It has often been asked what were the major factors that influenced the development of accounting in 19th century England.
To be able to answer this question a number of different areas warrant investigation. The main issues that will be dealt with include the industrial revolution and the pursuing economic and legal changes, in particular the various company and bankruptcy Acts that were passed during this period.
The major catalyst for the ensuing economic and legal changes in England was the industrial revolution. To appreciate the profound effect that this revolution had on the English way of life, a brief look at the conditions before the revolution needs to be made.
Before the revolution, production of goods was on a craft basis, with small one man operations, which meant that the owner was involved in all aspects of the business. The type of capital invested in these operations was very simple and it was usually supplied by the owner/operator of the business (Mathews, Perera, 1993).
Then there was a transition stage where production was carried out by cottage industry or the putting out of work. In this situation the producer would put out work to individuals by providing them with the raw materials. This facilitated an increase in production but meant that capital and labour were spread out in different locations. This caused problems with communication and coordination of operations, partly because the manufacturer was no longer involved in all stages of production (Mathews, Perera, 1993).
The third stage saw the emergence of factory production. Under this new system of production came major changes to English society, e.g. the centralisation of labour, the aggregation of capital, locating production centres near sources of power, rapid increases in production and quantity of goods produced, and the increasing separation of ownership and control (Mathews, Perera, 1993).
With the pooling of capital for production the owners were increasingly being separated from the actual day-to-day running of the factories. This meant that the accounting information took on more of an important stewardship role. The owners wanted to know how well management were managing their investments and what returns they were making from their invested capital.
The separation of ownership and control led to increasing need for external reporting of operations. Owners/shareholders wanted to know what returns they were making on their investments and what sort of dividends they could expect to receive.
The need for external reporting was reflected in the mounting company legislation. The specific legislation is covered later under company legislation.
The industrial revolution was assisted by many factors, including the high savings rates, cheap capital, rising prices and positive growth prospects in new industrial ventures (Chatfield, 1977).
The revolution also saw rapid advances in technology. Advances in power generation, machinery speed and efficiency, factory designs and raw materials used increased the complexity of manufacturing.
The traditional manorial and single entry book keeping systems could not cope with the changes that factory production brought to the accounting environment. They had particular difficulty in the calculation of income, valuation of inventories and in including depreciation expenses in product costs (Mathews, Perera, 1993).
To overcome these deficiencies double entry book keeping was increasingly adopted. This system was better able to cope with the new demands that business placed on their accounting information systems.
As part of the double entry system cost accounting was developed to fulfil management's need for a wider range of data to aid them in their decision making process. A number of areas where these needs occurred included:
*determination of profit available for dividends
*prevention of fraud
*maintenance of liquidity
*production control data
*calculation of ending inventories, cost of goods sold and comparative pricing (Chatfield, 1977).
The cost accounting system allowed management to collect data on conversion costs i.e. labour and overheads (Johnson, 1984). This allowed more effective allocation of overheads to products manufactured, thus allowing more accurate cost data to be collected. This in turn meant better costing of inventories for income determination.
Two major refinements/advances in cost accounting in this period were standard costing and product cost allocation. The former was a method that allocated standard direct costs to products and allocated indirect costs on budgeted rates (Horngren, Foster, 1991). The latter facilitated the deferring of product costs by placing then in inventories on the balance sheet (Johnson, 1984).
The lack of accounting standards and theory at this time caused a number of problems, such as allocating overheads and calculation of depreciation. Often depreciation was not recorded in the accounts so that the profit figure looked more attractive to potential investors. This led to major problems as assets started to wear out and there were not the reserves to replace them. Another consequence of understating expenses was that dividends were often paid out of capital and not retained earnings (Mathews, Perera, 1993).
The emergence of factory production also had a dramatic effect on labour. Labour moved from being dispersed in many small locations to being centralised into one location. This process brought new problems in the organisation and compensation of labour. Traditional workers were paid at piece-work rates, whereas under factory production, the bases of payment was wages (Chatfield, 1977).
As production was labour intensive, the direct labour component of product costs was high. Thus labour had to be managed in the most effective way possible so as to maximise production and allocate overheads over as many units as possible. Direct labour was also the most used allocation base because of its high proportion of product costs.
COMPANY GROWTH AND LEGISLATION
With the aggregation of capital from many investors came the problem of controlling these growing bodies of individuals. These businesses had no legal identity and so there was no distinction between owners and the company. This meant that the owners were personally liable for the business's actions (Mathews, Perera, 1993)
The only means available for these unincorporated companies to become incorporated was for them to obtain a special Act of Parliament or Royal charter. Unfortunately these methods were very expensive to obtain and could not be easily changed once obtained (Mathews, Perera, 1993).
This caused problems in business dealings with these unincorporated companies. Third parties dealing with them had no idea of who actually he was dealing with. So, in the case of wanting to sue the company, he did not know who to sue (Mathews, Perera, 1993).
To solve this problem the first real solution was the Joint Stock Companies Registration Act of 1844. This Act meant that most companies were able to register without having to go through the process of gaining a Royal charter or special Act of Parliament. But for the companies that registered, a number of new reporting requirements needed to be met. These new requirements included the maintaining of proper accounting records, the presentation of an audited balance sheet and auditor's report and these having to be delivered to shareholders before the annual meeting (Matthews, Perera, 1993 Pg. 19-20).
The concept of limited liability was finally introduced in 1855 as an amendment to the Joint Stock Companies Registration Act. This meant that shareholders in incorporated companies were only liable up to the amount of their shareholdings in the company.
The next major step in company legislation was the 1862 Act. This Act brought together the limited liability and joint stock companies laws. The negative aspect of this legislation was the fact that it dropped the need for companies to have their balance sheet audited or to have an auditor's report prepared and attached to the balance sheet. However it was partly reintroduced in 1879, by requiring banking companies to have an audit of their accounts and a certificate that shows that their balance sheets are true and correct (Mathews, Perera, 1993).
The requirement that companies have their accounts audited was not brought back in until 1900 in the new Companies Act. This act also set out how an auditor would be appointed and his duties. It also stated that accounts had to be delivered to shareholders, along with the audit report, seven days before the statutory meeting (Mathews, Perera, 1993).
BANKRUPTCY AND INSOLVENCY
Bankruptcy was still a crime under English law at the beginning of the 19th century (Goldberg, 1949). To rectify this situation, a great number of Acts were passed over the ensuing years. The first Act that was significant in this area was the 1813 insolvency Act. This Act allowed insolvents to be placed under the jurisdiction of the court. This Act was significant in that it was the first to make a distinction between poverty and crime and over 50,000 debtors were released over the following thirteen years (Goldberg, 1949).
The next Act of importance was the 1825 Bankruptcy Act. This Act consolidated the procedures for bankruptcy, but also included a provision that allowed a debtor to file for bankruptcy (Goldberg, 1949).
The 1832 Bankruptcy Court Act and the Insolvency Act of 1838 continued the move towards giving increasing protection to debtors in bankruptcy proceedings. The Bankruptcy Act of 1847 increased this protection for insolvents by giving non-traders the benefits of bankruptcy (Goldberg, 1949).
As with the major company changes, these Acts concerning bankruptcy and insolvency undoubtedly benefited the accounting profession in many ways. For example, with the increasing complexity of business law and the reporting requirements under them, business people needed to increasingly seek advice, particulary in the areas of company formations, reporting requirements and bankruptcy.
Another major contribution to the accountants' work was that of auditing. With the requirement that company books and accounts be audited, accountants were increasingly in demand to fulfil this statutory role.
While there was much legislating at this time, relating to business formations, the development of accounting principles was very limited. Generally the practices of accounting were the ones that the accountant had been taught. With no set generally accepted principles, businesses reported their results in a manner as they saw fit. This generally meant that the results were portrayed in the very best light, within very broad limits.
Although there was a lack of generally accepted accounting principles, there was a growing understanding of accounting theory. Three of these areas according to Hendriksen were, "(1) a greater adherence to cost as a valuation basis, (2) greater significance of the distinction between capital and income, and (3) development of the going concern concept." (Chatfield, 1977, Pg. 98).
A major reason for the very limited development of accounting theory was the way accountants were taught. In England the accountants learnt accounting by serving a period of time with an accounting firm. There were no courses at university or college. Since a major part of university work is research, this absence of accounting from the university scene meant there was no intense research being conducted in accounting (Mathews, Perera, 1993).
The main influence on accounting during the 19th century was the industrial revolution. This process brought with it increasing demands by management for more accounting information dealing with many issues.
A result from this pressure was the introduction of cost accounting. This system set out to provide data to management to help them in their decision making process.
With the merging of larger amounts of capital and the ensuing separation of ownership, a greater need for external reporting arose. This was provided for in a number of company Acts, which set out, among other things, that proper accounting records had to be maintained by companies and a company's results had to be reported to its shareholders. Along with these requirements, the introduction of the audit gave increased protection to investors and contributed to the demand for accountants services.
As well as the company reforms there was also a significant move to give protection to bankrupts and insolvents. The number of Acts passed made a clear distinction between a crime and being insolvent or bankrupt.
All of these factors had a profound effect on the development of accounting. These effects included an emerging basic accounting theory, specialisation of accounting practitioners and increased demand for their services.