Law, Corporate Governance and Accounting

European Perspectives

Victoria Krivogorsky, Victoria Krivogorsky

• Publisher: Routledge
• Year: 2011
• ISBN:
  9781136808715
• Edition: 1
• Topic: Commerce
• Subtopic: Comptabilité internationale

The growing internationalization of markets, the relaxation of constraints on capital flows between countries, and the creation of different economic unions -- the European Union in particular -- initiated the flow of capital, goods, and services across national borders, growth and diffusion of shareholding, and increased merger activity among the world's largest stock exchanges. These changes have stimulated an interest in understanding developments in accounting and corporate governance in a newly qualitative way.

Law, Corporate Governance, and Accounting sets out a framework for the analysis of institutional environments as the interconnected key tools of modern public corporations. Along with examining latest developments in the integrated formal structures for the formulation of international accounting principles, analyzing new accounting regulations and the extrapolating on the lessons that can be learned from the harmonization of accounting principles in Europe, this monograph provides the analyses of the convergence in both auditing and corporate governance as well as US perspective on IFRS adoption.

Part I

IFRS as a Global Set of Standards

Conceptual Framework and US Standpoint on them

1 Conceptual Framework for International Financial Reporting Standards

Victoria Krivogorsky

The importance of cross-sectional comparability of financial statements in the facilitation of decision making has been addressed in accounting literature for many years. In this vein, uniformity among financial statements, which implies the presentation of financial statements being invariant among different firms worldwide with regard to several principles, which desirably include accounting procedures, measurements, concepts, classification, and methods of disclosure. It was with this idea in mind that the International Accounting Standards Committee (IASC)¹ was created in 1973 as a body independent of government and pseudo-government control, with the stated purpose of enhancing the accounting profession worldwide and the main goal of generating a single set of international accounting standards. Contemporaneously with these developments the advent of a conceptual framework for international financial reporting became essential; and such a conceptual framework is considered to be an assembled body of interconnected basic accounting principles guiding the formulation of standards on a consistent basis as opposed to the ad hoc manner that was often used previously.

The new stage in the development of international accounting standards started in 1995 when IASC entered into an agreement with the International Organization of Securities Commissions (IOSCO) to complete a “core set” of international standards by 1999. In May 2000 IOSCO accepted the completed comprehensive set of “core standards” and recommended them for cross-border use in all global markets, although the US Securities and Exchange Commission (SEC) continued to require reconciliation with US GAAP for all foreign registrants until 2008. In June 2000, immediately following IOSCO acceptance, the European Commission issued a communiqué, stating that all listed companies in the European Union (EU) would be required to prepare their consolidated financial statements using international standards. This tender was later implemented by the launching of EU Accounting Regulation No. 1606/2002, which required European publicly traded companies to use International Financial Reporting Standards (IAS/IFRS) to prepare their consolidated financial statements starting in 2005 without transposition into national law.

Apparently the acceptance of international standards by the US SEC became a critical element in the IASB’s acceptance as the global accounting standard-setting body. In 2002, Financial Accounting Standards Board (FASB) and IASB signed the Norwalk agreement (Memorandum of Understanding—MoU) and began collaboration on a phased program of convergence with an ultimate goal of constructing a single set of standards and a common conceptual framework. MoU was updated in 2008 and again in 2009, when both boards issued a further statement outlining steps for completing their convergence. Consistently with these guidelines, and after thorough discussions with representatives of the European Commission and SEC staff, the FASB and the IASB have agreed to work towards the mutual goal of the development of high-quality common standards. In November 2008 the SEC issued a release that details a “road map” of specific items that should be addressed before US publicly trading companies start their transition to IFRS (in lieu of US GAAP), which is to occur as early as 2014.

In the joint statement of the IASB and the FASB from November 5, 2009, FASB and IASB Reaffirm Commitment to Memorandum of Understanding, both boards described their plans for completing the major projects of the MoU. In particular they stated the following:

• “Our commitment to the improvement and convergence of IFRSs and US GAAP is consistent with the strong support for the goal of a single set of high quality global standards recently expressed by the Leaders of the Group of 20 nations at their Pittsburgh Summit, the Financial Crisis Advisory Group of the FASB and IASB, the Monitoring Board of the International Accounting Standards Committee, Foundation, and many others.

• We are redoubling our efforts to achieve a single set of high quality standards within the context of our respective independent standard-setting processes.

• We aim to complete each major project by the end of June 2011, consistent with the milestones established by the 2008 update of the MoU. In establishing target dates, we took into account the fact that several major countries are adopting IFRSs in 2011 and that for some other countries, including the US, continued improvement and convergence is an important consideration in deciding the role of IFRSs in their capital markets.

• We aim to provide a high degree of accountability through appropriate due process, including wide engagement with stakeholders, and oversight conducted in the public interest. We are consulting widely and will continue to draw on expertise from investors, preparers, auditors, standard-setters, regulators, and others around the world.

• Our efforts to improve IFRS and US GAAP for financial instruments and to achieve their convergence have been complicated by the differing project timetables we established to respond to our respective stakeholder groups and other factors. We are committed to issuing standards by the end of 2010 that represent a comprehensive and improved solution to this complex and contentious area and that provide international comparability. We have developed strategies and plans to deliver on that commitment. As a first step, we reached agreement at our joint meeting last week on a set of core principles designed to achieve comparability and transparency in reporting, consistency in accounting for credit impairments, and reduced complexity of financial instrument accounting. In issuing this statement, we are also expressing our commitment to:

• The goals and objectives of the 2008 Update of the MoU that set out priorities and milestones to be achieved on major joint projects.

• Fundamental first principles about the purposes of accounting standards and the process by which the standards are determined, as set out in the statement of the Monitoring Board of the International Accounting Standards Committee Foundation, issued on September 22, 2009.”

Thus, the IASB and FASB showed their determination to deliver on the commitment to develop high-quality standards accompanied by a conceptual framework, which has for a long time been seen as necessary so as to encourage the logical development of accounting principles and to assess existing practices. Historically, however, it was not until about three decades ago that any real strides were made toward development of a consistent and integrated formal structure for the formulation of accounting principles. Back in 1922, US scholar William Paton² stated and examined some of the basic premises and postulates implicit in the accounting thought of that time. For the next fifty years, the American Institute of Certified Public Accountants (AICPA) and American Accounting Association (AAA) have been continuously making attempts to discuss concepts underlying the conventions of accounting, but most of the time they presented and discussed specific rules and recommendations as isolated problems in the context of an implicit structure of postulates and basic principles. The efforts to develop a conceptual framework in the US did not finally materialize until the late 1970s, when (in 1978) the FASB issued its SFAS 1 Objectives of Financial Reporting by Business Enterprises and in 1980 its SFAS 2 and SFAS 3 on Qualitative Characteristics and Elements. In 1982–1984, the work on the idea of a conceptual framework slowed as the FASB had encountered some difficulties in dealing with issues of recognition and measurement. Eventually though, the set of six Statements of Accounting Concepts was created.

The mass efforts to develop an international conceptual framework began with a limited study on the objectives of financial statements initiated by IASC back in 1982. Ironically, this occurred simultaneously with the IASC’s statement that it was not its intention to prepare an “international conceptual framework.” Two years later, when the IASC started revising IAS 1, Disclosure of Accounting Policies, initially published in 1974, it decided to merge the objectives project with this revision. The final decision to merge projects covering assets, liabilities, equity, and expenses (originating in 1984–1985) into a framework project was made in 1986, and the initially proposed revision of IAS 1 was deferred. From the onset, the Framework was intended to be separate from the standards to avoid binding with any particular accounting treatment. The Framework was completed and issued in 1989 and had not been revised until the joint IASB-FASB framework project started. The importance of the Framework in the international setting was never underrated even though the joint conceptual framework project is not formally a part of the MoU work plan. After the consultations with the representatives of the European Commission and SEC staff, and consistently with already established priorities and available recourses, IASB and FASB identified the framework project as of highest priority. This was because all other convergence projects would occur in the context of the ongoing work on the conceptual framework as the Framework addresses the issues of measurement attributes (including cost and fair value).

The joint IASB-FASB conceptual framework project from the beginning was divided into eight phases as follows:

1. objectives and qualitative characteristics

2. elements, recognition, and measurement

3. measurement

4. reporting entity

5. presentation and disclosure

6. purpose and status

7. application to not-for-profit entities

8. finalization

As the final product the international Framework represents a body of interconnected objectives (goals and purposes of financial standards) and fundamentals (concepts supporting those objectives) that inspire standard-setting process. Three distinct parts can be identified in the framework as follows: (a) the definitions of the objectives; (b) the explanation of qualitative characteristics of accounting information and definition of the elements; and (c) the rules of recognition and reporting. The Framework is a concise document of thirty-six pages, which does not override any specific standard and is not an IAS or IFRS itself (that is, it is something of a metastandard, not a true standard in and of itself). In the case of a conflict between the Framework and an IAS/IFRS, the requirements of the latter prevail, but the Framework is quite influential in the preparation of new individual standards. For example, the Framework definitions of assets and liabilities had a great impact on the preparation of IFRS 3, Business Combinations; IAS 37, Provisions, Contingent Liabilities and Contingent Assets; IAS 38, Intangible Assets; and IAS 39, Financial Instruments: Recognition and Measurement. Another way of characterizing the Framework is to deem it as exemplifying IAS/IFRS with respect to issues yet to be covered in those standards. For example, the IASB will be guided by the Framework in the development of future IFRSs and in reviewing existing ones, so that the number of conflicting cases between the Framework and the international standards are likely to diminish over time.

The type of structure used to house the international Framework is informal or implicit, arrived at by using a pragmatic (inductive) approach as opposed to a formal approach informed by the axiomatic (deductive) method. In the deductive approach, the structure for logical reasoning should be fairly formal to obtain general agreement, whereas the inductive approach’s rules of action can be converted into accounting principles. The accounting standard setters derived the conceptual Framework from the best practices, which in turn have been identified based on assumed objectives of financial reporting. Simultaneously, attention has obviously been paid to conceptual coherence, as the Framework is written in a descriptive style (the word should is only used in standards, not in the Framework) even though the Framework is intended to be normative in its nature as it provides guidance to setting and interpreting accounting standards.

As discussed earlier, the Framework does not have a status of a standard, and its purpose is stated as follows (paragraph 1):

• To assist the Board of IASC in the development of future IASs and in its review of existing IASs;

• To assist the Board of IASC in promoting harmonization of regulations, accounting standards and procedures relating to the presentation of financial statements by providing a basis for reducing the number of alternative accounting treatments permitted by IASs;

• To assist national standard-setting bodies in developing national standards;

• To assist preparers of financial statements in applying IASs and in dealing with topics that have yet to form the subject of an IAS;

• To assist auditors in forming an opinion as to whether financial statements conform with IASs;

• To assist users of financial statements in interpreting the information contained in financial statements prepared in conformity with IASs;

• To provide those who are interested in the work of the IASC with information about its approach to the formulation of accounting standards.

The scope of the conceptual framework is summarized in paragraph 5 of the Framework as follows:

• Objectives of financial statements.

• Qualitative characteristics that determine the usefulness of financial statement information.

• Definition, recognition, and measurement of financial statement elements.

• Concepts of capital and capital maintenance.

The Framework is concerned with “general purpose financial statements,” including consolidated financial statements, and not including special purpose reports such as prospectuses and tax computations (paragraph 6). The “general purpose financial statements” include a balance sheet, an income statement, a statement of changes in financial position, notes, other statements, and explanatory material that are an integral part of the financial statements. Supplementary schedules and information derived from and expected to be read with financial statements may also be included. For example, segment reporting and information about the effects of changing prices. General purpose financial statements do not include such items as directors’ reports, chairman’s statements, management reports, and similar material that may be included in a financial or annual report (paragraph 7). The Framework applies to the financial statements of all commercial, industrial, and business reporting entities, in both private and public sectors (paragraph 8), which are prepared and filed at least annually to fulfill the common information needs of a...