Deegan fat4e ppt_ch04

4-1Copyright © 2014 McGraw-Hill Education (Australia) Pty Ltd PPTs to accompany Deegan, Financial Accounting Theory 4e

FINANCIAL ACCOUNTING THEORYCraig Deegan

Slides written by Craig Deegan

International accounting

CHAPTER 4


Learning objectives 4.1 Understand the background to actions undertaken by the

International Accounting Standards Board and other standard-setting bodies to implement the adoption of a uniform set of accounting standards for worldwide use (this set of accounting standards being known as International Financial Reporting Standards or, in abbreviated form, IFRS).

4.2 Understand some of the perceived advantages and disadvantages for countries that adopt IFRS.

4.3 Appreciate that prior to many countries adopting IFRS there were a number of important differences between the accounting policies and practices adopted within various countries; such differences are decreasing as countries elect to adopt accounting standards released by the International Accounting Standards Board. continued


Learning objectives (cont.)

4.4 Understand various theoretical explanations about why countries might adopt particular accounting practices in preference to others, and be able to evaluate whether, in light of the various theories, it is appropriate to have one globally standardised set of accounting standards.

4.5 Be able to explain what is meant by the terms ‘harmonisation’ and ‘standardisation’ of accounting.

4.6 Be able to identify and explain some of the perceived benefits of, and obstacles to, harmonising or standardising accounting practices on an international scale.

4.7 Understand the key factors that are leading to greater international harmonisation of accounting.


Evidence of international differences in accounting• Although many countries now adopt IFRS, if we go back a

decade and apply different countries’ former accounting rules to the same transactions we can find significant differences in profits and net assets (consider evidence provided in the textbook)

• The (sometimes significant) differences in accounting profits have been used by many parties to justify the ongoing efforts of the IASB to standardise international accounting

• But do we really need to standardise accounting on an international basis because of these differences, and if we do, what are some of the costs and benefits? This lecture covers these issues


Standardisation versus harmonisation• In relation to international accounting, two terms that are

commonly used are standardisation and harmonisation

• We can define ‘harmonisation’ as a process of increasing the compatibility of accounting practices by setting bounds to their degree of variation

• ‘Standardisation’, by contrast, appears to imply the imposition of a more rigid and narrow set of rules (than harmonisation)

• Therefore, the term ‘harmonisation’ appears to allow more flexibility than standardisation

• What is happening through the efforts of the IASB is a process of standardisation


Does it really matter if different countries use different accounting methods?

• There are many varied views about the costs and benefits of international standardisation

• Some perceived benefits would include:

– international investors are better able to understand the financial performance and position of local companies

– tied to the above point, there is an expectation that standardisation will facilitate greater capital inflows

– also tied to the above point, standardisation will make it easier for local companies to list on foreign securities exchanges

continued


Does it really matter if different countries use different accounting methods? (cont.)

– companies listed on several securities exchanges would only need to produce one set of financial statements and this will have implications for cost savings

– the accounting and auditing staff employed by international organisations will be better able to move to other member companies

– there will be cost savings in the accounting-standard setting function—rather than individual companies duplicating the efforts of others, the majority of functions of the standard-setting process will be centralised at the IASB

4-8Copyright © 2014 McGraw-Hill Education (Australia) Pty Ltd PPTs to accompany Deegan, Financial Accounting Theory 4e 4-8Copyright 2009 McGraw-Hill Australia Pty Ltd PPTs t/a Deegan, Financial Accounting Theory 3e

Does it really matter if different countries use different accounting methods? (cont.)

– a perception that IFRS will lead to more accurate, comprehensive and timely financial statement information, relative to the information that would have been generated from the national accounting standards they replaced

– to the extent that the resulting financial information would not be available from other sources, this should lead to more-informed valuations in the equity markets, and hence lower the risks faced by investors


But obviously it is very difficult to quantify any benefits associated with international standardisation

• There is very little empirical research or theory that actually provides evidence of the advantages or disadvantages of uniform accounting rules nationally, or internationally

• For example, whilst the FRC in Australia said that real benefits would flow from Australia adopting IFRS there is no quantifiable evidence of such benefits

• Whether the benefits of adopting IFRS are shared by a majority of corporations within a country, or whether the benefits are confined to larger multi-national corporations, is a matter of conjecture


Objectives of the IASB

• The body at the centre of international standardisation of general purpose financial reporting is the IASB

– it seeks to formulate and publish accounting standards and to promote their worldwide acceptance

– it seeks to work on the improvement and standardisation of regulations, accounting standards and procedures

– the IASB does not appear to believe that the many reasons provided as to why different nations should have different accounting standards (e.g. tied to differences in culture, religion and so forth) outweigh the benefits of international standardisation. (We will consider some arguments against international standardisation shortly.)


The IASB• The Institute of Chartered Accountants of

England and Wales, the Canadian Institute of Chartered Accountants and the American Institute of Certified Public Accountants initially established an Accountants’ International Study Group in 1967

• The Accountants’ International Study Group then formed the basis for the establishment of the IASC in 1973

• The IASB replaced the IASC in 2001


Australia’s adoption of IFRS

• Australia decided in the mid-1990s to harmonise its standards with those of the IASC

• But then in 2002, a decision was made by the Financial Reporting Council that Australia would adopt standards released by the IASB

• IFRS still not accepted by the US SEC for US domestic companies, however the US FASB and the IASB are currently working on a convergence project which might ultimately see the US adopt IFRS (far from certain)


The change-over to IFRS

• The decisions made in various jurisdictions that the respective countries would adopt IFRS created a great deal of work for organisations in those countries, in that they had to make quite significant changes to their accounting practices

• There were some significant accounting changes

– for example, within Australia, the adoption of IAS/IFRS required companies to write off a great deal of assets, particularly intangible assets

• Was it all worth the effort?


The United States’ role in the international standardisation of accounting

• One notable exception to the global adoption of IFRS is the US

– in a sense the reluctance of the US to adopt IFRS is undermining the efforts and even credibility of the IASB

• Within the US, accounting standards are developed by the FASB

• The SEC has the power to override the standards developed by the FASB

• US was traditionally strong in its resolve not to adopt IFRS but this resolve diminished in the light of collapses such as Enron

• US standards are considered to be more ‘rules-based’ whereas IFRS are more ‘principles-based’

• A belief grew that ‘principles-based’ standards may be more effective in reducing ‘accounting fraud’


• Somewhat obviously, the IASB was seeking to standardise practice

• However, there are a number of reasons why the standardisation of accounting standards will not necessarily lead to standardisation of accounting practice (there is a difference)

• Hence, consistent with Nobes (2006), we would argue that the study of international differences in accounting practice (and the reasons and motivations underlying the differences) will remain an important area of research despite the ongoing standardisation efforts of the IASB

Does the international standardisation of accounting standards necessarily lead to the international standardisation of accounting practice?

continued


Reasons why international differences in accounting practice will survive beyond the introduction of IFRS

• Differences in taxation systems

– tax-driven accounting choices, which are domestic, might flow through to IFRS statements

• Differences in economic and political influences on financial reporting

– powerful local economic and political forces determine how managers, auditors, courts regulators and other parties influence the implementation of rules. These forces have exerted a substantial influence on financial reporting practice historically, and are unlikely to suddenly cease doing so, IFRS or no IFRS (Ball, 2006).

continued


Reasons why international differences...will survive beyond the introduction of IFRS (cont.)

• Modifications made to IFRS at a national level

– the IASB has no ability to enforce the application of its accounting standards in countries that have made the decision to adopt IFRS. This is a key impediment to any efforts to standardise accounting practice globally.

– regulatory bodies in particular countries may take the decision to modify a particular IFRS before it is released (for example, the EU in relation to their acceptance of IFRS 39).

continued



• Differences in implementation, monitoring and enforcement

– Unless there is international consistency in the implementation of accounting standards and subsequent enforcement mechanisms then we cannot expect accounting practices to be uniform despite the actions of the IASB.

– Investors might be misled into believing that IFRS adoption has created a consistency in international accounting practices. That is, the adoption of IFRS might (incorrectly) be construed as a signal that a country has improved its quality of reporting.

continued



• Differences in implementation, monitoring and enforcement (continued)

– In a sense, the adoption of IFRS brings a level of legitimacy to a country's financial reporting despite any limitations in the level of enforcement of the standards.

– All this disadvantages those countries who have high quality implementation, monitoring and enforcement of IFRS

Some countries are ‘free-riding’ on the efforts of others

continued



• Ball discussed the ‘free rider’ problem associated with IFRS.

– If a 'symbol of legitimacy' - such as IFRS - can be acquired at low cost then some countries with low accounting proficiency will make the choice to adopt IFRS because of the reputational benefits such a choice may generate

– Such a choice will have costly implications for countries with higher levels of accounting proficiency and who put in place appropriate implementation, monitoring and enforcement mechanisms


So is a belief in the international standardisation of accounting practice realistic?

• Given the arguments just provided we might question the belief that the global adoption of IFRS will lead to consistency in international accounting practices.

• There will arguably continue to be international differences in accounting practice and such differences will continue to provide an interesting area of research for accounting academics.

• However, at a more fundamental level, is it really a good idea that there should be global consistency in accounting practice anyway?

continued


So is a belief in the international standardisation of accounting practice realistic? (cont.)

• Is it appropriate to have a globalised ‘one-size-fits-all’ approach to financial reporting when there are international differences:– in the nature of capital, labour and product markets?

– in monitoring and enforcement mechanisms?

– in economic and political influence?

– in cultures?

• The next part of this lecture explores various reasons why, in the absence of globalisation efforts such as those being undertaken by the IASB, we would expect to find international differences in accounting practices


International financial accounting models

• Historically there have been two main models of financial accounting adopted internationally:

• Anglo-American model

– strongly influenced by professional accounting bodies rather than government, emphasises importance of capital markets, emphasises concepts such as true and fair, and considerations of economic substance over legal form

in these environments funds were generally sourced from capital markets and there was a reliance on general purpose financial reports

• Continental European Model

– relatively small input from accounting profession, little reliance on qualitative concepts such as true and fair, and strong reliance on government

In these environments, funds were generally sourced from government, banks or family members and interested parties were able to obtain information through special purpose financial reports


Reasons for international accounting differences

• Underlying laws and political systems

• Tax systems

• Level of education

• Level of economic development

• Nature of business ownership and financing system

continued


Reasons for international accounting differences (cont.)

• Colonial inheritance

• Culture

• History

• Language

• Religion


The effect of culture on accounting systems• Differences in national cultures has been used by many

researchers to explain why, prior to the efforts of the IASB, there were fundamental differences between nation’s accounting practices (although, keep in mind the previous discussion that suggests that the global use of IFRS will not necessarily standardise accounting practice)

• Culture impacts on legal systems, tax systems and the way businesses are formed and financed etc.

• Previously used to explain differences in social systems

• Culture can be defined as ‘… an expression of norms, values and customs which reflect typical behavioural characteristics’ (Takatera & Yamamoto 1987)

continued


The effect of culture on accounting systems (cont.)

• ‘Culture’ reserved for societies as a whole or nations

• ‘Subculture’ used for the level of an organisation, profession or family

– for example, accountants in Australia are a sub-cultural group

– the accounting sub-culture in Australia is derived from Australian society’s cultural norms, values and customs

• International differences in accounting systems may be explained by a framework incorporating culture


Classifying a country’s culture: The role of Hofstede’s cultural dimensions

• Four underlying societal dimensions along which countries could be positioned

– Individualism versus Collectivism

– Large versus Small Power Distance

– Strong versus Weak Uncertainty Avoidance

– Masculinity versus Femininity

• The value systems of accountants will be derived from and related to societal values

• Without the intervention of organisations such as the IASB, these societal values will in turn impact on the development of accounting standards at a national level (as they would also influence other forms of legislation or guidance)


Individualism versus Collectivism• Addresses the degree of interdependence a

society maintains among individuals

– Individualism refers to a preference for a loosely knit social framework wherein individuals care for themselves and their immediate families

– Collectivism stands for a tightly knit social framework where relatives, clan or other in-group look after each other


Power Distance

• The extent to which members of a society accept that power in institutions and organisations is distributed unequally

– Large Power Distance societies accept a hierarchical order in which everyone has a place

– Small Power Distance societies strive for power equalisation


Uncertainty Avoidance

• The degree to which the members of a society feel uncomfortable with uncertainty and ambiguity

– Strong Uncertainty Avoidance societies maintain rigid codes of belief and behaviour

– Weak Uncertainty Avoidance societies maintain a more relaxed atmosphere where practice counts more than principles


Masculinity versus Femininity

• Addresses the way in which a society allocates social roles

– Masculinity stands for a preference for achievement, heroism, assertiveness and material success

– Femininity stands for a preference for relationships, modesty, caring for the weak, and quality of life


Possible lecture exerciseIndividually

For your country of birth, or ethnic origin, decide where you think that country would sit on the four original Hofstede dimensions


Societal dimensions and accounting subculture: Linking the work of Hofstede to that of Gray

• The value systems of accountants are derived from related societal values

• The values of the accounting subculture will in turn impact on the development of the respective accounting systems at a national level

– should accounting systems be developed in a globalised ‘one-size-fits-all’ approach?


Gray’s accounting values

• Gray developed four accounting values deemed to relate to the accounting subculture, with the intention of linking them to Hofstede’s four societal values

– professionalism versus statutory control

– uniformity versus flexibility

– conservatism versus optimism

– secrecy versus transparency


Gray’s hypotheses

• H1: The higher a country ranks in terms of Individualism and the lower it ranks in terms of Uncertainty Avoidance and Power Distance, the more likely it is to rank highly in terms of Professionalism

• H2: The higher a country ranks in terms of Uncertainty Avoidance and Power Distance and the lower it ranks in terms of Individualism, then the more likely it is to rank highly in terms of Uniformity

continued


Gray’s hypotheses (cont.)

• H3: The higher a country ranks in terms of Uncertainty Avoidance and the lower it ranks in terms of Individualism and Masculinity, then the more likely it is to rank highly in terms of Conservatism

• H4: The higher a country ranks in terms of Uncertainty Avoidance and Power Distance and the lower it ranks in terms of Individualism and Masculinity, then the more likely it is to rank highly in terms of Secrecy

continued


Table of Gray’s accounting values: Hypothesised relationships between Gray’s accounting values and Hofstede’s cultural values (Deegan, p. 143)

Accounting values (Gray)

Cultural values(Hofstede)

Professionalism Uniformity Conservatism Secrecy

Power Distance - + ? +UncertaintyAvoidance - + + +Individualism + - - -Masculinity ? ? - -

continued


Gray’s hypotheses (cont.)

• Gray further hypothesised relationships between accounting values and

– the authority and enforcement of accounting systems

– the measurement and disclosure characteristics of accounting systems


Other research using Hofstede’s cultural dimensions

• Zarzeski (1996)

– used Hofstede’s dimensions to explain corporate disclosure

– entities with a higher international profile tend to be less secretive

– local enterprises are more likely to disclose information commensurate with the secrecy of their culture than are international enterprises


Other research using Hofstede’s cultural dimensions (cont.)• Perera (1989)

– used Hofstede’s cultural dimensions and Gray’s accounting subcultural value dimensions to explain differences in the accounting practices of European and Anglo-American countries

• Baydoun and Willett (1995)– investigated the use of the French United Accounting System

in Lebanon

• Chand and White (2007)– explored various cultural attributes within the Fijian society to

determine whether the recent adoption of IFRS within the Fijian context made sense. Their view was that rules-based standards would be more appropriate than the principles-based standards that have been developed by the IASB


The effect of religion on accounting systems

• Another factor that has been used to explain differences in accounting is religion

• Religion transcends national boundaries

• Impacts on global harmonisation of accounting standards

• Hamid, Craig and Clarke (1993) examined how Islamic cultures have failed to embrace ‘Western’ accounting practices

– compliance with Islamic beliefs can affect the structure of business and finance

– many Western accounting practices are incompatible with Islamic principles

– relevance of IASB standards to such cultures? continued


The effect of religion on accounting systems (cont.)

• Religion can affect how people do business and how they make decisions, for example

– Islam precludes debt financing and prohibits payment of interest

– the Western objective of financial reporting of rational economic decision making (refer to the conceptual frameworks discussed in Chapter 5) may not be a relevant objective in some societies


Legal systems

• Another factor that will cause international differences in accounting is the legal system in operation

• Legal systems can be broadly divided into common law and Roman law systems

– in Roman Law systems the law tends to be very detailed

– in Common Law systems —which is how Australia can be classified—law typically evolves from the ruling of judges

• In Common Law countries accounting practices tend to rely relatively heavily on professional judgment


Business ownership and financing system

• Another factor is the business ownership and financing system

• At a country level, the financing system is relevant to the purpose of financial reporting

• Three types of financing systems

– capital market-based (e.g. United Kingdom and United States)

– credit-based system: governmental (e.g. France and Japan)

– credit-based system: financial institutions (e.g. Germany)


Business ownership and financing system (cont.)

• Systems relying on equity markets will have greater demand for public disclosures

– more reliance on general purpose financial reports prepared for a broad cross-section of report users who might have an economic interest in an organisation but are not involved with the management of the organisation

• Credit-based systems more concerned with the protection of creditors

• Colonial inheritance also a major explanatory factor


Taxation systems

• Differences in accounting methods internationally have also been linked to differences in taxation systems

• Where there are ‘insider systems of finance’ (common in continental European countries) financial accounting practices have typically been linked to taxation law


Impact of international agencies

• Various international agencies have also had an effect on the accounting systems used within particular countries

• Examples of institutions or bodies which can impact on a country’s accounting policies are

– multinational companies

– international accounting firms

– large monetary organisations e.g. World Bank


So there are many forces ‘working against’ international standardisation• Hence, we can now hopefully understand that there are many

explanations for international differences in accounting practice

• Given the many factors that explain why international differences in accounting will, or perhaps should exist, then how logical are efforts towards international standardisation?

• Do we think that the global standardisation efforts of the IASB are likely to succeed in the long-run?

• Will diverse countries with different cultures, religions, finance systems and so forth start to question a ‘one-size-fits-all’ approach emanating from the IASB boardroom in London?

• Is the apparent reluctance of the United States to commit to IFRS the start of the demise of the IASB’s efforts to standardise accounting internationally?

• Time will tell …..