We do not have any quarrel with the statistical analysis in Kinney's note. In our first paper on this subject, we acknowledged that an auditor may sample high-valued items because of their normal association with high variance.' Similarly, sampling from a high error rate category may be explained as contributing to representative sampling because of the higher degree of contribution in reducing the error of estimate. Finally, random sampling is consistent with the auditor wishing to make statistically valid statements about the population from which a sample is chosen. Our papers,2 however, attempted to point out that there may be nonstatistical reasons which also explain the above set of auditors' behavior; i.e., auditors may sample high-valued items to cover as much of the total dollar value in the population as possible (protective sampling); they may sample high error rate categories to correct as many items as possible; and they may use random sampling to create a greater degree of uncertainty as to the scope of future audits to deter potential errors in the future (preventive sampling).

Auditing, Sampling plan, Representative sampling, Preventive Sampling

Probabilistic depreciation is a method of determining the proper depreciation charge in each year of an asset's service life, when the service life is a random variable with known distribution. The paper discusses how the service life distribution is modified as more information is obtained about the actual lifetime of the asset. The problem of determining the proper amount to be charged each year to depreciation while at the same time maintaining the proper balance in the accumulated depreciation account is considered. The analysis is done both for a single asset case and for group depreciation. A final section discusses the use of Bayesian analysis for estimating the particular form of the service life distribution while the assets are in service.

Recent accounting scholarship has used statistical analyses on asset prices, financial reports and disclosures, laboratory experiments, and surveys of practice. The research has studied the interface among accounting information, capital markets, standard-setters, and financial analysts and how managers make accounting choices. But as accounting scholars have focused on understanding how markets and users process accounting data, they have distanced themselves from the accounting process itself. Accounting scholarship has failed to address important measurement and valuation issues that have arisen in the past 40 years of practice. This gap is illustrated with missed opportunities in risk measurement and management and the estimation of the fair value of complex financial securities. This commentary encourages accounting scholars to devote more resources to obtaining a fundamental understanding of contemporary and future practice and how analytic tools and contemporary advances in accounting and related disciplines can be deployed to improve the professional practice of accounting.

This paper surveys the development of cost accounting and managerial control practices and assesses their relevance to the changing nature of industrial competition in the 1980s. The paper starts with a review of cost accounting developments from 1850 through 1915, including the demands imposed by the origin of the railroad and steel enterprises and the subsequent activity from the scientific management movement. The DuPont Corporation (1903) and the reorganization of General Motors (1920) provided the opportunity for major innovations in the management control of decentralized operations, including the ROI criterion for evaluation of performance and formal budgeting and incentive plans. More recent developments have included discounted cash flow analysis and the application of management science and multiperson decision theory models. The cost accounting and management control procedures developed more than 60 years ago for the mass production of standard products with high direct labor content may no longer be appropriate for the planning and control decisions of contemporary organizations. Also, problems with using profits as the prime criterion for motivating and evaluating short-term performance are becoming apparent. This paper advocates a return to field-based research to discover the innovative practices being introduced by organizations successfully adapting to the new organization and technology of manufacturing.

The article presents the author's opinions on the articles: "Auditing: Perspectives From Multi-Person Decision Theory," by Robert Wilson, and "Organization Theory and Methodology," by Michael C. Jensen; published in the April 1, 1983 issue of the periodical "Accounting Review." Wilson's research during the past 15 years on multi-person game theory has already had a major impact on accounting research. Wilson's paper features the role of reputation in understanding the market for auditing services. Wilson approaches information fineness as a strategic issue of information disclosure. That is, firms know their marginal costs for decision purposes but are purposely concealing them, due to competitive considerations, from the public. Jensen advocates the application of the positive theory to accounting research. The positive theory received visibility from its use in economics to explain the aggregate phenomena. It was subsequently extended with considerable success to understanding the behavior of capital markets in finance. With this theory, assumptions are made about the preferences of individual economic agents, the agents are assumed to make maximizing decisions in a production or exchange economy, and the researcher attempts to predict the resulting market structure.

The gain or loss on net monetary assets is a central and controversial feature of general price-level-adjusted financial statements. Highly levered companies will show large purchasing power gains on their debt during inflationary periods even when the inflation is correctly anticipated. In this paper, a model is developed, based on the Fisher effect for the adjustment of interest rates to expected inflation, to show that much of the apparent purchasing power gain on debt is due not to real purchasing power gains but, rather, to the gain associated with the reduction in the market value of debt because of unanticipated inflation. When changes in the market value of outstanding debt are explicitly recognized, a significant part of the GPLA purchasing power gain on debt can be viewed as an offset to nominal interest expense to arrive at the real interest expense for outstanding debt.

The article investigates the properties of the reciprocal service department cost allocation model. The first and most important investigation assumes that all service department costs are variable and determines how to compute the marginal cost of supplying additional units of output from each service department. First, when allocating variable costs, the final costs should be useful for management decisions by representing the incremental costs of supplying given levels of outputs from the service departments. Second, when service departments also provide some service to themselves, it seems that the allocations to other departments should not be affected by the treatment of the self-service cost. Therefore it might prove useful for organizations with limited access to computational facilities or with an extremely large number of interacting service departments where the matrix inversion on a computer might be time consuming and subject to considerable round-off error. In conclusion, it is awkward to have allocation methods yield different results depending on the treatment of self-service costs. The allocations should depend upon the properties of the interaction terms in the matrices and not on the treatment of the self-service cost.

In this article the authors comment on the manuscript "Sampling for Integrated Audit Objectives--A Comment," written by Edward Blocher, published in the July 1978 issue of the journal "The Accounting Review." The three methods discussed in Blocher's paper are reasonable, but there are many other possible approaches, as discussed in the literature in psychology, statistics and measurements. The question of which is better can be settled only through actual experiments. Some of the extensions and refinements discussed in the paper may be useful and improve the overall effectiveness of auditors' sampling, provided that they do not cause serious difficulties in estimating a far greater set of parameters than that required under our original formulation. Needless to say, there is a trade-off between the complexity of a model and the ease of implementation in an actual situation. The issue stated in the fifth paragraph is of minor importance, but the authors wonder how much practicing auditors would agree with the author's statement, many auditors in practice may not make corrections if the aggregate effect of the errors is not material.

The risk classification of commercial bank loans is performed by loan officers, bank controllers, auditors, and bank examiners. Despite the importance of this classification decision, little empirical research has been performed to explain this subjective evaluation procedure. In this paper, a simple linear model is developed which reproduces most of the lending officer's classification decisions. Two variables, a debt-to-total-assets ratio and a funds-flow-to-fixed-commitments ratio, provided most of the explanatory power, but a sales trend variable was also significant. For some of the loans for which the model and the actual classification differed, the model's classification was found to be an advance indicator of a subsequent reclassification by the lending officer. The simple three-variable linear model provided much better predictions of loan risk classification than did two popular bankruptcy prediction models.