IFRS Regulatory Framework for Financial Reporting - Assignment Example

IFRS Regulatory Framework for Financial Reporting Contents Contents 2 Introduction 3 2.Advantages of IFRS adoption 3 3.Challenges in adoption and expansion of IFRS 6 4.IASB’s Attempt to Overcome Challenges 8 5.Conclusion 9 Reference List 10 1. Introduction International Financial Reporting Standards (IFRS) is an accounting methodology that sets guidelines for recording transactions for company financial statements. These standards have been so formed that it replaced the GAAP and allows a uniform accounting standards to be practiced all over the world. Such standardization of accounting practices facilitates international transactions, reporting and comparison. These also have certain disadvantages in costs of implementation, lack of detail in practices and in complaint regarding IFRS being weaker standards in certain other countries (Forgeas, 2008). Regulators, investors, shareholders, employees, managers and rest of the stakeholders view financial reporting as the most essential element for making financial decisions. Uniformity promoted through the IFRS, being implemented by International Accounting Standards Board (IASB), facilitates easy comparison and setting of benchmarks on an international scale. Countries have adopted the IFRS, but many find significant holdouts on its implementation. This paper is aimed at an analysis of the advantages of IFRS adoption and implementation, by highlighting the benefits to investors and managers as well as the disadvantages and weaknesses associated with the same. The debate concludes to suggest some changes that IASB can undertake in order to meet those challenges. 2. Advantages of IFRS adoption The IFRS model, as opposed to most other accounting standards, requires extensive application of fair valuations, while measuring the assets and liabilities. The primary aim of the IFRS is to fix the Balance Sheet and put it right, which might bring about a huge precariousness in the income statement. However, as against the more popular, GAAP system of accounting, the IFRS is a principle based accounting system and not rule based. Allows freedom to choose the best way The principle based approach in maintaining accounts allows for more flexibility and discretion in maintenance of financial statements. This permits companies to choose the best way possible to reflect their accounts. Clear and defined principles make it easier to maintain accounts, rather than following rules with no supporting principle (Diffen, n.d.). Facilitates Comparison of Accounts IFRS adoption also facilitates making comparisons between two firms based in different countries. If the accounting standards and practices are the same, then it becomes easier for companies to undertake mergers and acquisitions. Also, use of one common accounting language is easier for companies, which have subsidiaries abroad. Companies are also able to raise capital from abroad, if they follow IFRS standards. Helps investor understanding Some people argue that the IFRS format is much more complex and difficult to comprehend by most people as well as investors. This might be largely true. However, in absence of global standards, how would an investor, without knowledge regarding different standards and accounting practices in different countries, understand the figures presented in financial statements for comparing and making investment decisions in these companies? Therefore, it is essential to remove inefficiencies present in multiple accounting standards and come up with the practice of one global standard, which shall be understood well with practice. This is the reason why clear priorities have to be set by those formulating accounting standards; such that the complexity issue is also addressed (Eyden, 2012). Facilitates investor information For the investor, who plans to make an investment after a careful study of company financials, the IFRS proves to provide more accurate and real time data of company earnings statement and records the losses and gains in business in a more timely fashion. Investors and analysts shall find the Balance Sheet to be more useful and data presenting more of economic substance than legalities in financial statement representation. Benefits for Managers The IFRS accounting standards shall be acceptable in 120 jurisdictions and by all means, reduce the level of variations in accounting practices followed across countries for similar transactions. This framework also decides on the necessary disclosures, which are to be made on basis of accounting that is followed and also, the factors that have been considered with possible reasons, for the accounting decisions taken. For example, revenue recognition and leases shall become clearer. IFRS facilitates benchmarking with global peers For managers, adoption of IFRS would mean that the accounts are prepared in a format, which is followed and benchmarked among global peers and competitors. This would make it easy for them to make strategies and set standards that are globally benchmarked. Milestones set for the business shall be based on the global industry environment, rather than the local one (IFRSUSA, 2011). Increased access to foreign capital and investments IFRS is being adopted in most countries in Europe and many other jurisdictions all across the world. This means that companies across the world are improving their financial statements, so as to gain better access to financial markets, by coming under a single roof of accounting standards. This convergence facilitates comparisons and increased comparability in the international markets, which allows for higher focus on investors. Access to foreign capital gets improved due to ease in understanding of financial statements by foreign investors. Higher relevance IFRS reporting allows for economics and logic in financial reporting, reducing legal compliance requirements. This helps stakeholders to get a true and fair value of the company. Recording of gains and losses in a timely manner facilitates increased reliability and credibility of accounting and reporting standards. The layout and consistency of IFRS is far better than the more popular GAAP and provides complexity of results from greater detail in accounting practices. Manipulation of reserves figures shall not be permissible and therefore, the new IFRS is more oriented towards the shareholder and allows for less manipulation. 3. Challenges in adoption and expansion of IFRS The most noteworthy challenge associated with the adoption of IFRS is that implementation of IFRS shall not be applicable in all countries. This is difficult owing to reasons that are beyond the control of IASB. IFRS implementation cannot be enforced across all countries of the world. Huge Cost of Adoption The cost of transition to IFRS is huge. It also requires people to have a good knowledge of its application and implementation, so companies need to hire experts. Also, the present finance team needs extensive training for learning and assimilating the IFRS. This can be a major deterrent towards quick and widespread adoption of IFRS in companies worldwide. Also, a lot of internal systems need to be changed in order to incorporate the new standards, thereby involving huge costs. Complex and Difficult to Understand Another challenge that IFRS faces is that of being more complex and difficult to understand. This would require a lot of training and time to be completely absorbed within the system. IFRS system relates to a complete change in the transaction process, which is a long one and needs time and effort on the part of organizations. Such an accounting system also makes it difficult on the part of investors to understand and comprehend, which might deter the adoption of it within the practice of organizations (Ernst & Young, 2011). Monopoly of IASB deterrent for Accounting Standards IFRS system also relates to rendering IASB as a monopolist in the standard setting procedure. When U.S. companies adopt the IFRS within their system, such monopoly shall only become stronger. Monopoly is not good for standard and procedure setting. Nonetheless, if IFRS has some competition, then it shall allow better outcomes as a result of the competitive environment. High Importance to Fair Value Treatments Another primary problem associated with IFRS is that it gives very high importance to fair value usage for the measurement of assets and liabilities. Interviewers believe that such measurement can increase principle and also, increase volatility as the assets get reported. Difficult for Small Companies to Adopt IFRS adoption within small and medium enterprises shall be far-fetched because it entails huge complexity and costs associated with it. In this case, comparability and investments shall only be facilitated for large companies and not smaller ones. IFRS shall bring huge disadvantages to small sized firms, who cannot comply with their standards, in terms of huge costs of transactions and non-absorption of complexity. In the EU, IFRS adoption has been carried out in about 7000 large listed companies. However, there remain about 70000 more small companies who have not adopted IFRS. This makes comparison difficult and dismantles the idea of complete transformation and adoption of the IFRS within the EU (Mohr, n.d.). High Flexibility can lead to Frauds The basis of IFRS is not rule based. This brings in some sort of ambiguity in accounting practices. Different companies may report differently for the same transaction, when it is principle based and not rule based. The underlying principle might remain the same, but changes might arise while recording transactions, as per discretion of the accounting manager of the company. Such freedom in reporting might even lead to fraudulent and misleading account maintenance. In certain cases, profits and losses can be manipulated and company can show what it prefers to. Irregular disclosures can also keep financial issues of the company hidden. Such disclosures and representation is important for investors and shareholders, while making investment decisions. Principle Based Accounting allows for fewer Disclosures Accounting standards, that are based on principles, do not mandate disclosures in the accounting statements and can be manipulated in cases of litigation depending on perception. Such freedom of accounting and expression in the form of accounts gives a higher scope for interpreting accounting statements as per personal opinion and this becomes a difficulty in legal cases. Makes Companies Vulnerable in Legal Cases The IFRS standards cannot be understood critically by majority of stakeholders. IFRS should be more inclined towards the rules, in order to make attack and defense in litigation easier and reliable, thereby reducing misrepresentation and wrong interpretation in court proceedings (Jordan, 2013). 4. IASB’s Attempt to Overcome Challenges Amidst the present debate over pros and cons of the IFRS and its adoption, it is undoubtedly true that there is room for improvement and concrete attempts have to be made by IASB in this regard. According to IASB disclosure forum, there is no quick fix solutions to the problems associated with IFRS; however, short-term progress can be initiated. It is suggested that IASB and its constituents begin by addressing stabilization of the standard drafting process. Attempt to improve on new standards, that are simpler, should be implemented and complex procedures should be done away with. An attempt towards making a more realistic model of the IFRS shall be commendable. This can be done by changing certain concepts like, recording of capital gains in income when 20% of a wholly owned subsidiary is sold (PWC, 2013). With regards to disclosures, IASB can allow for all disclosures that involve direct impact on cash flows. Such disclosures must be clear and enable users to understand the claims and quality of assets and also, determine the expected time of getting payments and calculate the remaining liabilities thereof. The IFRS also needs to be made more credible, in the sense that for one transaction, there should be a standard treatment, so that mistreatment and wrong recording of transactions, that are based on principles is avoided. Such an attempt shall reduce threats of frauds and misappropriation of accounts (Lamoreaux, 2011). IFRS needs to be clearer, so as to help investors and auditors account and understand transactions properly as well as the economics that goes behind such recording. The conceptual framework of the IFRS needs revision because, as of now, it is more inclined to serve the investors. In order to please users of accounts, accounting managers are also essential to make IFRS acceptable. Hence, the IFRS must strike a balance to serve the purpose of both these users of financial information. 5. Conclusion The above analysis can bring us to two broad conclusions regarding IFRS and its implementation. The heated debate has put much pressure on IFRS to improve on several drawbacks; however, such arguments and discussion necessitate careful analysis of the IFRS standards, before it is adopted by organizations. The first box ticking that can be done in reference to the fact that principle based accounting under the IFRS banner has strong foundations is that it has reasonable economic backing that makes other rule based standards appear weaker. Principle based accounting, indeed, offers much logic to maintenance of financial statements and reporting of accounts. Even so, the loophole in disclosure freedom still brings forth a gap in correct and strict recording of financial transactions. Principles based accounting is naturally being favored over the rule based accounting, but acceptance of the same is a problem as it is difficult for one to follow a strictly principle based accounting without any intervention from the other method. It is required for the IFRS to bring forth the best of both regimes and implement rules, where principles based accounting calls for removing of ambiguity and clarity in expression. For example, under the disclosure statement, certain rules can be implemented on mandatory disclosures, under the IFRS system. Such mandates shall also facilitate and increase accountability on the part of firms and promote higher understanding among investors about accounting principles and its impact in the notes to accounts (AICPA, n.d.). After the financial crisis, the focus on accounting and strict maintenance of financial records has increased. This brings forth the second box ticking, wherein losses should be reported in a timely manner. The IFRS also provides for timelier recording than other accounting standards. Reference List AICPA, n.d. International Financial Reporting Standards – Questions and Answers. [online] Available at: [Accessed 25 January 2014]. Diffen, n.d. GAAP vs. IFRS. [online] Available at: [Accessed 25 January 2014]. Ernst & Young, 2011. US GAAP versus IFRS: The Basics. [pdf] Ernst and Young. Available at: [Accessed 25 January 2014]. Eyden, T., 2012. International Financial Reporting Standards - Advantages & Disadvantages. [online] Available at: [Accessed 25 January 2014]. Forgeas, R., 2008. Is IFRS That Different From U.S. GAAP? [online] Available at: [Accessed 25 January 2014]. IFRSUSA, 2011. Which is Better – Principles or Rules? [online] Available at: [Accessed 25 January 2014]. Jordan, A., 2013. Advantages and Disadvantages of IFRS compared to GAAP. [online] Available at: [Accessed 25 January 2014]. Lamoreaux, M. G., 2011. New IASB Leader Embraces Challenges. [online] Available at: [Accessed 25 January 2014]. Mohr, A., n.d. International Financial Reporting Standards - Advantages & Disadvantages. [online] Available at: [Accessed 25 January 2014]. PWC, 2013. IFRS News: Disclosures: IASB takes on the challenge. [pdf] PWC. Available at: [Accessed 25 January 2014]. Read More