International accounting
harmonization: Developing
a single world standard
F. Robert Buchanan
Doctoral Student in Management, University of Texas
at Arlington (bob@buz.net)
Decision makers recognize the
need to understand financial
documents with transparency and
clarity. So accounting rules are in
the process of converging to a single
international standard. This involves two
dominant formats: the US GAAP and the
International Financial Reporting Standards. A
sports comparison in professional football is the
American style of a highly detailed rulebook
that is structured like a legal system, while the
International Football Association operates with
less than half as many rules, leaving referees
great latitude in making judgments on the
field. In accounting, the primary question is
determining how much detail is necessary.
N ow that Europe has fully established its own
currency, the international competitiveness of
that region is intensifying, particularly in rela-
tion to the United States. Asia and other regions are also
working to pool their influences. Affected by this compet-
itive pressure are the preeminence of the dollar, the US
stock markets, efforts to attract money from investors all
over the globe, and the underlying systems for acquiring
and deploying capital resources. A multitude of account-
ing systems exist, creating difficulty in comparing finan-
cial reports in different countries. The need for clarity in
accounting is acute. So an organization called the Interna-
tional Accounting Standards Board (IASB) has been work-
ing for more than ten years with the goal of creating
global accounting convergence by establishing standards
for the world’s capital markets. Known as the Interna-
tional Accounting Standards Committee until it was re-
named in 2001, the IASB is the counterpart to America’s
Financial Accounting Standards Board (FASB).
The United States operates under accounting standards
called Generally Accepted Accounting Principles (GAAP).
To be listed on US stock exchanges for the purpose of
accessing the world’s biggest capital markets, international
companies have been required to restate their financial
reports according to US GAAP, without regard to the cost
or difficulty of doing so. Yet, as significant as this issue is,
it only comes to public attention occasionally.
Investors became aware of the international GAAP issue
in 1993 as they anxiously awaited the opportunity to pur-
chase shares of Daimler-Benz on the New York Stock Ex-
change. Starting in May, company accountants in Stuttgart
worked nights and weekends, seven days a week, for the
October listing. Then came the final announcement:
Having just told German investors that the company had
made a profit of DM615 million, Daimler had to turn
around and inform investors in the US that the company
had lost DM1.839 billion during the same year. Was
Daimler-Benz making money or losing money? This took
some of the sparkle off the Daimler deal, and the excite-
ment never fully returned; investors on both sides of the
Atlantic are bitter and contentious, even today.
61
Nevertheless, US GAAP continued earning respect and
international legitimacy until the scrutiny following the
bankruptcy filing of Enron in 2001—the 11th largest in
the Fortune 500 list of publicly traded firms and one of
the largest bankruptcies in history. Accounting practices
were alleged to have played a significant role in the col-
lapse. The IASB commissioner stated that the rules of US
GAAP featured prominently enough to cast doubt on the
validity of the system. This came at a critical time in the
decision process in the EU as well as the United States
toward allowing companies certain latitude in selecting
International Financial Reporting Standards (IFRS; known
as IAS, or International Accounting Standards, until June
2002) versus other forms of local and US GAAP.
This article discusses the harmonization of international
accounting standards in light of three specific areas: (1) a
comparison of US GAAP to IFRS, especially IAS 39, the
specific rules that relate to financial instruments for evalu-
ation by investors; (2) a discussion of corporate fraud,
particularly the Enron debacle, pursued in the context of
how either GAAP or IFRS might furnish safeguards; and
(3) a general review of historic and regional issues that
may or may not make it possible to fully standardize
accounting practices to achieve the uniformity that is
intended. Finally, implications of international accounting
standards harmonization are discussed, including the
long-term impact on managers and investors.

Figure 1
Important differences between IFRS and US GAAP

The significance of the differences summarized below will vary with respect to individual companies, depending on such factors as the
nature of the company's operations, the industry in which it operates, and the accounting policy choices it has made. Reference to the
underlying accounting standards and any relevant national regulations is essential in understanding the specific differences.

IAS Area of difference IFRS US GAAP

19 Minimum liability recognition No minimum liability requirement At a minimum, the unfunded accumu-
under defined benefit plans lated benefit obligation is recognized

27 Basis of consolidation policy Control (look to governance and risk Majority voting rights
and benefits)

27 Special purpose entities Consolidate if controlled; generally Consolidate if certain criteria are not
follow the same principles for com- met; generally look to whether or not
mercial entities in determining the SPE has a sufficient level of equity
whether or not control exists “at risk”

27 Impact of different accounting
policies or reporting dates of
parent and subsidiaries
Must conform accounting policies and
reporting dates; if not practical, must
adjust for any significant differences in
policy and subsequent transactions or
events
No requirement to conform reporting
dates or accounting policies; need not
adjust for any significant differences in
policy or subsequent transactions or
events

32 Classification of convertible Split the instrument between its liabil- Classify the entire instrument as a
debt ity and equity components liability

38 Development costs Capitalize, if certain criteria are met Expense

39 Change in value of non-trad- Recognize either in net profit or loss or Recognize in equity (with recycling)
ing investment in equity (with recycling)*

39 Hedge of a firm commitment Cash flow hedge* Fair value hedge

39 Use of partial-term hedges Permitted Prohibited

39 Use of qualifying SPEs Prohibited Allowed

*This topic is currently being addressed as part of IASB’s Amendments to IAS 39 Project.

Source: Deloitte Touche Tohmatsu, IAS Plus

62 Business Horizons / May-June 2003

Comparison of US GAAP
to IFRS
O
ne of the fundamental differences between IFRS
and US GAAP (outlined in some detail in Figure
1) is the degree of specificity in reporting proce-
dures dictated by each group of standards. There seems to
be a distinct cultural dimension. For example, America
likes highly detailed rules, much like in its approach to
sports. The International Football Federation has less than
half as many rules as America’s NFL, reflecting a clear
preference for letting officials on the field make determi-
nations in the course of the game; in contrast, the action
in an NFL game is stopped seemingly every few seconds
to refer to rules that are written like a law book. Ameri-
cans love complex rules at both work and play.
According to Coopers & Lybrand (1995), IFRS does not
prescribe narrowly defined rules, leaving more room for
interpretation by the accountants preparing the reports.
The auditing professional is called upon to make judg-
ments that focus on the economic substance of transac-
tions. Studies by Schultz and Lopez (2001) have shown
that compliance with a rigid set of narrowly articulated
rules does not necessarily guarantee economic relevance
of the resulting data. However, some analysts feel that
IFRS allows too many alternatives due to its reduced
specificity. Comparability between financial statements
of different firms is compromised when a transaction can
be treated in ways that are inconsistent.
IAS 39, “Financial Instruments: Recognition and Measure-
ment,” is a standard that covers significant amounts of the
financial reporting used by investors. Having taken the
IASB nearly ten years to develop, it includes accounting
procedures for conventional assets and liabilities such as
cash, trade receivables and payables, investments in debt
and equity securities, and notes, bonds, and loans pay-
able. It also includes accounting rules for derivatives as
well as futures, forwards, swaps, and options contracts.
Guidance on accounting for financial instruments is con-
tained primarily in a previous document, IAS 32, “Finan-
cial Instruments: Disclosure and Presentation (1998).”
Other documents that influence IAS 39 issued by the
Standing Interpretations Committee of the IASB are SIC
Interpretation 5, “Classification of Financial Instru-
ments—Contingent Settlement Provisions,” and SIC Inter-
pretation 12, “Consolidation—Special Purpose Entities.”
IAS 39 was developed with US GAAP as a base. The IASB
tried to take the basic approaches of US GAAP and codify
them in a format compatible with other IASB standards.
This was a daunting task because in addition to compati-
bility was the goal of having far less detail than its Ameri-
can counterpart. US GAAP has developed over many years
to its current huge volume and complexity of standards
International accounting harmonization: Developing a single world standard
and practices. Detailed guidance exists for specifically
defined instruments and individualized industries. The
procedures are at times inconsistent between industries,
and some financial instruments are not addressed at all.
Included in the US documents are FASB statements, inter-
pretations, and technical bulletins as well as SEC staff
accounting bulletins and other directives. Practitioner
guidance comes from the American Institute of CPAs’
audit and accounting guides, statements of position, prac-
tice bulletins, and regulatory reporting requirements.
Recent US standards, such as FASB Statements No. 125,
Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities, and No. 133, Accounting for
Derivative Instruments and Hedging Activities, are broader in
scope than many of the older written standards.
The US standards have specifically addressed a great many
of the issues that arise in financial accounting, while the
IASB’s more general approach allows individual reporting
choices to be made in applying the standards. Among sig-
nificant general differences noted by Porter and Traficanti
(1999) and Deloitte Touche Tohmatsu (2002) are:
● Some financial instruments that would be classified as
liabilities under IFRS would be classified as equity
under US GAAP.
● IFRS standards require the issuer of a compound instru-
ment that contains both liability and equity compo-
nents (such as convertible debt) to account separately
for its debt and equity components. US GAAP pre-
cludes that separate accounting in most circumstances.
● IFRS standards have trading, available-for-sale, or held-
to-maturity classifications that apply to all types of
financial assets. Under US GAAP, those classifications
apply only to securities. As a result, measurement of
certain financial assets, as detailed in Figure 2, would
differ depending on whether IFRS or US GAAP was fol-
lowed.
● The US GAAP distinction between sales and secured
borrowings is different from that in IAS 39. As a result,
many asset transfers that would qualify for sale ac-
counting treatment under IAS 39 would not qualify
under US GAAP, and some asset transfers that would
not qualify for sale accounting treatment under IAS 39
would qualify under US GAAP.
● Sale and leaseback accounting, as in removing an asset
through sale but continuing to use it through a lease-
back contract, is highly specified in US GAAP, particu-
larly for transactions involving real estate. IFRS fur-
nishes only generalized guidance.
● Companies with defined benefit pension plans have a
financial liability exposure. Under US GAAP, the com-
pany must at the very least recognize its unfunded
accumulated benefit obligation. With IFRS there is no
63
 Figure 2
Classification and measurement for financial assets under IAS 39

IAS 39 category of
financial asset Description Measurement basis

Originated loans Loans and receivables created by an enterprise Amortized cost, subject to impairment recog-
and receivables by providing money, goods, or services directly nition
to the debtor

Held-to-maturity Fixed maturity investments that the enterprise Amortized cost, subject to impairment recog-
investments intends and is able to hold to maturity nition

Available for sale
financial assets—
normal case
Includes:
• Fixed maturity investments that the enterprise
either does not intend or is unable to hold to
maturity
• Equity investments with a quoted market price
• Equity investments with no quoted market
price but able to estimate fair value
Fair value; enterprise has a one-time, enter-
prise-wide choice of reporting changes in fair
value in (a) net profit or loss or (b) equity
until the asset is sold or otherwise disposed
of, at which time the cumulative gain or loss
is reported in net profit or loss.

Available for sale Equity investments with no quoted market price Cost subject to impairment recognition
financial assets— and the enterprise is unable to estimate fair
unusual case value

Financial assets Financial assets acquired for the purpose of gen- Fair value, changes in fair value in net profit
held for trading erating a profit from short-term fluctuations in or loss
price; includes all derivative assets and liabilities
Source: Deloitte Touche Tohmatsu, IAS Plus

minimum liability disclosure requirement, potentially
allowing the concealment of a firm’s pension liability.
The differences in actual results are substantial but not
consistent. For example, in 1999 Nokia reconciled its IFRS
financial statements to US GAAP and had an identical net
income. Hoechst reported virtually identical net income
in 1998 under GAAP and IFRS, but in 1997 its GAAP
income was 75 percent less than that using IFRS. For BHP
Billiton and Novartis, US GAAP net income in 1999 was
about 80 percent of their IFRS income.
Financial assets can be measured and reported in numer-
ous ways around the world, creating unwelcome surprises
for investors when losses occur. For example, some compa-
nies recognize assets at cost, others at the lower of cost or
market, still others at fair market value. Daimler has
stopped publicly releasing results calculated according to
German regulations (although it provided this information
to German authorities), and now reports using only GAAP.
In response to current events, the IASB is taking a leader-
ship stance in requiring that stock options be fully ex-
pensed in financial statements. Analysts are urging the
FASB to follow suit. The FASB currently requires that the
value of outstanding stock options be disclosed in the
footnotes of financial statements, requiring investors to
perform calculations and make their own adjustments to
the income statement in order to see the actual earnings.
International standards are taking an opposite approach
when it comes to securitized transactions. IFRS will not
allow this type of transaction; for example, loans or credit
card balances that are assets cannot be stated as a sale and
removed from the balance sheet because of continued risk
exposure to the firm. Stock options are an area of con-
tention, relative to goods or services that are secured by
such and not reported on income statements. This contin-
ues to be permissible in US GAAP, whereas the IASB has
not fully decided on it.
The IASB has an interesting approach to a class of assets
called “held-to-maturity investments.” These are typically
debt securities and mandatorily redeemable preferred
shares that are not intended to be disposed of. Because
this classification depends on management intent rather
than objective evidence, IAS 39 imposes a somewhat puni-
tive burden. If an enterprise actually sells a held-to-matu-
rity investment other than in a circumstance that could not
be anticipated or in insignificant amounts, all of its other
held-to-maturity investments must be reclassified as avail-
able-for-sale, which are measured at fair value. (See Figure
2 for categories and measurements.) For available-for-sale

64 Business Horizons / May-June 2003

financial assets that are remeasured to fair value, a firm
will have a single, company-wide option to adopt one or
the other of the following accounting policies:
● recognize fair value changes in net profit or loss for the
period
● recognize the fair value changes directly in equity until
the financial asset is sold, at which time the realized
E
gain or loss is reported in net profit or loss
Hedge accounting is allowed under IAS 39 in specific cir-
cumstances. The hedging relationship must be clearly de-
fined, measurable, and actually effective. Offsetting effects
on net profit or loss has to be recognized symmetrically.
European companies have until 2005 to implement IAS
39. Approximately 300 European companies that already
use US GAAP exclusively have until 2007 to adapt to the
new system. The vast majority of about 6,700 companies
across Europe report in their national local GAAP. Africa,
Australia, and a number of former Soviet republics have
agreed to adopt IFRS. Stock markets that accept financial
statements of foreign listed companies in IFRS without
any additional reconciliation include the London, Zurich,
Frankfort, Luxembourg, Hong Kong, Thailand, Malaysia,
Amsterdam, and Rome stock exchanges.
IAS 39 strictly forbids recognition of anticipated future
revenues that are in any way speculative. Accountants
would ignore any non-contractual aspects of financial
instruments, such as future deposits by depositors and
projected purchases by credit card customers in valuation
of a financial instrument. A bank is not allowed to assume
renewals of time deposits, and credit card companies are
not permitted to assume any additional purchases.
Off-balance-sheet financing is not allowed under IAS 39.
For reporting purposes, a firm is deemed to be in control
of a financial asset or liability as long as it has the right to
sell or pledge the asset, or to reacquire it, unless the asset
is readily available on the open market. The FASB is taking
action on special-purpose entities (SPEs) that have been
the vehicle for corporate fraud in America. The intent is
not to restrict the use of SPEs but to improve financial
reporting by involved firms. We can expect to see more
assets, liabilities, and results of SPE activities consolidated
into financial statements of parent firms that create the
entities and are the primary beneficiaries. This effectively
removes advantages that deception would provide and, as
such, makes SPEs useful only if their intent is legitimate.
IFRS is considerably more restrictive in the use of SPEs.
Both the IFRS and FASB are concerned about other items
that could be removed or omitted from financial state-
ments, obscuring the extent of a company’s true assets
and liabilities. Operating leases are typically not reported
as either an asset or a liability. What about an airline that
International accounting harmonization: Developing a single world standard
has all of its planes on lease? A balance sheet that pres-
ents an airline without any aircraft is clearly not a faithful
representation of economic reality.
Corporate corruption issues
nron is not unique in recent history for having bla-
tantly endeavored to defraud investors. Sunbeam,
Cendant, and Waste Management, Inc. notably
engaged in clear-cut fraud. Those companies, however,
were not forced into bankruptcy when their shenanigans
came to light.
In its simplest accounting explanation, Enron was hiding
billions of dollars of debt by using off-balance-sheet
financing. The purpose was to convince the marketplace to
pay no attention to the associated risks. The firm was actu-
ally responsible for the debt of partnerships and special
purpose entities that turned out to be controlled by Enron,
various convoluted subsidiaries of Enron, or one of its
principals, such as Andrew Fastow, the CFO. In order to be
in compliance with the SEC and procedures of the FASB,
the liabilities in question, along with the assets and costs,
need not be consolidated into the financial statements if
the parent firm does not control 51 percent of the voting
rights of the off-balance-sheet affiliate. Enron’s meltdown
began when it filed Form 8-K to restate results for 1997
through 2000, admitting that three of its affiliated partner-
ships should have been consolidated after all. No reason is
required or given in the document. Analysts suggest that
other investors in these particular partnerships might have
been Enron employees, a violation of rule compliance.
In 1999, when Enron was flying high (along with the rest
of the market), company officials boasted about their use
of leverage. Many analysts, consultants, academics, and
journalists agreed, holding up Enron as an award-winning
example to follow. In bragging about hiding the debt asso-
ciated with the acquisition of three New Jersey power
plants from Cogen Technologies in 1999, Fastow said, “We
accessed $1.5 billion in capital but expanded the Enron
balance sheet by only $65 million.” He also insisted,
“We’ve completely segregated these assets, so if something
were to happen here, given the high leverage, it would not
be able to come back at Enron.”
As investigators have tried to ascertain exactly what went
on in Fastow’s financial black box, the marketplace has
been punishing the stock of other companies that use off-
balance-sheet debt. El Paso Corp., another Houston com-
pany that owns natural gas pipelines, consolidated $2 bil-
lion in off-balance-sheet financing in the wake of the
Enron debacle. Its press release said, “It has become clear
that the market now expects energy companies to main-
tain lower leverage and more simplified balance sheets.”
65
The response by the US government is a congressional
scrutiny of how financial and commodity markets are reg-
ulated, in addition to examining the inadequacy of fed-
eral protection of employee retirement accounts. At a
minimum, we can expect to see new standards for disclo-
sure of off-balance-sheet liabilities. A key proposal to the
FASB is to tighten the definition of when affiliates need
not be consolidated into financial statements. The SEC
plans to close certain loopholes in its disclosure require-
ments. One salient point is the definition of material
information, since Enron’s auditors at Arthur Andersen
accepted the company’s claims that much of its off-bal-
ance-sheet activities need not be disclosed because the
amounts at stake were small enough to be considered
immaterial. On a related topic, many people are suggest-
ing it would be prudent to eliminate a huge potential
conflict of interest by banning accounting firms from fur-
nishing consulting services to clients they audit. (In 2000,
Arthur Andersen billed Enron $27 million for consulting
services, compared with $25 million for audit work.)
The Enron debacle, though having drawn great attention
in the IFRS dialogue, is not an indicator of any fundamen-
tal accounting or regulatory system failure. Rather, it is a
case of corrupt management that was seeking technicali-
ties behind which to perpetrate investor fraud. It appears
that its primary infraction, nondisclosure of off-balance
sheet financing, might be more clearly prohibited under
IFRS. That, however, would not necessarily have precluded
them from other fraudulent tactics under the interna-
tional system, because the IFRS is generally less structured
than US GAAP and more interpretive latitude is available
to corporate accountants.
Influence of history
and region
A
ctivities arising from systems with legal traditions
based on Roman law (also known as code law)
are quite different from the conceptual framework
that comes from common law. Roman law, as used in
Germany and France, depends on civil codes, highly de-
tailed and comprehensive, with little room for interpreta-
tion. In a common law system such as the UK and the US,
accounting standards are more general and are supple-
mented by the input and governance of professional
organizations. This creates inherent challenges in harmo-
nizing international accounting standards, due to cultural
and systematic differences.
Typically in a Roman law or code law country, the role of
the professional accountant is to implement highly pre-
scriptive and detailed legal requirements. This could be
contrasted with the UK, where presentations of “a true and
66
fair view” of a company’s financial position and results
will depend heavily on the judgment of the accountant as
an independent professional. Gray (1988) postulates that
Roman law systems would favor less flexibility and a more
conservative approach. The development of IFRS is much
to the credit of accounting professionals in the UK, who
The Enron debacle, though
having drawn great attention
in the IFRS dialogue, is not an
indicator of any fundamental
accounting or regulatory system
failure. Rather, it is a case of
corrupt management seeking
technicalities behind which to
perpetrate investor fraud.
have taken a leadership role in gradually convincing
Roman law countries that a common law format is viable.
This has been facilitated by the experience of European
firms using US GAAP methods to tap US capital markets
that would prefer a much simpler rulebook.
Japan differs from the Asian-colonial countries of Singa-
pore and Hong Kong, whose systems were initiated by the
British Empire. Japanese favor high levels of uniformity
and statutory control. They favor secrecy and are not com-
fortable with Western concepts of disclosure and trans-
parency. Politics are injected into the accounting system as
needed. For example, at the beginning of the Japanese
banking crisis the government informed banks that they
need not recognize loan losses because the public might
lose confidence in the banking system.
In capturing broad differences in institutional structure,
researchers may partition countries into the “shareholder-
focused” group or “Anglo-American cluster,” which in-
cludes the US, the UK, Canada, and Australia. By examin-
ing environmental measures that include legal systems
and the relationships between business enterprises and
sources of capital, one can see these market-oriented sys-
tems as emphasizing the needs of investors.
France, Germany, and Japan are members of the “conti-
nental” group, also known as the “bank-dominated
Business Horizons / May-June 2003
economies” or “code law cluster.” Traditionally, banks and
governments have been dominant in directing the use and
evaluation of accounting information. High uniformity of
accounting procedures is preferred over flexibility. Homo-
A
geneity is assumed within each cluster, and between-clus-
ter countries are considered to be dichotomous with
respect to bank-oriented vs. market-oriented financial sys-
tems, public vs. private sector accounting standard-setting,
and degree of importance of auditing.
The same divisions are present in defining the two institu-
tional structures into two legal styles: common law and
code law. An empirical study by Ball et al., cited in Pow-
nall and Schipper (1999), has shown significant differ-
ences in the factors of accounting practices between com-
mon law and code law countries. The structure of this
study was seven countries divided into the two groups.
Regressions of net income per share were deflated by
share price on annual return per share, and again deflated
by price in order to capture the extent to which annual
earnings reflect actual market share pricing movements
during the fiscal year. This was interpreted by the re-
searchers to measure the timeliness of accounting earn-
ings. Hypotheses relating to differences in timeliness
reflected group-specific differences in the use of account-
ing earnings. Inferences relating to to timeliness between
code law and common law countries were based on com-
parisons of R-squared statistics from the regressions of
earnings on returns.
The researchers concluded that if international harmo-
nization of financial reporting is to converge into a single
system, common law is more appropriate because of the
arm’s-length transaction process most typical of it, which
is “shareholder focused.” Shareholders use earnings to
determine share value and compensate managers, while
in “stakeholder-focused” economies (code law countries)
“earnings are used more for determining current payouts
to government (via taxation), to shareholders (via divi-
dends), and to managers and employees (via wages and
bonuses).” As a further endorsement of the common law
concept, cross-border transaction participants are likely to
be unrelated and at arm’s length from one another, rather
than related to the firm and its managers.
Another very interesting result of the study is the sugges-
tion that accounting earnings in common law countries
are more conservative than reported earnings in code law
countries, arising out of the arm’s-length relationship
between contracting parties (managers and shareholders).
This adds to the degree of difficulty in comparing financial
statements from different legal traditions, due to informa-
tion asymmetry. Reviewing the results of earnings suggests
that bad news is incorporated more slowly and good news
more quickly in code law than in common law countries.
International accounting harmonization: Developing a single world standard
Arguments in favor
of harmonization
study conducted by Whittington (2000) com-
pared a steel company in France to one in the UK
over an 11-year interval from 1988 to 1998. Each
company used GAAP in its own country and restated its
earnings to US GAAP for investor purposes. None of the
differences between methods was decisive enough to
make any inferences. The US and UK GAAP were the most
closely aligned and the French GAAP appeared slightly
more conservative, although other studies have indicated
GAAP to be somewhat more conservative in the US than
in France. As such, GAAP between US, UK, and France
may not differ significantly. Earlier studies by Weetman
and Gray and Weetman et al. (cited by Whittington) had
concluded that US GAAP is generally more conservative
than UK GAAP. Another study by Dumontier and Labelle
(cited by Pownall and Schipper) found that in 117 pub-
licly traded firms in the years 1981–1990, French GAAP
earnings were no less value-relevant than were those of US
or UK GAAP earnings.
Coopers & Lybrand conducted extensive research on case-
specific reconciliations of IFRS to US GAAP. They con-
cluded that the belief in lower standards as a result of
IFRS financial reporting is erroneous. Their studies did
not reveal material differences, and they emphasize that
in looking for areas of difference between US GAAP and
IFRS it is important to bear in mind that there are often
differences in the application of the same domestic
accounting standards between US companies. Volcker
(2002) believes that a single set of international account-
ing standards would minimize compliance costs for com-
panies and also assist enforcement.
The current practice for foreign firms that desire access to
US markets is to use US GAAP reporting. Their alternative
is to file a report with the SEC that reconciles their local
statements to US GAAP. A recommendation by Schwartz
(2001) that has merit calls for an international standard
that approximates US GAAP to be supplemented as
needed with the use of an additional disclosure for re-
maining differences in measurement, recognition, or dis-
closures that are material. This furnishes an acceptable
level of transparency without the burdensome accounting
conversion processes that currently take place.
The overall need for accounting harmonization is fueled
by globalization. While the US capital markets have been
dominant, investors are interested in the broadest possi-
ble access. The forces of accounting harmonization in-
volve companies and investors that are fully committed to
an international standard. This is supported by the long-
term efforts of a considerable array of accounting profes-
sionals, particularly the IASB.
67
Arguments against
harmonization
P
erhaps the most pervasive resistance to acceptance
of IFRS is the pressure exerted by the United States.
Certainly there is justification for the US GAAP
preference, based on the large portion of international
capital that flows through American markets. But the US
is known for a heavy-handed style. Europeans see the US
pulling strings behind the scenes, particularly in the SEC’s
influence in the appointment of IASB trustees. The current
chairman is none other than Paul Volcker, former chair-
man of the Board of Governors of the US Federal Reserve
System. The European Community has wanted the IASB
to have wider geographical representation in order to bal-
ance the American influence somewhat.
Form 20-F is an accounting reconciliation of foreign
financial statements to US GAAP that is filed with the
SEC. Many non-US firms file this document. Analysis by
Pownall and Schipper shows the differences to be large in
magnitude from the original accounting standards used,
although the differences are not in any consistent direc-
tion. This indicates that the application of different
accounting systems to a common set of events and trans-
actions could produce essentially noncomparable reports.
Hence, it may be inappropriate to impose uniform ac-
counting standards because of cross-jurisdictional institu-
tional differences. Some regulators and standard setters
may find it preferable to maintain at least some country-
specific reporting that can capture qualitative, institution-
driven differences in events that seem superficially similar.
Reconciliations can be additionally furnished for firms
that choose to report in numerous jurisdictions.
Another part of the problem is the previously mentioned
lack of specificity in the IFRS model. Schultz and Lopez
found that when international accounting rules allow for
significant discretion in application, de facto uniformity
among nations is unlikely to result. This impairs the util-
ity of the harmonization effort.
In inviting comments for a 2003 discussion, FASB Chair-
man Robert Herz (2002) stated,
Many believe that moving to broader, more princi-
ples-based accounting standards such as those used
in other parts of the world would facilitate better
reporting in the US. Others, however, are concerned
that a principles-based approach could reduce the
comparability of financial information and leave
too much room for judgment by companies and
auditors.
Dzinkowski (2000) suggests that firms could suffer nega-
tive effects from adopting non-local GAAP, in relation to
local tax liabilities they have shielded themselves from
68
through careful use of their existing accounting standards.
These amounts could be quite substantial. Costs and
assets may be stated in any number of different ways,
according to local custom. The fear of excessive trans-
parency is of legitimate concern to a firm.
Barth, Clinch, and Shibano (1999) assert that local firms
could also experience a decrease in domestic trading vol-
ume after harmonizing to an international standard due
to a decrease in domestic price informativeness. Domestic
investors would experience an expertise acquisition deficit
as they delay or decline an education in interpreting the
unfamiliar reporting formats.
If the international standard is less stringent than US
GAAP, it could place American companies at a disadvan-
tage in competing for a pool of international funds. This
would be caused primarily by the higher level of trans-
parency that appears in US standards of accounting than
that required of firms from other countries, offering those
firms a competitive advantage. At the same time, foreign
firms, if able to do business on US stock exchanges with-
out full US GAAP compliance, will not have any reason or
desire to perform accounting conversions. Said Malcolm
Cheetham of Novartis, a Swiss pharmaceuticals company:
In completing our US listing we had to go through
the costly exercise of making a bridge to US GAAP.
It introduced a lot of complications in acquisition
accounting. It didn’t result in our share price mov-
ing at all, and I don’t see that it was of any real
value to the business community. (Dzinkowski
2000)
Into the future
T
he past 20 years have seen increasingly creative
attempts by companies to avoid showing various
assets and liabilities on their balance sheets by
using transactions that may obscure the economic sub-
stance of their financial position. There will always be
loopholes to be exploited by corrupt managers in any
country or company. It is a matter of opinion to what
extent the United States dominates in corrupt accounting
practices, but it has assuredly not cornered the market. US
GAAP is already more restrictive overall and more detailed
than IFRS. Cairns (2000) points out that it would be
much easier for a US GAAP company to be in compliance
with the IFRS than for a company that reports in IFRS to
claim compliance with US GAAP. In the case of the Enron
fiasco, IFRS would have prohibited the particular account-
ing procedures that misled investors. However, that can-
not create the assumption that the company would have
been unable to find any loopholes under IFRS with which
to perpetrate fraud.
Business Horizons / May-June 2003
As Paul Volcker told Congress, “A new profession of finan-
cial engineering has emerged which exercises astonishing
ingenuity in finding methods to circumvent established
accounting conventions and tax regulations.” This would
not be one of America’s proudest exports. He also noted,
The accounting profession is facing increasing chal-
lenges in responding to the growing complexity of
business and finance, which features seemingly
endless varieties of securitizations, multiplying off-
balance-sheet entities, and diabolically complicated
abstruse derivatives. This is a trend that will con-
tinue. Along with this complexity, at least in the
United States, there has been a certain amount of
erosion of professional, managerial, and ethical
standards, as well as internal company safeguards.
Compliance, enforcement, and jurisdiction are among
many issues that will need to be worked out. An export of
American litigiousness would be an unhappy addition to
the international community.
Compliance, enforcement, and
jurisdiction are among many
issues that will need to be
worked out. An export of
American litigiousness would be
an unhappy addition to the
international community.
A possible future prediction is that accounting system har-
monization will add to the international movement of
executives and managers as local business practices
become less preeminent in favor of global business strat-
egy. Management skills will become ever more transfer-
able. The high compensation of American managers will
also take place globally, though not to the lofty extent
seen in America in the recent past. This will be contingent
on the skill and value brought to the firm. The pay scales
will be a shock in some places that have not had signifi-
cant management compensation disparities into the top
levels. The rapid terminations of these highly paid man-
agers will also come as a surprise in some countries and
cultures that have featured employment stability. Over the
next 25 years, these pay disparities between top and mid-
dle management will shift downward as the knowledge
base becomes more generalized.
International accounting harmonization: Developing a single world standard
University curricula will become less regionally focused as
accounting professors deal with the standardized systems.
Needs and opportunities for academic research will be-
come clearer as scholars apply their analysis to challenges
that are more universal and pervasive. For example, how
does the homogenization of accounting and finance affect
political risk? Foreign exchange risk? Market risk? Does
risk increase or decrease?
Homogenization of accounting practices will assist in the
consolidations of large businesses on a global basis. Merg-
ers on the scale of Daimler and Chrysler, British Petro-
leum and Mobil, will increase exponentially. Harmoniza-
tion will assist executives in evaluating investments and
acquisitions in totally different economies. This trend is
well established with media giants, oil companies, and
automobile manufacturers, to name just a few. We can
expect to see retailers and telecommunications the next in
line to go the same way.
Access to capital markets will be facilitated by accounting
standards homogenization, for the benefit of both in-
vestors and firms. The sophistication level of investors
around the world will increase. Stock market exchanges
will have larger volumes in all markets as American in-
vestors shop overseas and international investors become
active in their own markets as well as the US markets. The
timing is perfect for the maturity and power of the Inter-
net, with global investors able to access information and
conduct transactions at low cost and high speed. Bound-
aries and time zones are inconsequential on the Net. Any-
one with a computer and a phone line can have tremen-
dous access to information.
The burden associated with being a public company is
going to produce a divergence in management and strat-
egy between public and private companies. The lure of big
capital is often later lamented and regretted as companies
sacrifice their privacy and self-governance in favor of rais-
ing money. International managers need to understand
the strategic disadvantage this can create in their particular
competitive environment. Managers are going to find that
they are furnishing transparency in ways they do not de-
sire. We can expect to see subsequent restructuring trends
as companies rush into the capital markets and then later
move toward reprivatization to regain confidentiality after
the firm has been built out. This may be an evolutionary
trend over the next 25 years.
We know from history that the growth of business global-
ization is much higher than the overall growth in world
business volume. More effort is expended in chasing the
same pool of money. This is counterproductive to the
intent of moving beyond domestic markets. Companies
see global capital markets with similar hopes of accessing
higher volumes by reaching beyond borders. This has
been a spectacular failure for some firms, most notably
Daimler-Benz, whose launch on the New York Stock
69
Exchange was a dismal experience, and the results of
which are partially obscured by its adventuring into the
Chrysler acquisition.
One of the many possibilities that arise from transparency
and comparability of financial statements and the result-
ing inflow from foreign investors is the opportunity per-
haps to raise money globally but grow the business
domestically, on home turf in familiar markets. It is some-
what of a reverse globalization concept: global input
rather than global output. This gives a firm more funding
to use toward its core competency.
L
ike it or not, the evolution of international ac-
counting standards harmonization is inevitably
tilted toward a strong resemblance to US GAAP. In
addition to the pressures exerted by the SEC and the
FASB, there is the undeniable pull of the US mega-mar-
kets. Europeans have strong faith in their future potential,
but the current reality is not characterized by Americans
scrambling to get into European capital markets. The
spotlight remains on the United States. ❍
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Business Horizons / May-June 2003