Country Differences in Accounting Standards

Read Closing Case: Adopting International Accounting Standards at the end of chapter 19 and write a 2-3 page paper in APA format with a detailed analysis that answers the following questions:What are the benefits of adopting international accounting standards for (a) investors, and (b) business enterprises?What are the potential risks associated with a move toward the adoption of international accounting standards in a nation?In which nation is the move to adoption of IASB standard likely to cause the revisions in the reported financial performance of business enterprises, the United States or China? Why?CLOSING CASE Adopting International Accounting Standards Following a European Union mandate, from January 1, 2005, onwards approximately 7,000companies whose stock is publicly traded on European stock exchanges were required to issue allfuture financial accounts in a format agreed upon by the International Accounting Standards Board(IASB). In addition, some 65 countries outside of the EU have also committed to requiring that publiccompanies issue accounts that conform to IASB rules. Even American accounting authorities, whohistorically have not been known for cooperating on international projects, have been trying to meshtheir rules with those of the IASB. Historically, different accounting practices made it very difficult for investors to compare thefinancial statements of firms based in different nations. For example, after the 1997 Asian crisis aUnited Nations analysis concluded that prior to the crisis two-thirds of the 73 largest East Asianbanks hadn’t disclosed problem loans and debt from related parties, such as loans between a parentand its subsidiary. About 85 percent of the banks didn’t disclose their gains or losses from foreigncurrency translations or their net foreign currency exposures, and two-thirds failed to disclose theamounts they had invested in derivatives. Had this accounting information been made available to thepublic—as it would have been under accounting standards prevailing at the time in many developednations—it is possible that problems in the East Asian banking system would have come to lightsooner, and the crisis that unfolded in 1997 might not have been as serious as it ultimately was. In another example of the implications of differences in accounting standards, a Morgan Stanleyresearch project found that country differences in the way corporate pension expenses are accountedfor distorted the earnings statements of companies in the automobile industry. Most strikingly, whileU.S. auto companies charged certain pension costs against earnings, and funded them annually,Japanese auto companies took no charge against earnings for pension costs, and their pensionobligations were largely unrecorded. By adjusting for these differences, Morgan Stanley found thatthe U.S. companies generally understated their earnings, and had stronger balance sheets, thancommonly supposed, whereas Japanese companies had lower earnings and weaker balance sheets. Byputting everybody on the same footing, the move toward common global accounting standards shouldeliminate such divergent practices and make cross-national comparisons easier. However, the road toward common accounting standards has some speed bumps on it. In November2004, for example, Shell, the large oil company, announced that adopting international accountingstandards would reduce the value of assets on its balance sheet by $4.9 billion. The reductionprimarily came from a change in the way Shell must account for employee benefits, such as pensions.Similarly, following IASB standards, the net worth of the French cosmetics giant L’Oreal fell from8.1 billion to 6.3 billion euros, primarily due to a change in the way certain classes of stock wereclassified. On the other hand, some companies will benefit from the shift. The UK-based mobilephone giant, Vodafone, for example, announced in early 2005 that under newly adopted IASBstandards, its reported profits for the last six months of 2004 would have been some $13 billionhigher, primarily because the company would not have had to amortize goodwill associated withprevious acquisitions against earnings.