International Accounting Standards (IFRS) Verses National Accounting Standards (GAAP) (Research Paper Sample)

International Accounting Standards (IFRS) Verses National Accounting Standards (GAAP)
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1.0 Introduction
The debate regarding the effectiveness of applying international accounting standards such as International Financial Reporting Standards (IFRS) over Generally Accepted Accounting Principles (GAAP) has been of an a great magnitude of over the years, fuelled by the effects of globalization. The IFRS, initially known as International Accounting Standards (IAS), was first issued in 2003 by the International Accounting Standards Board (IASB) (Ramanna and Sletten 2009). The main aim of IFRS was to unite accounting across the EU, which consisted of approximately 19 countries that time. The applicability of the IFRS got recognition globally, with about 70 countries by the end of 2009 evidenced to have adopted the IFRS (Ramanna and Sletten 2009). However, despite of their associated benefits, some large economies such as Japan, USA, Brazil, Canada, India, China and Japan continue to use domestically developed accounting standards in place of IFRS. This paper provides a comprehensive analysis of the relevance of adopting international accounting standards (IFRS) and its associated criticisms. However, before the actual analysis, the author presents a brief summary of the nature, scope, features, assumptions and requirement of IFRS for clarity purposes.
2.0 The Nature, Scope, Characteristics, Assumptions and Requirements of IFRS
Fundamentally, IFRS are designed to act as a common worldwide language for business affairs in order to facilitate the understandability and comparability of company accounts across international boundaries. The IFRS are built on three key assumptions. The first assumption-going concern- is based on the postulation that a business entity will continue to be in operation for an infinite future (Epstein and Jermakowicz 2010). The second assumption states that the accounting figures (reported) will be based on a stable measuring unit. Moreover, the IFRS assumes that the preparation and reporting of company accounts is based on the assumption of constant purchasing power units.
Under the context of IFRS, the quality of a company’s financial statement is weighted against two primary features: materiality and faithful representation, and four secondarily (enhancing) characteristics, which include timeliness, comparability, verifiability and understandability. According to article 10 of the IAS 1 (IFRS), a company is obligated to provide five elements in its financial statements. The first element is the Statement of Financial Position consisting of details on the company’s assets, liability and equity. The second element (Statement of Comprehensive Income) should detail the company’s revenues and expenses, which should be measured in monetary (nominal) terms under the historical cost concept. Other elements include the Statement of Cash Flows, statement of Changes in Equity, and Notes to Financial Statements.
3.0 Argument for and against the use of International Financial Accounting Standards
The application of global accounting standards has received a number of both supports and criticisms over the past years.
3.1 Argument in Support
The adoption of the international accounting standards (IFRS) has been supported in many countries for a number of valuable reasons. Generally, the benefits associated with the adoption of IFRS ranges from economic value, political value to synchronization (network) value benefits. However, due to the presence of other support arguments that do not fall in any of these segments, the author has found it convenient not to base any of the inherent benefits into any of the underlying segments. First, the proponents of IFRS argue that its application can help a company to minimize the costs associated with information processing and auditing, particularly to the participants of capital markets (Barth 2007; 2008). Financial analysts argue that if informational costs are reduced with the adoption of IFRS, foreign investors will be encouraged to invest in the country thus boosting an economy’s level of foreign capital and trade. This argument is based on the factor that in the absence of IFRS, foreign investors will incur information costs in familiarizing themselves with domestic accounting practices. Such costs are said to greatly influence their investment destination country (Ramanna and Sletten 2009). In the absence of IFRS, financial analysts argue that investors may be faced with the information symmetry, which may result to investment risks attributable to adverse selection (unobservable private information) and moral hazard.
In addition, it has been argued that the adoption of IFRSs increases the understandability of a company’s financial statements to different users over to the use of local accounting standards such GAAP. With the effects of globalization, particularly the removal (relaxation) of trade liberalization, individuals do conduct businesses globally. This can be evidenced in UAE when the adoption of IFRS led to the establishment of ‘free trade’ zones, later the ‘free trade’ agreements, which enabled foreign firms to have access to tax-free reports coupled with considerably lower employment costs and significantly fewer regulatory requirements. Ideally, if you invest in different companies globally with distinct domestic accounting practices, it will harsh for you to comprehend each company’s accounting practices without the application of a common accounting standard (IFRS). Analysts, further, argue that with the international acceptance and understanding of IFRS, companies will be at a position to stay competitive and suppress global challenges arising from globalization of markets.
Another argument in support of IFRS is based on their underlying relative ease of comparability. Albrecht (2008) asserts that the adoption of IFRS helps companies, the public and investors to internationally compare financial easier. Comparability enhances consistency of the financial statements. Consider a multinational company having its operations in different countries with different national accounting. Will there be consistence in the financial reports from each subsidiary? In this case, it will be difficult to assess how the company is performing in different geographical (national) locations whose accounting practices are diverse. It has been argued that the requirements for companies to adopt a globalized set of accounting standards have an effect of ensuring trustworthy, reliable financial information regarding various corporate.
Moreover, since at the end of each financial year multinational companies are required to consolidate their financial statement across all nations, it will be difficult if each of its branches (in different countries) adopt its own national accounting standards over the application of a common international accounting practices (IFRS). IFRS enhances cross sectional comparison, that is, without the use of one set of accounting practices, it will be very difficult, in fact impractical, for a company to gauge its financial performance against that of its competitors in the same industry (Irvine and Lucas 2006). For example, assuming that the HP Company Ltd uses IFRS while Apple Company utilizes GAAP, then an investor may not correctively compare which of the two companies in the technology industry to invest in. According to Christopher Cox, the chairperson of SEC, IRFS provides a worldwide language of transparency and disclosure, which is the ultimate goal of global investors who seek to comparable financial data (information) in order to make rational investment decisions (Albrecht 2008).
The adoption of international over domestic accounting has also been supported for cost reasons. Analysts argue the cost minimization benefits (efficiency and costs savings) of IFRS are more prominent in multinational enterprises (MNEs) such as Toyota Motor Corporation, Coca Cola Company, Nestle, British Airways, among others. The use of IFRS is likely to strengthen its position to negotiate with financial (credit) institutions thus sinking its cost of borrowing, given the positive effects of IFRS on a company’s credit ratings. For a multinational corporation such as British Airways, the adoption of IFRS has spearheaded its ease of initiating valuable alliances, implementing cost-national acquisitions, and structuring collaboration agreements with foreign entities. According to Chand (2005), with the adoption of IFRS, multinational corporations have no further obligation to more than one set of account for distinct national jurisdictions.
Sources, further, reveals that the adoption of IFRS will help companies increase the hope for a higher level of capital mobility at a minimal cost (Irvine and Lucas 2006). Capital mobility refers to the ability of the company (private) funds to move across national boundaries with the aim of pursuing higher returns. This implies that multinational companies, which utilize IFRS in preparing and reporting its financial statements, have potential to improve their profitability positions by varying the capital investments in different nations. Irvine and Lucas (2006), further, postulate that the use of IFRS will result to efficiency allocation of resource among companies, which in turn facilitates productivity and profitability of a business enterprise. This argument can be linked the low nature of information costs attributed to the use of IFRS, discussed earlier.
3.2 Arguments Against
Despite of the benefits associated with the use of IFRSs, the standards have been received a number of criticisms over the past years, most of which can broadly be linked to the issues of uncertainty, conversion costs, diversity, lack of enforc...