Convergence to International Financial Reporting Standards (IFRS) is a much talked about issue in the accounting world today. Many nations except the US and some others have switched over to IFRS while many others are in the process of converging their national GAAPs to IFRS. India nevertheless needs to be sensitive to the pitfalls of fully converging with IFRS. This article provides an overview of the IFRS in the Indian context.

IFRS – The Way Forward


nternational Financial Reporting Standards (IFRS) is gathering storm and most countries barring the US and a few others have either adopted IFRS or their national GAAPs are converging to IFRS. Australia, New Zealand, Singapore, China, Middle East, Japan, Africa and the European Union are prominent names that have either adopted or are converging to IFRS. The numero uno status to IFRS came about after the EU made IFRS mandatory for all its listed companies starting 2005. Consequently, more than 8,000 EU listed companies adopted IFRS in one go. As per the findings of a survey of the chairmen of 145 European companies by the executive search firm Russell Reynolds: (a) more than half chairmen of the companies with US listings said that they would consider de-listing because of SarbanesOxley in spite of the difficulties of taking shares off the US exchanges (b) 70 per cent of those heading companies not yet listed in the US said SarbanesOxley would dissuade them from seeking a US listing. An extensively regulated US capital market is losing its attractiveness and predominance of US GAAP. This could make large companies look at other capital markets and in many of those capital markets IFRSs are accepted. Whilst such situations provide IFRS an opportunity to flourish, it would nevertheless be inappropriate to see things merely from that perspective. This is because IFRS on its own stands a fair chance, with its acceptance by EU as well as given the fact that many countries traditionally followed IFRS or an IFRS-inspired national GAAP. More than 1,100 Chinese companies have recently switched over to new accounting standards bringing

— CA. Dolphy D’Souza
(The author is a member of the Institute. He can be reached at

their books in line with international norms. From next year the companies will have to apply a new set of 38 standards—the China Accounting Standards System—that are basically in line with IFRS. But there is much more at stake than improving accounting practices in China’s listed firms. Chinese companies are increasingly looking overseas for funds as well as acquisitions, and adopting IFRS will make both easier by increasing companies’ transparency and credibility. “To become an economic superpower, China needs capital to fund growth, and it will help if its companies speak the same business language as the rest of the world,” says Winnie Cheung, chief executive of the Hong Kong Institute of Certified Public Accountants. India follows Indian GAAP, which is inspired by the erstwhile International Accounting Standards (IAS). However, Indian GAAP has not kept pace with the changes that followed IAS’s updation to IFRS. The most important change being the application of fair valuation principles. Key standards based on fair valuation principles that have not yet been rolled out under Indian GAAP are relating to business combinations, financial instruments and investment properties. Other than these there are many areas where there are critical differences between Indian GAAP and IFRS. The key questions for India, therefore, are: Should Indian GAAP be converged with IFRS? What are the pros and cons? What are the hurdles and impediments in fully converging with IFRS? What are the precautions that need to be taken? Whether Indian GAAP should be converged with IFRS? Is there an option or alternative? IOSCO requires all its constituents to converge to IFRS and therefore departing from IFRS is not a solution. Besides, India is a global country and if it has to invest abroad or attract inbound investment it has to follow global standards. Seen from this perspective, the sooner we converge to IFRS the better. When the world is following IFRS, can we lag behind?

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That, however, does not mean that we expose all our non-global Indian companies to 2500 pages of IFRS text particularly Small and Medium Sized Enterprises (SME). It may be noted that a substantial portion of India’s GDP is contributed by SMEs. It would be unwise to impose unwanted accounting burden on SMEs. If and when a SME becomes a global player, it can shift to IFRS. Going forward, there should be two categories of reporting entity in India, the SMEs and the rest, i.e., global companies, listed companies, and companies with public accountability. The latter should follow IFRS and the SMEs should follow standards that are typically driven to meet limited user requirement, such as those of taxation authorities. Seen from this angle, both disclosure as well as recognition exemptions should be given to SMEs. For example, since SME accounts are predominantly used for tax purposes, impairment and deferred taxes and such other accounting requirements may not be relevant to SMEs. SMEs would have private lenders, but lenders have evolved their own independent basis of assessing SMEs and that would not be dependent on SMEs following IFRS. If India were to converge to IFRS, the existing SME standard will need to be revised to exempt SMEs from the rigours of IFRS. Whilst departing from IFRS is not a solution, India nevertheless needs to be sensitive to the pitfalls of fully converging with IFRS, so that we can prepare ourselves and take appropriate remedial action. There are challenges that nations adopting IFRS need to counter in the coming days. One big challenge for countries adopting IFRS is the shortage of resources, particularly IFRS-trained professionals. With China’s listed companies adopting IFRS, demand for accountants is rising and could run into the millions in coming years if the new standards are rolled out for all of the country’s companies and not just the listed ones. Accountants say that the challenge for China will lie in getting it’s over 1,100 listed companies to establish the appropriate financial reporting systems and in training enough qualified accountants. “Our view is that it will be a real challenge for China to train sufficient numbers to cater for the exponential growth of its economy in the coming years,” said Eric Anstee, Londonbased chief executive of the Institute of Chartered Accountants in England & Wales. “To put this in context, China currently has a shortfall of 300,000

May 2007 The Chartered Accountant



qualified accountants and is likely to require a further three million over the coming years if it is to keep pace with its current rate of economic growth,” he added. Also, since IFRSs are fair value driven, IFRS nations would need a large pool of valuation experts. India should be aware of these challenges and tackle them through advance planning, without delaying its IFRS convergence target. One common criticism about IFRS is that it is heavily loaded in favour of fair valuation principles. These principles are very subjective and would result in significant volatility in periodic results. Worse still, whilst every other IFRS standard requires application of fair valuation principles, there is not a single IFRS standard which provides guidance on how fair values are determined. A UK-based global accounting firm did a small exercise to determine how reliable fair values are. It was noticed that in a live example on ESOP valuation by making changes to the model input variables, all of which fell within the bound of acceptability, the option expense for a particular company could have been varied from 40% to 155% of reported income. The FASB has recently issued Statement of Financial Accounting Standards No. 157 Fair Value Measurements (SFAS 157), which establishes a single set of guidance for fair value measurements under US GAAP. The IASB (IFRS standard setter) recognised the need for consistent guidance on measuring fair value in IFRSs and for convergence with US GAAP. Consequently, IASB has decided to use the FASB’s Statement as the starting point for developing its own standard on how to measure fair values. One of IASB’s challenges is to ensure that it brings stability in the entire framework, provide clarity on a large number of confusing issues, address appropriately the fair value criticisms and most importantly ensure that the standards are interpreted and applied consistently, be it in Asia, Africa or America. A global accounting firm reviewed the first IFRS financial statements of some of the largest corporations, to assess the degree of consistency and comparability among companies that has resulted in IFRS adoption, and to ascertain how performance measures based on IFRS have been used in market communications. The key findings of the survey are: l Despite the challenges and the significant departure from previous national GAAP, the first IFRS implementation has been a resounding success overall. l Companies that have applied IFRS first time continue to maintain the flavour of previous national GAAPs in the absence of best IFRS practice, which will take some time to evolve. l Significant judgements had to be applied in many situations, which exposes the conflicts within and between IFRS standards. l The absence of industry-related IFRS standards and best practices (which will evolve overtime), consistency and comparability between various companies in an industry was affected.
1694 The Chartered Accountant May 2007


Companies have widely used alternative, non-IFRS measures for market communication. This accentuates managements’ concern that IFRS financial information may not be sufficient at this point in time. However, this could be due to the fact that the first IFRS financial statements required a lot of adjustments to the previous national GAAP financial information. Further, as analysts improve their understanding of IFRS, the need to use non-IFRS measures may decline overtime. l IFRS standards are excruciatingly complex compared to previous national GAAPs, with 2000 disclosure requirements, approximately double that of UK and Australian GAAP, and four times of French GAAP. Getting IFRS resources and IFRS technical expert is becoming increasingly a challenge. This is a real danger and bold measures would be required on the part of IASB to make these standards user-friendly and easy to implement. In India we have our own distinctive problems. There are multiple regulators in the field of accounting standards, for example, if there is a listed bank, it has to follow accounting norms prescribed by SEBI, RBI, ICAI, Companies Act and Banking Regulation Act. Some of the accounting requirements could be inconsistent with each other and some are definitely inconsistent with IFRS. If IFRS implementation has to be effective, the regulators would need to stay out of prescribing accounting norms. Take Companies Act for instance. A large number of accounting promulgations therein are contrary to IFRS requirements. These are in the areas of presentation of financial statements, treatment of preference capital as equity rather than as liability, Section 78 which allows premium on redemption to be charged to securities premium account, Schedule XIV which prescribes statutory depreciation rates, and capitalisation of foreign exchange differences, etc. If IFRS has to be implemented, Companies Act would need to stay away from accounting prescriptions. Similarly, RBI accounting norms for provisioning of non-performing assets or accounting for derivatives are incompatible with the requirements of IFRS. Another legal hassle is the powers of the High Court to stay application of accounting standards or to prescribe accounting requirements in the case of merger and amalgamation situations, which are often contrary to sound accounting practices. All this would affect smooth convergence to IFRS. The ICAI has set up an IFRS convergence task force to look into various convergence issues and prepare a road map for full convergence. Whilst a full convergence may be appropriate, the task force also needs to keep the interest of Indian companies and Indian economy in mind. A case in point is the deferral of VRS cost or ESOP accounting based on intrinsic method, which though a departure from IFRS, is nevertheless necessary. However, such exemptions should be subject to a sunset clause, so that a few years down the line, full convergence could be achieved. The convergence task is challenging, but needs to be done. r
May 2007 The Chartered Accountant 1695

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