Contemporary Global Accounting Topics paper

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FINANCIAL REPORTING / PROFESSIONAL DEVELOPMENT

The bilingual CPA Are you fluent in IFRS and U.S. GAAP?

By Terry C a m p b e ll, CPA, CGMA

54 i Journal of Accountancy March 2016

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W O R L D W ID E IFRS A D O P T IO N

Foreign private issuers filing a Form 20-F with the SEC no longer have to provide a reconciliation of their financial reports to U.S. GAAP. That makes IFRS the accepted standard for SEC reporting for more than 450 international companies such as Unilever, a British-Dutch multinational consumer goods company, and requires that accountants be fluent in IFRS and U.S. GAAP.

In 2007, the last year in which the SEC required reconciliations, Unilever reported in SEC filings a 2006 net income of €5.015 billion in IFRS and €4.385 billion in U.S. GAAP, a difference of €630 million, or 13%. In a world where an earnings - per-share difference of €0.01 was significant, it seems likely that a difference o f €0.21 per share was significant, though IFRS and U.S. GAAP have gotten closer since then.

Fluency in both accounting standards may be needed to assess a competitor, to check the financial stability o f a supplier, to conduct due diligence in a merger or acquisition, or to answer questions from a foreign investor.

Clients, potential clients, competitors, suppliers, and customers o f CPAs prepare financial statements using IFRS. Companies have subsidiaries and/or joint ventures that use IFRS. Even SMEs (small and medium-size enterprises) are involved in global settings with suppliers and/or customers. IFRS is used in numerous instances in which accountants en­ counter the need to compare, contrast, and reconcile IFRS to U.S. GAAP.

A ccountants preparing and auditing financial statements for U.S. companies stand a good chance of encountering IFRS. The SEC re­

quires financial statements to be filed in U.S. GAAP, and U.S. users of financial statements, particularly lenders, tend to follow the SEC preference, but IFRS is an integral part of U.S. business.

U.S. multinationals with significant holdings in more than 100 countries use IFRS in financial filings. That includes an increasing number o f small and medium-size companies, which in turn affects their auditors. Also, a fair number o f private U.S. companies require IFRS because they are owned by foreign stakeholders.

C O M P E T IT IV E ANALYSIS

Due diligence in the form o f a competitive analysis is key to a merger, acquisition, or divestiture. Accoun­ tants working on such an analysis are likely to run into competitors, buyers, and suppliers that report their financial results in IFRS. Given the speed needed in M & A deals, financial reporting differences take on a higher level o f intensity. Only adequate preparation and fluency in U.S. GAAP and IFRS offer any hope to keep the quality o f the analysis within the time pressures.

Another aspect—that of divestiture— is where U.S. GAAP and IFRS become intertwined and disentangled repeatedly over time periods.

Operating units from either accounting standard need to be accounted for in statutorily defined accounts yet consolidated into the host country’s standards. So, the more than 450 firms filing with the SEC use IFRS, but their operating units ►

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F IN A N C IA L R E P O R T IN G / P R O F E S S IO N A L D E V E L O P M E N T

P o rte r's fiv e forces

Threat o f s u b stitu te p ro du cts or services

S u p p li e r p o w e r :

Bargaining p ow er o f suppliers Rivalry am ong

existing co m p e tito rs

B u y in g p o w e r :

1. Bargaining pow er o f channels 2. Bargaining pow er o f end users

Source: " H o w C o m p e titiv e Forces Shape S trategy," b y M ich a e l E. Porter, H a rva rd Business Review, M arch 1979.

Threat o f new entrants

in the United States use U.S. GAAP and then are consolidated into IFRS. Similarly, U.S. firms with operating entities in countries where IFRS is the statutorily defined reporting system must be reconciled and consolidated into U.S. GAAP consolidated statements.

The five forces competitive analysis is a strategic framework developed by competitive strategy expert Michael E. Porter to determine the attractiveness, or profitability, of an industry. Used as a guide to assess the necessity of being fluent in IFRS and U.S. GAAP, each element o f Porter’s framework is con­ sidered in the context of making business decisions that are informed by the financial competence of being bilingual. See the chart, “Porter’s Five Forces.”

R iv a lry a m o n g ex is tin g c o m p e tito rs In the Unilever example, a competitive analysis would look at how the multinational’s competitors Procter & Gamble and Nestle are doing in compari­ son. Sales, profitability, and asset utilization of the

three competitors are affected by differing reporting standards. W ith little or no guidance on possible reconciliation points, the interested reader and/or analyst needs professional help. Accountants who are bilingual have an advantage in examining the differences and similarities. The typical approach will be to review the reconciliations done before 2007 and determine the possible changes.

Choosing among alternatives requires looking to the projections made as competitors make their strategies known. The deal evaluation could differ significantly depending on which standard is applied.

Even with the recently “converged” revenue recognition standard, it is no easy task to do the competitive analyses, as this standard will take several years to be implemented.

T h re a t o f n e w en tra n ts Past and current competitors are being joined by new competitors, even to the point of disruptive innova­ tion. W ith the emerging competitors come different

IN BRIEF

■ Even small and medium-size U.S. companies increasingly do business overseas, and fluency in IFRS and U.S. GAAP is an in-demand accounting skill for preparing and auditing financial statements.

■ More than 100 countries require

domestic public companies to use IFRS. ■ Accountants working on competitive

analyses, which are key to mergers, acquisitions, and divestitures, are likely to run into competitors, buyers, and suppliers that report their financial results in IFRS. Considering the speed needed in M&A deals, only bilingual accountants can finish a high-quality

analysis requiring reconciliation of IFRS and U.S. GAAP quickly.

■ Auditing teams fluent in IFRS and U.S. GAAP can work on assignments at U.S. business units of international firms that use IFRS, at U.S. companies that use U.S. GAAP, and at organizations in which U.S. GAAP and IFRS need to be consolidated.

To c o m m e n t o n th is a r t ic le o r to s u g g e s t a n id e a f o r a n o t h e r a rtic le , c o n t a c t S a b in e V o llm er, s e n io r e d ito r, a t s v o llm e r@ a ic p a .o rg o r 91 9 -

4 0 2 -2 3 0 4 .

56 I Journal o f Accountancy March 2016

historical patterns, including institutional aspects. These different institutional aspects include, but are not limited to, national differences, governance approaches, and cultural aspects that may impact financial statements.

Buyer power: Bargaining p ow er o f charmels/end users

Buyer power may be represented in the situation where the customer/buyer of products/services requires a credit check. A credit analysis looks at the quality of the assets of the company under review, but IFRS and U.S. G AAP use different asset impair­ ment models. The two standards also treat heavy research and development investments differently. W hat kind o f credit analysis may be done when the underlying accounting standards differ? The wrong analysis could question the IFRS company’s magnitude o f spending and forget to question the quality o f the investment.

Imagine a firm receiving a large order requiring some capital investment including both fixed capital and working capital. Does the firm engage in these investments without a full understanding of the buyer’s financial viability? The selling firm could ask for cash upfront, but that defeats the normal business processes o f credit purchasing and also changes the terms o f purchase.

S u p p lie r p o w e r: B a rg a in in g p o w e r o f su p pliers

Suppliers’use of different accounting standards creates a similar issue to the buyer power situation. Imagine alternative suppliers bidding for the same business from a firm: How does the firm determine the underlying financial stability of the supplier firms? In a similar vein, contracting with a supplier for critical or noncritical components for a product/ service requires an assessment of the supplier’s financial stability. Getting partway through a supplier contract and discovering a financial instability that hinders the supplier’s ability to fulfill its promises creates major headaches.

T h re a t o f s u b s titu te p ro d u c ts o r services

Substitutes create similar problems to those mentioned above with the special element o f the “surprise” competitor.

international firm using IFRS in the United States, so that consolidation is eased. This same audit team may then go to an assignment where the U.S. accounting standards are in place; yet, they eventually need to be consolidated with IFRS. The key is to imagine that a bilingual audit team may move relatively seamlessly from U.S. GAAP to IFRS and vice versa. ►

E d u c a tio n a l in itia tiv e s It has b e e n 10 years since th e SEC released its o rig in a l 2005 road m a p to

c o n s id e r IFRS a d o p tio n , a n d th e in te rn a tio n a l s ta n d a rd s are n o w b e in g

a p p lie d g lo b a lly . B ut in te g ra tio n o f IFRS in to c u rric u la has b e e n lim ite d .

M o s t e d u c a to rs w h o in c lu d e IFRS m a te ria l discuss d iffe re n c e s b e tw e e n U.S.

GAAP an d IFRS as p a rt o f e x is tin g courses ra th e r th a n in a s ta n d -a lo n e IFRS

course. O ne reason is th e fa c t th a t U.S. GAAP has n o t g o tte n s im p le r n o r

has it s to o d s till; so, th e a d d itio n o f a n o th e r la ye r o f c o m p le x ity is n o t easily

a cce p te d . The s e co n d reason is th a t th e re is n o d riv in g fo rc e such as a d a te

c e rta in th a t th e SEC w ill s ta rt re q u irin g re p o r tin g in IFRS. In 2015, e d u c a to rs

a t m o s t levels are g iv in g so m e m in im a l co v e ra g e o f IFRS as a s e c o n d a ry a c c o u n tin g s ta n d a rd to consider.

A U D IT IN G A N D ASSU RAN CE

Auditing/assurance of financial statements to comply with U.S. GAAP regardless of accounting standards is the present and future situation. Given the nature of auditing teams, it is likely that an auditing team in the United States could encounter an operating unit of an

A t In d ia n a U n iv e rs ity 's K elley S chool o f Business, IFRS s ta rte d in 2 0 0 9 as

a o n e -w e e k in te n s iv e e le c tiv e course. S tu d e n t d e m a n d b e c a m e so g re a t

th a t, in 2012, tw o se p a ra te o n e -w e e k in te n s iv e courses w e re o ffe re d . O ne

re m a in s an e le c tiv e ; an d th e s e co n d has b e c o m e a re q u ire d co u rse fo r

th e 3 /2 MBA d e g re e . Even w it h th is c o m m itm e n t to m a k in g IU s tu d e n ts

b ilin g u a l, th e c u rric u lu m s till needs th e SEC's im p e tu s .

jou rna lofaccou nta ncy.com March 2016 I 57

F IN A N C IA L R E P O R T IN G / P R O F E S S IO N A L D E V E L O P M E N T

SMALL AN D MEDIUM -SIZE ENTERPRISES There are a number of conversations about GAAP for smaller business entities. As these committees and standard-setting organizations work on different approaches, the International Financial Reporting Standards for Small and Medium-sized Entities (IFRS for SMEs) is in use by thousands of SMEs globally. W ith a few hundred pages of principles and standards versus the thousands o f pages of U.S.

GAAP, IFRS for SMEs has received positive reviews internationally. Even with the AICPA’s support for IFRS in the United States, there appears to be no enthusiasm for IFRS for SMEs. The primary barrier appears to be the lack o f experience in the standards by commercial loan managers for SMEs. To ask loan managers to evaluate accounting statements prepared under two standards may be too much to ask; on the other hand, bilingual CPAs could fill this space. H

AICPA RESOURCES JofA article

" W h a t H a ve IASB a n d FASB C o n v e r g e n c e E ffo r ts A c h ie v e d ? "

Fe b. 2013, p a g e 50

G o t o jo u r n a lo f a c c o u n t a n c y . c o m

t o f in d p a s t a rtic le s .

Publication

Inside IFRS: Accounting and Financial Reporting Fundamentals (#APAIFRSI 3 P, p a p e rb a c k ; #APAIFRS13E, e b o o k ; #APAIFRSO,

o n e - y e a r o n lin e access)

CPE self-study

IFRS C e r tific a te P ro g ra m (#159770,

t w o - y e a r o n lin e access)

AICPA TV

"IFRS: E x p e rts A n s w e r Q u e s tio n s

A b o u t IFRS," tin y u r l. c o m /

n s a w g n 5

F o r m o r e in f o r m a t io n o r t o m a k e

a p u rc h a s e o r re g is te r, g o t o

c p a 2 b iz .c o m o r c a ll t h e In s t it u te

a t 8 8 8 -77 7-7 077 .

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