European Accounting Review

Vol. 20, No. 1, 41– 51, 2011

Good Analytical Research

JOHN CHRISTENSEN
Department of Business and Economics, University of Southern Denmark, Denmark

(Received: September 2010; accepted October 2010)

ABSTRACT The purpose of this commentary is to address the issues raised by Ohlson
from the point of view of analytical accounting research. The aim is not only to provide
some input to young researchers who are going to publish good research using
analytical methods, but also to give some hints to help users of analytical accounting
research to understand and interpret the findings of this type of research. Ohlson has
taken on a task of identifying a set of critical factors which are likely to lead to
successful research. Good research is defined as research that makes an impression.
Thus, it is not enough to get the research published – not even in a premier journal.
The research should have an impact, the community should learn something. As Ohlson
notes, there is enough ‘ordinary’ research. In my view this is the right attitude. Short-
term optimization is also widespread in the research community and that is not what we
should strive for. With the objective in place, I will continue to analyze the question in
relation to analytical research. I start out discussing the aim of analytical research by
providing a few examples of good models. The first is the Feltham-Ohlson model and
the second is the agency model. Both are simple and elegant models dealing with
difficult issues. The analysis proceeds to characterize good models. A good model is a
simple model that zooms in on the problem under scrutiny. It is a ‘minimal’ model that
contains the problem and nothing outside the problem. I then proceed to characterize
good research in an analytical framework. This is research that tackles a problem that is
of interest to the users and the researcher. In this process I also identify current notable
analytical research. Finally, I contrast this to the recommendations of Ohlson.

About Analytical Research in Accounting

Theory is one way of organizing our knowledge of a subject. We have lots of
information about accounting that stems from casual observations, the systematic
collection of data of market response to accounting information, and experi-
ments. To sharpen our thinking about inherent relationships in the accounting

Correspondence Address: John Christensen, Department of Business and Economics, University of

Southern Denmark, Campusvej 55, DK-5230 Odense M, Denmark. E-mail: jcn@sam.sdu.dk

0963-8180 Print/1468-4497 Online/11/010041–11 # 2011 European Accounting Association

DOI: 10.1080/09638180.2011.559030
Published by Routledge Journals, Taylor & Francis Ltd on behalf of the EAA.
42 J. Christensen

domain a special branch of accounting research is devoted to the construction and

analysis of models of accounting influences on economic activity within an
organization or in the financial markets.
The idea of analytical research is to build a model of some phenomenon. The
starting point of the analysis is a set of primitive assumptions that often reflect the
generally accepted ways to represent the users and/or producers of financial
information as well as the structure of the problem. The analysis then proceeds
to derive the results using formal logic or some results from mathematics or econ-
omics. This might serve many purposes and the common denominator is to learn
about the underlying structure of accounting.
Theory is a special form of data compression, which allows us to forget about
some of the finer details and yet understand a complex relationship. Sims (1996)
pointed that out for the field of economics. This data compression is not without
error since accounting is a product of human activity and it is likely that many
different factors influence the choice of accounting. Consequently, we should
expect that a theory does not capture the total effect of all incidents. A theory
will provide a first-order approximation of the problem, and it is likely that the
model will contain errors as many factors are left outside the analysis. The sec-
ondary factors will be included in the error term. For any interpretation of the
theory we must expect error terms, and these might in some cases be quite
large. The theory is concerned with the big picture.
It is easy to construct a complex model of most observed relationships. Such a
model most often leads nowhere since it is impossible to disentangle the effects of
different forces, and consequently the model leads to no clear-cut results or
insights. A model has to be simple at the cost of missing something of minor
importance. It contains exactly the main ingredients that make up the problem
under scrutiny and nothing else. In that sense, there is an art to modeling. Mod-
eling also requires many technical skills and the cost of entering the world of
analytical accounting appears to be very high. Yet most successful models
(and their analysis) do not require a high level of mathematical sophistication,
and certainly the insights gained from such research do not require such sophis-
tication. The point is that doing analytical research and understanding the results
of analytical research do not necessarily require a high level of technical skills.
Most of the good research in this area stems from very simple models with a
simple interpretation. The findings of the research can be explained without
going into the details of the analytical structure. Most models are used for training
the intuition, whereas the construction and analysis of the model maintain the
internal consistency. Simplicity of modeling is a virtue and almost a must.
The cost of simplicity is that a given model only addresses a specific relation-
ship. Other and perhaps relevant problems are left outside the analysis. That is
part of the game and it is important not to pretend that the analysis provides
insights about the parts of the problem that have been left outside the analysis.
A model is an abstraction of a real phenomenon. As noted, it should be a simple
model. It should also be a model of a real-world problem that the readers find
 Good Analytical Research 43

interesting. Thus, it should be obvious what the model tries to illustrate and it
should also be evident that the problem addressed should be endogenous to the
analysis. As a consequence, it should be transparent how the model relates to
the corresponding real-world problem. The model description should specify
what is included and what is excluded from the model.
It is important that the problem addressed has some appeal. It should be a
problem that is of importance to a large set of issues of interest to accountants.
It is even better if many have been struggling to get a better understanding of
the problem or if it opens a new alley of thoughts.
A couple of examples of good models might be well placed to illustrate these
points. One is taken from classical accounting valuation and exemplified by the
Feltham-Ohlson model. The other is taken from performance evaluation in the
form of the classical agency model of Holmström.

The Feltham-Ohlson model

The relationship between valuation and accounting has always been a puzzle. The
relationship is indirect and expectations provide a key to its understanding. The
Feltham-Ohlson (1995) model suggests one solution to the puzzle. The value of
an asset is often thought of as the net present value of the future dividends that are
paid to the owners. This model contains no relation to accounting and conse-
quently the model is useless for getting insights about accounting. The clean
surplus relationship is used by Feltham and Ohlson to introduce the link
between accounting and market valuation. One definition of the clean surplus
condition is that all changes in accounting value flow through the income state-
ment. When the clean surplus relationship holds, the accounting profits over the
lifetime of the firm are equal to the cash flows over the same period. The net
present value of future cash flows is transformed to the following accounting
valuation model:

!
T
E(Vt ) = BVt + E(RIs )(1 + r)−(s−t)
s=t+1

The model describes the difference between the book value and the market
value of a firm and it establishes that this difference is explained by the dis-
counted value of the residual income for the remaining periods. Hence, the
expected error in the accounting value is picked up by the expected residual
income. The model is useful for the analysis of the consequences of different
accounting methods as demonstrated by Ohlson (1995) and Feltham and
Ohlson (1995). The model provides an accounting based representation of
the value of the firm. Thus, the model uses the institutional structure of
accounting and provides an example of a very simple model, which leads to
deep insights.
44 J. Christensen

The model has also been extended to describe the income dynamics. The easy
version of this is just adding an error term. This adds to the complexity of the
model. The identity of the cash flows and the accounting income over the lifetime
of the company continues to hold. However, one dynamic model will describe the
cash flow series, whereas the income series might be explained by a totally differ-
ent dynamic model. Thus, the inclusion of the accounting variables in the valua-
tion equation changes the time series equation as additional noise terms are
added. Empiricists use this model to form the theoretical basis for their models
of the time series behavior of accounting numbers.
The Feltham-Ohlson model is well suited for thinking about the relationship
between accounting value and market value. It places a focus on the accounting
representation of forecasts and information (Christensen and Feltham, 2003). The
model emphasizes the anticipated generation of value with a basis in book value.
Consequently, it provides a framework for the analysis of different accounting
methods, as it specifies the relevant terms in the valuation equation.
The model does not provide a framework for analyzing the choice of account-
ing methods. The missing link is the mechanism governing the choice of account-
ing method and it is not included in the model: the incentives of management for
choosing a specific method are outside the model, as are the behavioral assump-
tions of the accountant. The model only includes the valuation consequences of
the choice of accounting method for the valuation exercise. The model has to
contain the problem to be analyzed. Otherwise, the model has no say about the
problem. The problem has to be endogenous to the model.

The Agency Model

The basic agency model, in my view, provides another example of a good model.
It is based upon a set of very primitive assumptions and the insights gained from
the model are fundamental to our understanding of the performance evaluation
problem. The assumed firm consists of two individuals both adhering to the
Savage (1954) axioms and behaving as if they had a weak risk-averse utility func-
tion and the agent also has utility for the act selected. The owner’s only concern is
the pecuniary outcome. This is the fundamental conflict of interests. Only the
final outcome is observed and depends non-trivially upon the action which is
selected by the agent. Additionally, the outcome is uncertain. The model was
first formulated by Spence and Zeckhauser (1971) and Ross (1973). Also the
work of Wilson (1968) was fundamental to the development of the model.
These models were based upon the state, act, outcome formulation of decision
under uncertainty as suggested by Savage (1954). Except for demonstrating
that the first best and the second best solutions were different, this formulation
led nowhere. The classical formulation involving a state variable turned out to
be useless. The problem was reformulated by Holmström (1979) inspired by
Mirrlees (1974). In this formulation, the state variable was suppressed and the
outcome was seen as a random variable with a probability distribution that
 Good Analytical Research 45

depends upon the act (selected by the agent). The Holmström formulation of the
agency problem assuming the principal owner is risk neutral has the following
form:

MaxE(x − I(x, y)|a∗)

"
s.t. E[U((I(x, y), a∗)"a∗] ≥ E[U(I(M), aM )]
"
a∗ [ arg max E[U(I(x, y), a)"a]

The incentives for selecting the act are encoded in the payment schedule, I. The
density function for the outcome is denoted by f(x,y) and it is assumed that the
principal takes the market alternatives, M, of the agent into consideration
through imposing a minimal utility level for the agent. The new formulation
led to the well-known characterization of the optimal incentive contract. That is:

1 fa (x, y|a)
=l+m
U ′ (s(x, y)) f (x, y|a)

In the absence of an incentive problem, the latter constraint of the optimization

problem is not binding and the Lagrange multiplier, m, is zero. In that case, all
risk is absorbed by the principal and the agent is paid a fixed salary. When
there is an incentive problem, it is the information content in the outcome
about the action that determines the compensation, and furthermore it follows
that an additional information system is of value if it provides non-trivial infor-
mation about the unobservable act that is selected by the agent.
The characterization of the optimal compensation function as suggested by the
first order condition is not nice as it does not result in finding a closed form sol-
ution for the compensation function in most cases. From that perspective, this
model is not nice. However, it is unique with respect to evaluating the value of
additional information and has led to an important new insight into the perform-
ance evaluation problem. The focus of the performance evaluation is not on the
results of the operation but more on the unobserved inputs. Furthermore, it is not
the size of the performance indicator that is important but the information content
of the observed indicator. Finally, the research has led to the understanding of the
inclusion of non-controllable performance indicators in the performance evalu-
ation because they provide information that helps in interpreting the other per-
formance indicators. This is pointed out in the analysis of Antle and Demski
(1988) following the paper by Merchant (1987).
Due to the mentioned difficulties associated with the general agency model, a
linear version (the LEN model) is often used. A rationale for going to the linear
model is that we mostly observe linear compensation functions. The simplifica-
tion has its advantages, especially when the model is used to analyze the conse-
quence of multi-tasks for the value of information systems and to address
comparative statics such as the relative weights associated with the information
46 J. Christensen

variables. One example of an insightful model using this framework is the

Feltham-Xie (1994) model. Using the LEN model, it is very easy to demonstrate
what happens if only one performance measure is employed to motivate the
agent. Then it is only possible to implement a very limited set of actions, as
the performance measure only provides an incentive to some combinations of
the multiple actions. This leads to two causes for inefficiency. One is inefficient
risk sharing and the other is non-congruity of the performance measure. These
effects were already found by Gjesdal (1981), but the results are much easier
to grasp when they are presented in a linear framework. When seen as part of
the LEN model, this is quite intuitive and is easy to transplant to a practical
setting. The results of Gjesdal prove the generality of the finding in the sense
that it is not restricted to the simple linear model.
However, simplified models also call for caution. When addressing the effect
of additional information in a LEN model, a new variable might be useful despite
the fact that it does not contain any new information, leading to the erroneous
conclusion that the new variable does contain valuable information. The
additional variable is only used to loosen the linearity constraint. The point is
that the linear model is not constructed to analyze information issues.

Good Modeling
A good model presents a minimal representation of a complex problem. Good
models start from a set of primitive assumptions, which are descriptive of the
problem they are supposed to analyze. In addition, there might be a few assump-
tions that make the problem tractable. The primitive assumptions are generally
accepted assumptions of rational behavior in organizations and economic
relationships. Rational behavior is often questioned as an unrealistic assumption
in the sense that nobody is able to behave that way. On the other hand, if ration-
ality in some form is not imposed, all behavior is allowed and, as a consequence,
we might obtain exactly the result ‘we’ want. Absent an assumption of ration-
ality, there is simply no internal mechanism that prevents strange results from
being obtained. Consequently, we learn nothing from the results. The assump-
tions on the economic relationships serve a similar purpose of characterizing
the setting for the analysis. These must be carefully crafted to serve as the
basis for a sound analysis.
An important part of success in modeling and analytical work is to provide a
simplification of the setting. That means taking the real world setting and trans-
planting it into an abstract setting. In doing this, it is important to simplify in
order to make the problem tractable and maintain the key part of the problem.
This is the art of analytical work. The Holmstrom formulation of the agency
problem is one example of a very simple model of a complex problem. There
is a conflict of interest, non-observability of the action and the sharing of risk
in a problem setup with two rational individuals. Many details have been left
out, in particular the psychological encounter of the two persons. This leads to
 Good Analytical Research 47

the very strong result that the information content of the accounting variables is
what matters. More precisely, it is the information about the act selected that is
at stake. It also leads Demski (2008) to conclude that if we want to analyze
performance evaluation from an economic perspective, we have to carry a
package consisting of risk aversion, uncertainty, and an inherent conflict of
interest. From that perspective the agency model forms a minimal representation
of the performance evaluation problem.
Different simplifications are used for different purposes. A model is usually
constructed to show a specific cause and effect relationship, leaving other
effects outside the focus. The classical agency model is used to highlight the
properties of information for performance evaluation. If the centerpiece of the
analysis is how to provide incentives for a balanced set of action choices, a
linear model might be a better choice.
A model takes a set of assumptions and then generates insights through logical
derivations originating from the set of assumptions. Mathematical results or
economic insights might be used in the derivations, but these are also based
upon logical derivations and consequently they can be thought of as part of the
derivations. The key to an evaluation of the research is found in the assumptions.
I placed the assumptions in two categories, the primitive assumptions and the
tractability assumptions. As mentioned, the first category contains generally
accepted assumptions concerning rational behavior and the economics of the
firm. These are hardly questionable as they are generally accepted, but in rare
cases they might be conflicting and this should translate into questioning the
research. More important are the assumptions labeled as tractability assumptions.
These assumptions are more often in conflict with good research or good model-
ing. In some cases, the assumptions are such that the results are ‘assumed’ and not
derived. This leads to no new insights and it is not labeled as good research.
Only when there is some level of generality to a model is it classified as a good
model. This might even be true when the model is an example in disguise. The
extreme case of this is provided by examples that are used to illustrate more
general points. The paper by Antle and Demski (1988) qualifies in this respect
since the analytics of the paper is almost just a series of examples; however,
the close tie to the general agency model of Holmström (1979) conveys the
message that the findings and interpretations of this paper are very general.

Good Research
The examples I have used for my discussion have been very classical models of a
very general nature. Analytical models are found useful in all types of accounting
research and many different types of models are used. The purpose of this discus-
sion is not to provide a complete survey of existing models in accounting
research. However, it might be useful to point to examples of good models that
have appeared recently in the literature. The papers by Beyer (2009), Christensen
et al. (2010), Gigler et al. (2009), Göx and Wagenhofer (2009, 2010), and
48 J. Christensen

Hemmer and Labro (2008) all address problems from the financial accounting
arena. Christensen and Demski (2007) provides an analysis of accounting regu-
lation. Various types of performance evaluation problems have been analyzed
by Baiman and Baldenius (2009), Budde (2009), Demski et al. (2009), Dikolli
et al. (2009), and Drymiotes (2008). More general issues related to using the
accounting system to provide incentives are found in Dutta and Fan (2009),
Fjell and Foros (2008), Nagar et al. (2009), Pfeiffer and Velthuis (2009), and
Rothenberg (2009). Models of costing problems have been the subject of the
papers by Labro and Vanhoucke (2007) and Rajan and Reichelstein (2009).
Finally, auditing problems are addressed by Laux and Newman (2010) and Lu
and Sapra (2009).
The inspiration for doing good analytical research is an open field. Somehow
all good accounting research is rooted in empirical observations and that is also
true when it comes to analytical research. It might take on many forms and be
observed more or less directly by the researcher.
One common place to get inspiration is found in other pieces of analytical
research. Often the research only contains a minor extension or change in the
assumptions of existing studies. This type of research only rarely leads to good
research. However, when the analysis leads to correcting a faulty analysis or
making a sweeping generalization, the result might be very good research.
Inspiration might also stem from empirical research or casual observation. This
might be textbook conjectures or it might be case studies. The motivation for
doing the analytical part of the research is then that the present suggested expla-
nations for the finding are unsatisfactory in the sense that they only see part of the
problem or that the research design is inadequate for drawing the reported con-
clusions. In such a context, the analytical research is able to produce a model
that will potentially lead to a satisfactory explanation of the problem. This is a
good source of inspiration for doing good analytical work.
In this strategy for finding good research problems, there is a hidden acknowl-
edgement of division of labor. We should not all do empirical research.
I do believe firmly in division of labor. Each researcher should follow his or her
comparative advantages and interests when it comes to carrying out research. The
net result is different types of research that complement each other, with each
having different strengths and weaknesses, as suggested by the discussions by
Ohlson and Chua.
The most important part of good research is the problem. It should be an inter-
esting problem that the user of the research can identify as a problem it is worth-
while spending some time analyzing. The researcher has to sell his or her paper
by showing that this is an interesting problem to analyze. The analysis must be as
simple as possible to keep the reader’s attention. Consequently, I made the earlier
call for a simple model containing only the necessary assumptions for the
problem. It is important that it is demonstrated that the model captures the
problem and it is equally important that the insights obtained from the analysis
are interpreted in the original problem along with the limitations of the study.
 Good Analytical Research 49

As in empirical research, the prior expectations regarding the potential results

are a driving force for the analytical research. In most cases, the researcher is
trying to construct a model that will confirm his or her conjectures. They
might not prove to be true, but nevertheless the researcher has priors. Construct-
ing a model without an idea of where it leads is a dead end. This is important to
keep in mind when doing analytical work and when interpreting analytical work.
The model is constructed with a specific purpose in mind. After the research is
completed it might look simple, but it might not have been that simple during
the process.
In most cases, my observations coincide with Ohlson’s insight on successful
research. A simple model, straightforward ideas, and the simplest possible expla-
nations are all important for making an impression through the research. Success-
ful research takes on a slightly different form when it comes to modeling, but the
substance remains. Finally, I will add a note on the incentives to do successful
research. If a researcher succeeds in producing remarkable research, it is worth-
while from most perspectives. The research community will acknowledge the
results and eventually it will get through to the dean’s office or to the job
market. However, it is a risky strategy to pursue. Given the incomplete measures
of publication record and impact factors, many researchers give in and go for the
easy and short-run gold in the form of publications with no chance of making an
impression. This temptation is perhaps in particular found in Europe, where the
funding of research is public. Funding of university research follows the incom-
plete measures of aggregate publication and impact, and that is in many cases
transformed directly to promotions. If such a strategy is followed unconsciously,
it will eventually lead to our journals being flooded with uninteresting research. I
hope that will never happen. The research community (including the deans) must
continue to strive for successful research.

Acknowledgment
I am grateful to Salvador Carmona for encouraging me to engage in this discus-
sion and for constructive comments.

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 Good Analytical Research 51

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