Comparison Essay Sample on the IFRS and GAAP Accounting Systems

The operations in companies differ mainly due to some known factors. First, a countrys legal system greatly influences the policies and accounting practices of a company. Also, the nature of finance providers in a country explains the accounting diversities in countries. Finance providers normally include banks, shareholders, and family members. Therefore, depending on their expectations, a company can introduce the most suitable accounting system. In particular, a companys institutional framework provides a profound intuition into the organizations practices because it provides a fulfilled understanding of the environment and circumstances surrounding a companys operations. Each of these factors contributes to the diversity in accounting principles. However, in this paper, I shall discuss the major accounting differences associated with the US IFRS and The Swedish GAAP as well as their advantages and disadvantages.

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Layout format of each accounting system

The most notable difference lies in the layout format of each accounting system. Whereas GAAP principles require the balance sheet to be presented in the order of decreasing equity, IFRS principles do not require any particular format (Smith, 2012, p. 19). When using the GAAP system, the balance sheets total assets equal the total liabilities and shareholders equity. Although IFRS standards provide that current and non-current assets and liabilities be accounted for separately, the GAAP balance sheet is preferred to the IFRS. Looking at the principle of revaluation of assets, the Swedish GAAP seeks to establish how the acquisition value of assets should be determined, how their depreciation should be measured and when expenses related to tangible assets should be included in a balance sheet. Therefore, to solve the question of valuation, the GAAP system provides that tangible assets be valued on the value of the acquisition. Also, the necessary deductions for accumulated depreciation, as well as appreciation, should be accounted for. On the other hand, the US IFRS finds that there should be no accounting on the appreciation of tangible assets (Smith, 2012, p. 19). However, the IFRS does allow for the revaluation of assets to a value above the acquisition value as a deemed cost. For example between 2005 and 2006, Nokia did not disclose any information regarding the appreciation of tangible assets, which illustrates the IFRS accounting system. On the other hand, a company like SKF disclosed differences in its tangible assets acquisition values and their appreciated values thereby illustrating the use of the GAAP system.

As regards to development expenses, the IFRS provides that they should be capitalized as intangible assets. Previously, the US GAAP stated that such expenses be expensed whenever they occur. Currently, the Swedish GAAP does not provide for the capitalization of development expenses. Instead, the companies have chosen to charge expenses under income. Software expenses, however, are reported as intangible assets. Therefore, the previous US GAAP and the current IFRS system both agree on the capitalization of software expenses (Barth, et.al, 2012, p. 71). However, the IFRS and the current Swedish GAAP disagree on the reporting of other expenses. Therefore, if a company lacks information showing a difference in its financial statements, it is because the company reported its expenses using the US IFRS. Interest expenses are also entailed in the expensing differences between the IFRS and the GAAP. According to the Swedish GAAP, these expenses should always be expensed as they occur. The IFRS also states that all interests, which originate from the financing of plants, property, and equipment be expensed as they occur. When reconciling the US GAAP, however, companies are required to make adjustments to follow the IFRS. This is because the US GAAP states that the interest expenses be capitalized during construction and consecutively depreciated over the life of the related asset. Therefore, if a company provides a difference in its financial statements, it is because the company has expensed its expenses as they occur according to the Swedish GAAP. To reconcile the US GAAP, adjustments should be made.

Income statement difference

Another major difference lies in the income statement. According to IFRS guidelines, there is no need for a standard format, which accommodates categories such as extraordinary items. The GAAP system, on the other hand, requires a follow-up format that incorporates either the single-step or the multistep. Extraordinary items are both unusual and infrequent. Therefore, when an item such as goodwill is shown as a negative item, it is listed as an extraordinary item on the statement according to GAAP system. When writing goodwill, there is no use of cash. According to GAAP principles, cash is only used when a company buys another company for a value higher than its assets. For example between 2007 and 2008, financial institutions placed goodwill in the extraordinary category due to acquisitions gone bad in mortgage messes. It was established that this new system allowed for the separation of such items from the rest of the income entries thereby making the net income look much appealing. The statement on changes in owners equity and the cash flow statement are similar in both accounting standards (Escaffre & Sefsaf, 2011, p. 8). Although the IFRS provides little guidance on the information to be included in the statements, they both have similar headings and can use the direct or indirect method to present their information.

Advantages of each accounting systems

The IFRS poses some advantages over the GAAP because it is a much modern system. For instance, the IFRS provides improved consistency in financial reporting. Also, the improved consistency plays a great role in heightening the transparency of the system. This benefit has been witnessed by European Union countries whose macroeconomic aspects have become much more consistent with the change to IFRS standards. The improved transparency in the accounting system has also improved the relationship between companies in the member countries with their investors. The second and most discussed benefit associated with IFRS standards regards its standardization of financial reporting (Horton, Serafeim& Serafeim, 2013, p. 390). The standardization of accounting in the new system has improved the comparability of the financial statements in the major financial markets thereby removing any trade barriers and allowing trade blocks such as the EU to adopt common reporting standards. The most significant disadvantage of using the IFRS system relates to the costs of its application, especially in multinational companies. This is because the process involves an entire change of the internal systems to create the needed compatibility with new reporting standards and trading costs. Another disadvantage of IFRS standards is that they are quite complex and costly which makes it hard for SMEs to adopt the system.

The leading advantage of using GAAP system is that it helps to instill trust in every individual or entity with an interest in the company. Currently, there are several ways of manipulating a companys financial information. A slight reform in the manner of conducting operations causes a change in the companys financial statements. In turn, this causes the stakeholder to lose trust in the companys management especially since most people tend to interpret the statements differently if the modifications were not applied. GAAP standards of financial reporting help to get rid of such problems by providing the needed assurance to all stakeholders. Like the IFRS system, the GAAP system also presents a fair representation of financial statements thereby maintain the required consistency. Also, this consistency helps interested parties evaluate the companys performance and compare it to other companies. However, the modern nature of the IFRS standards poses a threat to the efficiency of the GAAP system. As a result, this has led many to identify slight disadvantages in the GAAP system. First, the GAAP system is not able to recognize losses immediately they occur (Horton, Serafeim& Serafeim, 2013, p. 403). Also, the GAAP system reduces the efficacy of contracting between a company and its management due to reduced transparency standards. In turn, this causes the companys financial statements to have reduced accuracy and timeliness as compared to IFRS standards.

Both the IFRS and GAAP propose a favorable system of accounting for companies depending on their area of operation. However, there is need to develop a common system to facilitate even better comparability of financial statements regionally and globally.

References

Barth, M. E., Landsman, W. R., Lang, M., & Williams, C. (2012). Are IFRS-based and US GAAP-based accounting amounts comparable?. Journal of Accounting and Economics, 54(1), 68-93.

Escaffre, L., & Sefsaf, R. (2011). Comparing the value relevance of earnings and book value in IFRS and GAAP standards. Bankers Markets & Investors, 4-18.

Horton, J., Serafeim, G., & Serafeim, I. (2013). Does mandatory IFRS adoption improve the information environment?. Contemporary Accounting Research, 30(1), 388-423.

Smith, L. M. (2012). IFRS and US GAAP: Some key differences accountants should know. Management Accounting Quarterly, 14(1), 19.