Question

Discuss how heuristic/biases and culture can influence accountants decision making with reference to specific judgements that are typically made by accountants?

Answer 1

Answer :

Heuristics are simple strategies or mental processes that humans, animals, organizations and machines use to quickly form judgments, make decisions, and find solutions to complex problems. This happens when an individual focuses on the most relevant aspects of a problem or situation to formulate a solution.

Some heuristics are more applicable and useful than others depending on the situation. Heuristic processes are used to find the answers and solutions that are most likely to work or be correct. However, heuristics are not always right or the most accurate. While they can differ from answers given by logic and probability, judgments and decisions based on a heuristic can be good enough to satisfy a need. They are meant to serve as quick mental references for everyday experiences and decisions. In situations of uncertainty, where information is incomplete, heuristics allow for the less-is-more effect, in which less information leads to greater accuracy.

Accounting and auditing judgment.:

As accounting in the US moves toward the adoption of international accounting standards, which aims to be more principles than rules-based, the significance and frequency of judgments in decision-making and their financial statement consequences will increase. According to early studies in probabilistic judgments in the accounting literature made similar conclusions as Kahneman and Tversky concerning the use of simplifying heuristics, but with the additional insight that the use of heuristics may be sensitive to task and situation variables. Riahi-Belkaoui (2004) observes that research on the departures from normative decision-making behavior has seized on heuristics and biases – essentially, representativeness in auditing, anchoring in auditing, anchoring in management control, and anchoring in financial analysis. After reviewing the behavioral auditing literature Shanteau (1989) finds that accounting researchers frequently have difficulty in translating the findings of Kahneman and Tversky into an auditing framework. Another observation is that the reported results of many studies are often close to normative, and even when the reported findings complies with heuristics and biases, the effects are smaller than those reported by Kahneman and Tversky. A third observation is that there seems to be a tendency within this bulk of literature to define success or failure of a study by whether biases are observed or not. A final observation is there has been a tendency in auditing studies of heuristics and biases to cite framing effects to account for the generally inclusive results.

Examples:

People's valuation of goods, and the quantities they buy, respond to anchoring effects. In one experiment, people wrote down the last two digits of their social security numbers. They were then asked to consider whether they would pay this number of dollars for items whose value they did not know, such as wine, chocolate, and computer equipment. They then entered an auction to bid for these items. Those with the highest two-digit numbers submitted bids that were many times higher than those with the lowest numbers. When a stack of soup cans in a supermarket was labelled, "Limit 12 per customer", the label influenced customers to buy more cans. In another experiment, real estate agents appraised the value of houses on the basis of a tour and extensive documentation. Different agents were shown different listing prices, and these affected their valuations. For one house, the appraised value ranged from US$114,204 to $128,754.

Anchoring and adjustment has also been shown to affect grades given to students. In one experiment, 48 teachers were given bundles of student essays, each of which had to be graded and returned. They were also given a fictional list of the students' previous grades. The mean of these grades affected the grades that teachers awarded for the essay.

One study showed that anchoring affected the sentences in a fictional rape trial. The subjects were trial judges with, on average, more than fifteen years of experience. They read documents including witness testimony, expert statements, the relevant penal code, and the final pleas from the prosecution and defence. The two conditions of this experiment differed in just one respect: the prosecutor demanded a 34-month sentence in one condition and 12 months in the other; there was an eight-month difference between the average sentences handed out in these two conditions. In a similar mock trial, the subjects took the role of jurors in a civil case. They were either asked to award damages "in the range from $15 million to $50 million" or "in the range from $50 million to $150 million". Although the facts of the case were the same each time, jurors given the higher range decided on an award that was about three times higher. This happened even though the subjects were explicitly warned not to treat the requests as evidence.

Assessments can also be influenced by the stimuli provided. In one review, researchers found that if a stimulus is perceived to be important or carry "weight" to a situation, that people were more likely to attribute that stimulus as heavier physically.

Conclusion :

As the global economy becomes more complex and dynamic, it becomes increasingly difficult to craft standardized accounting rules that fit the entire range of reporting entities. Principles-based accounting allows the individual reporting entity to prepare its financial statements as it sees best to provide information that is useful to existing and potential investors, lenders and other creditors in making decisions about providing resources to the entity. In this accounting context, accounting judgments are becoming increasingly important and frequent. Identifying and recognizing internally generated intangible assets is a typical case of judgment under uncertainty. Judgment under uncertainty often rests on a limited number of simplifying heuristics rather than extensive logical reasoning (c.f., Gilovich, Griffin and Kahneman, 2002; Kahneman and Frederick, 2002). According to Ashton and Ashton (1999), accounting judgment tasks are to be related to institutional professional settings, which include generally accepted accounting principles, a highly structured system. Although heuristics yield “rough and ready” solutions, they draw on underlying processes that are highly sophisticated (Kahneman and Tversky,1974). And, for an accounting judgment to be considered adequate, or rational, it has to be compatible with all the beliefs held by the individual accountant. From an accounting point of view, it is vital that judgments and intentions produced by System 1 can be modified or overridden by the deliberate operations of System 2, that is, that a direct interrelationship exists between intuition and reasoning. This indicates that heuristics are experience-based, which makes it interesting to study accounting judgments from a heuristics and biases perspective.

By studying the underlying processes on which accounting judgments are founded we can learn more about how accountants reason in relation to various accounting standards given different economic situations. The focus is on how accountants go about tackling complex accounting problems. Hence, this paper takes a different view on heuristics and biases related to accounting judgments than do previous research in that the main focus is set on the use and design of heuristics and biases and to a lesser extent on departures from normative decision-making behavior.