The Purpose and Importance of Convergence in Accounting Standards
The main purpose of this assessment is to understand the concept of convergence in accounting standards and also the implantation of convergence projects which are undertaken by International Accounting Standard Board (IASB) and Financial Accounting Standard Board (FASB). The convergence of accounting principles and practices around the world allows businesses to promote consistency in accounting practice and also in setting universal approach in accounting practices which is followed across the world. The report will be citing and identifying various convergence projects which have been undertaken by different accounting words. The report will be identifying the benefits and limitations related to convergence and also the qualitative characteristic of financial statements in the next few paragraphs. The report will further discuss the significance of the use of fair value in accounting process and the report will be concluding with a conclusion.
The convergence of accounting standards is a key process in which accounting boards tend to set up a single sets of accounting standards which can be used internationally. Convergence of Accounting standards have taken places several times over the years and the same are done with a view to bring about consistency in the accounting practices which are followed by accounting professionals (Crawford et al. 2014). In other words, it can be said that convergence is the process which can make global accounting standards similar in every way possible. International Convergence of Accounting standards aims to establish a single set of standards which are of high quality and the same can be used universally. Various accounting boards are involved in the process of convergence so as to ensure that the accounting standards which are established can be applied to accounting in different regions (Wang, 2014). The origin of Convergence of accounting standards can be traced backed to 1950s when lots of international capital flowed in due to the impacts of the second world war in order to stabilize the world economy. In such an instance convergence took the form of harmonization of accounting records and the reduction of differences between various accounting standards which are used internationally (Chen et al. 2014).
Convergence of US and International accounting standards in recent era is being decided and the pace of such an evolution has quickened due to the need of a global accounting standards which is due to the increase in international trade and outsourcing of services. The process of Convergence is a challenging process which is not only due to the goal of a universally applicable accounting standards but also due to the expectations of the users of the financial statements (Adibah Wan Ismail et al. 2013). The users of the financial statements need to be educated as to what effects will the convergence process bring about in the accounting standards and the overall impacts on the financial statements of a company. The need for convergence of accounting standards is to avoid the confusion, conflicts, promote simplicity and consistency (Taipaleenmäki and Ikäheimo, 2013). In many countries convergence of accounting standards has already taken place and some are at its planning stage to either adopt IFRS or converge towards it. Examples can be given of Canada which required all listed companies to follow IFRS framework in preparing financial accounts of the businesses (Jackling, 2013). The international convergence of accounting standards can be referred to as both a goal and a path for achieving the convergence. As per FASB, the main goal of convergence is the development of single set of high quality accounting standards which can be used worldwide by companies when dealing with domestic transactions or engaging in cross border transactions. FASB is working continuously in achieving the convergence of accounting standards so that a universality can be achieved but until the same happens boards is working to pave the way for convergence of accounting standards. The path for convergence can be achieved through effective collaboration of FASB and IASB for combining the frameworks of US GAAP and IFRS (accaglobal.com. 2018). Another example which can be provided is that of adoption of IFRS framework by EU Accounting Regime. On 19 July 2002, the parliament in Europe and the European council agreed on adoption of IFRS framework in business. This was done to bring about consistency in the accounting practices and especially those companies which were engaged in international trade (Iasplus.com. 2018).
The Benefits of Convergence of Accounting Standards
In the present era, IASB and FASB has signed a memorandum of understanding which sets out their convergence projects and includes the short-term goal to issue converged standards. The efforts of convergence can be demonstrated by the continuous efforts of IASB and FASB (Albu et al. 2014). There are various examples which are available of convergence projects which are undertaken by IASB and FASB. IAS 23 which is on Borrowing cost is an example of convergence projects undertaken by the boards and the standard was reissued in 2008. The boards have successfully issued converged standards on consolidations of accounts, Fair value measurements. IFRS 15 is the most recent project which is undertaken by the boards in recent time (Iasplus.com. 2018). The overall process of convergence of accounting standards have their own set of advantages and disadvantages. The benefits which are associated with convergence of accounting standards are given below in point form:
- Convergence of accounting standards facilitates foreign transactions to take place, therefore the same is expected to motivate the investors to increase foreign investments. This will give a boast to foreign direct investments (Fang et al.2015).
- Convergence of Accounting standards is expected to bring about improvements in the reporting structure of a business and thereby it can also be expected that the same will be reducing the costs of complying with accounting requirements effectively for global businesses (Zehri and Chouaibi, 2013).
- The process of convergence main advantage is that it can bring about a consistency in accounting treatments around the world and thereby establish a transparent system of accounting with greater accountability(CPAs, 2018).
- The convergence policy also reduces the operational challenges for accounting firms and also improves the reporting model which is followed.
The limitations of Convergence of accounting standards are discussed below:
- The cost which is associated with convergence of accounting standards is very high and therefore such can discourage the boards to not undertake the process (De Simone, 2016).
- The pace at which the convergence of accounting standard is taking place is very slow and therefore it will take decades to finally accomplish the project (Camfferman and Zeff, 2015).
- The overall link which is there between convergence of accounting standards and comparability of accounting standards is not strong and thus this can be an issue in the convergence process. This can be a concern for the accounting boards (Tschopp and Huefner, 2015).
The convergence program which was initiated with the memo random of understanding between FASB and IASB led to the implementation and adoption of conceptual framework of reporting. The main objective of the conceptual framework is to ensure that the financial statements are prepared in such a way that all relevant information are disclosed in a systematic manner in the financial statements of a business (Francis et al. 2013). Convergence of conceptual framework which is followed in various areas can bring about a consistency and transparency in the accounting approach.
The qualitative characteristics of a financial statement are of two types which are fundamental qualitative characteristic and Enhancing qualitative characteristic. The fundamental qualitative characteristics are discussed below in details:
- Relevance: The financial statement should contain all the relevant information which the business need to disclose to the investors of the business. The disclosures can be done more effectively in the notes to accounts section of the financial statements (Carraher and Van Auken, 2013).
- Faithful Representation: This principle states that the financial statements should be fairly represented and the financial statements should be showing true and fair view. In order to possess the quality of faithful representation, the information should neutral, complete and verifiable which applies both to the description of the item and the measure for the same (Wang, 2014).
The enhancing Characteristics of financial statements tends to further improve the quality of reporting and the same are discussed below in details:
- Comparability: The estimates and the results which are portrayed in the financial statements of a company should be such that comparison between the results of this year and previous years is possible. This ensure that the financial performance of the company can be measured effectively with comparison with previous year’s estimates (Franciset al. 2013).
- Verifiability: As per this principle, the estimates which are shown in the financial statement should be such that the same can be verified whenever its is required. This promotes accountability and transparency for the information provided in the financial reports (Eierle and Schultze, 2013).
- Timeliness: The financial statement should be prepared within a particular timeframe so that the relevance of the information is intact (Barth, 2013). The most appropriate time will ensure that the investors can analyze the information and then take investments decisions accordingly.
- Understandability: As per this principle the financial statement should be prepared in such a way that it promotes understandability of the information. In order words the financial data which is contained in the annual reports of the business should be logical, simple and easy to understand for the users of the financial statements of a company. This can be done if the business follows the accounting standards which are issued in the preparation of the final accounts of the business (Kim, 2013).
The importance of conceptual framework is immense in promoting transparency and effectiveness of the presentation of financial data in the financial statement of a business. Thus, convergence of accounting standards can also bring about improvements in the conceptual framework of accounting and thereby improve the overall reporting process of the business.
Fair value may be defined as the estimated price at which assets of a business can be sold and liabilities of a business can be settled considered the current market prices (Altamuro and Zhang, 2013). Fair value has wide range implications and the same can affect the choices of investments of investors and also management decisions. Fair value accounting is a financial approach which is also known as mark-to-market accounting practice and falls under Generally Accepted Accounting Principles (GAAP). With the help of fair market value approach, many companies measure their assets and liabilities on the basis of their actual or estimated market prices (Blankespoor et al. 2013). The advantages of fair value accounting can be explained below in details:
- Accurate Valuation: The major advantage of use fair value accounting is that it provides an accurate estimate for assets and liabilities of the business on an ongoing basis to the users of the financial statements (Magnan et al.2015).
- True Income: The fair value approach prevents manipulations in the net income of the company and therefore demonstrates the correct figure of income of the business.
The Limitations of Convergence of Accounting Standards
The limitations of Fair value accounting are listed below in details:
- Fluctuations: Fair value accounting also presents challenges to the business as the current market prices continuously fluctuates and even becomes volatile in certain situations which in turn increases the valuations of assets and liabilities. However, once the market stabilizes, the such values changes to original estimates and thus leading to reported losses or gains of temporary nature. This signifies that fair value accounting can be misleading in nature.
- Market Effects: The use of fair value accounting may further affect a down market adversely which is mainly due to the fluctuation in prices which generally takes place in the market (Barth, 2013).
Historical cost method reflects the prices of the assets at which the assets were originally purchased. This approach is also used under the GAAP framework of accounting. Theses prices normally reflects the results of arm’s length prices and transactions and is also known to be a conventional accounting method (Christensen and Nikolaev, 2013). The method of Historical cost is based on realization principle which can affect both the profit and loss statement and the balance sheet of the business. The advantages of using Historical cost method are stated below:
- The accounting data under Historical cost method is considered to be free from bias, independent verifiable and therefore is more reliable to external users and investors (Vernimmen et al.2014).
- Historical cost reduces the extent to which judgements of personal nature can affect the financial statements of the company (Weil et al.2013).
The limitations which are associated with historical cost method are listed below:
- The historical cost method ignores the effects of inflation on the value of money and thereby can provide misleading data (Edwards, 2013).
- The historical cost method does not match the current revenues which are earned by the business with the current cost of operations (Warren Jr et al.2015).
Conclusion
Thus, from the above discussions, it can be clearly identified that the overall role of convergence in accounting standards can bring about improvements and transparency and consistency in the global accounting process. The process of convergence has more of advantages than limitations and the same can lead to a better reporting framework not just domestically but also internationally. It can be said that the convergence of accounting standards will bring about transparency and consistency in the accounting standards. The above analysis also shows the uses of fair value and historical cost in the overall accounting process and the benefits and limitations of both the methods.
Reference
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