International accounting systems: research theories and methodologies

International accounting - Evaluate research theories and methodologies to classify accounting systems internationally

The necessity of accounting standards is given by the fact that financial statements should describe financial performance in a fair and consistent manner. Lacking standards, users of financial statements would be required to master the accounting rules of each company, and any comparison between companies' performances would be almost impossible.

Accounting standards are essential to the healthy development of an international financial reporting structure. Around the world several accounting traditions have been developed as a response to the needs of users who are in need of the financial information. Some countries, for instance, chose to build the structure of accounting standards around the needs of private creditors, while other countries were more concerned with the needs of tax authorities or central planners. As a characteristic of the United States, the needs of participants in the capital markets have been taken into account when such standards were developed.

Accounting standards mean that a comprehensive set of neutral accounting principles exists; such principles require consistent, comparable, relevant and reliable information, which proves useful for investors, lenders and creditors, and any other players on the capital allocation market. Accounting standards are paramount to the efficient functioning of a market economy, as decisions on how to allocate capital rely on credible and accessible financial information.

If someone issues financial statements and uses more than one accounting standard, it may prove tricky to explain to any other party the accuracy of the different sets of financial statements if significantly different operating results, financial positions or cash flow classifications are reported for the same period. One might have questions about the credibility of an entity's financial reporting, if the differences demonstrate that concealment of poor financial performance, lack of profitability, or deterioration of the quality of assets are effects of one approach.

Accounting standards commonly used today in the United States are known as Generally Accepted Accounting Principles (GAAP). The term "generally accepted" is applied because either an authoritative body has set them or the accounting profession has accepted them and uses them on a large scale.

The Securities and Exchange Commission is a U.S. regulatory agency that has the authority to establish accounting standards for publicly traded companies. Each company has to file certain reports with the SEC, under the provisions of The Securities Act of 1933 and the Securities Exchange Act of 1934 (e.g. form 10-Q must be filed quarterly and 10-K annually). Although no standards-issuing body existed when the SEC came into existence, rather then setting these standards, the SEC chose to let the private sector deal with the problem and set them on its own.

In 1939, the American Institute of Certified Public Accountants (AICPA) formed the Committee on Accounting Procedure (CAP), following the recommendations of the SEC. Until 1959, CAP issued 51 accounting Research Bulletins that dealt with specific problems as they arose. CAP didn't have much success because it failed to develop a general accounting framework, and focused on emerging issues. AICPA replaced CAP, in 1959, with the Accounting Principles Board (APB), which issued 31 opinions and 4 statements until 1973, when it was dissolved. GAAP is a direct result of the opinions of the APB. The APB attracted criticism on its structure and its positions on several controversial issues; so, in 1971 the Wheat Committee (chaired by Francis Wheat) was formed, its objective being the evaluation of the APB and the planning of its future.

The Wheat Committee decided that a new standards-setting structure is more appropriate and recommended that the Accounting Principles Board be replaced. This new structure was established in 1973 and was made up of three organizations: the Financial Accounting Foundation (FAF), the Financial Accounting Standards Board (FASB) - the primary operating organization - and the Financial Accounting Standards Advisory Council (FASAC).

Unlike the APB, FASB was conceived to be an independent board; its members were not part of private companied anymore, as they chose to sever their ties with their employers. While AICPA is empowered to issue audit guides, FASB's job is the issuance of statements regarding the financial accounting standards, which define GAAP. If a conflict should occur, FASB has the right to decide on its outcome.

The Financial Accounting Standards Board (FASB) has been designated in 1973 to act as an organization in the private sector, concentrating its efforts on establishing standards of financial accounting and reporting. The preparation of financial reports is made in accordance to the provisions of these standards. They are officially recognized as authoritative by the Securities and Exchange Commission (SEC) (Financial Reporting Release No. 1, Section 101) and the American Institute of Certified Public Accountants (AICPA) (Rule 203, Rules of Professional Conduct, as amended May 1973 and May 1979). Investors, creditors, auditors and other involved parties have to rely on credible, transparent and comparable financial data; therefore, the standards issued by FASB are essential to the efficient functioning of the economy.

The Mission of the FASB is to set and constantly improve standards of financial accounting and reporting, its final purpose being the guidance and education of the public, which included issuers, auditors and other users of financial information.

Broad accounting concepts as well as standards for financial reporting are constantly being developed by FASB, which should also provide guidance on the implementation of standards. The Board works with concepts as they are useful when setting standards, and they also manage to provide a frame of reference, or conceptual framework, which is the base for resolving accounting issues. The framework establishes limits for judgment in preparing financial information and aims at "increasing understanding of, and confidence in, financial information on the part of users of financial reports. It also will help the public to understand the nature and limitations of information supplied by financial reporting.

The Board's work on both concepts and standards is based on research aimed at gaining new insights and ideas. Research is conducted by the FASB staff and others, including foreign national and international accounting standard-setting bodies. The Board's activities are open to public participation and observation under the "due process" mandated by formal Rules of Procedure. The FASB actively solicits the views of its various constituencies on accounting issues."

The International Accounting Standards Committee (IASC) was formed in 1973 and its mission is the encouragement of international cooperation in developing consistent worldwide accounting principles. In 2001, the IASC was replaced by the International Accounting Standards Board (IASB), which is similar to FASB, as its structure is that of an independent private sector body.

The IAS (International Accounting Standards) is a set of standards that state the way in which financial statements should reflect particular types of transactions and other events. Despite the fact that IASB lacks formal authority and is not entitled to ask for compliance with its accounting standards, many countries, including those in the European Union, require the financial statements of publicly-traded companies to be prepared as provided by the IAS.

As to the global spread of the implementation of the International Accounting Standards, it would seem that "many countries already endorse International Accounting Standards (IAS) as their own either without amendment or else with minor additions or deletions. Furthermore, important developments are taking place in the European Union, where the European Commission is progressing proposals that will require all listed companies in the European Union to prepare their consolidated financial statements using International Accounting Standards. Already, both inside and outside the EU, many leading companies have stated that they prepare their financial reports in accordance with International Accounting Standards. Other countries do not permit companies to use IAS (International Accounting Standards) without reconciliation to domestic generally accepted accounting principles. Most notable among these countries are Canada, Hong Kong, Japan, and the United States."

The body which governs the development of the IAS is the International Accounting Standards Board (IASB), an independent and privately-funded accounting standard setter with its headquarters in London, UK. The Board has an international composition, as its members come from nine countries and have different backgrounds. The Board's intention is to develop a "single set of high quality, understandable and enforceable global accounting standards that require transparent and comparable information in general purpose financial statements," in the public interest. To ensure its success, the Board constantly cooperates with national accounting standard setters in order to achieve convergence and to rapidly implement the same standards around the world.

In April 2001, the International Accounting Standards Board announced that the new designation for its accounting standards is "International Financial Reporting Standards." The Interpretations of International Accounting Standards issued by the International Financial Reporting Interpretations Committee (IFRIC) (which was formerly known as the "Standing Interpretations Committee" (SIC)) don't have the same status as the IAS, but, in accordance with IAS 1, Presentation of Financial Statements, paragraph 11, "financial statements should not be described as complying with International Accounting Standards unless they comply with all the requirements of each applicable Standard and each applicable interpretation of the Standing Interpretations Committee."

Regarding the cooperation between the two major accounting standard setters in the world, the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) have issued, on the 29th of October 2002, a memorandum of understanding which represents an important step toward formalizing their commitment to the convergence of United States and international accounting standards. The agreement in October 2002 is proof that FASB and IASB are trying to adopt compatible, high-quality solutions to both present and future accounting issues.

The state and local government entities do not have the same needs as businesses, when it comes to financial reporting. Therefore, they do not use standards that are directly comparable to those of businesses. As a consequence, the Governmental Accounting Standards Board (GASB) was formed in 1984, its purpose being the setting standards for the financial reports of state and local government. FASB served as a model for GASB.

There is a wide range of differences between IASB standards and U.S. GAAP and the impact of those differences on the comparability of the same financial statement prepared using each set of standards is quite significant, although not all differences will be meaningful to financial statement users trying to compare investment opportunities. Differences in methodologies for deriving financial information and the place in the financial statements where it is presented - which are important things that standard setters consider when developing accounting requirements - are less important for a CFO, who is primarily interested on whether the resulting financial information provided is similar. Two standard setters may have, for instance, different conceptual bases when establishing whether a particular recognition is to be made or measurement requirement to be fulfilled, but the resulting financial information could be the same for each standard. Therefore, the differences in these cases may not be felt by financial statement users.

According to SEC, the differences between IAS and U.S. GAAP may be classified in five categories: recognition, measurement, alternatives, lack of requirements or guidance, and other differences. As a result, significant differences in reported financial information may appear, from both conceptual and practical standpoints. One of the most debated problems in the world of the accounting standard developers is whether some items should be even recognized or how they should be measured. The differences are tough to overcome because there may not be any information available for the ordinary statement user that would help reconcile the differences. Although some differences may be temporary (e.g. The timing of recognition may be short-term), some are permanent (e.g. differences in accounting for a business combination which have long-term effects on the comparability of financial statements.)

Also, one might find less-significant differences between IAS and U.S. GAAP that would complicate the analysis and comparison of financial statements (e.g. presentation and display of similar items are sometimes different, which may prove to be a burden for financial statement users when it comes to making comparisons. Definitions are not always identical, and that leads to the situation where two items have similar names but different content, which further complicates the life of financial statement users.

It is almost impossible to determine all of the causes of differences between IAS and U.S. GAAP. Some differences exist because the very nature of the standard setters themselves. Although their mission is the same, i.e. improving the quality of financial reporting and increasing international comparability, the environments they target are somehow different. FASB focuses primarily on the U.S. economic environment, so U.S. GAAP are more detailed, as a response to a demand from sophisticated financial-statement users for reliable, high-quality financial information. IAS are developed as a response to various perspectives on financial information, which may find one topic more relevant and reliable than another. As a result International Accounting Standards tend to be more general, simply because they are international, and a more specific approach, at a national level, may be required. FASB concentrates on the particular economic environment of the United States, which makes them unsuitable for certain countries.

The differences that most concern financial statement users are the ones that result in major differences when comparing statements of companies that use IAS with the ones of companies that use U.S. GAAP. Such differences may prove very difficult to compensate, so reported information for a given period may not be comparable. According to SEC, the types of differences of greatest significance in comparing financial statements may be classified as follows:

1. Recognition differences. Differences in recognition criteria and guidance for initial or subsequent recognition of the same financial statement item can lead to differences in:

Whether that particular item is recognized at all.

How recognition of that item affects the financial statements (for example, capitalization of an item on the balance sheet vs. expensing that item as incurred in the income statement).

When (that is, in what reporting period) the item is initially recognized.

2. Measurement differences. Different approaches to initial or subsequent measurement can lead to differences in the amounts recognized for the same item in financial statements. For example, one standard might require that an item be subsequently measured at amortized cost, while its counterpart might require the same type of item to be revalued to current cost or fair value in each reporting period.

3. Alternatives. Differences can arise when one standard permits a choice between two or more alternative methods of accounting for a similar transaction, but its counterpart requires use of a single method. For example, one standard might permit an item to be either capitalized or expensed as incurred, but its counterpart might require the same item to be expensed as incurred. When alternatives are permitted, that can also lead to differences between the financial statements of two enterprises following the same set of standards.