A company in Syria is doing business with a company in Louisiana. How can investors on both sides of the ocean be certain of the companies’ financials when their reporting systems are different?
As business becomes an increasingly international or multinational endeavor, accounting for assets is an ever more complicated job. To simplify the process, International Financial Reporting Standards (IFRS) have been developed by the International Accounting Standards Board (IASB). As IFRS is adopted throughout the world and may perhaps soon replace American standards, the faculty at Mays Business School at Texas A&M University is making proactive changes to the accounting curriculum to prepare students for this shift.
The differences between IFRS and the U.S. Generally Accepted Accounting Principals (GAAP) are subtle. In fact, they’re about 95 percent the same, says Mays Professor of Accounting L. Murphy Smith. “But that other 5 percent can make things quite a bit different,” he said. “For some companies, it may have a significant impact. Their net earnings may go up or down a material amount because of something in that 5 percent of difference.”
Simplicity, at a price
One key difference between U.S. GAAP and IFRS is how you account for certain types of assets on the balance sheet, such as inventory. For example, a popular inventory valuation method in the U.S. called LIFO is not allowed under IFRS. And the devil is in those minor details, says Lynn Rees, professor of accounting at Mays who headed the task force that suggested changes for the Mays accounting curriculum.
As IFRS is adopted throughout the world and may perhaps soon replace American standards, the faculty at Mays Business School is making proactive changes to the accounting curriculum to prepare students for this shift.
“Although both U.S. GAAP and IFRS follow the same general principles, when it comes to implementing those principles into standards, there are many minor differences between IFRS and US GAAP that collectively, can cause significant differences in companies’ financial statements,” said Rees.
“Even for a particular company where the standards will not result in significant change, that doesn’t mean there is no cost for that company to adopt IFRSâ€¦There could be a lot of small differences that the company has to be aware of,” especially as those changes may influence the company in the next reporting cycle, he continued.
“And they may have to do a lot of legwork to determine that [the new standards] won’t change anything,” added Shannon Knight, a lecturer in the accounting department.
Currently, more than 100 countries have adopted or accepted IFRS, including the European Union. In 2007, the U.S. moved to accept, but not adopt IFRS; that is, they allow companies headquartered in countries where IFRS are used to be listed on the New York Stock Exchange without restating their financials in accordance with GAAP, but U.S. firms must still use the American standards.
In August 2008, the Securities and Exchange Commission announced a timetable that would allow some U.S. companies to report under IFRS as soon as 2010, with total adoption by 2014. Under the new presidential administration, however, this timetable is being questioned, partly due to cost: adoption of these new standards could add substantially to already burdened companies in the challenged U.S. economy.
Curriculum modification ahead of the curve
A recent article in AACSB-International’s BizEd states that a fall 2008 survey of 500 U.S. business school faculty members revealed 62 percent had not taken any significant action to incorporate IFRS into their programs ((Shinn, Sharon. (2009) Ready or not, here comes IFRS. BizEd, 8(4), 44-50.)). This is not the case at Mays. According to Rees, while other schools were still formulating a plan, Mays had already begun implementation of IFRS curriculum. During the planning phase at Mays, in addition to Rees’ task force, experts from KPMG spent a day on the A&M campus in December 2008 to address the entire accounting faculty about IFRS issues. Nine faculty members also attended offsite IFRS training programs to learn the latest about this issue.
Rees says that within the accounting curriculum, broad concepts are taught before the nuts and bolts. Since the reporting systems are very similar conceptually, implementing more emphasis on IFRS hasn’t been a huge challenge.
The first changes were implemented in “Intermediate Accounting I” sections in the fall 2009 semester. The changes are being introduced on a rolling basis, so that by the spring 2010 semester, IFRS information will have been added to “Intermediate Accounting II”, as well as the “International Accounting” course. IFRS is addressed systematically across all three courses with research cases in each that focus on the difference between GAAP and IFRS. The Mays curriculum won’t do away with teaching GAAP standards until adoption of IFRS is certain as, at this point, graduates will still need to know how to function within both systems.
Rees says another key curriculum change that has come in tandem with the IFRS reform has been a greater emphasis on valuation, as that issue is at the heart of the current economic crisis. Previously, specifics about valuation were only touched on at the undergraduate level, and explored in slightly greater detail in the graduate classrooms.
“The nice thing about the way we’re doing it is even if the U.S. never adopts international reporting standards, all people that work in business will benefit by having this knowledge. It is very possible our students will use this information eventually,” regardless of adoption, says Smith.
One positive outcome of these changes is that the demand for accountants will increase says Knight, and Mays graduates, with their advanced knowledge about IFRS and valuation standards, should lead the pack. “We’ve been more aggressive than most other schools have been, more proactive. We’ve started much earlier,” she says.
Adoption “imminent” but not without barriers
Smith believes that U.S. adoption of IFRS appears “imminent” and that universal adoption at some point in the future is very likely. In his article “Are International Financial Reporting Standards (IFRS) an Unstoppable Juggernaut for US and Global Financial Reporting?” ((Smith, L. Murphy. (2008) Are International Financial Reporting Standards (IFRS) an Unstoppable Juggernaut for US and Global Financial Reporting? The Business Review, Cambridge, 10(1), 25-31.)) Smith, examines the pros and cons of adopting the international standards.
For countries that already have strong financial disclosure requirements, as does the U.S., there is less incentive to adopt IFRS, says the article. Motivation then stems from increasing the ease of doing global business. Though GAAP standards are effective, there is obvious benefit from participating in uniform reporting, as it simplifies information for investors, lenders, financial analysts, accountants and auditors. This simplification can lead to an improved stock price, contends Smith.
While universal adoption makes sense, Rees says there is a significant barrier for the U.S. beyond cost: it’s a question of philosophy. Does America want to give up its sovereignty over its national accounting standards, ceding power to the IASB? Rees noted a recent incident where pressure from the European Union caused the IASB to modify a certain part of IFRS and settle for a lesser quality standard–a decision that made U.S. regulators nervous about the IASB’s ability to withstand political pressure. If IFRS are fully adopted in the U.S., the U.S. Federal Accounting Standards Board would have to bow to IASB regulation. “Does the U.S. want to maintain control of what we require of companies, or do we want to let that control go out to an international organization?” asked Rees.
Knight also mentioned that though universal adoption would hold all countries to the same standards, not all countries’ enforcement of those standards would be similarly stringent. “Even if you have a common set of standards, actually enforcing those standards could be quite differentâ€¦Can we rely on the equivalent of the SEC in other countries?” Knight wonders.
Despite these challenges, Smith says he believes that at some point, universal adoption will occur. “It’s not guaranteed, but most people think it is very likely,” he said. Until official adoption occurs, Mays will continue to infuse the accounting curriculum with both US accounting standards and international material to prepare students for all eventualities.