International Accounting - Essay Example

Comparative International Accounting Name Institution Comparative International Accounting Introduction This is an academic report whose main focus is analyzing various aspects that relate to international accounting. One of the main principles that have been widely exposed in this document is the international accounting standards. To be specific, the fair value accounting technique seem to have come under fierce criticism based on the consequences many multinationals have been forced to bear as a result of using this accounting technique. Literally, most accounting experts feel that a better technique ought to be adopted to counter this situation. This document has analyzed the various issues that regard fair value accounting with an aim of ensuring that conclusion is drawn from facts. In addition, the document also deals with harmonization of accounting policies. The harmonization of international accounting standards is meant to bolster financial reporting across regions. Introduction to Fair Value Accounting The motive behind the implementation of the fair value accounting system was majorly to counter the weaknesses that were eminent in Historical Cost accounting approach. Historical cost method ignored the changes in market prices and subsequently the investors’ assets could not reflect a realistic value (Bolívar & Galera, 2007). Therefore, the implementation of fair value accounting system was meant to put in place accounting procedure that will enable the assets in an organization to reflect more realistic values. This measurement approach has been in use for quite some time. From the performance of this measurement principle, it is clear that it is most suitable when the economic growth exhibits some consistency. That is to mean, this measurement approach will be more realistic when measuring assets under steady economic growth (Mari, Annelies & Kim, 2012). During fluctuations in the economic growth, there emerge losers and winners in the economy. The conditions allow some players to win as a result of the fluctuation while at the same time, some losing as a result of the same fluctuations. This is what was prevalent during the world economic crisis in 2009. Many businesses lost a lot of money as a result of the economic crisis. Therefore, this document seeks to analyze all sides of this measurement technique and establish how suitable this can be used in the current environment. Discussion Over the time fair value accounting has been used, it has been considered more accurate in asset valuation. The fact that the approach allows the revaluation on the basis of performance of the market shows that it takes into considerations the changes that directly affect the value of the asset. When using this approach, the revaluation of the assets in an organization is undertaken on an ongoing basis (Charles, 2007). Through this approach, the company marks up and down the value of the asset in the bid of ensuring that the value represented is indeed appropriate. The fact that mechanisms have been put in place to take note of the various changes in the value of an asset is indeed very important. This is more evident when it comes to financial instruments. Instruments in the stock market like shares and bonds can only be well evaluated using this technique. The historical cost by all means cannot reflect the real value of bonds and shares in a financial market. The fair value technique comes in to provide an approach that can be used to evaluate a realistic value of the financial instruments. In addition, fair value accounting technique is viewed as a very transparent approach. The factors that determine the valuation of an asset arrived at cannot be manipulated acrimoniously. At least, the issues that actually affect the value of the asset can be transparently determined in the open (Bolívar & Galera, 2011). For instance, during the economic crisis, the productivity of the economy is generally reduced to the lowest point possible. At individual levels, the products that are produced in the economy do not attract the required demand in order to sell at the set price. The decrease in demand will cause the suppliers to lower the price of the products in order to attract the required demand. As a result the returns from the sale of the products may not even breakeven to some businesses. This is how the entire economy is completely affected with time. Therefore, such changes can be easily explained in relation to how they affect the value of some assets in the market during such a time (Bolívar & Galera, 2007). This is the reason fair value measurement technique is considered transparent. The variations in the value can be explained explicitly based on the prevailing conditions in the market. At the end of it, the negotiations that accompany the sale of such an asset will actually be made at arms-length. When using fair value accounting approach, the information used is mainly market based. This is completely in contrast with the historical cost approach. The fair value allows a lot of comparison in the sense that the information that is used in setting the value of an asset is market-based. The market as a whole does not provide information of a single asset, but numerous. Therefore, one will realize that the value determination when using this technique is actually reliant upon several sources of information on the financial market (Stephen & Steven, 2013). With respect to that, it portrays how this technique can be considered reliable. It is very difficult for all the participants in the market to provide wrong information. The information that can be used to evaluate the asset is rich enough and this makes it the most appropriate technique. During the financial crisis periods, the performance of stocks have been found leaning towards the same direction and this explains the fact that market provides a lot of information that is able to give an accurate value of an asset in the market. In spite of the benefits that have been explained in relation to use of fair value accounting, there are genuine concerns that have been raised against this technique. As a matter of fact, critics have had a lot to say since this technique was operationalized. One of the issues that have been pointed out relates to the definition of the term fair value accounting (Mari, Annelies & Kim, 2012). Inability to plainly define what this technique is has been a challenge. As a result, the dimension especially when setting the various policies has been very difficult. The International Accounting Standards Board has not provided a clear definition of what fair value accounting is. This makes it very difficult to be applied in various settings in the accounting environment. This is likely to bring about variations when it comes to financial reporting in different companies (Charles, 2007). The proposed meaning of fair value accounting by IASB was considered too narrow to accommodate the needs of different users in the market. Therefore, its applicability in some instances has proven very difficult. Another concern relating to fair value accounting technique is the fact that this method does not require a transaction to effect a revaluation on the asset. This is indeed completely in contrary to the historical approach. The effect that may be linked to the performance of other assets may end up affecting another asset. As a result of this, there is a great risk of overstatement of the assets (Mari, Annelies & Kim, 2012). As the prices fluctuate, the risk of some of the assets being overstated or understated becomes more pronounced. This has caused a lot of criticism from financial service providers. During the economic crisis of 2008, the fair value accounting technique was accused of understating the value of assets. During that period, the value of most assets that were used mainly for security was underestimated leading to massive losses on the side of lenders. In such setting, the lenders are able to sense biasness. Therefore, when using the fair value accounting approach, the book value of books keep on changing without sale or buy transaction. Under historical cost accounting, the book value could only be altered if an asset has been sold or purchased. This means that the book value of the accounting records keep on fluctuating. It is unfortunate that the fluctuations are without any new acquisitions. This has been noted to be one of the main undoing of this accounting technique. Lastly, the ability of fair value accounting system to accurately value assets is relative. From the preceding discussion, this technique can only be used to value assets where there is market information to be used. In the setting where the access of market information relating to certain assets is limited may be very difficult to value assets. Therefore, using fair value accounting technique in an open market turns out to be quite challenging (Mari, Annelies & Kim, 2012). In such case, accountants are expected to use judgment to establish the value of the asset. Considering what is known to be the challenges associated with judgment, the exact value of the asset may not be easily determined. This is because different professionals may value the same asset differently during the same period. Therefore, it turns out to be quite arbitrary when using the fair value accounting technique. This therefore questions the reliability of the technique in assessing assets (Mari, Annelies & Kim, 2012). This is one of the aspects of this technique that has attracted a lot of criticism. Many experts feel that by use of fair value accounting, especially in an open market, comparability of financial reports could turn out to be very challenging. This is regardless of the fact that the asset in question could be in the same industry. In conclusion, the various sides of the fair value accounting technique have been debated. The areas that applauded and those that have attracted a lot of criticism have been pointed out. Nevertheless, it seems like fair value accounting system has its own place in the accounting environment. The fact that the technique is not suitable in the various settings does not automatically disqualify the technique as a tool of measuring the value of an asset. There are situations where fair value accounting is the most suitable. In addition, the various stakeholders ought to understand that fair value accounting came into effect riding on the weaknesses that were discovered about the historical cost accounting. In this way, this accounting technique can be seen to be better if comparison is made with the historical cost accounting. At the same time, while experts may level a lot of criticism against the fair value accounting, the reality is that currently there is no authentic technique that can replace this technique. Professionals therefore ought to address this issue with a lot of care because no better accounting technique has been designed that can be used for valuation of asset in this dynamic business environment. Part B IAS 39 deals with recognition and measurement of financial instruments. In this case, the financial instruments include financial assets as well as financial liabilities. The recognition and measurement of financial instruments is determined by the nature of the instrument in question. The most technical instruments are hedging and derivatives. In the recent, IAS 39 has been replaced with IFRS 9, financial instruments. The changes to the original standard were enacted in 2009. This was after an amendment which was undertaken as a result of the problems that many stakeholders felt were supposed to be changed. This was meant to allow the standard to accommodate the diverse needs of financial institutions and other stakeholders in the current environment. The changes that were instituted were based on the issues that were raised by key players concerning the challenges that were being posed by the standard. To begin with, there have been numerous complaints raised against IAS 39. In recent past, the profits of some of the largest multinational corporations have been found inflated as a result of holding on some IFRS (Stephen & Steven, 2013). One of the concerns relates to adoption of IAS 39 which has led to inflation of profits of some companies. Amongst these companies are Barclays and Standard Chartered Banks. Their profits have been found inflated as a result of adopting IFRS 9. Since the profits of these banks were inflated, they were forced to pay out a lot of money to shareholders as dividends. With time, the reserves are being weakened since few provisions are being made out of the income gained. Most of these flaws that directly relate to the application of IAS 39 were more pronounced during the financial crisis. During that period, the banks’ financial statements appeared healthy as a result of using IAS 39 in its current status. This was later discovered to be deceiving after the economic crisis. Most banks realized that their financial position was manipulated through the use of IAS 39. The companies’ financial statements were actually not representing a true and fair view of the happenings of the company. Overreliance on IFRS has led to many companies failing to present financial statements that reflect the true and fair view of their various entities. The overreliance on IFRS has made many audit firms to move away from Company’s Act. Experts claim that this has led to many companies presenting financial statements that do not reflect the reality in the business. According to the experts, the requirements by the Company’s Act on presenting financial statements that represent a true and fair view overrides the provisions in IAS 39. Therefore, the players are expected to assign greater weight than the standards that have been provided (Stephen & Steven, 2013). In this case, whenever accounting standards being used fail to reflect the true and fair view of the business entity, necessary adjustments are warranted as an issue of legislation. From the outcomes that were witnessed after the 2008 financial crisis, some accounting standards are defective in relation to reflecting the true and fair view of the organization. This is what has been found fault with IAS 39. This has been found very challenging because the IFRS is supported by the European Commission and most auditors are not daring enough to walk away from it (Nair & Frank, 1981). Auditors have expressed fears over the possible conflicts between the profits and the cash if companies are forced to adopt the legislation on the true and fair view. Amendments on IAS 39 The amendments that were laid down in relation to IAS 39 mainly focus on hedging and derivatives. At the beginning of 2013, the IASB issued Novation of Derivatives and continuation of Hedge accounting- Amendments to IAS 39. The focus of this amendment is on over-the-counter derivatives. The amendment was made to allow continuation of hedge accounting even in situations where there is counterparty to a hedging instrument (Keryn, Greg & Jayne, 2011). The amendments target reduction of credit risk on the global derivative markets. Clearance of standardized OTC derivative ought to be done through CCP. The amendment allowed for transparency and regulatory oversight OTC derivatives on international markets. Such amendments created a platform where clearance of OTC derivatives is done centrally. The result of the amendment improved the effectiveness of cash flow hedge. In the new contractual arrangements, the party to the contract will have to hire a clearing entity since it is not allowed to access to CCP (Keryn, Greg & Jayne, 2011). In most cases, novation is expected to be effected by customers of the clearing entities to their respective CCP. At the same time, indirect clearing has been allowed to facilitate the clearing process. These changes that were proposed were in line with the objectives of the novation adopted. The implementation of the proposed amendments is expected to be effected in 3 years’ time. IASB has enacted the various changes that are aimed to address the issues that were of great concern by the financial experts. In essence, the issue of inflation of profits of companies during times of financial crisis is expected to be resolved (Stephen & Steven, 2013). The legislations that have been proposed are in line with the Company’s Act. With the new legislation, the emphasis in preparation of financial statements is on true and fair view. This is meant to ensure that during different economic conditions, the business entities are expected to prepare financial statement that reflects the position of the business. This is the main objective for the various amendments that were proposed (Stephen & Steven, 2013). This follows the issues raised at the end of the 2008 financial crisis. In order to ensure that this standard is applied in relation to the interest of all the concerned entities, the IASB must allow the contribution of all these parties. They are supposed to give more views in order to allow adequate adjustments to the standards. Part C As many international accounting bodies continued to raise the concerns over the issue of fair value accounting, Australian Accounting Standards Board also had some concerns. This sparked heated debate on the use of fair value accounting. While this seemed to have adequately filled the gap left by historical cost accounting, its use has come under criticism in the Australian accounting environment. Stakeholders have a feeling that its continued use increases the risk exposure of businesses in a number of circumstances (Taplin, 2004). There is an element of uncertainty in the use of fair value accounting since the value of an asset is reliant on the performance of the market. The fluctuations in the market actually create uncertainties as losers and winners will emerge from such fluctuations. Most issues were raised at the end of the economic crisis that affected the country’s economy. Most lending institutions and many other financial institutions incurred a lot of losses as a result of adoption of fair value accounting system (Archer, Delvaille & McLeay, 1995). At that time, concerns were raised on the need to create more provisions on the fair value accounting standard. Therefore, the main concern raised against the fair value accounting technique is the unpredictability of the system. Another concern by the AASB is the fact that fair value accounting is deemed to have many meanings. This has complicated the applicability of this standard across different users. This is a worrying trend to many experts (Archer, Delvaille & McLeay, 1995). It makes very complicated to undertake comparability test between companies or firms. This is the reason experts proposed changes that will make it possible to enable a uniform application of the standard. The use of the term fair value has caused a lot of controversies. For instance, the term fair value is also used in courts. This is quite different from the applicability of the term with respect to financial management. The use of the term by the court goes against the international accounting standards. This is because there is the exclusion of the word ‘market’. With such exclusion, the definition of the term with reference to the international accounting standards conveys completely different information (Nobes& Parker, 2012). At the same time, valuation of some instruments like the shares has been challenging. When shares fluctuate up and down within a very short span of time when the date of financial reporting is due, valuation of the shares on such a date becomes very challenging. In essence entities wonder if the exit price should be adopted in such a setting. Besides, fair value according is too complicated compared to historical cost accounting. This is because a lot of judgment isrequired in order to make the right evaluation. The situations that determine the value of an asset under fair value accounting system are not quantifiable as such. Since the monetary value cannot be attached to these elements, a lot of judgment is required in the measurement of most financial instruments (Archer, Delvaille & McLeay, 1995). The use of judgment has led to variation in assessment of assets. The assets that are most affected are plants and machinery. At the same time, the requirement of the standard to allow entity to make comparative assessment in relation to the market price of the asset poses new challenges. The most disadvantaged are the non-profit making entities. It is a bit challenging for such organization to be required to measure their assets in relation to the market price. Such entities cannot trade on a stock market and there are many other restrictions that have been laid down against such. These are some of the concerns that prompted some amendments on AASB 13. Convergence of AASB to International Standards The harmonization of AASB with international standards is expected to yield a lot of benefits to the finance sector. Harmonization is aimed at ensuring that these standards converge at a certain point for benefit of all users around the globe. The process has encountered a lot of challenges on the way. To begin with, the IASB is quite limited in some aspects. The body mainly focuses on recognition and measurement. This is regardless of the fact that the IASB has a global perspective in the approach to various issues of international accounting (Nobes& Parker, 2012). With the aim of improving the overall quality of the financial reports, AASB has a challenge harmonizing with international accounting standards. Harmonized accounting standards will create more relevant financial reports since there will be a good platform to do comparison. The convergence objective of AASB is not limited to one accounting body. The aim of AASB is to harmonize the standards with respect of various bodies that significantly have a role in the development of financial reporting policies. These include the IFRS, IFRIC, IPSAS, etc. IASB want to be recognized as the only authentic international accounting body. The convergence is meant to have many benefits to the economy, not just for Australia but also other countries. The fact that harmonized accounting standards provides room for comparability implies that accountability is achievable (Keryn, Greg & Jayne, 2011). The players in different sectors are able to compare the financial results of their companies with their competitors in another country. The issues of financial fraud that have been witnessed in 21st century like Enron will be cabbed. Transparency in financial reporting will be achieved. In addition, comparable financial statements provide quality information which can be used for investment and credit decision. International investors will have more confidence in the investment decisions they make out of informed choices (Taplin, 2004). This in itself is seen as boosting international trade. This is significant for stability of the global economy. When countries have confidence to broker business and other bilateral agreements around the globe, it allows the movement of capital across borders. This is because different reporting standards act as a main barrier to the flow of capital across different boarders. In addition, the harmonization is meant to reduce the cost of financial reporting especially the Australian multinational companies (Taplin, 2004). Harmonized accounting system will be much easier to be adopted by subsidiaries around the world. When this comes into full effect, the global economy is expected to benefit a lot. The various changes will definitely work together to facilitate the utilization of available opportunities in relation to investments. The approach and the overall developments being made by AASB in relation to harmonization of accounting standards is meant to serve a good purpose for accounting practitioners. The nature of the business environment somehow dictates the kind of approach to be used in reporting financial performance in companies. Businesses are operating in a very dynamic environment and the issue of adaptability to the changing environment is very critical. In most cases, businesses keep learning from other players in the sector. Harmonizing the accounting standards in relation to international standards will create an excellent atmosphere for financial reporting. Challenges that arise in relation to financial reporting in this kind of environment can be dealt with more easily than before. The fact that financial reporting of Australia can be harmonized to reflect the image of international accounting is very beneficial indeed. Even with the challenges that are expected in relation to harmonization goals, it will serve greater purpose to have harmonized accounting standards. Conclusion Having analyzed the various issues relating to fair value accounting and harmonization of international accounting standards, the issue of flexibility has been very evident. The accounting standards board ought to be flexible enough to allow the various issues affecting financial reporting to be amended whenever there is need. From what has come out of this, the regulatory bodies ought to be flexible enough to ensure that amendments are made according to the needs of the users. The same is true when talking of harmonization of international accounting standards. It is important to ensure that amendments deemed suitable enhancing financial reporting be made accordingly. Harmonization of international accounting standards with individual country’s needs is very critical for enhancing financial reporting. References Archer, S., Delvaille, P. & McLeay, S. (1995). The Measurement of Harmonization and the Comparability of Financial Statement Items: Within-country and between-country Effects, Accounting and Business Research, 25(98): 67-80. Bolívar, M.P& Galera, N. (2007). Could fair value accounting be useful, under NPM models, for users of financial information?International Review of Administrative Sciences, 73: 473 - 502. Bolívar, M.P & Galera, N. (2011). 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