International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Chapter 2

International accounting differences

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Contents

• Origin of national differences• Differences in accounting systems• Characteristics and differences in national GAAP• Country classification• National Differences: more recent evolutions• National differences: do they still play a role in an era

of globalized accounting

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Learning objectives

• Describe and explain how the following elements influenced the development of financial reporting and the existing accounting systems in a country:

– provision of finance– the legal system– the system of taxation– cultural values

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Learning objectives (cont’d)

• Explain and appraise the influence of cultural values on accounting values

• Explain how different systems of accounting regulation could develop

• Describe the purpose of country classification exercises

• Appraise whether these country classification exercises are still relevant today

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

International accounting differences obstruct financial communication

between countries

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Origin of national differences

• Provision of finance

• Existing legal system

• Link between accounting and taxation

• Cultural differences

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Provision of finance: consequences

• In shareholder countries accounting information provides information to investors

• In credit-oriented countries creditors, families and the state receive private information about the financial situation of the company; external financial reporting is less developed

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Existing legal system: consequences

• In common law countries more principles - based accounting standards

• In code law countries more detailed legal rules that govern accounting

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Relationship between accounting and taxation

• Dependence leads to tax biased accounting information

• Independence leads to accounting information which represents more the underlying economic situation

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Cultural differences (Hofstede, 1984)

• Individualism versus collectivism• Large versus small, power distance• Strong versus weak, uncertainty avoidance• Masculinity versus femininity

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Accounting values (Gray, 1988)

• Professionalism versus statutory control

• Uniformity versus flexibility

• Conservatism versus optimism

• Secrecy versus transparency

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

National differences lead to differences in accounting systems

and differences in national accounting standards

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Types of accounting regulation

• In a shareholder oriented country characterized by a common law system, the accounting standard setting process is often in the hands of a private standard setter

• In a creditor oriented country characterized by a code law system, the accounting standard setting process is often in the hands of the government

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Differences in the organization of the accounting profession

• In shareholder oriented countries the accounting profession developed earlier

• Nowadays stricter regulation worldwide (e.g. EU, US= PCAOB) of the audit profession, tries to wipe out national differences to a certain extent

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Characteristics and differences in national GAAP

• Shareholder orientation versus stakeholder

orientation

• Fairness versus legality

• Conservatism versus accruals

• Uniformity, accounting plans and formats

• Consolidated accounts

• Deferred taxation

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Research on accounting diversity in the eighties

Country classification attempts based on observed differences

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Criteria used as discriminating variables

• Type of user of the published accounts of listed companies

• Degree to which law or standards prescribe in detail and exclude judgement

• Importance of tax rules in measurement• Conservatism/prudence• Strictness of application of historical cost

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Criteria used as discriminating variables

(cont’d)

• Susceptibility to replacement cost adjustments in main or supplementary accounts

• Consolidation practices• Ability to be generous with provisions and to smooth

income• Uniformity between companies in application of rules

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

National differences: more recent evolutions

• Research in the nineties and in the 21st century tries to explain differences in accounting quality between countries through the analysis of institutional differences observed between countries

• Major findings of the research is that accounting quality is still influenced by domestic institutional variables

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

High quality accounting information

• Definition (Ball & Shivakumar, 2002)• Financial reporting quality relates to the

usefulness of financial statements for contracting, monitoring, valuing and other decision making by investors, creditors, managers and all other contracting parties within the firm

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

High quality GAAP versus low quality GAAP

• Low quality GAAP allows management to report results when they want to report those results

• High quality GAAP provides less discretion for such practices

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

High quality accounting information is a function of the quality of the GAAP and of the quality of the implementation of

that GAAP

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

The implementation of the GAAP

How GAAP is implemented is influenced by national characteristics such as the degree of investor protection, the degree of enforcement of financial accounting standards, risk of litigation and the legal system.

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Recent research in relation to the accounting quality of IFRS accounts in the EU

• E.g. (Daske et al. 2008; Armstrong et al. 2010; Barth et al. 2008)

– Positive capital market reactions mainly in common law countries

– A country’s institutional environment still influences accounting quality• Impact of IFRS difficult to single out, a number of countries also change governance

regimes and enforcement systems

International Financial Reporting and Analysis, 5th editionDavid Alexander, Anne Britton and Ann Jorissen

ISBN 978-1-4080-3228-2 © 2011 Cengage Learning EMEA

Conclusion: national differences

still play a role!

National differences influence the implementation of the accounting

standards in a country – also in the case of compulsory compliance with

IFRS