A one-stop resource for understanding current International Financial Reporting Standards
As the International Financial Reporting Standards Committee makes progress towards widespread acceptance and use of its standards and practices, the need to understand the new standards increases. Wiley IFRS 2005 provides the tools for understanding those standards and offers expertise on how to use and implement them. Features of this updated edition include new interpretive guidance, coverage of the most recent International Financial Reporting Standards, and more.
Barry J. Epstein, PhD, CPA, is a Partner at Russell Novak & Company, LLP, Chicago, Illinois.
Abbas Ali Mirza, CPA, ACA, AICWA is a partner with Deloitte & Touche, based in the United Arab Emirates.
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About the Author
Barry J. Epstein, PhD, CPA, a partner in the firm Russell Novak & Company, has over thirty-five years’ experience in the public accounting profession, as auditor, technical director/ partner for several national and local firms, and as a consulting and testifying accounting and auditing expert on over sixty litigation matters to date. His current practice is concentrated on providing to technical consultations to CPA firms and corporations on US GAAP and IAS accounting and financial reporting matters; on US GAAP and IAS auditing standards; matters involving financial analysis; and on corporate governance matters; as well as serving as expert on litigation matters, including assignments for both private sector and governmental agencies.
Dr. Epstein is a widely published authority on accounting and auditing. His current publications include Wiley GAAP, now in its 21st edition, for which he is coauthor. He has also appeared on over a dozen national radio and television programs discussing the crisis in corporate financial reporting and corporate governance over the past eighteen months, and has presented over a hundred educational programs to professional and corporate groups internationally. He previously chaired the Audit Committee of the AICPA’s Board of Examiners, responsible for the Uniform CPA Examination, and served on other professional panels at state and national levels.
Dr Epstein holds degrees from DePaul University (Chicago—BSC, accounting and finance, 1967) University of Chicago (MBA, economics and industrial relations, 1969), and University of Pittsburgh (PhD, information systems and finance, 1979).
Abbas Ali Mirza, CPA, ACA, AICWA, has brought his expertise in auditing, finance, and taxation to a variety of positions with major international firms in the US, India, and the Middle East. He is currently a partner with Deloitte & Touche, based in the United Arab Emirates, where he is responsible for audit clients and is a member of the firm’s regional Assurance and Advisory Committee, responsible for technical and learning support throughout the region. He is a frequent speaker and workshop leader at global conferences on international financial reporting, has coauthored regular newspaper columns and written features for the media in the Middle East and India, and has been widely quoted as a commentator on business issues.
Mr. Mirza is also a member of the Accounting Standards Committee of the Securities & Exchange Board of India, and is involved in professional and regulatory affairs in India and Dubai, UAE. He has spoken at several United Nations conferences on financial reporting and corporate governance matters, and is associated with a number of other professional initiatives germane to worldwide adoption of IFRS.
Read an Excerpt
Wiley IFRS 2005
By Barry J. Epstein
John Wiley & SonsISBN: 0-471-66837-0
Chapter OneINTRODUCTION TO INTERNATIONAL FINANCIAL REPORTING STANDARDS
Origins and Early History of the IASB 1 The New Structure 4 Process of IFRS Standard Setting 5 Constraints 6 Conceptual Framework for Financial Reporting 8 Hierarchy of Standards 9 The IASB and the US 9 The IASB and Europe 11 The Future Agenda for IFRS 13 Europe 2005 Update 14 Impact of IFRS Adoption by EU Companies 16 Appendix A: Current International Accounting Standards (IAS/IFRS) and Interpretations (SIC/IFRIC) 17 Appendix B: Case Study Illustrating Possible Supplemental Treatments under the IOSCO Recommendations 19 Appendix C: US GAAP Reconciliation and Restatement-Case Study 21
The year 2005 marks the start of a new era in global business, and the fulfillment of a thirty-year effort to create the financial reporting rules for a worldwide capital market. In this year an estimated 15,000 listed companies in the 25 European Union member states, Russia, Australia, South Africa and New Zealand will produce annual financial statements in compliance with a single set of international rules-International Financial Reporting Standards (IFRS). There are similarly about 15,000 SEC-registered companies in the USA that use US GAAP, so that the vast majority of the world's large businesses report under one or other of these two accounting rule systems. At the same time, the standard setters have agreed to try to converge their measurement and recognition rules, so that differences between these two sets of GAAP are already disappearing. In fact, the chairman of the US standard setter has suggested that by 2010 there would be no major differences left. However, there are undoubtedly many obstacles left to overcome, particularly as national regulators learn to live with the idea of using rules developed outside their jurisdiction by an independent panel of experts.
Origins and Early History of the IASB
Financial reporting in the developed world evolved from two broad models, whose objectives were somewhat different. The earliest systematized form of accounting regulation developed in continental Europe, starting in France in 1673. Here a requirement for an annual fair value balance sheet was introduced by the government as a means of protecting the economy from bankruptcies. This form of accounting at the initiative of the state to control economic actors was copied by other states and later incorporated in the 1807 Napoleonic Commercial Code. This method of regulating the economy expanded rapidly throughout continental Europe, partly through Napoleon's efforts and partly through a willingness on the part of European regulators to borrow ideas from each other. This "code law" family of reporting practices was much developed by Germany after its 1870 unification, with the emphasis moving away from market values to historical cost and systematic depreciation. It was used later by governments as the basis of tax assessment when taxes on profits started to be introduced, mostly in the early twentieth century.
This model of accounting serves primarily as a means of moderating relationships between the individual company and the state. It serves for tax assessment, and to limit dividend payments, and it is also a means of protecting the running of the economy by sanctioning individual businesses that are not financially sound or were run imprudently. While the model has been adapted for stock market reporting and group (consolidated) structures, this is not its main focus.
The other model did not appear until the nineteenth century and arose as a consequence of the industrial revolution. Industrialization created the need for large concentrations of capital to undertake industrial projects (initially, canals and railways) and to spread risks between many investors. In this model the financial report provided a means of monitoring the activities of large businesses in order to inform their (nonmanagement) shareholders. Financial reporting for capital markets purposes developed initially in the UK, in a common-law environment where the state legislated as little as possible and left a large degree of interpretation to practice and for the sanction of the courts. This approach was rapidly adopted by the US as it, too, became industrialized. As the US developed the idea of groups of companies controlled from a single head office (towards the end of the nineteenth century), this philosophy of financial reporting started to become focused on consolidated accounts and the group, rather than the individual company. For different reasons neither the UK nor the US governments saw this reporting framework as appropriate for income tax purposes, and in this tradition, while the financial reports inform the assessment process, taxation retains a separate stream of law, which has had little influence on financial reporting.
The second model of financial reporting, generally known as Anglo-Saxon financial reporting, can be characterized as focusing on the relationship between the business and the investor, and on the flow of information to the capital markets. Government still uses reporting as a means of regulating economic activity (e.g., the SEC's mission is to protect the investor and ensure that the securities markets run efficiently), but the financial report is aimed at the investor, not the government.
Neither of these two above-described approaches to financial reporting is particularly useful in an agricultural economy, or one that consists entirely of microbusinesses, so as countries have developed economically (or as they were colonized) they have adopted variants of one or the other of these two models.
IFRS are an example of the second, capital market-oriented, systems of financial reporting rules. The original international standard setter, the International Accounting Standards Committee (IASC) was formed in 1973, during a period of considerable change in accounting regulation. In the US the Financial Accounting Standards Board (FASB) had just been created, in the UK the first national standard setter had recently been organized, the EU was working on the main plank of its own accounting harmonization plan (the Fourth Directive), and both the UN and the OECD were shortly to create accounting committees. The IASC was launched in the margins of the 1972 World Accounting Congress (a five yearly get-together of the international profession) after an informal meeting between representatives of the British profession (Institute of Chartered Accountants in England and Wales-ICAEW) and the American profession (American Institute of Certified Public Accountants-AICPA).
A rapid set of negotiations resulted in the professional bodies of Canada, Australia, Mexico, Japan, France, Germany, the Netherlands, and New Zealand being invited to join with the US and UK to form the international body. Thanks to pressure (and financial subsidy) from the UK, the IASC was established in London, where it remains today. The US supplied the first Secretary, Paul Rosenfield, who was seconded from AICPA for two years. The first chairman was Henry Benson, South African-born grandson of one of the eponymous Cooper Bros., whose firm's name survives as part of PricewaterhouseCoopers.
The reasons for the IASC's creation are difficult to pin down. Benson wrote subsequently of the need for a common language for the growing volume of international business, while Douglas Morpeth, the president of the ICAEW and a prime mover, has talked about the idea of adapting the new British standards for the international community. Wallace Olson, president of the AICPA at the time and the other prime mover, was of the view that the British wanted to create an international standard setter to trump the regional initiatives within the EU, which leaned heavily to the Code model of reporting.
In the first phase of its existence, the IASC had mixed fortunes. Once the International Federation of Accountants (IFAC) was formed in 1977 at the next World Congress, the IASC had to fight off attempts to move it within the IFAC embrace. It managed to resist, coming to a compromise where it remained independent but all IFAC members were automatically members of IASC, and IFAC was able to nominate the membership of the standard setting Board.
Both the UN and OECD were active in international rule making in the 1970's but the IASC successfully persuaded them that they should leave recognition and measurement rules to the IASC. However, having established itself as the unique international rule maker, it had great difficulty in persuading anyone to use its rules. Although member professional bodies were theoretically committed to pushing for the use of IAS at the national level, in practice, few national bodies were influential in standard setting in their own country, and others (including the US and UK) preferred their national standards. In Europe, IAS were used a little in Italy and Switzerland, and national standard setters in some countries such as Malaysia started to use IAS as an input to their national rules, while not adopting them as written by the IASC.
IASC entered a new phase in 1987, which led directly to today's organization, when the then-Secretary General, David Cairns, encouraged by the US SEC, negotiated an agreement with the International Organization of Securities Commissions (IOSCO). IOSCO was looking for a common international "passport" with which companies could be accepted for a secondary listing in the jurisdiction of any IOSCO member. The concept was that, whatever the listing rules in a company's primary stock exchange, there would be a common minimum package which all stock exchanges would accept from foreign companies seeking a secondary listing. IOSCO was prepared to use IAS as the financial reporting basis for this passport, provided that the international standards could be brought up to the level IOSCO stipulated. For the first time the IASC would have a clear client and a clear role for its standards.
This provoked frenetic activity to improve the existing standards by removing the many alternative treatments which were permitted under the standards. The IASC launched its comparability and improvements project to develop a core set of standards for IOSCO. These were complete by 1993, not without disagreements between members, but to the great frustration of the IASC, were then not accepted by IOSCO. IASC leaders were unhappy, amongst other things, that IOSCO seemingly wanted to cherry-pick individual standards, rather than endorse the IASC's process and thus all the standards created thereby.
Ultimately, the collaboration was relaunched in 1995, with Sir Bryan Carsberg taking over as Secretary General and beginning a further frenetic period where existing standards were again reviewed and revised, and new standards were created to fill perceived gaps. This time the set of standards included, amongst others, IAS 39 on recognition and measurement of financial instruments, which had been accepted, at the very last moment and with great difficulty, as a compromise, purportedly interim standard.
At the same time, the IASC had set up a committee to look at its future structure. If it were to be the standard setter endorsed by the world's stock exchange regulators, it would need a structure that reflected that. The Anglo-Saxon standard setting model where professional accountants set the rules for themselves, had largely been abandoned in the twenty-five years since the IASC was formed. Standards were mostly being set by dedicated national boards such as the FASB, and not bodies like the AICPA. The IASC did its best to encourage participation by these in the 1990s within its old structure, but it recognized that a new structure was going to be required. The choice was between a large, representative approach (much like the old structure) but where national standard setters sent representatives, or a small, professional body of experienced standard setters which worked independently.
The end of this phase of the international standard setting, and the resolution of these issues, came about within a short period in 2000. In May, IOSCO members voted at their annual meeting to endorse IASC standards (but subject to a number of reservations). This was a considerable step forward for the IASC but was immediately mitigated by an announcement in June 2000 that the European Commission intended to adopt IAS as the requirement for primary listings in all member states. This planned full endorsement by the EU eclipsed the less than enthusiastic IOSCO announcement, and since then the EU has appeared to be the more influential body as far as international standards are concerned. In July 2000, IASC members voted to abandon the old structure based on professional bodies and adopt a new structure: from 2001, standards would be set by a professional board, financed by voluntary contributions raised by a new oversight body.
The New Structure
The formal structure put in place in 2000 has the IASC Foundation, a Delaware corporation, as its keystone. The Trustees of the IASC Foundation, chaired by former US Federal Reserve chairman Paul Volcker, have on the one hand the responsibility to raise the $15 million a year needed to finance standard setting, and on the other hand the responsibility of appointing members to the International Accounting Standards Board (IASB), the International Financial Reporting Interpretations Committee (IFRIC) and the Standards Advisory Council (SAC).
The Standards Advisory Council (SAC) meets with the IASB three times a year, generally for two days. The SAC consists of about 50 members, nominated in their personal (not organizational) capacity, but are usually supported by organizations which have an interest in international reporting. Members currently include analysts, corporate executives, auditors, standard setters, and stock exchange regulators. The members are supposed to serve as a channel for communication between the IASB and its wider group of constituents, to suggest topics for the IASB's agenda, and to discuss IASB proposals.
The International Financial Reporting Interpretations Committee (IFRIC) is a committee comprised mostly of technical partners in audit firms but also includes preparers and users. It succeeds the Standards Interpretations Committee (SIC), which had been created by the IASC. SIC/IFRIC's function is to answer technical queries from constituents about how to interpret IFRS-in effect, filling in the cracks between different rules. In recent times it has also proposed modifications to standards to the IASB, in response to perceived operational difficulties or need to improve consistency. IFRIC liaises with the US Emerging Issues Task Force and similar bodies liaison as standard setters, to try at preserve convergence at the level of interpretation. It is also establishing relations with stock exchange regulators, who may be involved in making decisions about the acceptability of accounting practices, which will have the effect of interpreting IFRS.
The liaison standard setters are national bodies from Australia, Canada, France, Germany, UK, USA, and Japan. Each of these bodies has a special relationship with a Board member, who normally maintains an office with the national standard setter and is responsible for liaison between the international body and the national body. This, together with the SAC, was the solution arrived at by the old IASC to attempt to preserve some geographical representativeness. However, this has been somewhat overtaken by events: as far as the EU is concerned, its interaction with the IASB is through EFRAG (see below), which has no formal liaison member of the Board. The IASB Deputy Chairman has performed this function, but while France, Germany and the UK individually have liaison, EFRAG and the European Commission are, so far, outside this structure.
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Table of Contents
1. Introduction to International Financial Reporting Standards.
Appendix A: Current International Accounting Standards (IAS/IFRS) and Interpretations (SIC/IFRIC).
Appendix B: Case Study Illustrating Possible Supplemental Treatments under the IOSCO’s Recommendations.
Appendix C: US GAAP Reconciliation and Restatement.
2. Balance Sheet.
3. Income Statement, Statement of Changes in Equity, and Statement of Recognized Gains and Losses.
4. Cash Flow Statement.
5. Financial Instruments—Cash and Receivables.
7. Revenue Recognition, Including Construction Contracts.
Appendix: Accounting under Special Situations—Guidance from US GAAP.
8. Property, Plant, and Equipment.
9. Intangible Assets.
10. Interests in Financial Instruments, Associates, Joint Ventures, and Investment Property.
Appendix: Schematic Summarizing Treatment of Investment Property.
11. Business Combinations and Consolidated Financial Statements.
12. Current Liabilities, Provisions, Contingencies, and Events After the Balance Sheet Date.
13. Financial Instruments—Long-Term Debt.
Appendix A: Special Situations Not Yet Addressed by IAS 17.
Appendix B: Leveraged Leases under US GAAP.
15. Income Taxes.
Appendix: Accounting for Income Taxes in Interim Periods.
16. Employee Benefits.
17. Stockholders’ Equity.
Appendix A: Illustration of Financial Statement Presentation.
Appendix B: Additional Guidance under US GAAP.
18. Earnings Per Share.
19. Interim Financial Reporting.
20. Segment Reporting.
21. Changes in Accounting Policies and Estimates, and Correction of Errors.
22. Foreign Currency.
23. Related-Party Disclosures.
24. Specialized Industries.
25. Inflation and Hyperinflation.
Appendix: Monetary vs. Nonmonetary Items.
26. Government Grants.
27. First-Time Adoption of International Financial Reporting Standards.
Appendix A: Disclosure Checklist.
Appendix B: Illustrative Financial Statements Presented under IFRS.
Appendix C: Comparison of IFRS and US GAAP.