The possibility of unusual accounting information may prove particularly problematic for shareholders, as they will have to determine whether a change in profits is due to business reasons, or the introduction of IAS. This may prove harder in some countries than others, due to the make up of company shareholders. In the US for example, the vast majority of shares are owned by individual investors. This could lead to problems, if changes to accounting affected company profit levels. The possibility that individuals who are uninformed of the situation, would base their trading decisions on information they do not understand, could lead to panic trading and a subsequent distortion of share prices. As Wright and Sharpe state:
Markets increasingly don’t like surprises and unexpected changes to reported information could have an impact on share price. (Wright and Sharpe, 2002 p. 2) In the UK most investors are professional fund managers for large financial institutions such as the pension industry. It would be hoped, that these professionals would be aware of the potential impact of the introduction of IAS but, this does not appear to be the case, and as Wright and Sharpe go on to say: Educating market analysts – who do not yet seem to be very engaged in the process – is… …key to successful IAS transition. Above all, it is this group that will have to cope with revised financial information for thousands of European companies…
(Wright and Sharpe, 2002 p. 2) It is essential that the accountancy profession, and in particular the companies, as it is clearly in their interests to do so, ensure that those who need to be made aware of the situation are fully informed. Furthermore, companies should endeavour to expand that awareness to a full understanding, or they may well suffer the consequences. National governments must also prepare for 2005. In most countries, the law will need to be amended and civil servants trained to deal with the new data they receive, in particular that relating to taxation. This will be a bigger challenge to some countries than others.
At present there are two main taxation systems in use throughout Europe, those dependent on, or, independent of, accounting (Jones, 2002). In France and Germany the preparation and publication of accounts is primarily for the purpose of taxation and therefore standards are highly prescriptive. In fact, the French have what is called Le Plan Compatable Gï¿½nï¿½ral which: Resembles a comprehensive accounting manual which French companies follow. (Jones, 2002 p. 311)
Although there is no equivalent document, the Germans have a similarly strict set of rules relating accounting and taxation. This affects the way in which profits are reported, as the incentive is to minimise them, in order to reduce the tax burden of the company. In reference to France, Roberts et al state: The definition of “profit” for corporate tax purposes is that used for commercial and industrial purposes. (Roberts et al, 2002 p. 255)
Whilst in Germany: Where the tax burden may be reduced or postponed, businesses will be influenced by that factor in their accounting practice. (Roberts et al, 2002 p. 298) As Jones states, the rules for taxation effectively become those for accounting and: Accounting, therefore, becomes a process of minimising tax paid rather than showing a “true and fair view” of the company’s financial activities. (Jones, 2002 p. 308)
The introduction of IAS, will therefore necessitate a fundamental change in the taxation legislation in France and Germany and countries with similar practices. The legislators will have to entirely change their approach, or the higher profits reported under IAS may lead to a crippling tax burden for companies. This was demonstrated when Volkswagen’s 2000 results showed an 18% increase in profit under IAS, compared to German GAAP (Maiello, 2002). In the UK the impact will be less dramatic, as the accounts prepared for publication, are separate to those prepared for taxation. As Jones says:
There are, in effect, two profits (calculated quite legally!) – one for tax and the other for accounting. (Jones, 2002 p. 308) In addition the UK uses a system of principles, with the aim of portraying a “true and fair view”; essentially the technique adopted for IAS. This is different from most countries; even the US has a more prescriptive system, although it is much closer than that of the continental Europeans. One reason for a principled approach is that it allows companies to report economic information, useful for investors. The benefits of the technique are emphasised by Damant when he writes:
Apart from the Anglo Saxon countries,… …most company reports prepared in the world at present are not orientated on economic reality… (Damant, 2000 p. 1) Even so, the UK will still have the expense of making a number of amendments to company law, as at present it relates to the accounts of companies following UK GAAP. Overall, the advantages, for end users, of the internationalisation of accounting standards outweigh the disadvantages. It may take some time for the benefits to be felt; also, some users may experience difficulties, possibly to the extent that individual standards have to be altered. However, the benefit obtained, through the flow of standardised, understandable, financial information around the world will be massive.
As Damant puts it: The principles of IASs, however, are those of reporting to users of accounts, providing information needed to make economic decisions. Accounts should be transparent, reflecting economic reality. Capital is then invested at the right price. The importance of this cannot be exaggerated… (Damant, 2000 p. 1) Practitioners The practitioners, are the accounting profession and can be separated into two groups consisting of; the “Big Four”, namely KPMG, PricewaterhouseCoopers, Ernst ; Young, and Deloitte ; Touche and the smaller accountancy firms.
The accountants are the men and women who are going to have to ensure that any changeover proceeds smoothly and there are many problems that they will have to overcome. These arise from issues as diverse as, ensuring the accurate translation of each individual standard from the original English to local languages, to those concerning culture, primarily what is considered worthy of an entry on the balance sheet.
Ultimately success is dependant upon accountants understanding of, and their ability to work within, any international standards adopted. For those within the EU, this means having produced a full set of IAS accounts ready for publication in 2005. However, as 2004’s figures will be needed for comparison: Businesses will have to be able to produce an opening 1 January 2004 balance sheet under IAS in order to construct their accounts properly. (Sawers, 2003 p. 1)
It would appear to make sense for businesses to start planning for the changeover in advance. However, a survey by PricewaterhouseCoopers published in June 2002 reported that 60% of European CFO’s were yet to start transition planning. Also, the same survey stated that 18% of CEO’s and 31% of board members and senior management were unaware of the change at all (Wright and Sharpe, 2002).
In the short term the introduction of IAS in the EU will lead to a period of intense activity on the part of the European accountancy profession. In general, the introduction of IAS will probably prove beneficial to the practitioners, as knowledge will become universal, allowing accountants to transfer between countries easily and firms to target overseas customers. The cost of retraining personnel to use IAS may prove significant for smaller firms. However, the standards are initially only being applied to larger businesses, most of which are served by the “Big Four”, allowing other firms some time over which to spread the cost.
In the rest of the world, the need to adapt is not so pressing. However, if the changeover in the EU proves to be successful, the popularity of international accounting standards may well spread to other parts of the world. Particularly so if the US were to adopt IAS or allow companies using them to list on their stock exchanges, which may be more realistic than it first appears. As the Wall Street Journal itself states when referring to the current mood in the US:
It is a rare time when accounting-rule makers in the US have expressly altered rules to take into account the international way of doing things – instead of expecting their overseas counterparts to conform to US standards. (Bryan-Low, 2003) However, that is the prevailing mood of the moment, as the American accountancy profession attempts to rebuild its tarnished image, post Enron. In general, the internationalisation of accounting standards should prove to be beneficial for the accountancy profession world wide in the medium to long term. In the short term however, the changeover is providing a number of headaches and a great deal of work, especially to those working within the EU, as they try to be ready for the impending 2005 deadline.
If international accounting standards are to prove successful, and deliver the potential benefits offered by internationalisation of the accounting practice, steps will have to be taken to overcome the many hurdles stated above. Overall there are a number of potential advantages, particularly in the long run, to both practitioners and end users of published accounts from moves toward internationalisation of accounting practice. There will undoubtedly by some initial confusion for end users, and an intense period of activity for practitioners, in the run up to, and following implementation. However, this will ultimately be outweighed by; better access to capital; increased clarity, particularly surrounding profits; and a worldwide level playing field for business.
The standards chosen to implement this change are of less importance, as both IAS and US GAAP are currently undergoing considerable alteration with the aim of conversion. Comment One set of standards no matter how meticulously constructed and widely adopted, will be unable to prevent another scandal such as Enron, if not enforced correctly. If corporate bosses are permitted to remain within the letter of the law, whilst displaying a flagrant disregard for the spirit of the law, it is merely a matter of time before another corporate scandal occurs. Loopholes will remain to be identified and exploited by those with the inclination, and there will always be those who simply break the rules, as was the case with Enron. Worryingly, in a recent survey conducted by Deloite and Business Week, of top American businesses:
One third of the respondents said recent changes had not eliminated the possibility of an Enron-type scandal at their firms. (Bushko, 2003 p. 2) Therefore, it is essential that if a common set of international standards is introduced whether they are US GAAP, IAS, or some other system, they are not seen as the solution on their own. Rather, they provide a valuable tool to aid an independent and trustworthy regulator of international financial reporting. It is then possibly of greater concern, that the IASB itself, is reported to have been soliciting funds from Enron (Caulkin, 2002). Let us hope that this is not an omen of things to come.