Issues in Adoption IFRS in the United States of America
Current Development in Accounting Thoughts
Issues in Adopting IFRS (International Financial Reporting Standards) in the U.S
Investors Understanding of IFRS
Cost of Transition
Differences in IFRS and U.S. GAAP
Benefits of adopting IFRS
Issues in Adopting IFRS (International Financial Reporting Standards) in the U.S
Firms and public entities in the U.S. are not ready to accept the IFRS as authoritative and want influence of the U.S. FASB (Financial Accounting Standard Board) to influence in the accounting treatments. Strong resistance is expected in the adoption process of IFRS as parties are not willing to accept it fully. Majority of financial sectors considers implementing IFRS in phases and also wanting significant influence of FASB in the implementation process. People do not want loss of control over standard setting by FASB. Adoption of IFRS will limit the role of FASB and SEC (Securities and Exchange Commission of USA) (IFRS, 2012).
Financial sector of US capital market is against the one step method of transition. Vast majority of the participants are of the view that transition in phases is more reliable and will reduce the cost of transition; however it will increase the period of transition. Time is another factor. One step transition is opposed while gradual transition will require extensive time to complete the process. People resist change because they fear the consequences of change. The principle-based approach allows the managers to manipulate the financial information and produce desired results because principle-based approach allows many ways and they can choose the way which best suits their intentions (IFRS, 2012).
Investors Understanding of IFRS
Majority of the US investors are not familiar with the IFRS and therefore adoption of IFRS in U.S. could lead to failure of many business entities in the U.S.it is important that the people who invest huge capital should have knowledge of accounting standards so that they can take effective decision on time in order to boost their business. Apart from investors employees also need to have understanding of the IFRS so that they can prepare the financial information. Majority of the employees in the U.S.A also lack in depth knowledge of IFRS (IFRS, 2012).
Adoption of IFRS into U.S. will cause difficulties for the regulatory environment. For example U.S. GAAP (Generally Accepted Accounting Principles) allows LIFO method for inventory measurement now if IFRS is adopted how this matter will be dealt as it is in conflict with the local law, similarly the U.S. GAAP expense out the all capital expenditure. these issues will create the impediments for the adoption of IFRS in U.S. the major issue is the conflict with the local U.S. laws and regulations that will be affected and IASB has not provided any guidance on this issue, this issue still remains open and vague (IFRS, 2012).
Human resources are required to prepare the financial statements in accordance with IFRS. Human capital might not be available for the transition, implementation and successful running the affairs of entities in accordance with the IFRS. Adoption will require huge human resources which might be difficult to arrange. People in U.S. do not have IFRS competencies. Adoption of IFRS in U.S requires huge capital to fulfil the human resource requirement. IFRS are not conclusive they require interpretation, and interpretation is likely to be different for the different people, different countries and therefore wrong interpretation of IFRS might lead to un-identical financial statements (IFRS, 2012).
Cost of Transition
Huge cost of transition is required for implementing the IFRS. Cost of transition includes workshops and training session for the employees to understand the mechanism of IFRS. for the investors IFRS will required to be included in the syllabus of universities, colleges .adoption of IFRS would force the entities to change the methods, operational procedures, tools and technologies used in manufacturing the process and this will increase the cost significantly (IFRS, 2012).
IFRS is not rule based it is principle based which requires careful interpretation in order to give true picture of company`s business affairs. U.S. GAAP is more detailed than the IFRS. Small sized entities are likely to be badly hit by the adoption of IFRS as small companies cannot afford the heavy transitional cost. Also it is difficult to maintain the consistency with the legal and regulatory requirements of the U.S.IFRS increases the chances of fraud as people can manipulate the financial statements easily by hiding behind the interpretation of IFRS.IFRS is complex and therefore people especially for investors it is hard to rely on the financial statements and take decision whether to invest or not. There are many small sized entities in the U.S. and transition will be very costly for the small sized companies as they have to hire chartered accountants on high remuneration for the transition and train their employees. Small sized entities do not have sufficient resources for such conversion; therefore it is the biggest barrier in adopting IFRS in the U.S (IFRS, 2012).
Differences in IFRS and U.S. GAAP
Another big reason is the differences between IFRS and U.S. GAAP; if IFRS is adopted in U.S then these differences will change the whole picture of companies. Earnings will be understated or overstated; similarly inventories and property plant and equipment will also be affected. Some major differences and their implications are discussed below;
U.S. GAAP allows the costing of inventories on LIFO (Last in first out) bases while IFRS allows only FIFO (first in first out) and weighted average method of costing inventories. Now if U.S. adopts IFRS companies who use LIFO method for inventories will certainly result in understatement or overstatement of inventories and how this issue will be resolved it still remains a matter of serious concern. U.S. GAAP does not allow the revaluation of assets while IFRS does, in this case assets of the company will increase significantly in IFRS after the revaluation. Therefore it may not give a true picture of company’s business affairs (IFRS, 2012).
U.S. GAAP expense out all the development cost while IFRS allows to capitalize the cost provided certain conditions are met, If the IFRS are adopted in the U.S. then all the development cost will be capitalized(if criteria met) and this will result in reduced expense which ultimately results in increased profits. U.S. GAAP is more detailed and specific than IFRS.IFRS are general guidelines based on principles (IFRS, 2012).
Benefits of adopting IFRS
The first and foremost advantage of adopting IFRS is comparability, financial information of companies located in different countries can be compared and analyzed. IFRS creates uniformity in preparing financial statements. Companies can easily invest in other countries. With the advancement in technology world has become the global village. Financial statements prepared under the IFRS treatment are reliable and understandable. Uniformity in accounting standards in all over the world will make information more reliable, accurate and complete. It will give an insight to investors to analyze the information and invest in other countries (Ochei & Akande, 2012). Globalization has forced the companies to adopt accounting standards that are accepted widely to make things easier to understand and that accounting standards are IFRS that will be less complicated. MNCs (Multinational corporations) will get the advantages of adopting IFRS as they will have to report the financial information in a single set of accounting standards. Although IFRS is not rule based but sometimes managers can manipulate the information in rule based approach by unethical way. In this way principle based approach has added advantage over rule based. Local GAAP of countries are not globally accepted and therefore they have to prepare the financial statements in IFRS too for the foreign investors and that will make the process of preparing financial statements lengthy, costly and complicated. At present more than 120 countries are adopting IFRS this will lead to worldwide acceptance of accounting standards. Large companies with subsidiaries in different countries are supporting the adoption of IFRS (Willian & Changjiang, 2013).
IFRS reduces the cost and increases the revenue. Adoption of IFRS will reduce the chances of error and also reduce the audit fees as big 4 audit firms are expert in IFRS, it will require less time for the auditors to complete the audit and hence reduce the audit fees (Ochei & Akande, 2012). Operating costs will reduce, quality will increase, and companies can better satisfy the needs of their customers. Adoption of IFRS will invite foreign investors to invest in the country which in return will reduce the interest rates, and with huge production economies of scale can be achieved. Adoption of IFRS will attract foreign investments which in turn will improve the technological methods and reduce the cost per unit of product; ultimately results in fulfillment of the company’s prime objectives that are profit maximization and cost reduction (IFRS, 2012; Willian & Changjiang, 2013).
If country adopts IFRS then business entities of that country can gather the information of other countries business entities in order to compare and analyze. For example if US adopts IFRS the companies of US can gather the information of Pakistan or any other country having IFRS standards in order to reach a decision whether to invest in other country or not. If the parent and subsidiary companies are adopting IFRS it will be easier for the parent company to evaluate the performance of subsidiary. IFRS are principle-based not rule-based. Rule-based are confined and limited while principle-based approach allows flexibility and generate multiple ways to reach a reasonable valuation (Willian & Changjiang, 2013)(IFRS, 2012).
Accounting information should not be regulated by external accounting board it is the matter of managers who deal in their own way and it should base on market situations, market situation is different in different markets so how a single set of accounting standard can be applied in all the markets? There is no need to dictate and regulate the managers on accounting standards and managers should not be confined to certain guidelines. Audit report is sufficient to verify the accuracy of financial statements as auditors express their opinion on the set of financial statements. Still no one particular set of accounting standards is developed for the efficient regulation of accounting bodies of different countries (StockExchange, n.d.). IFRS should not define the Para-meters of accounting information but in fact demand and supply of users should define what should be disclosed and what should not be disclosed. Free-market approach suggests that the goals of the management should be aligned with that of company in order to motivate them towards the achievement of corporate goals. It is true that the management and ownership of the company are separated but if managers are given incentives to perform and are awarded fairly then there is no need of regulation in fact in this scenario regulation will increase the cost of the company (IFRS, 2012). If managers are given handsome incentives they will try to perform better in order to maximize their wealth which in turn will maximize the profitability of the company. Managers are given clear instructions that their performance will determine their future salaries and remunerations and this factor lead managers to be committed and ethical in preparing the financial information. another factor that will force managers to be committed is the fear of acquisition and mergers by other entities in the same industry, managers assume if the entity will not perform satisfactorily it will be taken over by another entity and that entity might terminate the existing management, this fear of losing job will motivate them to work hard for improving the overall performance of the company (StockExchange, n.d.). The regulating body might be influenced by the large business groups so that they can use it in their own advantage. In Australia after the adoption of IFRS many companies removed the assets worth billions of dollars because they could not met the criteria of IFRS regarding revaluation of assets and this changed the dimensions of the companies. Before adopting the IFRS in Australia all the inflows were recorded as revenues but IFRS suggests that the cash inflow on the sale of property, plant and equipment should be recorded as gain and classified as other income, this also lead to decrease in reporting revenues. these changes had the significant impact on some entities in Australia, their profits reduced significantly and assets were minimized ultimately it affected the overall performance of the companies, therefore free market is more supported in Australia as compared to regulatory authority. There is no need of regulating authority as the organizations will produce accurate and credible information to outsiders in order to attract the capital from the market so that they can reduce the cost of operations. In a free market the owners offer the share of the profits to the managers in order to gain their loyalty. This incentive will motivate managers to earn high profits for the company which ultimately increases the share of their profits and managers are compelled to produce the accurate financial information. Managers are in the position to predict what information should be disclosed to attract the investors while regulating body only provides the some set of defined rules which might not suit in a particular situation. Regulation is not the only tool to increase credibility of the financial information even in the absence of regulation financial information can be reliable if it is audited. Audited financial information can be relied upon. The objective of auditing is to enhance the confidence of the users of financial information. the main concern in free market was that managers might not disclose the bad information but currently managers are disclosing both good and bad information because omission of information is considered to be misleading by the users of information and it might have serious repercussions in the future, therefore managers even in the free market discloses any unfavourable information. Free market participants believe that standard set in regulation is biased and influenced therefore it cannot fulfil the objective of accurate information. Political influence and excessive involvement of larger business groups creates doubt on the integrity and usefulness of regulation. Free market perspective is based on two words that are demand and supply of information. it should not be regulated by any authority instead it should be regulated by demand and supply forces and in the presence of demand and supply forces there is no need of any regulatory body as these will act as driving forces for the presentation of information (IFRS, 2012; StockExchange, n.d.).
Regulation is the set of standards requiring implication from every one and ensuring the safety of assets of public. Accounting regulations protect the interest of public. Free market approach has some problems as the accounting information might be manipulated therefore there must be a governing body and that is present in the form of IASB (International Accounting Standards Board) IASB provides the proper regulation on preparing the financial statements and public whose money is invested in companies trust the IFRS as they believe their interest is fully protected by accounting regulations, there are less chances of fraud and manipulation of financial figures. Regulations benefit prospective investors while in free market managers can deceive prospective investors and can lead to wrong decisions. If the accounting standards are regulated it ensures the true and fair view .Stakeholders favor the regulations as it will protect the interest of stakeholders by ensuring that the financial information is accurate and reliable. Cost of preparing and auditing the financial statements will be reduced by adopting the regulations (Sottoriva, Javadian, Ghorbani, Ahangar, & Nagendra, 2013).
In today’s modern business environment ownership and management of the company are separated and this separation has created a need for the regulation of accounting standards. In public companies majority of the shareholding is held by general public and in order to protect their shareholding and to ensure that their resources are best utilized regulation is necessary. the objective of financial reporting is the true picture of the company`s economic reality and regulating authority makes effort to present financial information that represents true picture. International financial reporting standards provide complete guidance to the management about how to deal with the resources entrusted to them by the owners. Users need particular information to decide whether to invest or not in a particular industry and this is also the objective of IFRS which creates another reason towards regulation. Countries that are pro-regulated are economically stable as compared to free-market perspective. Pro-regulation is helpful in establishing a sustainable economy. IFRS is adopted by more than 120 countries as a regulating tool for financial reporting to achieve the comparability. Another reason for the need to adopt regulations is the global financial crisis and major scandals that have taken place in recent past so in order to avoid these scandals there must be a regulating authority which defines the rules for the presentation of financial statements (IFRS, 2012; Sottoriva et al., 2013).
“The former chair of the U.S. Securities and exchange commission, Christopher cox stated that; an international language of disclosure and transparency would significantly improve investor confidence in global capital markets. Investors could more easily compare issuers` disclosures regardless of what country or jurisdiction they came from. They could more easily weigh investment opportunities in their own country against competing opportunities in other markets. (Ray, 2010:5)”
The incentives offered to the managers in the free-market might not be as attractive as managers wanted therefore it might derive the managers to produce the financial information that best suits them irrespective of company’s` actual performance. After the financial crisis and major failures, investors are reluctant to rely on information produced by free-market. Regulation is the device to increase the confidence of investors, it ensures the investors that their capital is secured. Although adoption of regulatory standards will significantly affect the profits and assets of the companies but this is justified and in the long run it will benefit the company as comparability will attract the foreign investors which in turn will justify the cost of regulatory market. Regulations prohibit insider trading because same information is available to all the stakeholders. In a free market approach people who have access to information can easily get the advantage through insider trading and manipulate the market for their own good. Even though the management of the company can voluntarily produce information but even then it cannot be relied upon because management has more knowledge than the owners and they can manipulate easily therefore the need of regulation arises. In a free market approach there will be lack of uniformity as each firm will produce the information in its own way and format. This will create difficulty for the users to compare the information of the company with other companies in the same industry. Hence for achieving the uniformity and consistency regulation proves to be an effective tool (IFRS, 2012; Sottoriva et al., 2013).
IFRS. (2012). Response of IFRS foundation staff on SEC Report (pp. 1–51). Retrieved from http://www.ifrs.org/Alerts/PressRelease/Pages/IFRS-Foundation-Staff-Analysis-of-SEC-Final-Staff-Report-on-IFRS.aspx
Ochei, I., & Akande, A. (2012). IFRS, Benefits, Obstacles and Intrigues for Implementation in Nigeria. Nigeria. Retrieved from www.saycocorporativo.com/saycoUK/BIJ/journal/…/Article_12.pdf
Sottoriva, C., Javadian, A., Ghorbani, S., Ahangar, Z., & Nagendra, K. (2013). Regards and Views to Accounting Standards-Setting. Journal of Economics, Business and Finance. Retrieved from www.ijebf.com/IJEBF_Vol. 1…/Regards and Views.pdf
StockExchange. (n.d.). An Overview of Australian External Reporting Environment. Australia. Retrieved from www.aabclnu.com/资料/fccl/BAO3309/Chapter1(1-51).pdf
Willian, S., & Changjiang, R. (2013). Relative benefits of adoption of IFRS and Convergence between IFRS and U.S GAAP: Evidence from Germany. Florida. Retrieved from https://business.fiu.edu/…/pdf/Riccardi Adoption vs converge