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Globalization may have started thousands of years ago with the long distance trade that connected Central Asia, China and Europe yet we can safely argue the magnitude of the trade and impact then cannot be compared with what we are witnessing today. At the very core of trade lies accounting which is said to be the 'language of business'. With the convergence of telecommunications and information technology, and the now ubiquity of the internet this paper seeks to understand one of the few remaining barriers to 'full' globalization. Businesses need a uniform way through which they can conduct, measure and disclose their transactions so that they can be understood by any interested party around the world. This is where the importance of having a harmonized international accounting standard is realized. This paper looks at the concept and development process of international convergence of accounting standards while it also seeks to bring out the major criticisms / factors that could be said to be hindering the progress towards having harmonized international accounting standards. The paper also highlights both arguments for and against convergence of international accounting standards. Finally possible approaches that could be applied to aide in the hastening and/ or spreading the 'gospel' for harmonization of the international accounting standards are outlined in the recommendations section. The paper ends with a strong pro- harmonization conclusion.
Globalization is the process of integration and interaction of people, organisations and governments of different countries. It is driven by investment, international trade and supported by information technology. The effects of globalization are manifested through the changes in people's cultures, prosperity and economic development, changes in political systems, societies and also changes in the environment. With globalization we have witnessed an increasing volume of trade in goods and services and capital flows as foreign direct investments (Levin Institute para1). As multinational companies, individuals and governments seek to increase their wealth through identification of viable investment opportunities around the globe, the need for developing tools, techniques or methods that will assist in making accurate decisions has arisen.
Accounting is the language of business. It is used to communicate the existence and evolution of a business' financial situation and the performance of its economic entities. Financial information is a language form, therefore if we are to use it to make decisions on investment or taking up credit it should not only be intelligible but also be comparable. Due to the rise of new business factors, such as the international monetary system and the global economy, businesses need a uniform way through which they can conduct, measure and disclose their transactions so that they are understandable by any interested party around the world (Diaconu 1-2).
In brief what we are saying is that for one to accurately compare the performance of two businesses located in different parts of the world one would find it much simpler if the two organizations that he was comparing used a similar accounting system for their analysis. There has been some effort for sometime now to come up with a harmonized international accounting standard. Presently, the two major accounting standards that are in use are the International Financial Reporting Standards (IFRS) and the United States' Generally Accepted Accounting Principles (GAAP). The IFRS are issued by the International Accounting Standards Board (IASB) and are currently in use in approximately 100 countries (including the European Union, Australia, South Africa etc).
Whereas there are many countries that abide by International Financial Reporting Standards, there are many more that do not abide by it. The two notable countries that do not follow the IFRS are the Canadian Accounting Standards Board (AcSB) and the US Financial Accounting Standards Board (FASB) and. The IASB which is mandated with the goal of creating global standards that are of high-quality, understandable, transparent and enforceable via the International Financial Reporting Standards (IFRS) comprises of a 14 - member committee, from nine different countries.
On the other hand, the Generally Accepted Accounting Principles (GAAP) represents
a varied group of techniques used to process, prepare and deliver public accounting information. GAAP is general in its methods and it is this generality that makes it suitable for adaptation by many different types of industries. This is why many industries in the US are urged to observe GAAP principles. The Financial Accounting Standards Board (FASB) is the organization granted authority by the US Securities and Exchange Commission (SEC) to establish the generally accepted accounting principles. GAAP's core principles include consistency, comparability, reliability and relevance.
United States companies and foreign subsidiaries of US multinationals use the US GAAP while their European Union counterparts and their foreign subsidiaries use IFRS. Due to the international politics that belies the entire IAS harmonization effort, most stakeholders in capital markets are pushing for the idea of an international convergence between the IFRS and U.S. GAAP as the best solution (Diaconu 1).
International harmonization of accounting standards has been defined as the attempt to bring together different accounting systems. Samuels and Piper view it as the process for producing a synergistic result through the combining and blending of various practices into an orderly structure (56). Harmonization is absolutely necessary because national standards of financial statements are virtually useless in today's world. Financial markets in countries where there is more regulation are threatened with a loss of market share while multinational corporations must come up with multiple reports for different nations where they operate in (Nobes and Parker 19). Iqbal, Melcher and Elmallah claim that there is a need for the convergence of accounting standards for the sake of the foreign investor who requires assistance in understanding the financial documents of the companies in other countries where they may wish to invest their funds.
Prior research on harmonization of accounting standards may be described as being either empirical or qualitative. Qualitative research has typically looked at the perceived advantages of convergence and its impact on standard setters.
Empirical research on the other hand, addressing international harmonization of accounting standards follows two major approaches, de jure and de facto harmonization. De jure harmonization involves studying of accounting standards and other regulation while de facto harmonization entails the analysis of corporate accounting practices within a given regulatory framework.
Harmonization is a "moving target" and more recent surveys by international accounting firms have been used to establish the extent of de jure harmonization. De facto harmonization is a scrutiny of financial reporting practices.
The Concept and Development Process of International Convergence of Accounting Standards
In 1973, the International Accounting Standards Committee (IASC) was founded to develop global accounting standards. In April 2001 the IASC was reconstituted into the International Accounting Standards Board (IASB) which formally proposed a "Convergence" concept.
Convergence targeted making the same economic transactions but in different global jurisdictions to be using the same accounting approach.
Moussa outlines the development process of international convergence of accounting standards as follows:
First: Convergence represents progress through comprising the demands of integrating international economies and sets the direction for future development. Nevertheless, convergence requires great effort if it is to be achieved (Moussa 89).
Second: Convergence does not equal identicalness. One needs to understand that countries have different regulatory structures; they have dissimilar economic environments, cultural philosophies, and even differ on the quality of accountants they possess. Users of accounting information are also not alike (Moussa 89).
Third: Convergence is a process. It is a process because in the world there are always new issues arising which require the countries to actively and continuously innovate new mechanisms to create structures which meet such needs as they come up. It is only through this that countries can achieve equitability, sovereignty, international efficiency and development of global diversity (Moussa 89).
Fourth: Convergence means interaction between different countries, between individual nations and the IASB, and between the IASB and regional professional accounting bodies. There is a need for sustained communication to learn from each other and to obtain mutual recognition from each other (Moussa 89).
Moussa further outlines three stages of international convergence of accounting standards as illustrated below:
International Comparison refers to a comparison among different countries accounting standards. Through international comparison the differences and similarities among different national accounting systems are revealed. From such revelations it becomes possible to provide conditions for the international convergence of accounting standards.
International Harmonization is the international dimension of economic development that promotes international harmonization of accounting.
International Convergence is the final stage for the desired global convergence of accounting standards. International convergence is being driven by the two stages listed above, international comparison and international harmonization, and economic globalization. The aim is to eventually end up with global common accounting standards developed through such a dynamic process as the one outlined above (90).
Issues surrounding the development of harmonized international accounting standards (IAS)
Historically, the US, Europe, the UK and Latin American models have been the four major accounting standards models in use within the industrialized countries:. The International Accounting Standards Committee (IASC) took the lead with regards to the standardization of these models.
In 1973 the UK, the US and Canada embarked on a process geared toward creating harmonized international accounting standards. The International Accounting Standards Committee (IASC) was later formed and it currently has representatives from accounting bodies in 106 countries. By 1991 there had been 31 standards issued (Lochner, Jr. 108). Fleming says that for convergence of international accounting standards to occur the task must commence with coming up with standards for the reporting approaches required by the different national securities regulators (101). In April 2001 the IASC was reconstituted as the International Accounting Standards Board (IASB) which formally proposed the 'convergence' concept.
In lesser-developed countries, the International Monetary Fund (IMF) has aided in the standardization effort through their assistance to governments with regards to their financial management procedures, through accountant education programs and by promoting the establishment of regional accounting associations (Fleming 102-103).
A fundamental first step to gaining an international agreement on the definition of financial statement items would be for the international industry to place political pressure on securities regulators. Secondly, practicing accountants and the curriculum of business school accounting programs would need to quickly adopt these international standards. Thirdly, government financial reporting standards need to be made to fit in with international exchange rate coordination such as those developed by the African and Asian Development Banks, the G7 nations, the International Monetary Fund and the Organization for Economic Coordination and Development (OECD). Finally, the accounting bodies in less developed countries need to be reassured to adopt these harmonized international accounting standards in instead of burdening themselves with the huge expense of creating domestic accounting standards (Weber 67).
There is no denying that the process of coming up with internationally harmonized accounting standards is a political process for example the FASB standards are the result of complex political negotiations and processes. The truth of the matter is that those with political power do have vested interests in domestic standards. Again, each country has its own accounting policy processes which necessitate the need for lots of negotiation for any nation seeking to balance its legal sovereignty with international cooperation.
Lochner, Jr. says that the trend in international cooperation has been toward bilateral and trade-block agreements for example the convergence of European Union's (EU) accounting standards which is a trade-block (108).
The issue of extra-territoriality makes it difficult to enforce international law therefore national governments would need to spearhead and enforce international accounting standards (IAS) harmonization. Generally, contracts between nations tend to be more enforceable than contracts between citizens of different nations.
A common argument often raised against the convergence of international accounting standards (IAS) has been that the costs of development and adoption of IAS standards would far outstrip its benefits. However, Goeltz believes that the way has already been laid out by the international capital markets. These marts / bourses have rapidly acknowledged the existence of a global market to the extent that to empower investors with the information they need to make sound investment decisions, they have gone ahead to have some semblance to convergence in the accounting standards that they employ (86).
In cases where governments seek to privatize some of the industries they have been engaged in international accounting standards could be adapted to so that private investors from anywhere in the world would be able to efficiently evaluate these businesses based on their financial records.
Developing nations have become key sources of comparative advantage in the global economic development especially when we look at important factors of production such as raw materials and labor. Therefore we cannot ignore the importance of including developing nations within the framework for harmonizing IAS. Having harmonized international accounting standards will be useful when we need to measure the value of these developing countries' assets in the world market. Also, in order to assist in the endeavors of inter-governmental economic development cooperation between countries governments' accounting needs to be standardized (Weber 68). Again, we need to note that underdeveloped and developing nations view convergence of international accounting standards as a ploy by the economically superior countries to impose standards on them.
Another criticism points to the very nature of accounting. Accounting is a flexible practice that is it can be modified to suit a variety of situations. The argument here is that if accounting standards are harmonized it would lose its flexibility. The problem would be whether the internationally set standards would be able to match the wide range of stages of economic development, national circumstances and legal systems.
A question on quality may arise in circumstances where the International Accounting Standards Board (IASB), the organization with the mandate of coming up with a harmonized IAS, find it difficult to have unanimous understanding on some of the accounting standards. The belief is that IASB would be forced to make compromises so that the international accounting standards it has come up with are accepted globally. These could imply that the standards will be permissive and inadequate.
Nobes and Parker suggest that companies would have to enlighten their investors about possible adverse effects that this convergence of international accounting standards could have on the profits and liabilities they get to report. They are of the view that harmonization of IAS could inject volatility into the balance sheets of some multinational corporations. This could be dangerous to these companies as their profits may be lowered (77).
Advantages of having a harmonized international accounting standard (IAS)
The grandest benefit that would flow from convergence of IAS would be the ease of comparing international financial information. This easiness of comparisons would eliminate one of the biggest impediments to the flow of international investment that is it will lessen the current misgivings on the reliability of financial statements from 'foreign' nations.
Harmonization of IAS would save time and money. Currently, to comply with the different national laws or practice of different countries so much time and money is spent to compile financial information in the instances where more than one set of reports is demanded.
Choi, Frost and Meek claim that harmonization will raise the accounting standards throughout the world to the highest possible level because it will be less difficult to check for consistency with local social, legal and economic conditions (34). This would be especially beneficial to international accountancy firms with clients of firms, and whose operations consist of at least one foreign subsidiary because they will be able to do comparisons without extra compilations. Nobes and Parker write that countries which lack adequate codified standards of accounting and auditing would also stand to benefit from the convergence of international accounting standards (38).
Another benefit that International Accounting firms could obtain with regards to the harmonization of accounting practices will be the reduced expenses that they usually incur for movement of staff across national boundaries. This is because they would have eliminated staff training costs and cost-of-time incurred on learning different accounting systems.
Having a harmonized IAS lessens the task for financial analysts, investors, and foreign lenders who will then be in a better position to comprehend the financial statements of foreign companies. Samuels and Piper view this as a boost with regards to making it easier to raise foreign capital (56). In addition to that, the financial analysts, investors, and foreign lenders would also be able to compare the different investment opportunities as they seek to make consistent, sound and more accurate investment decisions.
National tax authorities are also bound to benefit from having a standardized accounting system because they would be able to compute net income based on corresponding accounting principles and practices.
O'Malley (1993) adds that the existence of international accounting and disclosure standards would make the process of conducting operational and competitive analyses needed to conduct businesses across the globe simpler. In addition to this, financial executives will also find it better for them to manage key relationships with suppliers, customers and others.
Finally, those who stand to benefit the most out of the convergence of international accounting standards would be the Multi-national companies. This is because it would then be faster and less resource demanding to communicate financial information within their regional, national and international businesses.
The disadvantages of having a harmonized IAS
Nobes and Parker outlines the most fundamental obstacles to harmonization as being three, namely: the economic and political systems differences among countries; some countries lack strong professional accountancy bodies; and the prevalent differences of the current accounting standards in different countries (25).
Even in cases where the figures for say a business are generated using the same international accounting principles, countries would still exhibit substantial differences, economic and/or cultural, that would forestall simple interpretations. Accounting standards are a reflection of a given society's needs and perspectives for example the French Commercial Code is much more compliance-oriented than the U.S. or British accounting rules, which strongly convey the concepts of fairness and substance over form (Diaconu 6).
Saudagaran points out that nationalism is also another major threat to harmonization. He argues that countries are wont to be wary of ceding control of their accounting regulation to outsiders at the slightest perception that it will be replacing its own accounting regulations with those of another country (1-7).
Another disadvantage of having a harmonized IAS is that all the governments of these different countries will have to keenly coordinate their accounting policies with standards and procedures prevailing in other countries. This is an extra burden in the sense that governments may be required to set up organizations to do these coordination activities. Diaconu also tells us that while convergence may be taking place, governments must find ways to reduce negative influences from abroad from permeating their standards while seeking ways to maximize on absorbing the positive influences coming from abroad (5).
Countries in the world have different users who have different needs. For example a country that mostly lends to other nations has dissimilar needs to a country that borrows or owes. This implies that the harmonized IAS that could be proposed could be too complex for one country or too simple for another, depending on the unique needs of their industries, governments and investors. A perfect example for such a dilemma situation could be the magnitude of divergence between the needs of smaller business entities and the needs of large multinationals in developing countries.
A factor that the harmonized international accounting standard will need to consider is the different levels of sophistication, human resource and influence among different national accounting professionals. The IAS could end up being too sophisticated for certain countries especially in the developing world.
International bodies must do more to promote international convergence of accounting standards. International organizations such as the World Trade Organization, the IMF, G7 and the World Bank are increasingly playing bigger roles with the increasing volume of global trade. They are also having more influence over their membership which they could use to promote harmonization of IAS.
Multinational corporations need to demonstrate leadership. The rapid increase in economic globalization has led to mushrooming of multinationals. These multinational corporations due to their massive turnovers and profits are able to influence decision makers and policy makers. By demonstrating leadership through advocating for use of and practically using harmonized accounting standards would improve the drive towards acceptance of convergence of international accounting standards.
Leading business schools that produce the majority of the world's business leaders also have an important role to play. They should be encouraged to offer courses that are biased towards use of accounting standards geared towards convergence. If the young MBAs are encouraged to follow the harmonized international accounting standard (IAS) path then we would expect minimal resistance towards this initiative in the future.
Communication may be good thus far but we still need to put more emphasis on communication and interaction between different countries, between countries and professional umbrella accountancy bodies and between countries and the International Accounting Standards Board (IASB).
Irvine and Lucas recommend that for developing countries and emerging economies appropriate regulatory systems will need to be developed so as to overcome some of their cultural issues. They argue that the proposed harmonized IAS is reflective of western-oriented accounting standards, regulatory infrastructure and culture (2). Therefore other than simply proclaiming the benefits to be accrued with the adoption of IFRS the developing nations and emerging economies will need to be convinced to buy into the idea.
Harmonized international accounting standards (IAS) are an essential component of the rapidly globalized economy. This matching of accounting standards will add gains to the world economy through the provision of more 'perfect' information, facilitation of international transactions and minimizing exchange costs. Through a harmonized IAS the world's economic policy think tanks and policy makers would be availed with standardized information that would be beneficial in decision making. Moreover, a harmonization of international accounting policy would help create a level playing field in the world, for instance regulators would be receiving the same information and thus making the evaluation process closer to the ideal situation. In fact, we could boldly assert that with international accounting standards (IAS) harmonized, the world's resources will be better utilized.
However we cannot belittle the criticisms and disadvantages that we have mentioned in this paper. Information communication technology and telecommunications convergence has rapidly provided us with the tools necessary to make international accounting standards convergence a possibility to be aimed at. All said, the benefits for having a standardized IAS do outweigh the demerits.