CONTEMPORARY FINANCIAL ACCOUNTING

DIVERSITY OF FINANCIAL ACCOUNTING PRACTICES

(Goodwill, Income Smoothing and Asset Valuation)

By :
DHEA NANDA CHRISTALIA
1.16.2.10402

FACULTY OF ECONOMIC AND BUSINESS

ACCOUNTING INTERNATIONAL CLASS
UNDIKNAS UNIVERSITY
2019
 CHAPTER 1
INTRODUCTION

1.1 Background
In every company requires accounting as a tool to provide financial
information, identification of relevant data for decision making. Accounting is a
process of identifying, measuring, recording, and reporting financial economic
information that functions for the assessment as well as making decisions for those
who need it in the future assessment. Accounting Diversity is the diversity of
accounting treatment. Therefore the purpose of this international accounting is so
that diversity in the world can be united by the same accounting treatment. The
existence of accounting diversity caused by differences in accounting standards can
result in reduced accounting appeal or even loss altogether. A financial report that
is the result of an accounting process for a company in a country that shows a profit
or shows good performance, may show the opposite difference if the financial
statements are made based on accounting standards in countries that have different
standards from the financial statements.

1.2 Problems :
1. What is diversity of financial accounting practices?
2. What is Goodwill in the company?
3. What is Income Smoothing in the company?
4. What is Asset Valuation in the company?
1.3 The Purpose of the Paper :
1. To understand the definition of diversity of financial accounting practices.
2. Comprehend of goodwill in the company.
3. To know income smoothing in the company.
4. To understand of asset valuation in the company.
 CHAPTER II
LITERATURE REVIEW

THE DEFINITION OF DIVERSITY OF ACCOUNTING

Accounting for one jurisdiction / country is different from accounting for

another jurisdiction / country, in accordance with the causal factors contained in
each jurisdiction (Sunardi and Sunyoto, 2011: 6). The following description of the
accounting diversity is seen from the aspects of measuring assets and liabilities and
aspects of determining capital and periodic profits.
➢ Measurement of Assets and Liabilities
Accountants still measure most of the world's business assets based on historical
costs. However, the concept of measurement is not applied purely. To a certain
degree, initial transaction costs, mixed with various current market valuation
techniques, with various adjustment techniques for special or general price levels,
with various related interest calculations and estimated future transaction rates,
especially in the foreign exchange sector and collection of receivables in the future.
The application of measuring current costs may immediately replace, or at least
dominate, historical costs in accounting practices. Which can be seen at the
beginning of this century is the International Financial Reporting Standards (IFRS)
published by the IASB. IFRS, which uses more fair value, has displaced the choice
of US GAAP which uses a lot of historical costs.
The term asset or asset does not have a definite meaning, in the sense of which
resources must be included and which resources must be excluded from the
limitations regarding these assets. This uncertainty also includes the interpretation
of intangible assets such as goodwill and research and development costs (R&D
costs).
 ➢ The Impact of Accounting Diversity
The only economic reason for accounting convergence efforts is that there
are significant costs caused by accounting diversity and this will be reduced by
accounting convergence. If accounting diversity is a barrier to cross-border capital
flows, reducing or removing these barriers will help direct capital to the most
efficient users globally. The main reason related to reducing accounting diversity is
that this will improve the comparability of financial statements making it easier to
use across countries. The move towards a single currency, for example the Euro, in
eleven member countries of the European Union (EU) is a relevant analogy to
explain the effect of diversity. By signing the Treaty of Maastricht in 1991, the
authorities in the EU agreed to move towards the unification of their currencies.
The main economic reason for this is that currency differences incur significant
costs of doing business in Europe.

➢ The Efforts to Face Accounting Diversity

Accounting diversity prevents the flow of funds to business entities that can
use these funds efficiently. Efforts to overcome this problem have been carried out,
among others with bilateral agreements and by providing convenience to world-
class publishers.

➢ Alignment constraints in Accounting Diversity

Christopher and Parker (2002) state that the most important obstacle in
realizing uniformity is the large difference in accounting practices from each
country. Significant differences are not only found in countries classified in
different classes, but also in countries within a class type. This condition comes
from the reasons of each country in compiling the accounting information itself.
The different views that occur between shareholders and creditors and tax
authorities are difficult issues to overcome without major changes in attitudes and
laws.
If the main purpose of financial reporting by each country is diverse, it
makes sense that the reports produced will also vary. Alignment is useful when
users of the same financial statement receive information from several companies
in several countries. It is relevant that these companies use two standards for
reporting rules, namely local standards and international standards, or master and
consolidated reports.
The next obstacle is nationalism. This can be translated as the state's
reluctance to accept adjustments in its accounting practices to those of other
countries. This reluctance can occur among accountants and companies or countries
that do not want to lose their sovereignty. Another form of nationalism could be a
lack of knowledge or interest in other accounting practices. In other words, there is
an assumption in the mind and view that it is difficult to change to the standards set
by other countries.
Another obstacle is the economic consequences in accounting standards. These
consequences differ from country to country, based on which country sets the
standard. These constraints can force disharmony.

GOODWILL
Goodwill is part of the assets in the company's balance sheet. Goodwill is
classified into intangible assets that arise when an acquisition of a company occurs
against another company. Goodwill arises when payments for purchases of other
companies are priced above the market price of net assets.

Obtaining Goodwill

Goodwill will arise as a result of the company's activities that want to buy
another company, where the price paid is greater than the price or net worth of the
company to be purchased. But if what is finally agreed upon is a price lower than
the net worth of the company being purchased, then what appears is negative
goodwill.
Amortization of Goodwill

Amortization is another word for the term depreciation. If in fixed assets

there is the term depreciation, then in intangible assets such as goodwill. PSAK
states that amortization is the allocation of amounts that are systematically
depreciated over intangible assets over their economic useful lives. The acquisition
price of intangible assets is periodically charged to the company's profit and loss
based on the best estimate of the useful life of goodwill or other types of intangible
assets.

The Example of Goodwill

Goodwill is a representation of a number that is greater than the book value

paid by a company to be able to obtain or obtain another company. As a parable,
the AB company wants to buy a CD company to expand its business. CD Company
has total assets of Rp.1,000, total liabilities of Rp.350 and total equity of Rp.650.

In this situation, CD companies sell high to AB companies, this is done

because CD companies know that their position is strategic for AB companies.
After going through a long price negotiation, finally the CD company was willing
to let go of the company for AB company at Rp.850.

* Net Assets = Total Assets - Total Liabilities (debt)

As we all know, that previously the total net assets of the CD company were
Rp.650 which was then bought by AB company at a price of Rp.850, from this we
all know that there is a difference of Rp.200. So, this is Goodwill. Those who think
that this is a loss for AB companies, because they buy CD companies with quite
expensive prices. But the position of the CD company is very strategic for the
growth and development of AB companies. Even by purchasing a CD company AB
companies will get even greater benefits for the next few years.

INCOME SMOOTHING

According to Koch (1981) in Sumarno and Heriyanto (2012) define "income

smoothing as a tool used by management to reduce reported earnings fluctuations
to fit the desired target." According to Beidleman (1973) in Christiana (2012)
defines "income smoothing as a deliberate reduction of reported earnings
fluctuations to be at a level that is considered normal for the company "

The Purpose of Income Smoothing

According to Foster (1986) in Rahmawati (2012) states that the objectives

of income smoothing include the following:

1. Improve the company's brand image for the outsiders that the company has a low
risk.

2. Provide relevant information in making predictions of future profits.

3. Improve business relations decisions.

The types of Income Smoothing

Eckel (1981) in Gandasari and Herawaty (2015) revealed that the smoothing over
reported earnings can be achieved with two types of alignment, as follows:

1. Real Income Smoothing is income smoothing which is done through real

financial transactions by influencing profits through deliberate changes in operating
policies and time.

2. Artificial Income Smoothing is income smoothing through accounting methods

applied to shift costs and / or income from one period to another.
 The Factors of Income Smoothing

Some factors that encourage management to do income smoothing are (Sugiarto, 2003):

1. Bonus compensation

In his research, Healy found evidence that managers who could not meet the
specified profit target would manipulate earnings in order to transfer current
earnings into future earnings. In addition, according to Harahap (2005), the
importance of financial statements invites management to flatten profits in order to
get high bonuses.

2. Debt Contracts

Defond and Jimbalvo (1994) using the Jones model, evaluates the accrual level of
companies that cannot achieve the profit targets. They found that companies that
violated debt agreements had fabricated profits, one period before the debt
agreement was made.

3. Political Factors

Jones (1991) examines companies that are being investigated by the International
Trade Commission (ITC). He found evidence that domestic producers tended to
reduce profits with discretionary accrual techniques to influence import regulation
decisions. Naim and Hartono (1996) examined companies suspected of
monopolizing and found that corporate managers smoothed profits to avoid the
Anti-Trust Law.

4. Tax Reduction

Companies make income smoothing to reduce the amount of tax that must be paid
to the government (Arens, Elder, Beasley, 2002).
Income Smoothing Techniques

Various techniques used in income smoothing include (Sugiarto, 2003):

1. Alignment through time of transaction. Or acknowledgment of transaction.

Management can determine or control the transaction time through management's
own policies (accruals), for example, research and development costs.

2. Alignment through allocation for certain periods. The manager has the authority
to allocate income or expenses for a certain period. For example: if sales increase,
management can charge research and development costs and amortize goodwill in
that period to stabilize profits.

3. Alignment through classification. Management has the authority to classify

income statements in different categories. For example, if non-operating income is
difficult to define, managers can classify the item as operating income or non-
operating income.

ASSET VALUATION
Asset valuation in accounting is the process of determining the amount of rupiah
to determine the economic significance of an asset that will be presented in the
Balance Sheet.
The Purpose of Valuation
The purpose of measuring / valuing assets is as follows:
• As a step in measuring earnings
• As a step in the process of presenting financial position
• To fulfill the information needs to be achieved in financial reporting
• To fulfill specific information needs that require assessment for management's
needs.
➢ Basis of Assessment
Hendriksen (1982) states that there are two types of exchange values that
can be used, namely output values and input values. Output values indicate the flow
of funds (cash) that the company expects to receive in the future according to the
 exchange price of output / company's products. While the input value shows the
amount of rupiah that must be spent by the company to obtain assets that will be
used in the company's operations.

1. Output Value
The value of output is based on the amount of cash or other (non-cash)
awards received by a business unit if an asset / service potential eventually exits the
business unit because of an exchange.
➢ Discounted Future Cash Receipts or Service Potential
This is the present value of future cash that the company will receive if the assets
are sold. This basis can be used if the expected cash receipts / equivalent can be
estimated fairly certain and the period of receipt is long enough, but the time / date
of receipt is certain. The concept of valuation requires an estimate of the amount to
be received, the discount factor, and the period of time of receipt.
Although this valuation basis has validity in assessments for investors, its
application has several weaknesses, especially when applied to individual assets.
The reasons are as follows:
• Expected cash receipts generally depend on subjective distributions that
are subjective and cannot be verified.
• Although discount rates can be obtained, adjustments to discount
preferences require special evaluation for management and may be difficult
for stakeholders to accept.
• If there are two or more factors including human resources (which are
considered as physical assets) contribute to the company's product which
ultimately results in cash flow, however a logical allocation to separate
individual potential service factors is difficult.
• The discounted value of the different cash flows for each asset cannot be
added together to obtain the company's overall value.
 ➢ Current Output Price
If company products are generally sold in organized markets, current market
prices are a rational basis for assessing future sales prices. There are several
weaknesses inherent in the basis of this assessment. First, the valuation basis
can only be applied to assets whose owners are intended to be sold such as
inventories, securities, equipment and land that no longer has benefits for the
company's operations. Second, the basis of this valuation is a substitute for
future selling prices so the relevance of its use raises problems. The current
selling price shows the amount to be paid by the buyer and does not need to
indicate the amount to be paid in the future except in ceteris paribus. Third, all
assets can be valued based on current selling prices, so different valuation
methods must be used to value different assets.
➢ Current Cash Equivalent
The present cash equivalent value shows the amount of cash or general
purchasing power that can be obtained by selling each asset based on normal
company circumstances. The present cash equivalent value is considered relevant
because it shows the condition of the company in relation to adjustments to
environmental conditions. The main difficulty of this concept is the need for
adjustments to separate items that do not have current market prices, for example
special equipment that cannot be sold such as intangible assets. The second
disadvantage is that the present value of cash equivalents has no additive properties.
➢ Liquidation Value
The liquidation value is the same as the current selling price / cash equivalent
present value, with the difference that the output value is obtained from different
market conditions. Liquidation values are only used in the following conditions:
* If other products / assets lose their normal benefits, so they become obsolete or unsold.
* If the business unit plans to dissolve its business in the near future so that it cannot
sell all assets in a normal market.
2. Input Value
The input value can indicate the maximum value of the company or the
company's products do not have market prices so it is not possible to obtain an
output value. The basic assessment that can be used for input values is as follows:
➢ Historical Cost
Cost shows all economic sacrifices in the form of monetary units incurred in
order to obtain goods / services until they are ready to be used for company
operations. This concept is that the cost can be verifiable, because the price based
on an agreement between the buyer and seller in free conditions. The main
weakness of this valuation is that the value of assets will change over time so, the
cost cannot show the actual value of the assets concerned. Another weakness is that
historical cost does not indicate any acknowledgment of profit or loss in a certain
period that actually occurred.
➢ Current Input Cost
Current input costs represent the exchange price that must be sacrificed at the
present time to obtain similar assets in the same condition. This basis can be used
if there is strong supporting evidence to determine the current input cost. Current
input costs are an important valuation basis, especially in presenting information
that shows the effect of inflation on the company.
➢ Discounted Future Cost
The basis of this assessment shows the present value of future economic
sacrifices if certain service potentials are obtained at the same time now. The main
requirement to use this assessment is the certainty about the potential price of
services in the future or at least can be estimated with certainty.
➢ Standart Cost
Standard cost shows the current cost in the condition that the company operates
at the level of efficiency and normal production capacity. This assessment basis can
be applied to finished goods inventory and some physical facilities that are built on
their own. The amount of rupiah that will be recorded for a service potential is the
amount of rupiah that should occur in the expected efficient condition and
production capacity of the company.
 The main weakness is in the type of standard cost used and the way to
implement it. This basic usage will cause assets to be underestimated due to efforts
to incur costs that come from inefficiency and unemployed capacity in the future.
Case
Long before the issuance of IFRS, the issue of Big GAAP and Little GAAP
had emerged. IFRS standards are intended for large companies, not small and
medium enterprises (SMEs, or small and medium enterprises, SMEs). For SMEs,
the application of these standards is too expensive, inefficient and also ineffective.
The costs are large, so is the time they spend preparing financial statements.
Therefore, special standards for SMEs are needed. Realizing this, the IASB
undertook a standard-setting project in accordance with the conditions of SMEs.
This design is intended to simplify the existing IFRS which is indeed designed for
large companies. There are two things that need attention. First, the definition of
SMEs does not include companies that conduct listings as well as companies that
are economically significant. Second, if for an economic problem for SMEs there
is no standard or not, it is recommended that SMEs use the full existing IFRS. On
15 February 2007, the IFRS Draft for SMEs was published. The standard for SMEs
which eliminates more than 85% of the full IFRS standard is enacted starting in
2008.

There are a number of reasons why IASB is willing to implement this project,
namely:

1. The standards developed by the IASB are indeed designed for public companies,
not for SMEs.

2. SMEs complain about being too complex and too expensive to implement the
full IFRS standard.

3. If it is not specifically regulated, it is feared that there will be a diversity of

practices from one country to another, so that the comparability of financial
information presented will decrease.
4. A simpler standard will help smooth the transition for growing companies that
are still SMEs and plan to register in the capital market later.

5. For developing countries where most companies are SMEs, the adoption of this
simplified IFRS can increase their attractiveness to foreign investment.

However, in addition to those who agree to these standards for SMEs, there
are also those who oppose them. There is an opinion which states that standards
should be the same for all companies, the issuance of specific standards for SMEs
will lead to demand for other specific standards. In addition, the limitation on SMEs
that can use these simple standards is SMEs that do not have public accountability.
For SMEs registered in the capital market, however small, must use the full IFRS.
In the end, all the descriptions of the alignment of financial accounting diversity
have left questions, namely; "Is this alignment a process of developing together or
advancing together with all the countries of the world or is it another form of
"colonialism" both capital and intellectual by capitalist countries?"
 CHAPTER III
CONCLUTION AND RECOMMENDATION

In every company requires accounting as a tool to provide financial information,

identification of relevant data for decision making. Accounting is a process of
identifying, measuring, recording, and reporting financial economic information
that functions for the assessment as well as making decisions for those who need it
in the future assessment.
Goodwill is part of the assets in the company's balance sheet. Goodwill is
classified into intangible assets that arise when an acquisition of a company occurs
against another company. Goodwill arises when payments for purchases of other
companies are priced above the market price of net assets.
According to Koch (1981) in Sumarno and Heriyanto (2012) define "income
smoothing as a tool used by management to reduce reported earnings fluctuations
to fit the desired target."

Hendriksen (1982) states that there are two types of exchange values that
can be used, namely output values and input values. Output values indicate the flow
of funds (cash) that the company expects to receive in the future according to the
exchange price of output / company's products. While the input value shows the
amount of rupiah that must be spent by the company to obtain assets that will be
used in the company's operations.

Recommendation
To be more able to harmonize international accounting, it is necessary to
establish communication from various parties who have an interest in accounting
from various countries, and to reduce differences in establishing accounting
standards and practices in each country.
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