International Financial Reporting Standards and Management Accounting Reports - Literature review Example

IFRS and Management Accounting Reports Introduction The importance of management accounting has been increasingly recognized by the industries overthe period of time. Management account forms the basis for taking strategic management decisions by the businesses. Cost accounting is the precursor to management accounting. Cost accounting has been developed because of the limitations of financial accounting in the areas of management control and internal reporting. Management accounting refers to managerial processes and techniques used for adding value to the businesses. It focuses on effective use of the resources in a dynamic and competitive environment. Therefore, management accounting is concerned with resource management for facilitating decision making in an organization in tune with the changes continuously taking place due to various factors which may be internal or external to the business. International Financial Reporting Standards have not been developed with a view to report management decision making or management control. However, changes in the technology sphere, especially information technology enabled development of Management Accounting Software involving complex analysis of the business situations for the purpose of making strategic management decisions. Globalization and liberalization of the economies calls for uniformity and standardization in various fields for easy dissemination of information. Therefore, the need for uniformity in management policies, procedures and methods of applications of management techniques will eventually lead to incorporation of management accounting in IFRS over a period of time. Evolution of standards The developments taking place in the businesses are accepted slowly and shaped up by the conventions followed in the society or country in the early stages. These principles undergo various judicial tests in the evolutionary process before passing through the legislature. Therefore translation of the management accounting concepts into International Financial Reporting Standards will take time, since management accounting is relatively new compared to financial accounting which has been followed by the business for many centuries. There are differences in its adoption even in the developed countries. For instance, “there are many major differences between IFRSs and the standards issued by FASB (USA), although efforts are underway to remove them to ensure convergence” (Banerjee, 2010, p. 685). For example, the practical considerations such as adoption of current value for the purpose of valuation of say, land or properties will be relevant in decision making process, whereas under GAAP it is required to be stated at historical cost in the financial reports. The transitional process from GAAP to IFRS in US is expected to begin in 2014. The adoption of Management accounting in developing countries is still restricted only to the larger companies. Therefore, accounting bodies of these countries are not in a hurry to push forward the cause of management accounting at this stage. The adoption of management accounting practices by an organization is a prerequisite for management accounting reports, and it will happen only when the benefits are appreciated at the company level and the cost of operating a suitable system in respect of collection and analysis of data is reasonable and consistent with the benefits derived. Impact of IAS and IFRS on Management Accounting Prochazka and Ilinitchi (n.d.) state “The implementation of IFRS into Czech legislation has brought new quality to financial reporting. Due to their usefulness, IFRS infiltrate into management accounting systems. In fact, in many companies IFRS carry out (satisfy, meet) the function of internal management accounting (with some modification allowing better internal performance evaluation).” However, it is restricted to certain disclosures where information available from the financial accounts is not adequate. The level of integration of financial and management accounting varies from company to company. Taipaleenmaki and Ikaheimo (2009) state “First signs of the close relationship between normative accounting regulation and management accounting emerged, as companies started to adopt activity based costing (ABC) method in cost allocations in early 1990s. As a consequence, for example EU standards accepted both horizontal and vertical presentation of operative expenses. After this, the development of convergence has mainly been due to the influence of U.S. FAS or IFRS, and the normative standards have been reflected in the domain of management accounting.” Software companies play an important role in integration of financial and management accounting. The website of a software company Intrice (2012) states that, “To solve the management accounting tasks, our company applies a self-made Management Accounting System – Macsys. This automated system makes it easier to make management decisions, providing the top managers with necessary information in a convenient way.” This software has several modules and there is a separate module called ‘Accounting Interface Module’ which enables the data to be used for financial accounting as well. The companies are increasingly forced to adopt management accounting practices in their organizations for taking managerial decisions in various areas such as pricing, cost reduction and budgeting effectively based on the relevant cost data. The information with regard to planning and budgetary control is not available from the financial accounts. Angelkort et al (2009) states, “For disclosure, as well as for valuation purposes, IFRS rely to an increasing extent on internal MAS information. This underlying accounting principle denotes a ‘management approach’ with reference to IAS 14/IFRS 8. But, it can also be found in many other standards, for example, in IAS 11, IAS 16, IAS36/IFRS 3 or IAS 38, mainly relating to internal planning information that cannot be provided by the regulatory-based book-keeping structure of the financial accounting system.” (MAS refers to Management Accounting System) It is important to understand the spirit behind the relevant standards to predict the future course that might span out for management accounting reports under IPRS regime. “IFRS 3 Business Combinations outlines the accounting when an acquirer obtains control of a business (e.g. an acquisition or merger). Such business combinations are accounted for using the acquisition method, which generally requires assets acquired and liabilities assumed to be measured at their fair values at the acquisition date. IFRS 8 Operating Segments requires particular classes of entities (essentially those with publicly traded securities) to disclose information about their operating segments, products and services, geographical areas in which they operates, and their major customers. Information is based on internal management reports, both in the identification of operating segments and measurement of disclosed segment information” (Deloitte, 2012). In the above cases, measurement at cost and information about operating segments involves dependence of cost accounting or management accounting system. Internal management reports are derived from the management accounting system. For example, the effect of a change in an accounting estimate under IAS 8, allocation of revenue and period costs in respect of construction contracts under IAS 11, segment reporting under IAS 14, valuation of plant and machinery based on cost and depreciation under IAS 16 or adoption of cost model in respect of intangible assets and its amortization under IAS 38 indicate the acceptance and recognition of the statement/reports prepared based on the management accounting system by IAS/IFRS. This needs to be treated as a humble beginning for recognition of management accounting reports under IFRS, which is borne out of necessity as these issues could be more appropriately treated in management accounting system rather than financial accounting system. The transition phase is very critical in the implementation of IFRS. The companies according to a KPMG (2010) report “will need to bridge the gap between the IFRS accounting requirements and the general ledger and sub ledger systems so as to deal with parallel reporting (i.e., local generally accepted accounting principles and IFRS reporting at the same time) and internal versus external reporting.” Once this transitional process is over, the inclusion of management accounting reports in IFRS on a selective basis is expected to be considered in phases, since intense debate on methods of preparing such reports and application of management accounting principles in its preparation is likely to ensue. “The IFRS Practice Statement Management Commentary provides a broad, non-binding framework for the presentation of management commentary that relates to financial statements that have been prepared in accordance with International Financial Reporting Standards (IFRSs)” (IASB, 2010). The forward looking companies may highlight the important aspects of the management accounting reports which could not be fit into IFRS appropriately in other places. According to a study by Cohen and Karatzimas (2012) “Results suggest that the significance of the IFRS-imposed policies in providing efficient managerial information is mostly of moderate magnitude. However, the more IFRS are perceived as important for efficient managerial information provision, the more they affect decision making…It is however evident that the more IFRS financial data is used for internal reporting purposes, the more is used for management accounting purposes such as decision making and performance measurement as well”. There are positive impacts of IFRS on management accounting system. The adoption of IFRS by the companies enhances its commitment to give the information necessary for the various stakeholders of the company for taking informed decisions, thereby increases its reputation. Due to intense globalization and liberalization drive taking place internationally, the need for introducing management accounting and reporting standards arises due to the following reasons. 1. As in the case of Financial Accounting Standards, Management Accounting Standards are not formulated in a meaningful way by the international or national accounting bodies. 2. There is lack of uniformity in management accounting practices followed and the systems adopted by the companies. The capital flow cutting across the borders of the nations has increased substantially on account of globalization and liberalization. Management accounting system is useful for taking strategic management decisions at the company level, but the methods and the systems adopted vary from company to company. However, since the investors of a corporate company are scattered throughout the world, interpretation of the management accounting reports furnished by these companies in their websites or published through media becomes difficult for the ordinary investors and the other stakeholders. It is evident that IFRS has created a ‘brand value’ for itself. This should be leveraged for promoting the cause of management accounting and reporting by aggressively working for a common minimum acceptable program to clear the existing anomalies and regulate the reporting standards and not leave it to the option of the companies. Convergence of Financial and Management Accounting It is very important to note here that the rules of the game have changed considerably over the period time by the involvement of software companies. The process of reconciliation between cost and financial accounts may give way to convergence in times to come. The concept of convergence of Financial and Management accounting is hotly debated among the accountants. Taipaleenmaki and Ikaheimo (2009) state “We present observations both in the technical and technological (including accounting standards, discretionary reporting, performance measurement, transfer pricing, due diligence in M&As, and competitor analysis) and the behavioral and organizational manifestation domains (including accounting processes, work and role of accountants, accounting in multinational companies, incentive systems, control of business networks and board of directors and venture capitalists) on this convergence. We found that the increasingly strong forward-looking FA elements rest heavily on MA and vice versa.” The contribution of software developers to the concept of convergence cannot be underestimated. The important question at this juncture relevant to the discussion is whether there is any need or justification for compartmentalization of financial and management accounting. For example SAP is the international leader in providing software for business solutions, called as Enterprise Resource Planning (ERP) solutions. This software supports data base for efficient management accounting in the organizations. But, there is also a trend of financial data being increasingly used for or synchronized with the management accounting in the industrial organizations. This trend is expected push forward the cause of introducing management accounting reports under the purview of IFRS in future. Jones and Luther (2011) states that “at this juncture in the development of their information systems, German managers face an important choice between integrating external and internal reporting in ways that might fundamentally change established Controlling practices, or of continuing to operate dual accounting systems in much the same way as in the past so that adoption of IFRS is restricted to external reporting.” When the integration process catches up under the auspices of information technology, the use of management accounting reports by various stakeholders of the industries will be on rise. Then, in the wake of external demand for relevant management accounting reports from the stakeholders of the companies including government agencies and the taxation authorities, debate on revising the IFRS for including also management accounting reports will take place in a meaningful way. Barriers in implementation There are certain barriers in implementation of uniform reporting practices to be followed by all the companies in respect of management accounting. Cost is the basis for managerial accounting and planning and control in an organization is designed to achieve cost reduction, the primary objective of an organization to be competitive in the global market. There are different types of costs such as marginal cost and total cost and the methods adopted for classification of costs into fixed and variable varies from company to company. Similarly treatment of intangible assets, its amortization, depreciation on assets, idle capacities etc. will significantly vary in management accounting from company to company, because the ‘relevance to decision making’ is very important here rather than its accounting in financial books. The eligibility criteria for the purpose of capitalization, is another important area where the conflict is likely to arise. KPMG (2010) states that “all non-directly attributable costs such as allocations of general overhead including training costs may not be capitalised under IFRS.” This policy may not be compatible with the management decisions required to be taken in big projects. The budgets prepared by the organizations are only estimates and analysis of variances with reference to actual achievement for the purpose of taking strategic management decisions is made in different ways. Therefore, the identification of areas which could be considered for inclusion under management accounting reports to bring it under the purview of IFRS is essential. In the case of implementation of IFRS in a company, KPMG (2010) states “People impacts of IFRS range from an accounts payable clerk coding invoices differently under IFRS to an audit committee approval of disclosures for IFRS reporting. There is a broad spectrum of people-related issues; all of which require an estimation of the changes that are needed under the IFRS reporting regime.” This is applicable in the case of management reporting also, as it involves appropriate changes in the existing systems in line with the IFRS requirements and comprehensive training to the concerned personnel since it is very important they understand the concepts underlying the process at all levels within the company for achieving the objectives of the company in the implementation of IFRS. Conclusion Convergence of financial and management accounting system need not necessarily make the companies to provide the management accounting reports voluntarily. Though managerial accounting and reporting is not mandatory, trend setters in an industry may follow superior reporting strategies in line with good corporate governance and transparency by adopting the highest standards and, the competitors will be forced to follow their path. It is like frequently travelled path is developed as a road by the government authorities in due course of time and therefore, such practices are expected to be translated into regulatory mechanisms. However, adoption of IAS and IFRS by all the countries is a prerequisite for further progress in this respect, and the role of the accounting bodies in various countries to work in this line through active coordination with the international accounting bodies is essential. References Angelkort, H., Sandt, J. and Welssenberger, B., 2009. IFRS: can of worms or silver bullets for accounting systems? Cima insight. [online] Available at: [Accessed 8 December 2012]. Banerjee, B., 2010. Financial Policy and Management Accounting. Eighth Edition. PHI Learning Private Limited, New Delhi. Cohen, S. and Karatzimas, S., 2012. Has IFRS Adoption Affected Management Accounting Systems? Empirical Evidence from Greece. International Journal of Accounting, Auditing and Performance Evaluation (Forthcoming)  Available at SSRN: [Accessed 9 December 2012]. Deloitte, 2012. Standards. Available at: [Accessed 9 December 2012]. IASB, 2010. Management Commentary A framework for presentation. IFRS Foundation. Available at: [Accessed 8 December 2012]. Intrice, 2012. Macsys: Management Accounting System. Available at: http://www.intrice.com/management_accounting.html [Accessed 8 December 2012]. Jones, T.C. and Luther, R., 2005. Anticipating the Impact of IFRS on the Management of German Manufacturing Companies: Some Observations from a British Perspective, Accounting in Europe, Vol. 2, Iss. 1, 2005. Abstract only. Available through: Taylor & Francis Online [Accessed 9 December 2012]. KPMG, 2010, Impact of IFRS: Telecoms. [online] Available at: [Accessed 8 December 2012]. Prochazka, D. and Ilinitchi, C. (n.d.) Adoption of IFRS and its Impact on the Financial and Management Accounting: A case from the Czech Republic. 4th Audit and Accounting Convergence Conference. [pdf] Available at: [Accessed 9 December 2012]. Taipaleenmaki, J. and Ikaheimo, S., 2009. ON THE CONVERGENCE OF FINANCIAL ACCOUNTING AND MANAGEMENT ACCOUNTING. Social Science Research Network. [pdf] Available at: http://ssrn.com/abstract=1394373 > [Accessed 8 December 2012]. Read More