its development right from early stages. He pays more emphasis on recent developments in financial reporting and regulations in accounting, particularly the development of belief that enables the users to make economic decisions and help them to make prediction. 7. International Accounting a Users Prospective: Prof. Shahrokh M. Saudagaran in his book International Accounting A Users Prospective discusss the challenges faced by accounting due to globalization and role of international accounting for efficient functioning of global economy. According to him, accounting practices of a country is influenced by different factors and accounting can play a diverse role in a country considering economic environment. With the dramatic growth of global trade and accelerated internationalization of capital markets, financial statement prepared in one country are used in other countries more frequently. But the major differences in accounting practices act as barrier in capital flowing to the most efficient users. The investors would ideally like to direct their capital to most efficient and productive companies globally. However, if accounting practices between countries are different to the point o f imposing unreasonable burdens on capital

12 Review o f Literature 31 providers, then they may direct their investment to less efficient and productive companies in certain countries, simply because they understand the financial statements and thus regard them as less risky. This not only act as barriers to make efficient investment to investors but also act as hindrances for collection of low cost capital to the companies. Hence, it is rational enough to harmonize accounting regulations. But the difference in the economic, political and cultural environment of a country can make harmonization process difficult. Another important feature of his study is the inclusion of disclosures issue for global use of accounting information, which includes accounting for changing price, accounting for goodwill and intangible assets, geographic segment reporting and environmental and social disclosures. 8. A Summary of Accounting Principle Difference Around the World: Another important study included in the International Accounting Handbook edited by Frederic D.S. Choi made by William E. Decker and Paul Brunner entitling A Summary of Accounting Principle Difference Around the World where they try to trace out how and why accounting measurement practices differ from country to country. The study highlights the effect of financial statement difference due to difference in accounting principles. The study has been confined in following areas: i) Research and development cost. ii) Fixed assets. iii) Inventory. iv) Leases v) Pension vi) Accounting for income tax vii) Foreign currency translations

13 Review o f Literature 32 viii) Accounting for merger and amalgamation, and ix) Consolidations. The study highlights the importance of international accounting standards and internationally accepted accounting principles for present global scenario. However, in the study more weight has been given considering position of developed economy than the developing and emerging economy. Review of literature reveals that all studies have been done considering accounting principles and are based on existing accounting principles and practices but less consideration is given to future development. As accounting discipline is a dynamic one, which can change with tune o f changing environment, the study of suitability of accounting practice in changing accounting environment is an important issue, specially in a country like India where capital is badly needed to accelerate the process of economic growth. Again, it fails to address the use of such accounting provisions in the practical field and effects of alternative provisions available in different accounting rules to the output of accounting. Therefore, the present study has been done to fill up the gaps, which are left out by earlier studies. The study examine the use of such accounting provisions, their effects in the financial statement and suitability of accounting and reporting practices especially in India in the changing environment. In the next chapter, a discussion is made on accounting regulatory framework in India, its rules for accounting and reporting issue.