1 An Introduction to Accounting Theory Learning Objectives After reading this chapter, you should be able to: • Understand the meaning of accounting theory and why it is an important topic. • Understand the relationship between accounting theory and policy making. • Understand what measurement is and its role in accounting. • Gain insight into the principal valuation systems in accounting. A lthough accounting has not been called the “dismal science,” it is frequently viewed as a dry, cold, and highly analytical discipline with very precise answers that are either correct or incorrect. Nothing could be further from the truth. To take a simple example, assume that two enterprises that are otherwise similar are valuing their inventory and cost of goods sold using different accounting methods. Firm A selects LIFO and Firm B selects FIFO, giving totally different but equally correct answers. However, one might say that a choice among inventory methods is merely an “accounting construct”: The type of “games” accountants play that are of interest to them but have noth- ing to do with the “real world.” Once again this would be totally incorrect. The LIFO versus FIFO argument has important income tax ramifications, resulting—under LIFO—in a more rapid write-off of current inventory costs against revenues (assuming rising inventory prices), which generally means lower income taxes. Thus an accounting construct has an important “social reality”: how much income tax is paid. 1 1 01-Wolk-45381.qxd 10/17/2007 7:09 PM Page 1