The Effects of Different National Accounting Standards - Thesis Example

1.0 Project Aim The aim of this study is to assess the effects of different national accounting standards which are UK, Thai, and USA in relation to International accounting standard such as IFRS, on the comparability of companies’ performances. This aim will be achieved through analyzing some key financial ratios. 2.0 Objective In order to meet the research aim, this research will use as main objective, try to investigate on how the different countries require financial officers to present their accounting information in order to give a true image of their firms. In line with the main objective, this research will have as minor objectives; Evaluate on how the methods of reporting accounting information may affect the firm’s financial position Find out what problems if any that the different accounting standards may have on firm’s performance Find out what correlation/similarities the different accounting standards may have Find out on any problems the different accounting standards may have on the world economy due to discrepancies in reporting methods Access the overall advantage/disadvantage of the different standards using the International Financial reporting Standard as the bench mark. 3.0 Background and context With increased technology, the world today can be said to become a global village, where people around the world have become connected and integrated by the click of the computer. Besides, the number of multinational companies, foreign investors and finances from abroad invested in different countries has increased significantly. As a result of these, they face problems arising from different accounting standards. It should have been a good thing if financial performance of companies from different countries could be compared even if accounting information was presented using different accounting standards. In this way, financial information can be said to have met one of the key qualities, or characteristics, which is “Comparability”. It should be noted here that, the objective of financial statements can be said to be “to provide information about the financial position, performance and changes in financial position of an enterprise that is useful to a wide range of users in making economic decisions” (paragraph 12).1 Thus the benefits of having a unique way of presenting financial information as to give a true financial performance, which is vital for international trade and investment, are as the follows: An investor aboard using this information is able to appraise the value of company before investing. An oversea bank using the information can judge the liquidity of company before giving out loans and if the company will be able to repay the loan. A parent company can measure and understand the financial status of subsidiaries before consolidation. A company can benchmark with international competitors using such financial information. A supplier and customer assess the financial position of the company before dealing with the business entity. To be able to meet the said objectives, this research will use financial statement of three different companies involved in same line of business, but operating in three different countries to establish the financial performance of the three companies financial statements prepared under UK accounting standard (UK Generally Accepted Accounting Principles, UK GAAP), Thai accounting standard (Thai Generally Accepted Accounting Principles, Thai GAAP), and USA GAAP and make a comparison with the requirements of the International Financial Reporting standard (IFRS), which are accepted worldwide. The result of using different accounting standards may have an adverse effect on a company’ performance on the international scene in as much as investors are concerned. Some may still be in favour of a unique International accounting standard. Particular country accounting standards are still necessary because of; Shifting the accounting practice, will be consumed time and complicated due to the legal process that may involve. This may be because, financial statements that are deemed to provide information that is used by interested parties to assess the performance of managers and to make economic and investment decisions has witnessed a lot of distortion by financial statement preparers most often referred to as ‘creative accounting’ or ‘earnings management’.2 This distortion is done at two levels, macro-manipulation and micro-manipulation. Macro-manipulations arise when preparers become aware of a proposal to alter accounting regulation in a way that they feel will be disadvantageous to them, engage in lobbying to attempt to prevent the change and push on to bring about an alternative depiction of economic reality which is more favourable to them. On the other hand, micro-manipulators alter accounting disclosures so as to create the view of reality that they wish to have communicated to users of their financial statements. Some accounting practices might be inappropriate within some countries because of cultural differences, providers of finance such as international donors, legal system, taxation, and economic conditions. IFRS can be said to be a set of international accounting standards stating how particular types of transactions and other events should be reported in financial statements. IFRS were issued by the International Accounting Standard Board to replace the old International Accounting Standards (IAS) that had existed from 1973-2000. The Goal of IFRS was put in place an international system of comparison of the various countries Generally Accepted Accounting Principles (GAAP) that currently exists. In order to evaluate the financial performance of the selected companies, the following financial ratios amongst others will be used; Liquidity ratios compares if the companys liquidity will be able to meet its near-term obligations, and it is a major measure of financial health Current ratio = Current assets/current liabilities Quick ratio (acid test) = (Cash + short term investments + receivables)/current liabilities Cash ratio = (Cash + short term investments)/Current liabilities Leverage ratios explain how much debt a company has on its balance sheet, and it is another measure of financial health. Generally, the more debt a company has, the riskier its stock is, since debt holders have first claim to a companys assets. This is important because, in extreme cases, if a company becomes bankrupt, there may be nothing left over for its stockholders after the company has satisfied its debt holders. These ratios are: Debt/Equity = (Short-Term Debt + Long-Term Debt) / Total Equity Interest Coverage = (Operating Income) / (Interest Expense) Profitability ratios explain how good is a company at running its business, whether its performance seems to be getting better or worse, or is the company making any money or not, and how profitable is the company compared with its competitors. All of these are very important questions that can be answered by analyzing profitability ratios. These ratios are: Gross Margin = (Gross Profit) / (Sales) Operating Margin = (Operating Income or Loss) / Sales Net Margin = (Net Income or Loss) / Sales Free Cash Flow Margin = (Free Cash Flow) / Sales Return on Assets = (Net Income + Aftertax Interest Expense) / (Average Total Assets) Return on Equity = (Net Income) / (Average Shareholders Equity) Efficiency ratios measure how effectively the company utilizes its assets, as well as how well it manages its liabilities by investing in assets to perform its operations. These ratios include; Inventory Turnover = (Cost of Sales) / (Average Inventory) Accounts Receivable Turnover = Revenue / (Average Accounts Receivable) Accounts Payable Turnover = (Cost of Sales) / (Average Accounts Payable) Total Asset Turnover = (Revenue) / (Average Total Assets) This research will justify the financial performance by using the above ratio analysis since they are the most widely used and relevant tools for such analysis. 4.0 Literature review Since the aim of this study is to assess the effects of different national accounting standards by doing some kind of comparability of the Thai GAAP, UK GAAP and USA GAAP accounting standards using IFRS as a bench mark, this may be different at the international level since each country uses different accounting standard. It is worthwhile giving a background to some of the accounting standards to be used. 4.1 Thai Generally Accepted Accounting Principles (Thai GAAP) Thai GAAP are statements issued by The Institute of Certified Accountants and Auditors of Thailand (ICCAT). It was based on Statements of Financial Accounting Standards (SFAS. With the coming into place of IFRS in 2001, Thai GAAP was developed following the international accounting standard instead. However, some details were changed as to take into consideration the economic, political and socio-cultural environment of Thailand. (Institute of Certified Accountants and Auditors of Thailand, 2001). 4.2 UK general accepted accounting principle (UK GAAP) Accounting standard in the UK consisted of 2 main standards: Statements of standard Accounting Practice (SSAPs) issued by the old Accounting Standards Committee (ASC). The ASC was established by the Institute of Chartered Accountants in England and Wales (ICAEW). If an issue was not sufficiently widespread significance to justify a SSAP, a statement of Recommended Practice’ (SORP) was issued. Such a SORP would have relevance and apply only to a particular industry or business sector concerned. Financial Report Standards (FRSs) issue by the Accounting Standards Board (ASB). Subject to ASC had a number of criticisms in the performance; the ASB has taken over the role of the ASC. The ASB also exposure drafts of FRSs are to be known as Financial Reporting Exposure Drafts (FREDs)” UK GAAP is a prescriptive measure in contrast with IFRS and US GAAP which is relied on principles. So, in the UK the practices are under appropriate professional bodies rather than legislature. (John Blake & Henry Lunt, 2001) In a study by Hans B, Christensen, Edward Lee and Martin Walker (2007), he state that “The EU and European Economic area (EEA) includes 30 countries have integrated financial markets and more than 7,000 listed firms. Almost all EU/EEA listed firms are legally required to adopt IFRS in their consolidated statement no later than 2005” (p 342). 4.3 International accounting standard (IFRS) International accounting standards implemented to seek the harmonisation of worldwide accounting standard. International Accounting Standards Board (IASB) produces International Financial Reporting Standards (IFRSs). Upon its inception the IASB adopted the body of in International Accounting Standards (IASs) issued by its predecessors, the Board of the International Accounting Standards Committee. The term ‘International Financial Reporting Standards’ includes IFRSs, IASs and Interpretations originating from the International Financial Reporting Interpretations Committee (IFRIC) or its predecessor, the former Standing Interpretations Committee (SIC). (International Accounting Standards Board, 2006) 4.4 Financial Ratio Many analytical techniques, including those involving a variety of financial ratios are available for evaluating financial performance. In financial analysis there is always a temptation to run all number. Yet normally have only a few relationships that can give the information and insights the analyst really needs. A ratio can relate any magnitude to any other, such as net profit to total asset. No attempt to assess business performance can provide concrete answers. Any insights gained are relative because businesses and their operating conditions vary so much from company to company and from industry to industry. Comparisons and standards based on past performance are especially difficult in large, multibusiness companies and conglomerates. (Erich A. Helfert, 1991). Peter Atrill and Eddie McLaney (2008) believed that “financial ratios provide a quick and relatively simple means of assessing the financial health of a business” (p 204). 4.5 The previous works In a research about “First time application of IFRS and its impact on financial ratios: A study on Turkish listed firm”, showed how IFRS was adopted in Turkish followed by new legislation. It tried to compared financial ratios before and after the new legislation and found that there was a significant difference between IFRS and Turkey accounting standard.(Ahmet Agca, Rafet Aktas, 2007). However, this research did emphasize on the effect of altering accounting standards. The scope the research was limited at determining a comparison of the financial result between companies that choose not to adopt IFRS and adopt IFRS. There are many of researches that determine the different practice between the accounting standard in each country. Although, they did not mention about the shortcut steps if users want to convert to another accounting standard in order to minimize time. Such is a research of the US and UK GAAP (Alan Reinstein, George R. and Thomas R Weirich (2002)), that points out only the different practices between US and UK GAAP and explains the reason for different practices. 4.6 Conclusion In conclusion, as a result of different accounting standards in each country the comparability of the financial performance can be affected coupled with the advent of globalisation and cross trade. It is for the interest of world economy that accounting standards be harmonised to give a level play ground for all entities to be able to present stakeholders with the same accounting information. However, harmonisation is difficult given the restrictions in each country. It will be a good idea if shortcut processes are developed in presenting accounting information especially as accounting information that is normally intended to reach a wide range of users, but as Rawl (1972) in his theory of Social Justice states, “social and economic inequalities are to be arranged so that they are both reasonably expected to be to everyone’s advantage, and attaching to positions and offices open to all”.3 This should therefore mean that everyone should be able to benefit to at least some extend. But most often than not, financial statement preparers act as intermediaries between the regulators and the users of the statements. They turn to act as interpreters of the regulations given the complexity of the business world and may even go far to influence with their own ideas further complicating world trade. 5.0 Methodology In order to achieve the aim and objectives, this research will use both of inductive and deductive approaches. The deductive approach will be determined first. If it can prove that the hypothesis is wrong. The inductive approach will be generated in the next step. 5.1 Deductive approach To begin with the deductive approach, in which the steps are theory, hypothesis, observation and confirmation, respectively, will be applied in determining the hypothesis that financial performances can be compared when different accounting standards are applied. This method supports one of accounting characteristic, which is comparability. This method is best when using quantitative research methods. 5.1.1 Quantitative method In the broad terms, this can be expressed as entailing the collection of numerical data through the administration of questionnaires and ascertain the view of the relationship between theory and research as deductive, a predilection for positivism in particular, and as having an objective conception of the reality. (Alan Bryman and Emma Bell, 2003) This research will use an experiment, which is one of the tools in quantitative method. It helps to test the hypothesis. In the experiment, three financial statements from three different companies in three different countries in same line of business that have been drawn up using different accounting standard are samples to be looked at as independent variables. Each of financial statement will be analysed by calculating ratio analysis the accounting standard of the company’s host country and then another calculation will be made with same financial information, but this time using the IFRS. Financial ratios will be used to verify the comparability of financial performance in the countries/companies. The independent variables are the nature of the business or an internal/external environment. If there is not much significant difference in the results, then it will be said that the system has not go any effect on financial performance of the company. The experiment has as an advantage the testing of the hypothesis, giving the direct answer, identifying of casual connection and separating of cause from effect. On the other hand, there are a number of disadvantages. A mistaken in the research process will lead to independent variables not being able to be controlled. Besides, the complexity of factors might be involved. 5.2 Inductive approach If the result of applying deductive approach reveals that the financial performances could not be compared, the inductive approach will be used. So, it begins with observation, pattern, tentative hypothesis and theory. This method is used in determining the stages of converting financial data to have the same standards, in order to comparable financial performance. This method involves the use qualitative research methods. 5.2.1 Qualitative method The qualitative method is doing analysis by inductive study. This provides a holistic view through the participants own words and perceptions of how they understand and account for and act within theses situations (Miles and Huberman, 1994). Desk research is employed in qualitative method. The report will emphasize on using the secondary source or analysis existing data. The sources of data are texts, book, journal, documents, or online sources. Even these sources of data are low cost, convenient and widen knowledge, although, there are some weakness of this method. The risk in this method is in the event of wrong translation, data may change over time or unreliable data may be used. In addition, the data might have been prepared for a specific propose so might not provide the answer to the research aim which is to assess the effects of different national accounting standards which are UK, Thai, and USA in relation to International accounting standard such as IFRS, on the comparability of companies’ performances. 5.3 Conclusion The deductive approach can give the answer of the comparability of different accounting standards. The inductive approach is exploited in the case where the different accounting standards do not provide a clear cut answer to the research aim and objectives. After using all available methods, the shortcut process of changing from one accounting standard to another standard may implement to contribute in answering the objective of the report. In addition, the further recommendation or suggestion will be generated. 6.0 Task List Task Problems Solutions Obtain literature on financial ratios, Comparability of accounting data, Thai GAAP, UK GAAP, USA GAAP and IFRS A vast amount of information. Focus on the relevant data. Identify the relevant financial ratios, including the impact on business Not enough ability to analyse. Research from internet, books, business magazines and journals Identify key financial ratios Some key financial ratios might be little importance Research from internet, books, business magazines and journals Select companies in the same business line whose financial statement are based on Thai GAAP, UK GAAP, and USA GAAP Selected companies might not cover all different accounting practices that might be needed to calculate financial ratios. Study background and the financial statement of the companies before choosing Calculate key financial ratios from selected companies Misunderstand the nature of some involved transactions. Inquire from the company where possible when some suspicious accounting information is present in the financial statement. Reformulate the financial statement in accordance with other accounting standards and recalculate financial ratios to compare with the result from using other accounting standards. Some financial ratios might need internal information Contact a company before selecting a company to ask the permission to get some internal data if possible. Identify the different accounting practices that affect the calculation of key financial ratios. Not enough ability to analyse. Research from internet, books, business magazines and journals Demonstrate the shortcut step of converting one accounting standard to another accounting standard Complex process. Limited skills. Time consuming Consider step by step. Plan the general idea before working 7.0 References Ahmet Agca, Rafet Aktas (2007) First Time Application of IFRs and Its Impact on Financial Ratios: A Study on Turkish Listed Firms. Problems and Perspectives in Management [1727-7051], 5,2, 99-113. Alan Reinstein, George R. and Thomas R Weirich (2002) US and UK GAAP: important differences for financial statement preparers and users. Managerial Finance, 28, 1, 59-72. Allan Byman and Robert G. Bmguess (2003) Business research methods, 1st Ed, England: 2003). Amat, Oriol and Gowthorpe, Catherine, (April 2004) "Creative Accounting: Some Ethical Issues of Macro- and Micro-Manipulation". UPF Working Paper No. 748. Christopher Nobes and Robert B Parker (2000) Comparative International Accounting, 6th Ed, England: Prentice Hall. Erich A. Helfert (1991) Techniques of Financial Analysis, 7th Ed, Boston: IRWIN. Framework for the Preparation and Presentation of Financial Statements published by the IASC in 1989 Hans B, Christensen, Edward Lee and Martin Walker (2007) Cross-sectional variation in the economic consequences of international accounting harmonization: The case of mandatory IFRS adoption in the UK. The International Journal of Accounting, 42, 341-379. Institute of Certified Accountants and Auditors of Thailand (2001) Thai Accounting Standard (1st part). Thailand: Institute of Certified Accountants and Auditors of Thailand. International Accounting Standards Board (2006) International financial reporting standards (IFRS). London : International Accounting Standards Board. John Blake and Henry Lunt (2001) Accounting Standards,7th Ed , English: Prentice Hill. Matthew B.Miles and Michael Huberman (1994) Qualitative Data Analysis: An Expanded Sourcebook, 2nd Ed, California: Sage Publications, Inc. Peter Atrill and Eddie McLaney (2008) Financial Accounting for decision makers, 5th Ed, England: Prentice Hall. Rawl, J.: (1972) A theory of justice, Oxford University Press. William M.K. Trochim (2006, Sep 20) Research methods knowledge base: Web center for social research methods. Retrived March 4th, 2008, from Website consulted http://www.socialresearchmethods.net/kb/dedind.php on 05-03-2008 Read More