Why FASB and IASB Seek to Improve Their Conceptual Frameworks - Essay Example

?Question Discuss the reasons why the FASB and the IASB seeking to converge and improve their respective conceptual frameworks and why the project will take along time to complete. For the past two decades, there has been a trend set by the two leading accounting standards setting boards namely as Financial Accounting Standard Board (FASB) and International Accounting Standard Board (IASB) in respect of providing unanimous accounting standards to the entities. Both the boards have their own accounting standards, but due to enhanced globalization, both the boards have taken substantial steps in convergence of the accounting standards. Following are some of the reasons for the convergence of accounting standards. Harmonize the global accounting standards so that the users of financial statements feel harmony with rest of their other counterparts anywhere across the globe. Making the financial statements of the entities comparable all over the world in respect of the accounting policies used by the entities Eliminating the impact of biasness and partiality from the financial statements such that integrative and objective financial statements can be prepared Providing opportunities especially to multinational companies to prepare their financial statements on the basis of single common accounting standards so that the manipulations and misrepresentations can be avoided while formulating the consolidated financial statements of the whole group of companies In bringing more convergence in setting the accounting standards, yet there is a long period of time required for this purpose. Some of the reasons for such possible extended time to be taken are as follows: Legal and regulatory stoppages and restrictions which do not allow the accounting standard boards to bring so early changes in the accounting standards merely on the basis of producing more convergent accounting standards. Laws of the jurisdictions ask some real and substance based reasons to bring such changes in the accounting standards. Adoption of some of the new accounting policies requires the entities to bring changes at times on retrospective bases. The effective date for the adoption of the new accounting standards is generally set after one or two years from the date when new standards are formulated. Therefore practically once the accounting standards are reformulated, their adoption takes two to three years by the entities in their implementation. In a nutshell, the main hurdle for setting up the new accounting standards for the purpose of convergence, is posed by the regulatory bodies and persuading them for such changes require substantial amount of time and efforts followed by the time taken by the entities to adopt the new accounting standards after their formulation therefore making it more longer for the accounting standards to be convergent globally. Discuss the problems involved in refining, updating, completing and converging the existing FASB and IASB conceptual frameworks into a common framework, illustrating your discussion with reference to specific issues. Discuss that are controversial and difficult to resolve The major problems that arise in refining, updating, completing and converging the present accounting standards issued by FASB and IASB have significant implications. Most of the problems are of technical nature however some administrative issues that hinder the convergence process cannot be altogether ignored. In the following discussion some of those problems are highlighted. Retrospective changes in the financial statements In developing new standards which are more convergent in the form of a common framework, both FASB and IASB have to change their existing frameworks altogether. Due to those changes, the financial statements previously prepared under each of the accounting standards would have to be changed by the entities on retrospective bases under newly developed common framework which may display some material diversions as compared to the previously furnished financial statements. In this way the financial statements may lose their characteristic of reliability. Technical Criteria hard to be met If some of the technical issues are considered while assessing the common framework to be developed with the convergence of FASB and IASB, the accounting treatment provided by both of these standards in respect of various different issues are quite rigid. For instance, under IAS 16 of IASB, there are two models provided to value the property, plant and equipment which are cost model and fair value model. However, in respect of similar standard in FASB, property, plant and equipment are to be valued only on historical cost basis. There is no room for fair value based valuation under FASB for property, plant and equipment. Question 2 Explain the process by which the EU endorses international accounting standards and discuss the progress that has been made and the problems that have arisen? The process developed by European Union (EU) to endorse the international accounting standards (IAS) and International Financial Reporting Standards (IFRS) contain 8 major steps. These 8 major steps are strictly followed by EU so that IAS and IFRS can be effectively implemented under the Euro Zone. Following are the eight steps of endorsement of IAS and IFRS established by EU: 1. In first step, accounting standard is first developed and issued by IASB. 2. Second step brings in European Financial Reporting Advisory Group (EFRAG) which sets up a process of consultation with various interest groups of relevant areas. 3. In third step, the assessment of the accounting standards made by EFRAG in consultation with interest groups is presented to the European Commission which evaluates the accounting standard in respect of some basic accounting principles which are true and fair view, relevance, reliability, comparability and understanding. The accounting standard in question is also sought out regarding its economic impact upon the EU. 4. Forth step involves another accounting standards assessment body namely as Standard Advice Review Group (SARG) which has been assigned a duty of objectively evaluating the opinion provided by EFRAG to the European Commission in respect of balanced endorsement advice of EFRAG regarding that particular accounting standard. 5. In Fifth step, the European Commission prepares a draft for the accounting standard in question for its endorsement regulation under the opinion and suggestion provided by EFRAG and SARG. A regulatory procedure for scrutiny of accounting standard is followed. 6. Sixth step deals with the setting up Accounting Regulatory Committee (ARC) which is formed by European Commission. ARC has responsibility of giving vote on the proposal presented by European Commission. For voting, the rule of qualified majority is implemented. In case of favourable votes, the whole procedure is transmitted to the next level. 7. In Seventh step, the European Parliament and the Council of European Union are provided 3 months time to assess or oppose the draft of the regulation presented by European Commission. 8. In last step, if both European Commission and Council of European Union provide their favourable feedback on the regulatory draft of European Commission, or in case of lapse 3 moths time period without opposing the regulatory draft, the draft regulation is effectively adopted by the European Commission and is sent to Official Journal to be published. The problems that mainly arise during this whole endorsement process include the rigid way of endorsing the accounting standards as well as the lengthy time period for this whole process. With reference to developments in either accounting or corporate governance, discuss the steps that have been taken within the EU to ensure that the information provided in the financial statements of European listed companies is robust, comparable and secure.? During the development of IAS and IFRS or Corporate Governance related standards, EU plays a key role in providing the information which is robust, comparable and secure in the financial statements of the public listed companies in the Euro Zone. Various different regulatory bodies have been established by EU so the information can be provided which is robust, comparable and secure in its nature. The extremely rigid and time consuming strategy of EU provides a clear and better outlook for the investors. Those regulatory bodies work according to their own judgment and consultation. When a standard is assessed by those regulatory bodies, the process becomes quite narrow and the politicians and other concerned authorities plan to abandon the existing accounting standard in question. Question 3 In attempting to set accounting standards for pensions, how have accounting standard setters approached the problem of allocating costs between accounting periods, and reporting these costs in the financial statements, so that a fair view of the position is shown. To what extent have they been successful? Pension accounting has always kept the accounting standards setters in different dilemmas such that the whole accounting is based on the future estimates of the pensions. Accounting standards are mostly set to provide guidance in respect of historic dealings and transactions, but they rarely taken into consideration the future estimates of different areas. Pension accounting is the one that deals with such future estimates. Under both FASB and IASB, relevant standards have been set for the post employment benefits or pension accounting. Both the standards recommend acquiring the expertise of actuaries in respect of estimating the amount of post employment benefits to be delivered to the retiring employees. Actuarial valuations are considered because these are the professionals who can better estimate the liability of the entity in respect of pensions to be paid. Under FASB’s standards, two major assumptions are to be set out by the actuaries which are economic and demographic assumptions. Under economic assumptions, the actuaries mainly focus on establishing the future estimates in respect of interest rates, inflation, rate of return on assets and salary scale of the existing employees. Interest rate is used to discount the future obligations or liability of the company to make the pension payments. Inflation is estimated which helps in estimating the future salary level of the employees. Rate of return on assets is also highlighted and critically analyzed by the actuaries as it helps the companies to invest the funds into more attractive areas so that enhanced returns can be reaped and then be used to settle the future liability of the company. Salary scale assessment is also quite necessary as due to promotion or transfer of the employees, their salary scales are changed frequently. Therefore, a comprehensive assessment of these estimates is carried out by the actuaries. So far as the demographic assumptions are concerned, generally four kinds of assumptions are used by actuaries which are withdrawal/termination, mortality, retirement and lastly disability. Under withdrawal assumption, the actuaries try to find as to how many employees are going to leave the company or switching off the job in the upcoming periods. These all are voluntary and self terminations. Mortality assumption deals with amount of time an employee lives such that a significant percentage of employees die before their retirement age. Retirement assumption is made when the time to officially say goodbye to the job comes up and the employee has to leave the company after reaching to a certain age. Disability assumption holds that an employee does not remain healthy enough to carry out his/her job duties and become worthless to the company. The accounting standards setters have minimized the issue of allocating the pension costs to the different time periods by simply transferring this responsibility on the shoulders of the actuaries. Whatever actuaries find it suitable for the company to account for pension cost would be acceptable to entity as well as to accounting standards boards. With reference to segmental reporting or pensions accounting explain why and how the accounting requirements have developed over the last 20 years. As part of your answer you should consider the extent to which changes have been market-driven or driven by mandatory regulation. So far as the developments are concerned with respect to pension accounting, most of the changes made in the last 20 years are basically made due to market-driven tactics and trends. For instance, initially, only single category of pensions was there name as defined benefit plan. In defined benefit plan, the employer makes an agreement with the employee to provide him/her a particular amount of sum after his/her retirement. The main focus was kept at the ultimate benefit to be provided to the employees and it was the responsibility of the employer to ensure that the employee must receive the committed defined benefit. However, in the times of distress in 2008 when the companies underwent an extremely ruthless tactic of high terminations and laid off many employees, the companies also brought in new concept which is called defined contribution plan. For defined contribution, the employees are promised in such a way that they have promised by the entities that would be contributing a particular amount of contribution for the employees. Whatever the amount of contribution is fixed by company, the company will add that amount in employees’ pool of funds and will be released from its every responsibility. This came into effect in 2011 in the revised IAS19. Question 4 Critically discuss both the theoretical and practical arguments for and against the capitalization of internally generated and purchased brands in the balance sheet. IAS 38 requires a firm not capitalize any expenditure made on developing the internally generated brands of the company. However, it has allowed the companies to capitalize the purchased brands in their balance sheet. Internally generated brands as the same suggests are developed by the company itself. However, if the company is allowed to capitalize the internally generated brands in the balance sheet, there would be a likelihood that misrepresentations can come into effect as the total assets can be overvalued due to inclusion of internally generated brands into its intangible assets. A firm can manipulate its balance sheet by deliberately including the internally generated brand which is likely to be overvalued. Since internally generated brands are not acquired by paring some consideration, it is actually developed by the company and company can estimate any amount for its internally generated brand as per its desire and other motives. Due to this it is prohibited by IAS 38 to capitalize internally generated brands in the balance sheet. On the other hand, if purchased brands are critically assessed, there is a strong rationale behind its inclusion in the balance sheet such that it is the asset which has already been recognized among the public and people know that brand. So in case of acquiring that particular brand, the company would pay certain consideration to the counterparty and receive the right to use that brand name. In this way, the purchased brand is permitted to be capitalized in the balance sheet. Discuss the general problem of accounting for intangible assets and the special problem of accounting for brands The biggest problem that arises in the accounting of intangible assets is the estimation of their useful life. Unlike other tangible assets which have definite lives, these intangible assets do not have any predetermined life as a result of which no suitable basis found to amortize those intangible assets from the balance sheet. Another most common problem that can be observed in the accounting of intangible assets, the value of intangible assets to be estimated is very uncertain as for intangible assets, the markets in which those intangible assets should be traded, does not exist. In the absence of real life market for the intangible assets, their valuation becomes extremely judgmental and poses question marks regarding their useful lives and their closest fair value. Accounting for brands also suffers the similar issues such that the value of a purchased brand can be assessed which would be the purchase price of acquiring the brand. But in case of internally generated brands, the true price or value cannot be determined because nobody exist which could define the true market value of that brand. A potential outside buyer of that brand can estimate the value of that brand, but the company itself cannot value its brand name. Useful life of the brands is also another issue which needs substantial reviews especially in case of purchased brand which is recapitalized in the balance sheet. Generally the useful life of a brand to be estimated is quite complicated because the reputation of a brand can increase or dilute in very short amount of time and are very sensitive to any move to be made by the company. Critically assess the rationale for permitting acquired brands to be capitalized on the balance sheet but not permitting internally generated brands to be so treated. The most basic rationale behind allowing the purchased brands to be capitalized in the balance sheet but not allowing internally generated brands is the real value of that brand. In case of purchased brands, companies make negotiations on the real value of that brand and if the deal becomes final, the acquiring company purchases the brand by paying suitable consideration. However,, for internally generated brands, no consideration is paid to anyone as well as no market exists for such internally generated brands, therefore, they are prohibited to be included in the balance sheet to be recapitalized. References Deloitte, 2008, IFRSs and US GAAP A pocket comparison, [Online], Available at: http://www.iasplus.com/dttpubs/0809ifrsusgaap.pdf [Accessed on 21 May 2012]. Grant Thornton, 2007. Comparison between U.S. GAAP and International Financial Reporting Standards. [Online] Available at:http://www.grantthornton.com/staticfiles/GTCom/files/AboutUs/Assurance_thought_leadership/Grant_Thornton_U%20S%20_GAAP_v_IFRS_Comparison.pdf [Accessed 21 May2012]. Read More