Directory UMM :Data Elmu:jurnal:A:Accounting, Organizations and Society:Vol26.Issue2.Feb2001:
Accounting, Organizations and Society 26 (2001) 123±139
www.elsevier.com/locate/aos
The meaning of a de®ned accounting concept: regulatory
changes and the eect on auditor decision making
Jane J.F. Hronsky *, Keith A. Houghton
Department of Accounting, Faculty of Economics and Commerce, University of Melbourne, Parkville, VIC, Australia
Abstract
Accounting standards exist in an attempt to ``standardize'' accounting practice. These standards contain de®nitions
of accounting concepts whose function is to guide judgments made in practice. However, such judgments can have a
major impact on a ®rm's externally reported accounting numbers, as their inherent subjectivity and discretion may be
lent to the manipulation of earnings. This study provides empirical evidence of the eect of measured meaning on an
accounting judgment, in the context of regulated changes to the de®nition of one key accounting concept used in
measuring operating income. The extraordinary items classi®cation decisions made by auditors were found to be systematically associated with dierences in measured meaning of the extraordinary items de®nition. The study has
important policy implications for accounting standard-setting. # 2000 Elsevier Science Ltd. All rights reserved.
1. Introduction
A ®rm's external ®nancial reports are the end
product of numerous judgments and decisions. In
making these decisions, some authoritative guidance is provided by accounting standards. However, rule-based systems of regulation can never be
`watertight', and allegations of `creative' or
`aggressive' accounting practices by ®rms are often
heard (for example, Griths, 1986; Smith, 1992).
Creative accounting can be de®ned as ``the process
by which management takes advantage of gaps or
ambiguities in the standards to present a biased
picture of ®nancial performance. It does not breach
* Corresponding author. Tel.: +61-3-8344-5301; fax: +613-9349-2397.
E-mail address: [email protected] (J.J.F.
Hronsky).
the letter of the law or rules, but may breach its
spirit'' (Shah, 1998, p. 83). An aggressive reporting
environment has been characterized as an ambiguous one in which de®nitive applicable authoritative guidance is lacking (Kennedy, Kleinmuntz
& Peecher, 1997; Phillips, 1999). Some have suggested (e.g. Shah, 1996) that the practice of `creative compliance' makes standard-setting appear to
be a redundant exercise.
Nevertheless, it is possible in the language game
of standard-setting, for regulators to use language
carefully to close `gaps' in the rules and amend
vague and/or incomplete rules.1 Mason and Gibbins (1991, p. 23) suggest that it would be useful to
1
This is not to deny, however, that standard-setting often
appears to exhibit what Shah (1996) refers to as a ``dialectic of
creativity''; that is, from avoidance to rules to avoidance again;
a game of ``catch-up'' for regulators.
0361-3682/00/$ - see front matter # 2000 Elsevier Science Ltd. All rights reserved.
PII: S0361-3682(00)00020-9
124
J.J.F. Hronsky, K.A. Houghton / Accounting, Organizations and Society 26 (2001) 123±139
``Review new (and possibly existing) standards to
reduce the large number of ambiguities and other
diculties that detract from the thrust of the
standard by requiring interpretative and clarifying
judgments rather than judgments on matters of
substance''; and ``State the main objectives of each
accounting standard, to facilitate the task of
statement preparers and auditors who are trying
to apply the standard according to its spirit, rather
than according to a legalistic interpretation of its
words''.
Importantly, clearly-worded standards provide
guidance for auditors in auditor±client con¯ict
situations, and reduce the justi®ability of aggressive reporting decisions. Auditors are a major
in¯uence on the form of the ®nal published ®nancial statements; the statements can be viewed as
eectively a joint product of management and the
auditor (Gibbins, Richardson & Waterhouse,
1990; Gibbins, Salterio & Webb, 1998; Antle &
Nalebu, 1991; Hansen & Watts, 1997); with the
external auditor spending up to 30% of their time
in ®nancial statement preparation and ®nalization
(Hackenbrack & Knechel, 1997). Knapp (1985)
found that ®nancial users perceived that management was more likely to obtain its preferred resolution in a con¯ict with auditors when the con¯ict
issue was not dealt with precisely by technical
standards, as opposed to the situation where the
con¯ict issue was dealt with precisely by technical
standards. He also found (Knapp, 1987) that audit
committee members were more likely to support
an auditor involved in a major dispute with management when the focal issue was the subject of
objective technical standards.
This study examines one instance of regulators
playing, apparently successfully, the ``language
game'': the change in Australian accounting standards of the de®nition of an ``extraordinary item''.
The intention of the regulators was to remove the
¯exibility inherent in the existing de®nition, and
thus limit the inconsistencies and alleged opportunism observed in practice. The study ®nds evidence that auditors do ascribe dierent meanings
to the old and new de®nitions of an extraordinary
item, and that those dierences are systematically
associated with dierent extraordinary item classi®cation decisions.
In doing so, the study also builds upon the
extant measurement of meaning in accounting literature.2 That literature has typically been concerned with the extent to which meanings of basic
accounting terminology are shared (or not shared)
between the parties to the communication process
(e.g. between preparers and users). Extending the
analysis to the eect of meaning on behavioral
outcomes establishes a link between this body of
literature and the much larger literature dealing
with judgment in accounting and auditing.
This study seeks to determine whether decision
outcomes are a function of, inter alia, the meanings attributed to the accounting signal3 (the de®nition of extraordinary item contained in the
accounting standard) on which the decisions are
based. The study ®nds this relationship to exist,
and as such, has important policy implications for
accounting standard setting and other regulation.
The methodology employed provides a means by
which regulators may prospectively evaluate the
impact of changes in meaning of accounting concepts and other words used to regulate accounting
numbers and disclosures on accounting policy
decisions.
The paper is organized as follows. Section 2
discusses the relevant prior literature and formulates the hypotheses. Section 3 describes the
research methodology. Section 4 reports the data
analysis and results, while Section 5 discusses
those results. Section 6 provides a summary and
conclusion.
2
The study of meaning, language and communication has
been approached from various theoretical viewpoints, including
those developed in philosophy, semiotics, linguistics, psychology
and media studies. Although dierent emphases may be given in
alternative models of communication, certain elements exist in
common: a sender/writer/producer, a receiver/reader/user, a
channel/medium, a message/text and an eect. In this study, the
particular emphasis is on the reader (auditors), the message (the
accounting standard de®nition) and the eect (the decisions made
on the basis of that de®nition). We are interested in the interpretation; in the process of assigning meanings to the message.
3
`Signal' is used in the sense of the physical existence or
form of the text; that is, the formal de®nition of `extraordinary
item' as printed in the applicable accounting standard.
J.J.F. Hronsky, K.A. Houghton / Accounting, Organizations and Society 26 (2001) 123±139
2. Prior literature and hypotheses
2.1. The extraordinary items judgment
Accounting regulation in many parts of the
world (including Australia) requires the separation
of extraordinary items from operating income.
The accounting policy decision to classify an event
or transaction as `extraordinary' is made if it falls
within the de®nition of `extraordinary' provided
by the relevant accounting standard. Until
recently the treatment of extraordinary items (EIs)
in Australia has been seen as a method of pro®t
manipulation. Serious concern was expressed (see,
for example, Jukes, 1988; Parry, 1990; Rennie,
1985; Walker, 1988) about the ¯exibility inherent
in the relevant de®nition:
Extraordinary items means items of revenue
and expense and other gains and losses ...
attributable to events or transactions outside
the ordinary operations of the business entity.
[AAS 1, 1974, para 4(b)].
In particular, criticism was levelled at the exclusion of extraordinary loss items from net operating pro®t, while gains of a similar nature were
included in operating pro®t.4 In an attempt to
overcome this problem, the standard was amended
and reissued. The crucial change to the de®nition
was the addition of the words ``and not of a recurring nature''. The intention of the small but
important change in wording was to limit the
extraordinary classi®cation to a few isolated cases
and end the inconsistencies (and arguably the
opportunistic behavior) that had been evident in
practice.
4
The following comment is typical of the concerns expressed
by ®nancial commentators. ``The extraordinary items classi®cation is just too subjective . . . the more cynical commentators
would have us believe that the extraordinary item line has
become a receptacle for large debits, while credits which might
even ®t the bill as extraordinary have somehow ended up as
part of operating pro®ts'' (Jukes, 1988, p. 85).
125
The inclusion or exclusion of items from operating pro®t to manipulate the accounting income
number has been empirically observed over a
number of years. A comparison of the studies is
dicult due to their diering methodologies,
objectives and times of execution. However, a
number of general conclusions may be drawn
from the literature. The evidence suggests that EIs
are used as discretionary adjustments to income,
consistent with both the `big bath' and `income
smoothing' hypotheses (for example, Barnea,
Ronen & Sadan, 1975; Craig & Walsh, 1989;
Godfrey & Jones, 1999; Walsh, Craig & Clarke,
1991). Homan and Zimmer (1994) found that, in
1989, the tendency to classify recurring gains
rather than losses as operating instead of extraordinary was greater where the chief executive
received a higher remuneration relative to ®rm
earnings. Recent capital market studies (e.g.
Easton, 1990) suggest that EIs have little or no
information content in assessing security values.
Houghton and Walker's (1991) experimental study
examined the impact of changes to the regulatory
environment in which the extraordinary/operating
classi®cation decision is made in Australia, and
found evidence to suggest that the change may
have had the desired eect of reducing the manipulation of income through the categorization of
EIs.
This study extends previous research by determining the extent to which the perceived change in
the meaning of the de®nition of an EI contained in
the relevant accounting standard, is driving the
classi®cation decisions made on the basis of those
de®nitions.
2.2. Measurement of meaning in accounting
As noted above, by focusing on the eect of a
change in the de®nition of an accounting concept,
this study also extends the measurement of meaning in accounting literature. This literature has
largely applied the semantic dierential methodology originally developed by Osgood, Suci and
Tannenbaum (1957) in experimental psychology,
to the accounting domain of meaning. The
semantic dierential instrument provides a
126
J.J.F. Hronsky, K.A. Houghton / Accounting, Organizations and Society 26 (2001) 123±139
quantitative measure of the connotative meaning5
of a concept.
Studies conducted to date in the accounting
domain have primarily focussed on the extent to
which various parties to the communication process attribute the same meanings to key accounting concepts. This literature has been critically
reviewed by Bagrano (1990). Most studies have
looked at the dierential meanings of basic
accounting concepts held by preparers and users
of ®nancial accounting information (Haried, 1973;
Houghton, 1987a, 1988; Houghton & Messier,
1990; Karvel, 1979; Oliver, 1974), managerial
accounting information (Johnson, 1992), and,
more recently, the dierential meanings held by
auditors across national cultural boundaries
(Bagrano, Houghton & Hronsky, 1994). Studies
with an educational focus have shown that the
meanings of accounting concepts held by students
change over time (Houghton, 1987b) and that the
meanings held by inexperienced members of the
accounting profession are not identical to those
held by practicing accountants (Houghton &
Hronsky, 1993). Importantly, it has been shown
that the dimensions of the accounting domain of
meaning conform to the Evaluative±Potency±
Activity dimensions of the general domain of
meaning6 (Houghton, 1988) and that subjects with
a level of knowledge or sophistication about
accounting information exhibit this degree of cognitive complexity (Houghton, 1987a, 1988).
To date, this literature does not address the
question of what, if any, dierences in the perceived meanings of accounting concepts held by
individuals have on accounting practice. In the
5
Osgood et al. (1957) rely on the distinction made by many
(from John Stuart Mill onwards) between denotative and connotative meaning. Denotative meaning is the ordinary or literal
meaning of a concept; connotative meaning is a subjective or
emotional meaning. Osgood et al. (1957, p. 323) observed that
even with agreement between communicating parties as to
denotative meaning the parties can display dierent behaviours
in their response to a concept; thus implying the importance of
connotative meaning in driving individual behaviour. Section 6
contains a discussion of the potential shortcomings associated
with the assumption that denotative or literal meanings are
shared, and that the important variation in constructed meaning takes place in the realm of the connotative.
context of the EI classi®cation decision, this study
addresses the impact of connotative meaning on
accounting decision making.
2.3. Research question and hypotheses
The fundamental research question of this study
is to determine whether there is a measurable and
empirically veri®able link between decision behaviors (outcomes) and connotative or measured
meaning: whether some of the variability in behavioral responses can be explained by variability in
the measured meaning of the decision rule (the EI
de®nition). Variability in the meaning of the EI
concept is likely to be present given the recent
change in its de®nition in the accounting standards. The ®rst hypothesis to be tested is therefore
concerned with whether this variability in meaning
can be established.
HO1. There is no signi®cant dierence between
the meaning of the concept `extraordinary
item' in the old Australian de®nition and the
new de®nition.
The next step involves examining the decisions
made on the basis of the concept. As a classi®cation decision must be either `extraordinary' or
`operating' (the two are mutually exclusive) the
6
To quantify their meaning of a concept, subjects mark the
space between pairs of adjectives which best describes their
association between the descriptive adjectives and the concepts.
The meaning of a concept is determined by its location within
``semantic space''. Semantic space is multi-dimensional Euclidean geometrical space, with each dimension representing an
independent dimension of meaning. Osgood et al. (1957) found
the existence of three dimensions: the Evaluative dimension,
(represented by the semantic dierential scale ``good±bad'');
Potency (``strong±weak''); and Activity (``active±passive''). The
meaning of a concept is measured by the placement of that
concept on the axes of these dimensions. The existence of the
three factor E±P±A structure has been validated in numerous
studies (Heise, 1969) with the psychological research ®nding
these three factors regardless of the domain of interest. The
methodology has been, and continues to be, widely used in
numerous disciplines, including psychology (Goldsmith,
McDermott & Alexander, 2000), sociology (Tzeng & Henderson, 1999) and education (Tracey, Aroll & Richardson, 1999).
J.J.F. Hronsky, K.A. Houghton / Accounting, Organizations and Society 26 (2001) 123±139
necessary variability in decision outcomes is
present. The hypothesis may be stated in the null
form as:
HO2. There is no signi®cant dierence between
the classi®cation decisions made by subjects
on the basis of the old Australian de®nition
and on the basis of the new de®nition.
If these two hypotheses are able to be rejected, it
means that there is a signi®cant amount of variability in the meaning of the accounting concept;
and a signi®cant amount of variability in the
decision outcomes based on this concept. That
these two conditions be present is necessary (but
not sucient) to establish a link between the two.
The linkage is the fundamental research question
of this study, and may be stated as:
H3. That variability in extraordinary classi®cation decisions may be explained by the
variability in the meaning of the concept
upon which decisions are based.
If a signi®cant association between measured
meaning and decision outcomes is found, it will
provide evidence in understanding how changes to
accounting standards and regulations ¯ow
through to impact on decisions made by those
involved in the preparation of accounting information It will also empirically establish a linkage
between connotative meaning and an accounting
decision, and provide some explanation of the role
of meaning in accounting decision making.
3. Research methodology
3.1. Research design
This study used a between-subjects design in
respect of the old and new regulated de®nitions.
The group designated as Group 1 (NEW) were to
be prompted by the new Australian de®nition of
EI in making their decisions, while Group 2
(OLD) were to be prompted by the old de®nition.
127
Each of the groups were to be presented with the
test instrument requiring them to:
1. make a decision as to whether the facts about
particular events or transactions would result
in them being classi®ed as either `extraordinary' or `operating' for each of 10 cases
(the two categories being mutually exclusive);7 and then
2. complete a semantic dierential to ascertain
their meaning of the concept of EI used in
making these decisions.
The test instrument consisted of two parts to be
completed by each subject; with the ®rst part
designed to test for variability in the classi®cation
decisions, and the second part designed to test the
meanings of the concepts used by subjects.8 An
extract of a test instrument is included as an
Appendix.
3.2. Case selection
Part One of the instrument contained 10 cases,9
all somewhat simpli®ed, based on real but disguised Australian examples of items where the
exercise of judgment (classi®cation as an EI or
not) was necessary. All items were material. The
7
Two responses were elicited from subjects in respect of the
classi®cation decision. Requirement 1 was the dichotomous
classi®cation (extraordinary/operating). Requirement 2 was the
same classi®cation over a range of 1 to 6, from `clearly extraordinary' to `clearly operating'. These two decisions, as may be
expected, are highly correlated (Spearman coecient=0.8016,
P
www.elsevier.com/locate/aos
The meaning of a de®ned accounting concept: regulatory
changes and the eect on auditor decision making
Jane J.F. Hronsky *, Keith A. Houghton
Department of Accounting, Faculty of Economics and Commerce, University of Melbourne, Parkville, VIC, Australia
Abstract
Accounting standards exist in an attempt to ``standardize'' accounting practice. These standards contain de®nitions
of accounting concepts whose function is to guide judgments made in practice. However, such judgments can have a
major impact on a ®rm's externally reported accounting numbers, as their inherent subjectivity and discretion may be
lent to the manipulation of earnings. This study provides empirical evidence of the eect of measured meaning on an
accounting judgment, in the context of regulated changes to the de®nition of one key accounting concept used in
measuring operating income. The extraordinary items classi®cation decisions made by auditors were found to be systematically associated with dierences in measured meaning of the extraordinary items de®nition. The study has
important policy implications for accounting standard-setting. # 2000 Elsevier Science Ltd. All rights reserved.
1. Introduction
A ®rm's external ®nancial reports are the end
product of numerous judgments and decisions. In
making these decisions, some authoritative guidance is provided by accounting standards. However, rule-based systems of regulation can never be
`watertight', and allegations of `creative' or
`aggressive' accounting practices by ®rms are often
heard (for example, Griths, 1986; Smith, 1992).
Creative accounting can be de®ned as ``the process
by which management takes advantage of gaps or
ambiguities in the standards to present a biased
picture of ®nancial performance. It does not breach
* Corresponding author. Tel.: +61-3-8344-5301; fax: +613-9349-2397.
E-mail address: [email protected] (J.J.F.
Hronsky).
the letter of the law or rules, but may breach its
spirit'' (Shah, 1998, p. 83). An aggressive reporting
environment has been characterized as an ambiguous one in which de®nitive applicable authoritative guidance is lacking (Kennedy, Kleinmuntz
& Peecher, 1997; Phillips, 1999). Some have suggested (e.g. Shah, 1996) that the practice of `creative compliance' makes standard-setting appear to
be a redundant exercise.
Nevertheless, it is possible in the language game
of standard-setting, for regulators to use language
carefully to close `gaps' in the rules and amend
vague and/or incomplete rules.1 Mason and Gibbins (1991, p. 23) suggest that it would be useful to
1
This is not to deny, however, that standard-setting often
appears to exhibit what Shah (1996) refers to as a ``dialectic of
creativity''; that is, from avoidance to rules to avoidance again;
a game of ``catch-up'' for regulators.
0361-3682/00/$ - see front matter # 2000 Elsevier Science Ltd. All rights reserved.
PII: S0361-3682(00)00020-9
124
J.J.F. Hronsky, K.A. Houghton / Accounting, Organizations and Society 26 (2001) 123±139
``Review new (and possibly existing) standards to
reduce the large number of ambiguities and other
diculties that detract from the thrust of the
standard by requiring interpretative and clarifying
judgments rather than judgments on matters of
substance''; and ``State the main objectives of each
accounting standard, to facilitate the task of
statement preparers and auditors who are trying
to apply the standard according to its spirit, rather
than according to a legalistic interpretation of its
words''.
Importantly, clearly-worded standards provide
guidance for auditors in auditor±client con¯ict
situations, and reduce the justi®ability of aggressive reporting decisions. Auditors are a major
in¯uence on the form of the ®nal published ®nancial statements; the statements can be viewed as
eectively a joint product of management and the
auditor (Gibbins, Richardson & Waterhouse,
1990; Gibbins, Salterio & Webb, 1998; Antle &
Nalebu, 1991; Hansen & Watts, 1997); with the
external auditor spending up to 30% of their time
in ®nancial statement preparation and ®nalization
(Hackenbrack & Knechel, 1997). Knapp (1985)
found that ®nancial users perceived that management was more likely to obtain its preferred resolution in a con¯ict with auditors when the con¯ict
issue was not dealt with precisely by technical
standards, as opposed to the situation where the
con¯ict issue was dealt with precisely by technical
standards. He also found (Knapp, 1987) that audit
committee members were more likely to support
an auditor involved in a major dispute with management when the focal issue was the subject of
objective technical standards.
This study examines one instance of regulators
playing, apparently successfully, the ``language
game'': the change in Australian accounting standards of the de®nition of an ``extraordinary item''.
The intention of the regulators was to remove the
¯exibility inherent in the existing de®nition, and
thus limit the inconsistencies and alleged opportunism observed in practice. The study ®nds evidence that auditors do ascribe dierent meanings
to the old and new de®nitions of an extraordinary
item, and that those dierences are systematically
associated with dierent extraordinary item classi®cation decisions.
In doing so, the study also builds upon the
extant measurement of meaning in accounting literature.2 That literature has typically been concerned with the extent to which meanings of basic
accounting terminology are shared (or not shared)
between the parties to the communication process
(e.g. between preparers and users). Extending the
analysis to the eect of meaning on behavioral
outcomes establishes a link between this body of
literature and the much larger literature dealing
with judgment in accounting and auditing.
This study seeks to determine whether decision
outcomes are a function of, inter alia, the meanings attributed to the accounting signal3 (the de®nition of extraordinary item contained in the
accounting standard) on which the decisions are
based. The study ®nds this relationship to exist,
and as such, has important policy implications for
accounting standard setting and other regulation.
The methodology employed provides a means by
which regulators may prospectively evaluate the
impact of changes in meaning of accounting concepts and other words used to regulate accounting
numbers and disclosures on accounting policy
decisions.
The paper is organized as follows. Section 2
discusses the relevant prior literature and formulates the hypotheses. Section 3 describes the
research methodology. Section 4 reports the data
analysis and results, while Section 5 discusses
those results. Section 6 provides a summary and
conclusion.
2
The study of meaning, language and communication has
been approached from various theoretical viewpoints, including
those developed in philosophy, semiotics, linguistics, psychology
and media studies. Although dierent emphases may be given in
alternative models of communication, certain elements exist in
common: a sender/writer/producer, a receiver/reader/user, a
channel/medium, a message/text and an eect. In this study, the
particular emphasis is on the reader (auditors), the message (the
accounting standard de®nition) and the eect (the decisions made
on the basis of that de®nition). We are interested in the interpretation; in the process of assigning meanings to the message.
3
`Signal' is used in the sense of the physical existence or
form of the text; that is, the formal de®nition of `extraordinary
item' as printed in the applicable accounting standard.
J.J.F. Hronsky, K.A. Houghton / Accounting, Organizations and Society 26 (2001) 123±139
2. Prior literature and hypotheses
2.1. The extraordinary items judgment
Accounting regulation in many parts of the
world (including Australia) requires the separation
of extraordinary items from operating income.
The accounting policy decision to classify an event
or transaction as `extraordinary' is made if it falls
within the de®nition of `extraordinary' provided
by the relevant accounting standard. Until
recently the treatment of extraordinary items (EIs)
in Australia has been seen as a method of pro®t
manipulation. Serious concern was expressed (see,
for example, Jukes, 1988; Parry, 1990; Rennie,
1985; Walker, 1988) about the ¯exibility inherent
in the relevant de®nition:
Extraordinary items means items of revenue
and expense and other gains and losses ...
attributable to events or transactions outside
the ordinary operations of the business entity.
[AAS 1, 1974, para 4(b)].
In particular, criticism was levelled at the exclusion of extraordinary loss items from net operating pro®t, while gains of a similar nature were
included in operating pro®t.4 In an attempt to
overcome this problem, the standard was amended
and reissued. The crucial change to the de®nition
was the addition of the words ``and not of a recurring nature''. The intention of the small but
important change in wording was to limit the
extraordinary classi®cation to a few isolated cases
and end the inconsistencies (and arguably the
opportunistic behavior) that had been evident in
practice.
4
The following comment is typical of the concerns expressed
by ®nancial commentators. ``The extraordinary items classi®cation is just too subjective . . . the more cynical commentators
would have us believe that the extraordinary item line has
become a receptacle for large debits, while credits which might
even ®t the bill as extraordinary have somehow ended up as
part of operating pro®ts'' (Jukes, 1988, p. 85).
125
The inclusion or exclusion of items from operating pro®t to manipulate the accounting income
number has been empirically observed over a
number of years. A comparison of the studies is
dicult due to their diering methodologies,
objectives and times of execution. However, a
number of general conclusions may be drawn
from the literature. The evidence suggests that EIs
are used as discretionary adjustments to income,
consistent with both the `big bath' and `income
smoothing' hypotheses (for example, Barnea,
Ronen & Sadan, 1975; Craig & Walsh, 1989;
Godfrey & Jones, 1999; Walsh, Craig & Clarke,
1991). Homan and Zimmer (1994) found that, in
1989, the tendency to classify recurring gains
rather than losses as operating instead of extraordinary was greater where the chief executive
received a higher remuneration relative to ®rm
earnings. Recent capital market studies (e.g.
Easton, 1990) suggest that EIs have little or no
information content in assessing security values.
Houghton and Walker's (1991) experimental study
examined the impact of changes to the regulatory
environment in which the extraordinary/operating
classi®cation decision is made in Australia, and
found evidence to suggest that the change may
have had the desired eect of reducing the manipulation of income through the categorization of
EIs.
This study extends previous research by determining the extent to which the perceived change in
the meaning of the de®nition of an EI contained in
the relevant accounting standard, is driving the
classi®cation decisions made on the basis of those
de®nitions.
2.2. Measurement of meaning in accounting
As noted above, by focusing on the eect of a
change in the de®nition of an accounting concept,
this study also extends the measurement of meaning in accounting literature. This literature has
largely applied the semantic dierential methodology originally developed by Osgood, Suci and
Tannenbaum (1957) in experimental psychology,
to the accounting domain of meaning. The
semantic dierential instrument provides a
126
J.J.F. Hronsky, K.A. Houghton / Accounting, Organizations and Society 26 (2001) 123±139
quantitative measure of the connotative meaning5
of a concept.
Studies conducted to date in the accounting
domain have primarily focussed on the extent to
which various parties to the communication process attribute the same meanings to key accounting concepts. This literature has been critically
reviewed by Bagrano (1990). Most studies have
looked at the dierential meanings of basic
accounting concepts held by preparers and users
of ®nancial accounting information (Haried, 1973;
Houghton, 1987a, 1988; Houghton & Messier,
1990; Karvel, 1979; Oliver, 1974), managerial
accounting information (Johnson, 1992), and,
more recently, the dierential meanings held by
auditors across national cultural boundaries
(Bagrano, Houghton & Hronsky, 1994). Studies
with an educational focus have shown that the
meanings of accounting concepts held by students
change over time (Houghton, 1987b) and that the
meanings held by inexperienced members of the
accounting profession are not identical to those
held by practicing accountants (Houghton &
Hronsky, 1993). Importantly, it has been shown
that the dimensions of the accounting domain of
meaning conform to the Evaluative±Potency±
Activity dimensions of the general domain of
meaning6 (Houghton, 1988) and that subjects with
a level of knowledge or sophistication about
accounting information exhibit this degree of cognitive complexity (Houghton, 1987a, 1988).
To date, this literature does not address the
question of what, if any, dierences in the perceived meanings of accounting concepts held by
individuals have on accounting practice. In the
5
Osgood et al. (1957) rely on the distinction made by many
(from John Stuart Mill onwards) between denotative and connotative meaning. Denotative meaning is the ordinary or literal
meaning of a concept; connotative meaning is a subjective or
emotional meaning. Osgood et al. (1957, p. 323) observed that
even with agreement between communicating parties as to
denotative meaning the parties can display dierent behaviours
in their response to a concept; thus implying the importance of
connotative meaning in driving individual behaviour. Section 6
contains a discussion of the potential shortcomings associated
with the assumption that denotative or literal meanings are
shared, and that the important variation in constructed meaning takes place in the realm of the connotative.
context of the EI classi®cation decision, this study
addresses the impact of connotative meaning on
accounting decision making.
2.3. Research question and hypotheses
The fundamental research question of this study
is to determine whether there is a measurable and
empirically veri®able link between decision behaviors (outcomes) and connotative or measured
meaning: whether some of the variability in behavioral responses can be explained by variability in
the measured meaning of the decision rule (the EI
de®nition). Variability in the meaning of the EI
concept is likely to be present given the recent
change in its de®nition in the accounting standards. The ®rst hypothesis to be tested is therefore
concerned with whether this variability in meaning
can be established.
HO1. There is no signi®cant dierence between
the meaning of the concept `extraordinary
item' in the old Australian de®nition and the
new de®nition.
The next step involves examining the decisions
made on the basis of the concept. As a classi®cation decision must be either `extraordinary' or
`operating' (the two are mutually exclusive) the
6
To quantify their meaning of a concept, subjects mark the
space between pairs of adjectives which best describes their
association between the descriptive adjectives and the concepts.
The meaning of a concept is determined by its location within
``semantic space''. Semantic space is multi-dimensional Euclidean geometrical space, with each dimension representing an
independent dimension of meaning. Osgood et al. (1957) found
the existence of three dimensions: the Evaluative dimension,
(represented by the semantic dierential scale ``good±bad'');
Potency (``strong±weak''); and Activity (``active±passive''). The
meaning of a concept is measured by the placement of that
concept on the axes of these dimensions. The existence of the
three factor E±P±A structure has been validated in numerous
studies (Heise, 1969) with the psychological research ®nding
these three factors regardless of the domain of interest. The
methodology has been, and continues to be, widely used in
numerous disciplines, including psychology (Goldsmith,
McDermott & Alexander, 2000), sociology (Tzeng & Henderson, 1999) and education (Tracey, Aroll & Richardson, 1999).
J.J.F. Hronsky, K.A. Houghton / Accounting, Organizations and Society 26 (2001) 123±139
necessary variability in decision outcomes is
present. The hypothesis may be stated in the null
form as:
HO2. There is no signi®cant dierence between
the classi®cation decisions made by subjects
on the basis of the old Australian de®nition
and on the basis of the new de®nition.
If these two hypotheses are able to be rejected, it
means that there is a signi®cant amount of variability in the meaning of the accounting concept;
and a signi®cant amount of variability in the
decision outcomes based on this concept. That
these two conditions be present is necessary (but
not sucient) to establish a link between the two.
The linkage is the fundamental research question
of this study, and may be stated as:
H3. That variability in extraordinary classi®cation decisions may be explained by the
variability in the meaning of the concept
upon which decisions are based.
If a signi®cant association between measured
meaning and decision outcomes is found, it will
provide evidence in understanding how changes to
accounting standards and regulations ¯ow
through to impact on decisions made by those
involved in the preparation of accounting information It will also empirically establish a linkage
between connotative meaning and an accounting
decision, and provide some explanation of the role
of meaning in accounting decision making.
3. Research methodology
3.1. Research design
This study used a between-subjects design in
respect of the old and new regulated de®nitions.
The group designated as Group 1 (NEW) were to
be prompted by the new Australian de®nition of
EI in making their decisions, while Group 2
(OLD) were to be prompted by the old de®nition.
127
Each of the groups were to be presented with the
test instrument requiring them to:
1. make a decision as to whether the facts about
particular events or transactions would result
in them being classi®ed as either `extraordinary' or `operating' for each of 10 cases
(the two categories being mutually exclusive);7 and then
2. complete a semantic dierential to ascertain
their meaning of the concept of EI used in
making these decisions.
The test instrument consisted of two parts to be
completed by each subject; with the ®rst part
designed to test for variability in the classi®cation
decisions, and the second part designed to test the
meanings of the concepts used by subjects.8 An
extract of a test instrument is included as an
Appendix.
3.2. Case selection
Part One of the instrument contained 10 cases,9
all somewhat simpli®ed, based on real but disguised Australian examples of items where the
exercise of judgment (classi®cation as an EI or
not) was necessary. All items were material. The
7
Two responses were elicited from subjects in respect of the
classi®cation decision. Requirement 1 was the dichotomous
classi®cation (extraordinary/operating). Requirement 2 was the
same classi®cation over a range of 1 to 6, from `clearly extraordinary' to `clearly operating'. These two decisions, as may be
expected, are highly correlated (Spearman coecient=0.8016,
P