Template for Bachelor thesis in International Business
Accounting Standards - Comparison and Importance
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Fair Value Accounting US GAAP VS IFRS
Accounting Standards - Comparison and ImportanceThe one important objective of financial reporting is to provide vital financial and business information to the potential and current investors, creditors, and appraisers to make an effective economic decision to invest in the security or lend to the firm (Robinson, 2020; Walton, 2013). Investors, analysts, and appraisers use the information to form an opinion regarding firms' current performance and ability to generate cashflows and earn profits (earnings per share) on a going concern basis (Benston, 2008; Robinson, 2020). But the information provided in the financial statements is only accounting information and presents a huge gap between the book value and market value of the assets (Damodaran, 2010; Schildbach, 2011). The book value of the assets can hardly transform into the market value (Damodaran, 2012). The financial statements, according to (Damodaran, 2012), does an excellent job in the classification of the assets, a partial job in reporting the actual value of the assets related to their ability to generate cashflows (Schildbach, 2011), and a poor job in explaining uncertainty and ambiguity in assessing the assets values. Therefore, any accounting standard that can minimize the gap between the book value and market value can reduce the uncertainty regarding assets' actual price and book price and provide current market value to the investors, appraisers by the accountants (Damodaran, 2010; Damodaran, 2012) can be valuable to the concerned parties. The second essential requirement for the financial statements under specific accounting standards is to provide the information with minimum variability (Robinson, 2020; Schildbach, 2011) in reported earnings and cashflows – which helps investors and analysts to forecast future earnings and cash flows. Asset's prices are usually driven by their fundamentals (Agrawal and Bansal, 2021), and some of the most important fundamentals might include The current levels of earnings (EPS), dividends per share, and cash flows per share Anticipating future growth in earnings and cash flows and dividends payout ratios. Risk of stock and the discount rate. The matrices like net income and earnings per share are used in various ratios to establish the management and financial performance of the firm with balance sheet figures such as total assets and shareholder's equity to compute metrics like return on assets (ROA), return on equity (ROE) – and these ratios are used to benchmark investments against peers. If these ratios are highly volatile, then it is impossible to assess an asset’s historical performance. Fair value accounting also has a profound impact on loans and pension liabilities on the liabilities side. The balance sheet classifies the assets and liabilities based on their liquidity (IFRS) or current / non-current assets and liabilities (US GAAP) (Robinson, 2020). The assets on the balance sheets are further classified into two categories, i.e., Financial assets and non-financial assets. Financial assets include marketable securities, cash and equivalent, and trade receivables (Robinson, 2020) including derivatives, currency translation and cash flow hedges, etc. While the non-financial assets or long-lived assets are differentiated into property, plant and equipment, investment properties and intangibles. Fair value accounting is used for financial assets under ASC 820 in US GAAP while long-lived assets are reported at historical and amortized cost. While fair value (if opted) under IFRS is used not only to measure financial assets at fair value but also used for reporting non-financial assets at fair value on the balance sheet. Figure 2 Financial Statements Source: Own Creation The foundation of this chapter is to explore how Fair value accounting gained popularity and how it caused problems for the accountants, analysts, appraisers, and investors alike, and how it differs from the Historical cost accounting system. Under US GAAP, ASC 820 Fair value accounting deals with Fair Value Measurement for financial instruments - While under IFRS, IFRS -13 (IAS 16 for PP&E, IAS 40 for Investment Properties, and IAS 38 for Intangibles) deals with the Fair Value Measurement. The IFRS accounting system provides a more comprehensive system of applying fair value accounting than the US GAAP accounting system.
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