Judgment and Decision-Making Research in Auditing and Accounting

The discipline of accounting and auditing has increasingly recognized judgment and decision making (JDM) as highly important attributes in the profession because individuals such as managers, auditors, financial analysts, accountants and standard setters make pivotal judgments and decisions. Primarily, JDM research in accounting examines two major issues. First is the quality of an individual’s or group’s JDM, that is, the measurement of the performance of individuals when they are engaged in tasks requiring JDM. Second, JDM research examines the determinants of both high and lower quality judgments, that is, the factors that affect JDM.

 Many studies undertaken in this domain of research also substantiate the significance of JDM in accounting and auditing. A recently-published paper evaluates all the studies published in 10 accounting journals among the leading ones from 1980 to 2010 that fall within the domain of JDM research. The categorization of the studies reviewed in this paper is based on three major determinants of JDM: Person, Task, and Environment variables.

The review highlights the progress in the literature over the past three decades and also identifies the methodological limitations of previous research. The identified limitations will be useful for improving the research method of future JDM studies in accounting and auditing. The review also draws inferences on how JDM research in auditing, which is well established, could usefully guide future JDM research in financial accounting.

To learn more, read the article “Judgment and Decision-Making Research in Auditing and Accounting: Future Research Implications of Person, Task, and Environment Perspective” by Rajni Mala and Parmod Chand. The article was published in the March 2015 edition of the Canadian Academic Accounting Association (CAAA) publication Accounting Perspectives which is available at the Wiley Online Library.

Making Judgment Professional

According to a 2013 Financial Reporting Commentary by Staff of Canada’s Accounting Standards Board, the debate over principles-based standards vs. rules-based standards has gone on for many years. All standards should be based on principles. There also needs to be some amount of guidance in the standards on how to apply those principles. The question is how detailed or rules-like should guidance be? What is the balance that provides enough guidance to apply the standards in a consistent manner – but still leaves sufficient flexibility for financial statements to provide information about the entity in a way that is most helpful to users?

Detailed guidance makes it easier to determine the accounting for specific transactions and events – just check the rules. It also makes consistent application of the standards more likely. However, in some circumstances rules may not result in financial statements that provide the most relevant information. This is because those writing the standards often cannot foresee all the different types of transactions and circumstances that the rule will be applied to. In the extreme, detailed rules can become a straightjacket that limits the ability of financial reporting to provide information that meets user needs. Detailed rules can also make it easier to structure transactions to achieve a certain accounting result that is contrary to the underlying principles of the standard.

Professional judgment searches for the accounting that best meets the objective of financial statements – communicating information to financial statement users that helps them in making resource allocation decisions and assessing management stewardship – and is consistent with primary sources of GAAP. This is the test that must be met when applying professional judgment. In many cases, it will be clear there is only one method of accounting that meets this test for a specific transaction or event. However, differences in key facts or circumstances may result in different accounting being appropriate for similar transactions or events.

Read more about this Commentary on Making Judgment Professional and the ongoing debate over principles-based standards vs. rules-based standards.