Dr Jamal Roudaki
Faculty of Commerce
Lincoln University
New Zealand
Theory definition
• ‘a coherent set of hypothetical, conceptual and pragmatic
principles forming the frame of reference for a field of
inquiry’
• Accounting theories fall into two broad categories:
 Positive theories

explain and predict accounting practice.
 Normative theories

prescribe practice.
Dr Jamal Roudaki
Accounting Research
Positive accounting theory (PAT)
 Explains and predicts accounting practice.
 Does not seek to prescribe particular actions.
 Grounded in economic theory.
 Focuses on relationships between resource providing
individuals and their organisations (Agency Relationship):
 Owners and managers
 Managers and debt providers.
Dr Jamal Roudaki
Accounting Research
Agency theory
The agency relationship
• Delegation of decision making from
the principal to the agent.
Agency costs
• Costs that arise as a result of the
agency relationship
• Monitoring costs
• Bonding expenditures
• Residual loss
Dr Jamal Roudaki
Accounting Research
The agency problem
• Delegation of authority can lead to
loss of efficiency and increased
costs.
Positive accounting theory (PAT)
Assumptions of PAT:
• Individual action is driven by self-interest.
• Individuals act in an opportunistic manner to increase their
wealth.
• Notions of loyalty and morality are not incorporated within
the theory.
• Organisations are a collection of self-interested individuals
who agree to cooperate.
Dr Jamal Roudaki
Accounting Research
Positive accounting theory (PAT)
Efficiency perspective:
Mechanisms are made to minimise future agency
costs (ex ante perspective).
Accounting methods adopted by firms best reflect
the underlying financial performance of the entity.
Regulation is argued to impose unwarranted costs
on reporting entities.
Dr Jamal Roudaki
Accounting Research
Positive accounting theory (PAT)
Opportunistic perspective:
Assumes managers will opportunistically
select accounting methods to increase
their own personal wealth.
Dr Jamal Roudaki
Accounting Research
Positive accounting theory (PAT)
Creative Accounting:
• It is possible to be creative and still follow
accounting standards
• ‘Creative Accounting’ refers to selecting accounting
methods that provide the result desired by the
preparers.
Dr Jamal Roudaki
Accounting Research
Normative accounting theories
• Seek to provide guidance in selecting accounting procedures that
are most appropriate.
• Prescribe what should be done.
• Example – conceptual frameworks
 Seek to identify the objective of GPFR
 Seek to provide recognition and measurement rules within a
‘coherent’ and ‘consistent’ framework
 Identify the qualitative characteristics financial information
should possess
 Make recommendations that depart from current practice.
Dr Jamal Roudaki
Accounting Research
Some normative accounting theories
Current-financial accounting:
• Provides a calculation of income that, after adjusting for
changing prices, can be withdrawn from the entity and still
leave the physical capital (operating capacity) of the entity
intact
 Referred to as ‘true measure of income’.
• True income theories propose a single measurement basis for
assets and a resultant single measure of income (profit).
Dr Jamal Roudaki
Accounting Research
Systems-oriented theories
Stakeholder theory:
1. Ethical branch:
 Stakeholders are groups or individual who can affect or are
affected by the achievement of the organisation:

Includes shareholders, employees, customers, lenders, suppliers, local
charities, interest groups, government.
2. Managerial branch:
 Seeks to explain and predict how an organisation reacts to
stakeholder demands
 Firms will take action to ‘manage’ relationships
 Financial and social information is used to control conflicting
demands of various stakeholder groups.
Dr Jamal Roudaki
Accounting Research
Systems-oriented theories
Legitimacy theory:
 Organisations ensure they operate within the bounds and
norms of society:
 Based on a ‘social contract’ between society and the
organisation.
 Organisations must appear to consider rights of the public
at large:
 Society might otherwise:



‘Revoke’ its ‘contract’ to operate
Change demand for the organisation’s products
Demand taxes, fines or prohibit activity.
Dr Jamal Roudaki
Accounting Research
Systems-oriented theories
Institutional theory:
•Organisations tend toward homogeneous behaviour:
 Structures and practices tend to become similar to conform to
what is considered ‘normal’.
Public interest theory:
•Regulatory body considered to represent the interests of the society in
which it operates, rather than the private interests of the regulators.
•Assumes that government is a neutral arbiter.
Capture theory:
 The regulated seeks to take charge (capture) the regulator.
 They seek to ensure rules subsequently released are advantageous to
the parties subject to regulation.
Dr Jamal Roudaki
Accounting Research
Critical theory
• A measure for understanding ‘reality’, which understanding
can be translated into progress and the development of
societies that will enable a ‘truer, freer and more just life for
all’.
• Recognises the primacy of social relationships over technical
approaches.
• Allows an alternative approach to positivistic models.
• Provides new and innovate approaches for research into
accounting.
Dr Jamal Roudaki
Accounting Research
Financial Information
Stockholders
& creditors
Financial
Analysis
Regulatory
Authorities
Business Entity
Accounting Choice
Earnings Management
Investors
Dr Jamal Roudaki
Accounting Research
Capital
market
Thank You
Questions
Discussion
Dr Jamal Roudaki
Accounting Research