subject: Convergence of GAAP and IFRS [print this page] Convergence of GAAP and IFRS Convergence of GAAP and IFRS
Convergence of GAAP and IFRS
Due to our continual increases in globalization, there is a necessity for all companies to report their financial details in the same fashion. Efforts are in place for convergence between The United States Generally Accepted Accounting Principles (US GAAP or just GAAP) and International Financial Reporting Standards (IFRS). There are many differences in both application and philosophy between GAAP and IFRS1. Many United States companies (and accountants) do not want to spend resources converging with IFRS, but it is important for our global economy.
Mergers and acquisitions of foreign companies are more difficult to perform if different financial reporting is used for each company. Frequently investors are investing in companies that are not based in their country and may have some difficulty interpreting a differently regulated financial statements. To remedy this and many other issues, FASB and IASB have agreed to work towards convergence. In 2002 the Norwalk agreement was signed by both agencies and they formalized their speedy and coordinated convergence efforts.1 Many multinational companies are faced with having two different sets of financials. GAAP for their US subsidiaries and operations and IFRS for their international subsidiaries and operations.
After the Norwalk agreement, a Memorandum of Understanding (MoU) was completed to further help the convergence efforts in 2008.2 11 Major projects were identified in the MoU and the majority of the MoU should be complete by the year end of 2011. The projects to lead the convergence effort are the following: Business combinations, financial instruments, financial statement presentation, intangible assets, leases, liabilities and equity distinctions, revenue recognition, consolidation, derecognition, fair value measurement and post-employement benefits.2 It is easy to see that the MoU is very ambitious and the goals cover many of the difficult and controversial issues in accounting today.
US GAAP is very thorough, regimented and complete. IFRS are generally much broader and open to interpretation as the International Accounting Standards Board (IASB) has avoided offering interpretation advice on its own standards and The United States Financial Accounting Standards Board (FASB) has offered interpretation on its own standards.
Many rules and standards in GAAP revolve around revenue recognition. FASB's principle of conservativeness is a key distinction in revenue recognition in GAAP. There is a major difference between IFRS and GAAP in terms of revenue recognition. Under GAAP, a cost-to-cost percentage of completion method of recognizing service revenue is prohibited unless the contract involves construction. IFRS, on the other hand, requires that percentage of completion bet the method to determine recognition of service revenue and the cost-to-cost is not only allowed, but is a recommended method in computing percentage of completion. GAAP only allows the revenue and gross-profit approaches of calculated percentage of completion.2 Pension reporting is another method that differs greatly between GAAP and IFRS.
A net pension asset can be reported at an unlimited value on the balance sheet under US GAAP. Under IFRS, however, the amount reported must be the lower of "the amount of the net pension asset, or the sum of any cumulative unrecognized net losses..."2 The IFRS is more conservative than GAAP in this case as potential (but still unrealized) losses are reported in the pension funds.
Intangible assets are difficult to record and GAAP has a very simple set of rules governing the reporting of those assets on the balance sheet. In general, GAAP only allows the reporting of an intangible asset if it was acquired through a purchase. This is because an internally developed intangible asset has already been expensed as the research and development costs occur. Under IFRS internally developed intangible assets can be reported if the following six criteria are all met: there must be a technical feasibility of completion, there is intention for completion, the intangible asset must be able to be sold or used, a market or usefulness must be demonstrated, resources for project completion must be available in an adequate amount, and there must be an ability to reliably measure the expenses attributable to the intangible asset.2 This may sound like a long, difficult list to comply with to record an intangible asset to a balance sheet, but if an example is used, it is actually quite simple. Consider a drug company that is developing a new drug. If the drug is an anti-cancer drug there is clearly a value and a market on the patent of the anti-cancer drug. The job of a drug company is to measure their expenses and to develop the expertise to develop the drug and get the resulting patent. In fact, it is difficult to think of an intangible asset that could not be reported under IFRS (if the company is a well managed, going concern). Under GAAP, however, there are very few exceptions to the "no reporting of internally developed intangible assets on the balance sheet rule."
Works Cited
1. Deloitte. IFRSs and US GAAP: A Pocket Comparison. July 2008
2. Ernst & Young. US GAAP vs. IFRS: The Basics. January 2009.
3. Price Waterhouse Coopers. IFRS and US GAAP Similarities and Differences. September 2009
