Issues in Accounting Theory
- Hits: 7064
Issues in Accounting Theory
This essay is a sample paper on Issues in Accounting Theory. It should not be used as a ready paper for your assignment as it is already in our website. In case you want an original paper on the same topic please order for the essay at our site and our able writers will work on it from the scratch.
The encyclopedia defines positive accounting as a branch in accounting involved in research, focusing on explanations and prediction of all the observations made during an accounting process. In the field of business, accounting is viewed as a language that enables the writing of contracting connections among different businesses and organizations. It is therefore in this case that all the practices of accounting are meant for the mitigation of contracts and their costs. This is achieved by addressing all the possible conflicts of interests that may occur between two or more contracting parties (Watts & Zimmerman, 1986). This accounting process will require very low standards of verification and hence be able to note any losses or gains that may have occurred during the compensation of contracts among the necessary shareholders, and the managers (Watts & Zimmerman, 1986).
Rules on share option accounting
The main essence of positive accounting is that it adds relevance in business. This takes into account that accounting is one of the most important concerns for any firm. Positive accounting became an important aspect in the 1960s and it became organized to be relevant in academics (Christenson, 1983). There are important rules on share option accounting that govern the way tax professionals, lawyers and any other executive involved in granting equity-based awards to their employees. Some of the rules need to be understood completely to help in assessing the impacts of such laws on current grants and by so doing help in coining strategies for issuing future grants (Watts & Zimmerman, 1986).
There are new rules that have been drafted to assist in share option accounting (Deagan, 2009). It would be good first to describe some of the old rules before analyzing these new rules; this will give a bridge between the present and the past rules and enable a better conception of the rules. In such a case, one will be able to understand the new accounting rules once he or she has an overview of the old rules. According to the old rules, they give two ways on how to expense stock options: the first one involves the intrinsic value accounting while the second one outlines the fair value accounting (Christenson, 1983). Stock options, which vest over a long time, are usually a subject to fixed intrinsic value accounting (Warren, 2009).
Some types of stock options will greatly be subject of the ‘variable intrinsic value’ accounting (Warren, 2009). Some of the key effects of variable accounting are that it results in the increase on the exact value of the stock. This is quite bad because it may result in high accounting charges, which pose a great threat to the company’s earnings. This is a major reason why a company will not grant stock options or any other possible awards that may, in one way or the other, trigger variable accounting (Christenson, 1983).
New rules on share option accounting
There are new rules that govern the share option accounting. One of these rules is that all public companies should make sure they comply with dates effectively, and this should not be later than their fiscal year (Warren, 2009). All private companies must also comply with the same and it should not be later than their fiscal year (Warren, 2009). This means that with all companies, which operate on a calendar fiscal year, they should all make sure they implement the Financial Accounting Statement (FAS) 123(R) during the first quarter of 2006.
The other rule is about the awarding of equity. For any organization, it will be important that they determine if any award to be done is a liability or an equity award (Warren, 2009). An equity award will be characterized or determined by the awards calling in stock settlement. This will therefore mean that restricted stock and stock options can all be termed as equity awards. Another example of equity awards are the appreciation rights in a stock (Watts & Zimmerman, 1986).
After an award has been determined as an equity award, what follows is the determination of whether the award is an appreciation or a full-value award. Restricted stocks will give a good example of full-value equity (Christenson, 1983). On the other hand, stock appreciation and stock options are good examples of appreciation awards. Whenever full-value equity awards are to be granted to the employee, it would be required that, the company will have to give a compensation cost. This would be based on the market value of the stock underlying the award on the date of grant, and in this case, if there is any amount paid by the recipient of the award should be deducted (Watts & Zimmerman, 1986). Another outstanding thing is that this cost is amortized, and the amortization is done for the entire service period; this is the entire period of award vesting of the service (Warren, 2009).
When there is an appreciation in the equity award, which is to be granted to the employee, the new rules will require that the company recognize him or her with a compensation cost, which is equal to the exact value of the award, and this is supposed to be done at grant date (Deagan, 2009). This cost will also need to be amortized during the award-vesting period. Another important thing is that the value of this award will be determined by the use of a pricing model (Christenson, 1983).
Some of the permissible pricing models used include the Black-Scholes model and the lattice model (Robert & Gregory, 2009). The Financial Accounting Standards Board (FASB) does not give a condition or guide for the most suitable model for pricing. It therefore outlines that any pricing model can be used so long as includes the expected term for the option, the expected stock volatility, the price of the stock, the rates for risk-free, and the stock’s expected dividends (Watts & Zimmerman, 1986).
The new rules also have liability awards in consideration. A liability award is an award whereby the terms of the award call for its settlement only in cash and not in stock. For instance, a liability award will include appreciations in stock rights, which have been settled only in cash. We can therefore have equity awards being classified to be liability awards when they are settled down in cash (Warren, 2009). In this case, all the liability awards are undertaken to be subject to variable accounting (Christenson, 1983).
With this information, we can say that the compensation cost of an award should be based on the value of the award in the market at the date of the award. Then the amount paid to the recipient should be deducted. The compensation cost should be re-measured during each reporting period until the award is settled (Warren, 2009). The compensation cost should always be determined by the use of good and reliable pricing model when it comes to an award of an appreciation liability (Watts & Zimmerman, 1986). In addition, this should be re-measured during every reporting time until the settlement of the award.
These new rules also give guidelines on vesting. They try to differentiate between the awards vest based on the performance, market conditions and service (Robert & Gregory, 2009). A service condition will be used to relate when an employer has his employees performing services for him or her. The employer will use this performance condition to relate to all operations or activities. A market condition hence will relate to the achievement of a given stock price (Deagan, 2009). In such a case, if an employee decides to terminate before the vesting of his service-based option or when the condition of the performance set forth is not satisfied, then the accounting charge has to be reversed (Robert & Gregory, 2009). Alternatively, should vesting be subject to the market condition, then it means that there is no reversal of the charges until the recipient decides to terminate his employment before performance period expires (William, 2009).
There are also modifications with these new rules. If a given company tries to modify an award, then the company must then recognize a compensation cost (William, 2009). This modification is any change in the terms of an award taking into account all the changes in vesting, the exercise price or the necessary transferability conditions (Warren, 2009). Modification will also influence the compensation cost (Watts & Zimmerman, 1986).
Impacts of the new rules on share option accounting
These new rules for governing the procedures on share option accounting sound nice but at the same time can have some consequences when adopted by an organization. The new rules requires that the organization or company; be it private or public, must be able to comply with the dates given in the calendar (Christenson, 1983). This means that the company or organization will have deadlines to meet and hence it will be a costly thing because this means the involvement of more human resources to comply with the stated dates. Another thing is that there is equity determination where by an award is determined whether it is an appreciation or a full-value award (Warren, 2009). This process will require more spending for the company because the competent persons have to be incorporated to make the necessary determinations for the share option accounting. There is also the need to carry out amortization throughout the service period and hence this will be consuming most of the time as well as the resources of the organization (William, 2009).
These new rules may not be welcome by many of the organizations because they tend to bring new challenges to the organization; such challenges may have not been faced during the times of the old rules. It would therefore need a better financial planning and management for an organization before the adoption of these new rules of share option. This will also include the hiring of more staff and having auditors for the company. There would also be the need to allocate more funds for the purchase of equipments that may be needed, most of which will include stationeries. The new rules will also mean that the firm will need more time. On the other side, though it may be hard for the organization, the employees will benefit and have equity done on their awards because they will have to be given awards on appreciations and so on (Watts & Zimmerman, 1986).
Impacts of the new rules on share option for a manager
With these new rules, it will also mean that the manager will also use most of his time in trying to make sure that everything is done in accordance with these laid rules. This is because; there will always be need for monitoring of the accounting procedures throughout the year. The manger will hence have to recruit more professionals who will assist him in the management of the organization through delegation of duties. Since the manager heads the organization, the problems in terms of cost affecting the organization will also fall heavily on the manager. A private business will also have its manager spending more, sometimes beyond the expectations and this will eventually have negative impacts to the organization (Christenson, 1983).
Reasons behind the development of the new rules
One of the major reasons for the implementation of these new rules was because the old rules were not applicable to most of the organizations. Again, there was the need to bring harmony in the way at which share options were carried out. The new rules were also important if the employees of different organizations were to benefit from these organizations. Another important thing was to ensure that a deadline was created at which all stocks should comply with the specific dates (Libby & Phillips, 2009).
There was also the need for a good equity determination procedure that was not catered for by the old laws. The rules were also put in place so that employees can get awards on appreciation something that was not happening according to the old rules. There was also the need that all organizations should have pricing models that they would use in determining the true value of all the awards. The other factor that might have led to the implementation of these new rules was the need for organizations to have liability awards, which were not catered for by the old rules (William, 2009). There was the need for re-measuring of each compensation cost during every period. Finally, there was need to give guidelines on vesting something that lacked in the previous rules. This means that there was the need to come up with new rules that would be appropriate to everyone (Watts & Zimmerman, 1986).
The most important thing is that organization’s Directors should consider all the appropriate qualifications for the employees and make sure they have the required experience to the organization (Watts & Supreme, 1986). Another way of ensuring that the company survives is to bring in some measures that will foster self-confidence and improve the performance of the workers. The Manager may also put into consideration that the organization should think of long-term investment within the employees because they will define the success of the firm or the organization (Libby & Phillips 2009). The organization should also be keen in attracting and retaining all the business partners to improve performance. This should result in long-time on business relationship with the other organizations, which contribute to the gains of the organization (Watts & Supreme, 1986).
AASB 2 Share-based Payment are the inclusions of transactions in which an entity cannot identify all or some of the goods and services that have been received as consideration for payments based on shares (Deagan, 2009). Once an identifiable consideration is received and appears less in comparison to the fair value of the share based payment, it will indicate that some unidentifiable goods or services have been or will be received (Deagan, 2009).
It would be good for an organization to have rules that govern the share option accounting. These rules will have different impacts depending on their application and the nature of the organization. If well maintained, a company may benefit from it although they will increase the management costs of the organization. The main reason why these rules are important is that they cater for the needs of the employee in any organization. It will also be good to lay down these rules for the organizations because they will ensure things are done in the right procedures and within the specified time. It will be significant that laws should be put into place so that organizations may stick to the guidelines of the above new laws. That will also mean job creation and ensure that the employees of the organizations also benefit in one way or the other from the employer organizations.
Christenson, C. (1983): The Methodology towards Positive Accounting. New Jersey: Accounting Review.
Deagan, C. (2009): Financial Accounting Theory (3rd edn.): Sydney: McGraw Hill.
Libby, P. & Phillips, F. (2009): Principles of Accounting: New York: McGraw-Hill Higher Education.
Robert, J. & Gregory, S. (2009): Governmental and Non-profit Accounting: New Jersey: Prentice Hall.
Suzanne, M. & Charles, T. (2010): Managerial Accounting: New Jersey: Prentice Hall.
Warren, R. (2009): Accounting: Auckland: Cengage Learning.
Watts, R. & Supreme, J. (1986): Positive Accounting Theory: New Jersey: Prentice Hall.
Watts, R. & Zimmerman, J. (1986): Positive Accounting Theory: New Jersey: Prince Hall.
William, R. (2009): Positive Accounting: Harlow: Pearson Education.