Question

(please give me long ANSWIR)

Why is there a difference and diversity in accounting between countries?

The advantages and disadvantages of accounting diversity?

Answer 1

Meaning:

Diversity in accounting refers to differences in recording and using financial information; American businesses working with international corporations challenges handling diversity when dealing with accounting principles. While many companies deal with the differences without interrupting business operations, the problems impact major business dealings, including evaluation of a firm's net worth and also the way managers make business decisions. Studies reported by the National Bureau of Economic Research note that accounting diversity influences security pricing and the method of compiling international portfolios.

Reasons For Accounting Diversity:

Why do financial reporting practices differ across countries? Accounting scholars have hypothesized numerous influences on a country’s accounting system, including factors as varied as the nature of the political system, the stage of economic development, and the state of accounting education and research. A survey of the relevant literature has identified the following five items as being commonly accepted as factors influencing a country’s financial reporting practices: legal system, taxation, providers of financing, inflation, and political and economic ties.

1. Legal System

There are two major types of legal systems used around the world: common law and codified Roman law. Common law began in England and is primarily found in the English-speaking countries of the world. Common law countries rely on a limited amount of statute law, which is then interpreted by the courts. Court decisions establish precedents, thereby developing case law that supplements the statutes. A system of code law, followed in most non-English-speaking countries, originated in the Roman jus civile and was developed further in European universities during the Middle Ages. Code law countries tend to have relatively more statute or codified law governing a wider range of human activity. What does a country’s legal system have to do with accounting? Code law countries generally have corporation law (sometimes called a commercial code or companies act), which establishes the basic legal parameters governing business enterprises. The corporation law often stipulates which financial statements must be published in accordance with a prescribed format. Additional accounting measurement and disclosure rules are included in an accounting law debated and passed by the national legislature. In countries where accounting rules are legislated, the accounting profession tends to have little influence on the development of accounting standards.

2. Taxation

In some countries, published financial statements form the basis for taxation, whereas in other countries, financial statements are adjusted for tax purposes and submitted to the government separately from the reports sent to stockholders.

difference between tax and accounting income gives rise to the necessity to account for deferred income taxes, a major issue in the United States as well as     in Nigeria. Deferred income taxes are much less of an issue in Germany; for many German companies, they do not exist at all. This is also true in other code law countries such as France and Japan.

3. Providers of Financing

The major providers of financing for business enterprises are family members, banks, governments, and shareholders. In those countries in which company financing is dominated by families, banks, or the state, there will be less pressure for public accountability and information disclosure. Banks and the state will often be represented on the board of directors and will therefore be able to obtain information necessary for decision making from inside the company.

4. Inflation

Countries experiencing chronic high rates of inflation found it necessary to adopt accounting rules that required the inflation adjustment of historical cost amounts. This was especially true in Latin America, which as a region has had more inflation than any other part of the world. For example, throughout the 1980s and 1990s, the average annual rate of inflation rate in Mexico was approximately 50 percent, with a high of 159 percent in 1987.

Adjusting accounting records for inflation results in a write-up of assets and therefore related expenses. Adjusting income for inflation is especially important in those countries in which accounting statements serve as the basis for taxation; otherwise, companies will be paying taxes on fictitious profits.

5. Political and Economic Ties

Accounting is a technology that can be relatively easily borrowed from or imposed on another country. Through political and economic links, accounting rules have been conveyed from one country to another. For example, through previous colonialism, both England and France have transferred their accounting frameworks to a variety of countries around the world.

Whether by coincidence or not, there is a high degree of correlation between legal system, tax conformity, and source of financing. Common law countries tend to have greater numbers of domestic listed companies, relying more heavily on equity as a source of capital. Code law countries tend to link taxation to accounting statements and rely less on financing provided by shareholders.

Advantage of Accounting Diversity:

1. Facilitates Ethics Compliance

In a utopia, every business in the world would operate with a firm standard of behavior that customers could admire but the world isn’t perfect, and neither is the ethics employed by some company owners. This speaks to the importance of international accounting standards because countries around the world have different cultures and practices. For example, in some developing countries, paying others bribes and providing financial incentives is an accepted way of doing business. In other countries, however, even the hint of this kind of impropriety can lead to fines and even a jail sentence. The importance of international accounting standards in these cases can’t be overstated. By having a uniform code of accounting standards, it evens the playing field and allows business owners in different parts of the world to adhere to the same guidelines. One of the other benefits of accounting standards at the international level as it relates to ethics is that they often include suggestions from accounting professionals throughout the world. This helps to ensure that these standards aren’t favorable to one country or culture over another.

2. Improves International Investment

You can’t talk about the scope and importance of accounting diversity without mentioning the benefits of accounting standards when it comes to investment. Investors and other stakeholders find it more convenient to compare their business performance with other international companies. This makes it easier and cheaper for them to raise business capital from investors across the globe. The IASB allows you to review financial documents from foreign companies that you may want to invest in or at

least establish relations with because you are all working under the same set of accounting principles. That means that regardless of where the foreign company is based, you will have reliable accounting information that was prepared using uniform methods. This eliminates a great deal of uncertainty when it comes to making a final decision about whether or not that company’s financial status is solid enough to merit your investment.

1. Sets Generalized Standards

The IFRS stipulations are flexible enough to account for expected and unexpected changes in the global business environment because they are based on broad principles. With the rapid evolution of ecommerce, the opportunities for businesses around the globe to work with each other have never been greater. As a result, the scope and importance of international accounting necessitates general standards that are applicable and accommodative to varying jurisdictional circumstances and traditions, with minimal IASB intervention. For example, the IASB does not recommend any specific formats for preparing financial statements. This gives business owners the freedom and discretion to choose the presentation format that best expresses their financial status. Using IFRS frees a business from the restrictive scope of national-level accounting standards. Financial reports become automatically acceptable in IFRS-compliant countries, and companies don't need to prepare alternative sets of financial statements when pursuing business interests in these countries. This reduces a business's costs of preparing financial statements destined for international audiences.

2. Central Authoritative Body

From a policy-making standpoint, moving to a single set of global standards puts rule making into the hands of one body. Currently, accounting standards are set within each country by each standard-setting body, as well as by an international group. One set of standards would reduce disagreement between countries and international regulators, and it might also cut costs. In some countries, businesses are required to pay reporting fees that go to fund these standard-setting bodies. While the costs may not affect large companies, they can have a huge impact on a small business. Moving to a central authoritative body could reduce these costs drastically.

3. International Expansion

Moving to a single set of global financial standards would also ease barriers to expansion for companies. If companies wish to expand overseas today, they need to consider international costs of compliance, which could mean adopting a completely new set of accounting records to meet statutory requirements in the new country. In some cases, this would nearly double the company's accounting costs. For many small businesses, even the large rewards of moving overseas are dwarfed by these expansion costs.

Disadvantages of Accounting Diversity

1. Preparation of Consolidated Financial Statements

The diversity in accounting practice across countries causes problems that can be quite serious for some parties. One problem relates to the preparation of consolidated financial statements by companies with foreign operations. Consider General Motors Corporation, which has subsidiaries in more than 50 countries around the world. Each subsidiary incorporated in the country in which it is located is required to prepare financial statements in accordance with local regulations. These regulations usually require companies to keep books in local currency using local accounting principles. Thus, General Motors de Mexico prepares financial statements in Mexican pesos using Mexican accounting rules and General Motors Japan Ltd. prepares financial statements in Japanese yen using Japanese standards. To prepare consolidated financial statements in the United States, in addition to translating the foreign currency financial statements into U.S. dollars, the parent company must also convert the financial statements of its foreign operations into U.S. GAAP. Each foreign operation must either maintain two sets of book prepared in accordance with both local and U.S. GAAP or, as is more common, reconciliations from local GAAP to U.S. GAAP must be made at the balance sheet date. In either case, considerable effort and cost are involved; company personnel must develop an expertise in more than one country’s accounting standards.

2. Access to Foreign Capital Markets

A second problem caused by accounting diversity relates to companies gaining access to foreign capital markets. If a company desires to obtain capital by selling stock or borrowing money in a foreign country,   it might be required to present a set of financial statements prepared in accordance with the accounting standards in the country in which the capital is being obtained. To have stock traded in a country, foreign companies must either prepare financial statements using the country’s accounting standards or provide a reconciliation of local GAAP net income and stockholders’ equity to the country’s GAAP. This can be quite costly. In preparing for a New York Stock Exchange (NYSE) listing in 1993, the German automaker Daimler-Benz estimated it spent $60 million to initially prepare U.S. GAAP financial statements; it expected to spend $15 million to $20 million each year thereafter.

3. Comparability of Financial Statements

A third problem relates to the lack of comparability of financial statements between companies from different countries. This can significantly affect the analysis of foreign financial statements for making investment and lending decisions. The job of deciding which foreign company to invest in is complicated by the fact that foreign companies use accounting rules different from those used in Nigeria and those rules differ from country to country. It is very difficult if not impossible for a potential investor to directly compare the financial position and performance of an automobile manufacturer in Germany (Volkswagen), Japan (Nissan), and the United States (Ford) because these three countries have different financial accounting and reporting standards. According to Ralph E. Walters, former chairman of the steering committee of the International Accounting Standards Committee, “either international investors have to be extremely knowledgeable about multiple reporting methods or they have to be willing to take greater risk.” A lack of comparability of financial statements also can have an adverse effect on corporations when making foreign acquisition decisions. In many cases, the international public accounting firms were called on to convert financial statements to a Western basis before acquisition of a company could be seriously considered.

4. Lack of High-Quality Accounting Information

A fourth problem associated with accounting diversity is the lack of high-quality accounting standards in some parts of the world. There is general agreement that the failure of many banks in the 1997 East Asian financial crisis was due to three factors: a highly leveraged corporate sector, the private sector’s reliance on foreign currency debt, and a lack of accounting transparency. To be sure, inadequate disclosure did not create the East Asian meltdown, but it did contribute to the depth and breadth of the crisis. As Rahman explains: “It is a known fact that the very threat of disclosure influences behaviour and improves management, particularly risk management. It seems that the lack of appropriate disclosure requirements indirectly contributed to the deficient internal controls and imprudent risk management practices of the corporations and banks in the crisis-hit countries.” International investors and creditors were unable to adequately assess risk because financial statements did not reflect the extent of risk exposure due to the following disclosure deficiencies:

The actual magnitude of debt was hidden by undisclosed related-party transactions and off- balance-sheet financing.

· High levels of exposure to foreign exchange risk were not evident.

· Information on the extent to which investments and loans were made in highly speculative assets (such as real estate) was not available.

· Contingent liabilities for guaranteeing loans, often foreign currency loans, were not reported.

· Appropriate disclosures regarding loan loss provisions were not made.

Because of the problems associated with worldwide accounting diversity, attempts to reduce the accounting differences across countries have been ongoing for over three decades. This process is known as harmonization. The ultimate goal of harmonization is to have one set of international accounting standards that are followed by all companies around the world.

Conclusion:

While international accounting differences hinder some investments, beginning in 2005, companies in Europe began using a collection of international accounting standards developed by regulators from the various European nations, international accounting societies and academics working in the financial field. While a national standard has yet to be developed, the formulating groups also discovered some underlying reasons for the diverse accounting principles. The differences frequently incorporate company reporting strategies rather than diversity in accounting practices.