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Volume 19

Internal Audit Outsourcing an Analysis of Self-Regulation by the Accounting Profession

Dennis Caplan, Oregon State University, Diane Janvrin, Iowa State University, James Kurtenbach, Iowa State University

This paper examines the accounting profession’s self-regulation of internal audit outsourcing services. The question of whether public accountants compromise their independence when they provide internal audit services to their attest clients was debated within the accounting and regulatory communities throughout the 1990s, and resulted in a confrontation between the accounting profession and the Securities and Exchange Commission in 2000. Internal audit outsourcing was a factor in the public perception of Arthur Andersen’s role in the collapse of Enron, and in lawmakers’ reaction to that event. It is specifically identified in the Sarbanes-Oxley Act of 2002 as a prohibited service that public accountants generally cannot provide to their public company external audit clients.

Our purpose is to contribute an historical perspective to ongoing discussions about the efficacy of self-regulation by the public accounting profession. Self-regulation of internal audit outsourcing remains important because the Sarbanes-Oxley prohibition does not apply to auditors’ private company clients, and because the rules that the SEC issued to implement Sarbanes-Oxley seem to allow accounting firms to provide internal audit services to public company attest clients under a variety of circumstances that were not anticipated in the original legislation. Although accounting firms have not yet shown strong interest in testing the limits of the new rules, the firms may do so in the future.




International Financial Reporting Standards and New Zealand: Loss of Sector Neutrality

Michael Bradbury, Massey University, Tny van Zijl, Victoria University of Wellington

This paper describes the background to and implementation of the decision to adopt International Financial Reporting Standards (IFRS) in New Zealand with particular focus on the issue of sector neutrality.



A Content Analysis of the Comprehensive Income Exposure Draft Comment Letters

Alex C. Yen, Suffolk University, D. Eric Hirst, University of Texas at Austin, Patrick E. Hopkins, Indiana University

This paper reports the results of a content analysis of comment letters submitted to the Financial Accounting Standards Board in response to the Board's Comprehensive Income Reporting Exposure Draft (FASB, 1996). Although comment letters are an integral component of the FASB's standard setting process, little is known about their content and the types of arguments made by letter writers. In this study, we categorize and analyze the arguments contained in these comment letters, focusing on how firms attempt to persuade the FASB. Our analysis documents the relative frequency of theoretical, outcome-oriented, and other arguments included in the letters. Despite the FASB's suggestion that comments focus on theoretical (conceptual framework) aspects of proposed standards, our analysis suggests that many of the arguments in the letters are non-theoretical, or outcome-oriented, focusing on anticipated negative effects for particular firms and industries from the Exposure Draft. Our findings help to provide a better understanding of the comment letter and standard setting process and provide insights into how letter writers believe accounting information is used. The setting of our study is particularly interesting as the changes proposed in the Comprehensive Income Reporting Exposure Draft were strictly presentation-related and did not affect companies’ reported net income or financial condition. Therefore, the contractual motivations related to debt covenants and/or management compensation offered in previous research to explain comment letter writing, are mostly not present in this setting.



The Sarbanes-Oxley Act: Legal Implications and Research Opportunities

Stephen Kwaku Asare, University of Florida, Lawrence A. Cunningham, Boston College, Arnold Wright, Boston College

Congress passed the Sarbanes-Oxley Act to restore investor confidence, which had been deflated by massive business and audit failures, epitomized by the demise of the Enron Corporation and Arthur Andersen LLP. The Act altered the roles and responsibilities of auditors, corporate officers, audit committee members, as well as other participants in the financial reporting process. We evaluate the potential legal implications of some of the Act’s major provisions and anticipate participants’ likely responses. Our evaluation suggests that these provisions will significantly change behavior, increase compliance costs and alter the legal landscape. We also identify promising avenues for future research in light of the new landscape.


Accounting for the New Market in Life Insurance

James H. Thompson, Washington State University, Gregory M. Larson, Accountant, Oklahoma City

The accounting for life insurance contracts purchased by third parties changed dramatically with the issuance of an FASB Staff Position (FSP) on FASB Technical Bulletin 85-4. This FSP provides initial and subsequent measurement guidance and financial statement presentation and disclosure guidance for investments by third-party investors in life settlement contracts. An investor must now elect to account for its investments in life settlement contracts using either the investment method or the fair value method. However, this election is irrevocable. Thus, investors must carefully choose between the two methods.

Under the investment method, investments in life insurance are recorded initially at the cost of acquisition and subsequently increased for premiums paid to keep the policy in force; however, no income from the policy is recorded until death of the insured. Under the fair value method, investments in those policies are also adjusted for changes in fair value over the life of the policy. Under both methods, income is recognized at the death of the insured that is equal to the difference between death proceeds and the carrying amount of the policy. Under the former cash surrender value method, income at death of the insured was based on the death proceeds and a policy's cash surrender value, often zero. Since the methods differ in the manner for measuring income, investors need to understand the implications of choosing between the two methods. This paper presents empirical evidence that should aid an enterprise in making the appropriate election.


The Impact of the Sarbanes-Oxley Act on Firms Going Private

Nancy J. Mohan, University of Dayton, Carl R. Chen, University of Dayton

We study the impact of Sarbanes–Oxley (SOX) Act on the characteristics of firms going private based upon a sample of 147 companies during the period of June 13, 2000 to October 3, 2003. We partition the sample into pre-SOX and post-SOX periods, and cluster analysis is employed to identify firms with similar characteristics. One group of firms is identified before the SOX Act, while two groups of firms are identified after the Act. Parametric and non-parametric tests confirm a small group of firms going private with characteristics consistent with the contention that SOX Act drives these firms private due to heavy monitoring cost.


Perceptions of the Effect of Sarbanes-Oxley on Earnings Management Practices

John E. McEnroe, DePaul University

A key objective of the Sarbanes-Oxley Act (SOA) was the restoration of public confidence in the integrity of audited financial statements. One section of SOA (Section 302) requires the chief executive officer(s) and the principal financial officer(s) to certify in each quarterly or annual report filed with the Securities Exchange Commission (SEC) that the financial statements fairly present the financial condition and results of operations for the periods presented in the reports. An important distinction is that the SEC explicitly states that fair presentation is not limited to a reference that the statements have been presented in accordance with generally accepted accounting principles (GAAP). As such, it would follow that this aspect of SOA would place a higher standard of quality on the financial information than in the past and that GAAP can no longer be used as a safe harbor defense for earnings management practices. I surveyed CFOs of the Fortune 500 firms and audit partners for the 33 largest audit firms by revenue as to whether they perceived that SOA significantly reduced various earnings management practices in audited financial statements in general. The results suggest that the respondents perceived that SOA reduced earnings management in only 4 of 15 cases, and as such, contribute to the body of survey research involving earnings management.


Reinsurance Accounting under SFAS No. 113: An Empirical Examination of Its Value-Relevance

Jane M. Weiss, Washington & Lee University

This paper investigates whether SFAS No. 113, "Accounting and Reporting for Reinsurance of Short-Duration and Long-Duration Contracts," provides incremental value-relevant information relative to the preceding statement, SFAS No. 60.  There was a general concern among constituents that better accounting and reporting of reinsurance contracts, including the impact of reinsurance contracts on insurers’ risk, was needed. This study finds that SFAS No. 113 was an improvement on previous regulation, but further improvement is needed, which supports FASB’s decision to reevaluate reinsurance accounting.

Much of contemporary accounting research examines how financial information is used to assess firms' financial performance risk.  This study demonstrates the value of financial reporting related to management activities.


The Legal and Institutional Framework for Corporate Financial Reporting Practices in South Asia

Muhammad Jahangir Ali, La Trobe University, Kamran Ahmed, La Trobe University

While most of the accounting research concentrates mainly on Europe and developed countries, the South Asian region has not been substantially explored. The purpose of this paper is to examine the legal and institutional environment for corporate financial reporting practices in three South Asian countries of the South Asian Association for Regional Cooperation (SAARC), namely Bangladesh, India and Pakistan. On the basis of examining similarities and differences in environmental factors, classification of South Asian countries and the legal and institutional framework for corporate financial reporting, this paper also explores the possibilities of regional harmonization. It is observed that the three South Asian countries share similar social, political, economic and other environmental factors. Although greater similarities are observed in areas of financial reporting requirements in company law, minor differences are found in the areas of securities exchange law and the standard-setting processes among the three countries. The paper concludes that the prevailing similarities in political, legal, economic, business ownership, accounting profession, culture and institutional structures in the three countries should have facilitated regional accounting harmonization. However, the accounting professional bodies within each country have adopted IASs as the basis of national accounting standards, mostly driven external investments need and the policies pursued the governments in recent years within the region. Since the South Asian countries are important in the context of global capital markets, this paper will help future researchers and regulatory bodies to understand more clearly the comparative current accounting and reporting regulations within the region.


The Membership of the Accounting Principles Board

Stephen A. Zeff, Rice University

Sixty-three persons served as members of the Accounting Principles board during its operations from 1959 to 1973. In this report the back-grounds and affiliations of these members are detailed. The study represents a unique composition providing details about the board membership, which will aid in the awareness about an entity, which in its own time, was among the most important and controversial bodies serving the needs of the accounting profession, government, investors, and the business community.


A Model for the Convergence of Accounting Standards

Shogo Kimura, Nagoya University, Hikaru Ogawa, Nagoya University

The globalization of capital markets has greatly impacted the harmonization of accounting standards. The international Accounting Standards Committee (IASC) has contributed to the harmonization of accounting standards by issuing the International Accounting Standards (IAS). In 2001, the International Accounting Standard Board (IASB), which succeeded the IASC, made a commitment to achieve full convergence to a single set of high-quality global accounting standards. While the IASB established IAS of high quality, both understandable and enforceable, the international harmonization of accounting or the convergence of accounting standards is still a much-debated issue in accounting research. Using a simple game theoretic model, this paper examines the mechanism by which various countries in the global economy may come to adopt a single accounting standard. This standard would dominate the domestic standard of each country and would be called Global Generally Accepted Accounting Principles (GGAAP).


Developments in Accounting Regulation: A Synthesis and Annotated Bibliography of Evidence and Commentary in the Academic Literature


Stephen R. Moehrle, University of Missouri-St. Louis, Jennifer A. Reynolds-Moehrle, University of Missouri-St. Louis

In this article, we synthesize in annotated bibliography form, recent regulation-related findings and commentaries in the academic literature. This annotated bibliography is the second in a planned series of bibliographies that will summarize regulation-related academic research for at least the period 1990 and forward. We reviewed academic outlets such as The Accounting Review, The Journal of Accounting Research, The Journal of Accounting and Economics, Accounting Horizons, The Journal of Accounting, Auditing & Finance, The Journal of Accounting and Public Policy, The Journal of Business, Finance & Accounting, and Research in Accounting Regulation. We annotate results of regulation-related research studies and key points from regulation-related commentaries.


The Impact of Accounting Practices on the Measurement of Net Income and Shareholders’ Equity: Latin American versus the United States

Mercedes Palacios Manzano, University of Murcia, Isabel Martinez Conesa, University of Murcia, Jose Joaquin Garcia Clavel, University of Murcia


Some Problems of the Last Three Years (1932)

Arthur H. Carter

This address was delivered at the Annual Meeting of the American Society of CPAs in Indianapolis, Indiana on Wednesday, September 28, l932. The address was subsequently published in The Certified Public Accountant (Durand W. Springer, editor), in Volume XII, No. 10, October 1932, pp. 587–592. Carter, a West Point Graduate, later testified before the Senate Banking Committee hearings in March 1933 regarding proposed securities legislation. In particular, Carter presented the arguments for the need for audits by independent public accountants. At this time he was President of the New York State Society of Certified Public Accountants and Senior partner of Haskins & Sells. Carter's view of the world, prior to his important Senate testimony is not readily available. This paper provides an insight into the issues and concerns which he identified during the early years of the ‘great depression’ prior to his historical testimony in l933, which preceded the passage of the securities acts. 

In Memory of Marshall S. Armstrong: The First Chairman of the Financial Accounting Standards board

Arinola O. Adebayo, University of South Carolina at Aiken, Edward N. Coffman, Verginia Commonwealth University

This paper discusses the contributions of Marshall S. Armstrong to accounting and the accounting standard-setting process as the first Chairman of the Financial Accounting Standards Board (FASB). The paper reflects on Armstrong's leadership roles in public accounting and professional organizations including the American Institute of CPAs and the FASB. The paper further comments on how Armstrong's personal qualities such as dedication, confidence, and chivalrous approach to issues contributed to the success of the FASB in its early years.