International Harmonization of Financial Reporting

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International Harmonization of Financial
Reporting
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Summary of Diversity Research Findings as of 1995

• Micro/macro, code-law and common law, were found
  to consistently be highly correlated with
  patterns of financial reporting around the world.
• Culture appeared to play an important role
  everywhere, but what characteristics dominated
  remained unclear.
• Inflation and trading relationships, in some
  countries, seem to matter a great deal.
• Economic variables were implicated but the
  importance of their role was unclear.

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These findings left many questions unanswered,
including the following

• Could diversity be reduced throughout the world?
  If so, how?
• Would it be wise to reduce diversity?
• If so, how much? What are the costs vs benefits
  of imposing upon the business world a reporting
  system with far less diversity?
• Would it happen by itself naturally?
• How could mandated changes be enforced?

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Beginning in the 1970s

• Efforts began to reduce financial reporting
  diversity.
• These early fledgling efforts were met with great
  resistance.
• Most of the early effort began in Europe, as an
  extension of the dream of many for economic and
  political unity on the European continent.
• The International Accounting Standards Committee
  (IASC) was also formed by professional accounting
  groups in 1973.

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In the 1980s

• Progress, though incomplete and imperfect, was
  made in Europe.
• The EU began to endorse changes in reporting
  practices.
• The 4th and 7th directives were implemented.
• EU directives were given the force of law.
• For the first time, some reporting diversity,
  especially in the extremes, was reduced.

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On the other hand

• The IASC floundered with a small staff and little
  support.
• It mostly issued low level, anything goes
  standards copied from others.
• Many countries, regardless of how economically
  significant, around the world were equally
  represented on the IASC.
• Most major economic players ignored the IASC.

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In the 1990s

• Berlin wall falls, and not long after, the USSR
  collapses with it.
• US capital markets take off, continuing an
  unprecedented bull run that drives share prices
  up, on average, over 1500 from 1982-1999.
• Many economies around the world go into steep
  decline (e.g., Japan and Russia).
• Bank capital becomes scarce.
• The Asian crisis occurs in 1998, sparked by the
  collapse of Indonesias currency, markets and
  economy.

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In the wake of these events

• American (corporate?) influence expanded
  dramatically.
• The importance of equity financing grew and
  shaped business interests around the world.
• Currency manipulations and shifts reached
  unprecedented levels as attempts were made to
  stabilize the world economy.
• The concept of harmonized financial reporting was
  given new credibility and support.

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• What is harmonization?
• Harmonization -- the process of increasing the
• level of agreement in accounting standards and
• practices between countries.

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Harmonization
Objective 1

• The two levels of Harmonization
• Harmonization in accounting standards, which is
  increased agreement in accounting rules.
• Harmonization in practice, which is increased
  agreement in actual accounting practices.
• Harmonization in standards may or may not result
  in harmonization in practice.

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Harmonization

• Harmonization
• Is different from Standardization.
• Harmonization allows for different standards in
  different countries as long as there are not
  logical conflicts.
• Standardization involves using the same
  standards in different countries.

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Some of the Significant Harmonization Efforts of
the 1990s and 2000s

• IOSCO
• Worked to achieve improved market regulation
  internationally.
• Worked to facilitate cross-border listings.
• Advocated for the development and adoption of a
  single-set of high quality accounting standards.

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The EU

• The EU achieved in monetary union in a phased-in
  fashion between 1999-2002.
• The EU also added many new members from Eastern
  Europe.
• The EU stopped making separate standards. As of
  2005, it requires members to use IFRSs.

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Harmonization Efforts

• IASB
• Preceded by the IASC (International Accounting
  Standards Committee).
• Works toward harmonization of international
  accounting standards.
• IASB was created in 2001.

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The Question of Credibility

• The crucial problem was how to be effective.
• SEC indicated an international standard-setter
  would have to be FASB-like, i.e., driven by
  expertise, not geography.
• EU wanted geographical representation to be
  emphasized.
• IASB decided to be expert-driven.

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History of IASB Why now (2001)?

• 198789- Beginning of effective attempts at IASC
  to reduce flexibility. IOSCO lobbies for common
  standards. E32 issued.
• 1995- IOSCO demands acceptable set of standards.
• Agreement between IASB and IOSCO that IASs can be
  used in cross-border listings as an alternative
  to national standards IF core standards were
  created.
• Core standards are completed in 1998.

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Major Players Jump on Board

• 1998-Germany allows internationally recognized
  rules for consolidated statements.
• 2000-IOSCO recommends acceptance of 30 IAS core
  standards for cross-border listings.
• 2005- EU makes IASs compulsory for all firms
  preparing consolidated statements.

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IASB- Structure and Process

• Comprised of 14 members (12 full, 2 part-time).
• 7 members are liaison with a national board.
• Standard development process is open.
• Standards are principles-based.
• Since establishment of IASB, focus is on global
  standard-setting rather than harmonization per se.

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IASB Structure and Process

• Up until 2000 Issued IASs
• After 2000- Issues IFRSs (Intl financial
  reporting standards)
• Similar process to FASB- in the sunshine due
  process.
• SIC- final step- interprets the standards.

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IASB- Structure and Process

• Publication of an exposure draft and/or
  standard-requires 8 of the 14 members approval.
• Financed mostly by selling publications.
• At end of 1998, IASB found itself in competition
  with FASB, as many firms sought to be listed on
  US Exchanges.

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Geographical Backgrounds of IASC Trustees-
2001-2002
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IASB Members- 2001
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Companies referring to the use of IAS standards
in 2001
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IASB-Limitations

• No Power to Enforce or require use of standards.
• Result-Each country individually decides whether
  to accept IASs.
• Major holdouts that still do not accept IAS
  standards- US, Canada, and Japan.

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Principles-Based Approach to Accounting Standard
Setting

• IASB Perspective
• IASB attempts to follow a Principles-Based
  approach to standard setting.
• As such accounting standards are grounded in the
  IASB Framework.

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Principles-Based Approach to Accounting Standard
Setting

• A Principles-Based approach
• Represents a contrast to a Rules-Based Approach.
• Attempts to limit additional accounting guidance
  (e.g., FASB EITFs, FASB Interpretations).
• Is designed to encourage professional judgment
  and discourage over-reliance on detailed rules.

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IASB Framework and IFRSs

• IASB Framework
• Similar to the relationship between U.S. GAAP
  financial statements and the FASB Conceptual
  Framework.

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IASB Framework and IFRSs

• IASB Framework
• Provides the basis for financial statements
  presented in accordance with IFRS.
• Includes
• The objective and underlying assumptions of
  financial statements.
• Qualitative characteristics of information.
• Definition, recognition, and measurement of
  elements in financial statements.
• Concepts of capital maintenance.

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IASB Framework and IFRSs

• IASB Framework
• The objective and underlying assumptions of
  financial statements
• Primary objective is to provide information
  useful to decision making.
• Underlying assumptions include accrual-basis and
  going concern.

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IASB Framework and IFRSs

• Qualitative characteristics of information
• Understandability should be understandable to
  people with reasonable financial knowledge.
• Comparability allows for meaningful comparisons
  to financial statements of previous periods and
  other companies.

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IASB Framework and IFRSs

• Qualitative characteristics of information
• Relevance useful for making predictions and
  confirming existing expectations.
• Reliability free from bias (neutral) and
  represents that which it claims to represent
  (representational faithfulness).

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IASB Framework and IFRSs

• Elements of Financial Statements
• Definition assets, liabilities, and other
  financial statement elements are defined.
• Recognition guidelines as to when to recognize
  revenues and expenses.
• Measurement various bases are allowed,
  historical cost, current cost, realizable value,
  and present value.

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IASB Framework and IFRSs

• Concepts of Capital maintenance
• Financial capital maintenance
• One approach to income measurement.
• Net income represents the increase in net
  financial assets, excluding owner transactions.
• The approach in U.S. GAAP.

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IASB Framework and IFRSs

• Concepts of Capital maintenance
• Physical capital maintenance
• Another approach to income measurement.
• Net income represents increase in physical
  productive capacity.
• Excluding owner transactions.
• Requires current costs for measurement of certain
  physical assets.

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IASB/FASB Convergence

• The Norwalk Agreement
• Reached in 2002.
• Between the IASB and FASB.
• To work toward accounting standards convergence.

Learning Objective 7
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IASB/FASB Convergence

• FASBs key initiatives in the Norwalk
• Agreement
• Joint projects boards will work together to
  address some issues (e.g., revenue recognition).
• Short-term convergence to remove differences
  between IFRSs and U.S. GAAP for issues where
  convergence is deemed most likely.
• IASB liaison IASB member in residence at FASB.

Learning Objective 7
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IASB/FASB Convergence

• Monitoring IASB projects FASB monitors IASB
  projects of most interest.
• Convergence research project identification of
  all major differences between IFRSs and U.S.
  GAAP.
• Convergence potential FASB assesses agenda
  items for possible cooperation with IASB.

Learning Objective 7