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Current Issues In Accounting : International Accounting Differences between Countries. Harmonization Of Accounting Standards. Convergence of Accounting Standards.

Prepared By :

NAZIR AHMED Audit Trainee Ernest & Young ( Authorized Trainee Employer ) The Institute of Chartered Accountants of England & Wales Email : nazirahmed.ca@gmail.com

International Accounting : Differences between Countries :

Historically, accounting and reporting grew up largely independently, and often very differently in different countries. Practice, regulation and especially the mode of regulation differed often very greatly. Considerable differences exist across countries in the accounting treatment of many items. For example, companies in the United States are not allowed to report property, plant, and equipment at amounts greater than historical cost . In contrast, companies in the European Union are allowed to report their assets on the balance sheet at market values. Research and development costs must be expensed as incurred in Japan, but development costs may be capitalized as an asset in Canada and France. Chinese companies are required to use the direct method in preparing the statement of cash flows, whereas most companies in the United States and Europe use the indirect method. Differences in accounting can result in significantly different amounts being reported on the balance sheet and income statement.

Current Issues In Accounting

CAUSES FOR DIFFERENCES INTERNATIONAL ACCOUNTING :

Why do financial reporting practices different across countries? Accounting scholars have hypothesized numerous influences on a country’s accounting system, including factors as varied as the nature of the political system, the stage of economic development, and the state of accounting education and research. A survey of the relevant variables has identified the following items as graphical presentation being commonly accepted as factors influencing a country’s financial reporting practices.

Overview of graphical presentation for causes of differences :

Accounting Practices

Providers Of Capital

Taxation System

Other Influences

Legal System

National Culture

Figure : Causes of differences in Accounting Practices

: CAUSES FOR DIFFERENCES INTERNATIONAL ACCOUNTING (Cont) :

Legal system :

The Accounting world can be divided into “those countries which have a ‘legalistic’ orientation toward accounting and those with a ‘non legalistic’ orientation” The non-legalistic approach can be found in countries, which use common law. In common law countries, Accounting does not depend upon law. Accountants (professional organizations) arrange accounting rules. The task of the legal system is to give an answer to a specific case rather than to formulate general rules for the future.

The legalistic approach can be found in countries, which use the so called code (or codified) law. In contrary to the common law, the codified law system needs to develop rules in detail for the Accounting and financial reporting. This means that “Accounting rules are incorporated into national law and tends to be highly prescriptive and procedural”. In these countries the role of law is to describe behavior, which is considered to be acceptable in the society.

: CAUSES FOR DIFFERENCES INTERNATIONAL ACCOUNTING (Cont) :

An overview on legal systems, shown in the table below :

Common Law Code lawEngland and Wales FranceIreland ItalyUnited States GermanyCanada SpainAustralia NetherlandsNew Zealand Portugal

Japan (Commercial Law)

Taxation : In some countries, published financial statements form the basis for taxation (North America, EU) , whereas in other countries, financial statements are adjusted for tax purposes and submitted to the government separately from the reports sent to stockholders (Germany, France & Japan). Providers of Capital : The major providers of financing for business enterprises are family members, banks, governments, and shareholders. In those countries in which company financing is dominated by families, banks, or the state, there will be less pressure for public accountability and information disclosure. Banks and the state will often be represented on the board of directors and will therefore be able to obtain information necessary for decision making from inside the company. As companies become more dependent on financing from the general populace through the public offering of shares of stock, the demand for more information made available outside the company becomes greater. It simply is not feasible for the company to allow the hundreds, thousands, or hundreds of thousands of shareholders access to internal accounting records. The information needs of those financial statement users can be satisfied only through extensive disclosures in accounting reports.

CAUSES FOR DIFFERENCES INTERNATIONAL ACCOUNTING (Cont) :

CAUSES FOR DIFFERENCES INTERNATIONAL ACCOUNTING (Cont) :

There can also be a difference in financial statement orientation, with stockholders more interested in profit (emphasis on the income statement) and banks more interested in solvency and liquidity (emphasis on the balance sheet). Bankers tend to prefer companies to practice rather conservative accounting with regard to assets and liabilities.

National Culture : National culture of countries influences Accounting Practices. how national culture could influence Accounting Practices of countries. Generally the influence of the following variables :

Large versus small power distance. Strong versus weak uncertainty avoidance. Individualism versus collectivism and. Masculinity versus femininity.

CAUSES FOR DIFFERENCES INTERNATIONAL ACCOUNTING (Cont) :

Other Influences : Another influence on Accounting Practices can be called `factor of accident of history. Accidents of history refer to rules of practices of Accounting, which developed due to crisis or shocks of systems in general. To such kind of accidents of history belong for example collapses of companies or financial crisis like in the beginning of the 1920`s when the German and US stock markets collapsed. In the United States this accident of history resulted in the creation of the Securities Exchange Commission and stricter Accounting regulations in order to protect the shareholder. In Germany the same accident leaded to Accounting regulations, which protect the creditors.

In some countries with high economic growth and hyperinflation, as for example in South American countries, inflation has a big influence on Accounting Practices as well. For example, a practice of general price-level adjustments instead of traditional practices of historical cost measurements.

CAUSES FOR DIFFERENCES INTERNATIONAL ACCOUNTING (Cont) :

Political and Economics Ties :

Accounting is a technology that can be relatively easily borrowed from or imposed on another country. Through political and economic links, accounting rules have been conveyed from one country to another. For example, through previous colonialism, both England and France have transferred their accounting frame works to a variety of countries around the world. British-style accounting systems can be found in countries as far-flung as Australia and Zimbabwe, Asia. French accounting is prevalent in the former French colonies of western Africa. More recently, it is thought that economic ties with the United States have had an impact on accountingin Canada, Mexico, and Israel.

Harmonization of Accounting Standards :

International accounting harmonization can be defined as “the process of bringing international Accounting Standards into some sort of agreement so that the financial statements from different countries are prepared according to a common set of principles of measurement and disclosure” .Harmonization means that deviating rules, which do not exclude themselves, can continue to exist next to each other. That means harmonization does not focus on the elimination of differences but on the reduction of contradicting rules. the aim of the international harmonization process of Accounting Standards is to reduce or overcome differences world-wide, in order to reach a better international comparability of financial statements .According to Meek & Saudagaran-harmonization has been broken down into two aspects: material and formal harmonisation.

Material Harmonization : Material harmonization refers to research from a practical point of view. That means that the harmonization of Accounting Practice applied by different enterprises, is regarded. It is about the consistency in actual application.

Harmonization of Accounting Standards ( Cont) :

Formal Harmonization : Harmonization in terms of formal harmonization is researched from a theoretical point of view, which means that the similarities and diversities between rules and regulations of different countries, clusters or groups are regarded .This concept considers only the formal aspect of harmonization.

As alternative to harmonization, three other ways can be thought of international accounting standard in order to make financial statements comparable :

Mutual recognition : Mutual recognition means that national financial statements are accepted abroad. The possibility of mutual recognition exists already in some countries like, for example, between the United States and Canada. This means for American companies that their financial statements based on US-Generally Accepted Accounting Principles will be accepted. Furthermore, mutual recognition is as well possible between European countries.

Harmonization of Accounting Standards ( Cont) :

Reconciliation : Reconciliation allows foreign companies to prepare financial statements based on Accounting Standards of their home country. The objective of reconciliation is to show major divergences between the Accounting Practices. Hence, thanks to reconciliation foreign investors receive data about assets and profits, which are based on their Accounting principles.

• Reconciliation makes the comparison for investors easier.• Another advantage of reconciliation is that it is less expensive, than preparing a full set of financial statements in accordance with foreign principles of Accounting.• However, reconciliation is only a summary and cannot provide a full picture of the company.• Another disadvantage of this approach is that it is still combined with costs, which would not exist, if there would be one set of international accepted Accounting Standards.

Harmonization of Accounting Standards ( Cont) :

Standardization : Another term, distinguished from harmonization, is standardization. It describes “a process by which all participants agree to follow the same or very similar Accounting Practices. The end result is a state of uniformity”. This state of uniformity is a condition in which everything is regular, homogenous or at least unvarying.

Benefits Of Harmonization :

There are various benefits of harmonization. First, for many countries, yet there is a codification of accounting and auditing standards are adequate. Internationally recognized standards will not only reduce the cost of preparing for these countries but also enables them to immediately become part of main stream accounting standards internationally.

Second, the growing internationalization of the world economy and the increasing interdependence of countries in the  with international trade and investment flows is the main argument of the existence of some form of accounting and auditing standards applicable internationally.

Harmonization of Accounting Standards ( Cont) :Third, the need of companies to obtain capital from outside, given the insufficiency of the amount of profit in the hold to fund projects and foreign loans are available, has increased the need for harmonization.

Harmonization of accounting include:

Harmonization of accounting standards relating to the reporting and assessment reports. Harmonization of corporate disclosures made public on the stock associated with the securities offering and listing on stock exchanges. Harmonization of auditing standards.

Explaining the pros and cons of international harmonization of accounting standards : Concept is more popular than the standardization of accounting standards in various countries is the concept of harmonization. Harmonization of accounting standards is defined as minimizing the differences in accounting standards in various countries. Harmonization can also be interpreted as a group of countries that agree on an accounting standard that is similar, but requires the implementation does not follow the standard should be disclosed and reconciled with mutually agreed standards.

Harmonization of Accounting Standards ( Cont) :Overview Of International Organizations That Promote Major Accounting Harmonization :

Six organizations have become a major player in the determination of the international accounting standards and in promoting international harmonization of accounting:1. International Accounting Standards Board (IASB)2. European Union Commission (EU)3. International Organization of the Capital Market Commission (IOSCO)4. International Federation of Accountants (IFAC)5. Intergovernmental Working Group of Experts of the United Nations on International Standards of Accounting and  (International Standard Accounting and Reporting), part of the union conference - the nation in trade and development (United Nations Conference on Trade and Development - UNCTAD)6. Working Group on the Accounting standards Organization of Economic Cooperation and Development (OECD Working Group)

Convergence of Accounting Standards History :

International convergence of accounting standards is not a new idea. The concept of convergence first arose in the late 1950s in response to post World War II economic integration and related increases in cross-border capital flows.

Initial efforts focused on harmonization—reducing differences among the accounting principles used in major capital markets around the world. By the 1990s, the harmonization was replaced by the concept of convergence—the development of a unified set of high-quality, international accounting standards that would be used in at least all major capital markets.

The International Accounting Standards Committee, formed in 1973, was the first international standards-setting body. It was reorganized in 2001 and became an independent international standard setter the International Accounting Standards Board (IASB). Since then, the use of international standards has progressed. As of 2013, the European Union and more than 100 other countries either require or permit the use of international financial reporting standards (IFRSs) issued by the IASB or a local variant of them.

Convergence of Accounting Standards

The following is a chronology of some of the key events in the evolution of the international convergence of accounting standards.

The 1960s—Calls for International Standards and Some Early StepsThe 1970s and 1980s—An International Standard-Setting Body Takes RootThe 1990s—The FASB Formalizes and Expands its International ActivitiesThe 2000s—The Pace of Convergence Accelerates: Use of International Standards Grows Rapidly, the FASB and IASB Formally Collaborate, and the U.S. Explores Adopting International Accounting StandardsOverview :The international convergence of accounting standards refers to the goal of establishing a single set of high-quality accounting standards to be used internationally, and the efforts of standard-setters towards achieving that goal. Convergence is taking place in various countries, with over 100 countries having made public commitments supporting convergence towards the International Financial Reporting Standards(IFRS).Efforts towards convergence include projects that aim to improve the respective accounting standards, and those that aim to reduce the differences between them.

Convergence of Accounting Standards Motivation :

Motivations for convergence include the belief that it will result in increased comparability between financial statements, which will benefit a variety of stakeholders. For example, the FASB believes that "investors, companies, auditors, and other participants in the U.S. financial reporting system" will benefit from converged standards because it will result in increased comparability between the financial statements of different firms. A 2008 report by PricewaterhouseCoopers (PwC) stated that convergence of accounting standards would contribute to the flow of international investment and benefit "all capital markets stakeholders" because it :

renders international investments more comparable to investors. reduces the cost of complying with accounting requirements for global businesses. potentially establishes a more transparent accounting system with greater accountability reduces "operational challenges" for accounting firms and gives standard-setters the opportunity to "improve the reporting model.

Convergence of Accounting Standards Criticisms :

The goal of and various proposed steps to achieve convergence of accounting standards has been criticised by various individuals and organizations. For example, in 2006 senior partners at PricewaterhouseCoopers (PwC) called for convergence to be "shelved indefinitely" in a draft paper, calling for the IASB to focus instead on improving its own set of standards. Nature of standards :

Other criticisms center around the nature of the converged standards. For example, some critics are concerned that convergence will increase the use of fair value accounting.

Other critics have also respectively cited shortcomings with rules-based and principles-based standards as reasons. Principles-based standards allow for "different interpretations for similar transactions, and have also been described as "less precise, while rules-based standards contain more exceptions , and use bright-line rules and specific details to deal with "as many potential contingencies as possible,

Convergence of Accounting Standards

The above-mentioned PwC senior partners expressed that convergence will lead to an accounting system that is too rules-based for non-US listed companies, while other critics conversely criticize the principles-based nature of the IFRS as making it difficult for preparers of financial statements to defend against litigation.

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