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Edit Comment Close Premium member Presentation Transcript Chapter 5: Chapter 5 International Financial Statement AnalysisInternational Accounting Differences and Financial Statement Analysis: International Accounting Differences and Financial Statement Analysis The key question How do differences in accounting affect earnings and cash flow assessments – are the differences material in the decision process These assessments are important to Investors Corporations concerned with foreign direct investment Growing number of companies are listing on international exchanges (London, New York)Stock Market Comparisons: Stock Market ComparisonsInternational Accounting Differences and Financial Statement Analysis: International Accounting Differences and Financial Statement Analysis A tendency exists to looks at earnings from a home country perspective – that may or may not place a high value on accounting. This tendency may ignore accounting differences A need exists to better understand foreign accounting principles in the context in which they are derived International comparability is important in considering alternative investmentsMajor Differences in Accounting Principles Around the World: Major Differences in Accounting Principles Around the World Inventory measurement Generally based on “lower of cost or market” with market defined as either Net realizable value Replacement cost LIFO is permitted for tax purposes in U.S. and Japan, but not in the EU Construction contracts Wide usage of percentage-of-completion method – is this better / more accurate? Completed contract method – Switzerland, China, Japan Major Differences in Accounting Principles Around the World: Major Differences in Accounting Principles Around the World Measurement basis used Historical cost is used in the U.S., Brazil, Switzerland, China, and Japan. More flexible approach with some restatements to market value or replacement cost – U.K., Holland Depreciation accounting Useful economic life concept – U.S. and EU Accelerated methods – France, Germany, Switzerland, Japan Major Differences in Accounting Principles Around the World: Major Differences in Accounting Principles Around the World R&D costs Expensed immediately in Anglo-American and Germanic countries Brazil has a more flexible approach Some countries allow capitalizing the borrowed cost of assets Retirement benefits Generally accounted for on the basis of accrued and/or projected benefits payable to employees Pay-as-you-go approach in Brazil and China Major Differences in Accounting Principles Around the World: Major Differences in Accounting Principles Around the World Taxation Accounting income strongly influenced by the tax system in France, Germany, Brazil, Switzerland Business Combinations Varies with allowance of pooling-of-interests Purchase method is generally required Goodwill is amortized in Brazil, China, and Japan Goodwill impairment tests are used in U.S., U.K. Major Differences in Accounting Principles Around the World: Major Differences in Accounting Principles Around the World Intangibles Generally are capitalized and subject to amortization or impairment tests Exception – Switzerland Foreign Currency Translation Choice between average or closing rate Generally flexible; actual or average rate allowed Big Question: Do these differences matter? The Impact of U.S.-U.K. Accounting Differences- A Quantitative Look: The Impact of U.S.-U.K. Accounting Differences- A Quantitative Look Index of conservatism (Gray, 1980) 1 – [RA – RD / l RA l] Where RA = adjusted earnings (or returns) (i.e. earnings converted to an alternate accounting system) RD = disclosed earnings (firm earnings reported on the home countries accounting system). Therefore, 1 – [U.S. GAAP Earnings – U.K. GAAP Earnings / l U.S. GAAP Earnings l] If index value > 1, U.K. GAAP earnings are less “conservative” or more optimistic/aggressive If index value < 1, U.K. GAAP earnings are more “conservative”The Impact of U.S.-U.K. Accounting Differences: The Impact of U.S.-U.K. Accounting Differences Example 1 U.K. earnings £110 million U.S. earnings £100 million Index 1 – [100-100]/100 = 1.1 Example 2 U.K. earnings £90 million U.S. earnings £100 million Index 1 – [100-90]/100 = 0.9 The Impact of U.S.-U.K. Accounting Differences : The Impact of U.S.-U.K. Accounting Differences It is possible to establish the relative effect of individual adjustments with partial indices of adjustment – to assess the accounting policy you wish to examine. Partial index of “conservatism” - first adjust to overall comparison accounting method Then: analyze the accounting issue in question 1 – [partial adjustment (accounting policy in question) / l U.S. GAAP Earnings l ]The Impact of U.S.-U.K. Accounting Differences: The Impact of U.S.-U.K. Accounting Differences Example Millions of Pounds U.K. GAAP earnings 120 Adjustments for U.S. GAAP: Deferred taxation (15) Goodwill amortization (less of issue now) (5) Adjusted earnings per U.S. GAAP (100) Overall index of ‘conservatism’ 1.2 Partial index for deferred taxation 1 – [-15/100] = 1.15 Partial index for goodwill 1 – [-5/100] = 1.05The Impact of U.S.-U.K. Accounting Differences: The Impact of U.S.-U.K. Accounting Differences Differences between methods are illustrated in the Form 20-F report Form 20-F can be used to test how conservative U.S. and U.K. GAAP are in comparison with each other Form 20-F is reliable because it is provided by the company itself Research findings show U.K. GAAP to be less conservativeA Global Perspective on Earnings Management: A Global Perspective on Earnings Management How do Anglo-American earnings compare with continental Europe and Japan? Continental Europe Gray (1980) compared French and German companies to British companies Insert Exhibit 5.8, 5.9 French and German earnings are more conservative than British earnings Weetman and Gray (1991) found that Netherlands was less conservative that Sweden, U.K. Swedish methods were more conservative than U.S. GAAP A Global Perspective on Earnings Management: A Global Perspective on Earnings Management Japan Earnings are relatively understated compared to the U.S. (33.9%, according to Aron (1991) Historically high PE ratios were deflated by adjustments for reserves, consolidation practices, depreciation, cross-holdings, and differences in capitalization (Morgan Stanley) Higher levels of gearing (leverage) and short-term payables are tolerated because of long-term relationships with bankers and suppliers Emphasis tends to be on long-term growth rather than instant profitability Factors Influencing Measurement Differences: Factors Influencing Measurement Differences U.S. and U.K. Stock market is the dominant influence Information needs of investors encourage a more “optimistic” view of earnings and higher share prices Accounting principles are flexible Accounting profession is independent Tax rules have a limited influence Cultural values motivate a less conservative approach to measurement Factors Influencing Measurement Differences : Factors Influencing Measurement Differences Continental Europe and Japan Taxation and sources of finance are influential Tradition of commercial codes and accounting plans Tendency to report lower earnings for tax purposesFactors Influencing Measurement Differences: Factors Influencing Measurement Differences Continental Europe and Japan Users of financial information may be more concerned with balance sheet information Black and White (2003) findings Balance sheet info is more informative in Germany, Japan Income statement is more relative in the U.S. Professional influence is low due to legal requirements related to accounting Cultural values motivate a more conservative approach Global Accounting Convergence: Global Accounting Convergence IASB sets IFRS Goal is to develop comparable international standards with low cost to MNEs Provides a model for developing countries More uniform standards have been developed to aid in capital raisings and stock exchange listings Core standards program with IOSCO was completed in 1998 May 2000 – IOSCO endorsed IFRS EU will adopt IFRS in 2005 – will nonlisted companies adopt? 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ch05jjm Techy_Guy Download Post to : URL : Related Presentations : Share Add to Flag Embed Email Send to Blogs and Networks Add to Channel Uploaded from authorPOINTLite Insert YouTube videos in PowerPont slides with aS Desktop Copy embed code: (To copy code, click on the text box) Embed: URL: Thumbnail: WordPress Embed Customize Embed The presentation is successfully added In Your Favorites. Views: 974 Category: Entertainment License: All Rights Reserved Like it (2) Dislike it (0) Added: October 17, 2007 This Presentation is Public Favorites: 0 Presentation Description No description available. Comments Posting comment... By: ragaleka (7 month(s) ago) a good presentation Saving..... Post Reply Close Saving..... Edit Comment Close By: tanila (34 month(s) ago) can i please download it? Saving..... Post Reply Close Saving..... Edit Comment Close Premium member Presentation Transcript Chapter 5: Chapter 5 International Financial Statement AnalysisInternational Accounting Differences and Financial Statement Analysis: International Accounting Differences and Financial Statement Analysis The key question How do differences in accounting affect earnings and cash flow assessments – are the differences material in the decision process These assessments are important to Investors Corporations concerned with foreign direct investment Growing number of companies are listing on international exchanges (London, New York)Stock Market Comparisons: Stock Market ComparisonsInternational Accounting Differences and Financial Statement Analysis: International Accounting Differences and Financial Statement Analysis A tendency exists to looks at earnings from a home country perspective – that may or may not place a high value on accounting. This tendency may ignore accounting differences A need exists to better understand foreign accounting principles in the context in which they are derived International comparability is important in considering alternative investmentsMajor Differences in Accounting Principles Around the World: Major Differences in Accounting Principles Around the World Inventory measurement Generally based on “lower of cost or market” with market defined as either Net realizable value Replacement cost LIFO is permitted for tax purposes in U.S. and Japan, but not in the EU Construction contracts Wide usage of percentage-of-completion method – is this better / more accurate? Completed contract method – Switzerland, China, Japan Major Differences in Accounting Principles Around the World: Major Differences in Accounting Principles Around the World Measurement basis used Historical cost is used in the U.S., Brazil, Switzerland, China, and Japan. More flexible approach with some restatements to market value or replacement cost – U.K., Holland Depreciation accounting Useful economic life concept – U.S. and EU Accelerated methods – France, Germany, Switzerland, Japan Major Differences in Accounting Principles Around the World: Major Differences in Accounting Principles Around the World R&D costs Expensed immediately in Anglo-American and Germanic countries Brazil has a more flexible approach Some countries allow capitalizing the borrowed cost of assets Retirement benefits Generally accounted for on the basis of accrued and/or projected benefits payable to employees Pay-as-you-go approach in Brazil and China Major Differences in Accounting Principles Around the World: Major Differences in Accounting Principles Around the World Taxation Accounting income strongly influenced by the tax system in France, Germany, Brazil, Switzerland Business Combinations Varies with allowance of pooling-of-interests Purchase method is generally required Goodwill is amortized in Brazil, China, and Japan Goodwill impairment tests are used in U.S., U.K. Major Differences in Accounting Principles Around the World: Major Differences in Accounting Principles Around the World Intangibles Generally are capitalized and subject to amortization or impairment tests Exception – Switzerland Foreign Currency Translation Choice between average or closing rate Generally flexible; actual or average rate allowed Big Question: Do these differences matter? The Impact of U.S.-U.K. Accounting Differences- A Quantitative Look: The Impact of U.S.-U.K. Accounting Differences- A Quantitative Look Index of conservatism (Gray, 1980) 1 – [RA – RD / l RA l] Where RA = adjusted earnings (or returns) (i.e. earnings converted to an alternate accounting system) RD = disclosed earnings (firm earnings reported on the home countries accounting system). Therefore, 1 – [U.S. GAAP Earnings – U.K. GAAP Earnings / l U.S. GAAP Earnings l] If index value > 1, U.K. GAAP earnings are less “conservative” or more optimistic/aggressive If index value < 1, U.K. GAAP earnings are more “conservative”The Impact of U.S.-U.K. Accounting Differences: The Impact of U.S.-U.K. Accounting Differences Example 1 U.K. earnings £110 million U.S. earnings £100 million Index 1 – [100-100]/100 = 1.1 Example 2 U.K. earnings £90 million U.S. earnings £100 million Index 1 – [100-90]/100 = 0.9 The Impact of U.S.-U.K. Accounting Differences : The Impact of U.S.-U.K. Accounting Differences It is possible to establish the relative effect of individual adjustments with partial indices of adjustment – to assess the accounting policy you wish to examine. Partial index of “conservatism” - first adjust to overall comparison accounting method Then: analyze the accounting issue in question 1 – [partial adjustment (accounting policy in question) / l U.S. GAAP Earnings l ]The Impact of U.S.-U.K. Accounting Differences: The Impact of U.S.-U.K. Accounting Differences Example Millions of Pounds U.K. GAAP earnings 120 Adjustments for U.S. GAAP: Deferred taxation (15) Goodwill amortization (less of issue now) (5) Adjusted earnings per U.S. GAAP (100) Overall index of ‘conservatism’ 1.2 Partial index for deferred taxation 1 – [-15/100] = 1.15 Partial index for goodwill 1 – [-5/100] = 1.05The Impact of U.S.-U.K. Accounting Differences: The Impact of U.S.-U.K. Accounting Differences Differences between methods are illustrated in the Form 20-F report Form 20-F can be used to test how conservative U.S. and U.K. GAAP are in comparison with each other Form 20-F is reliable because it is provided by the company itself Research findings show U.K. GAAP to be less conservativeA Global Perspective on Earnings Management: A Global Perspective on Earnings Management How do Anglo-American earnings compare with continental Europe and Japan? Continental Europe Gray (1980) compared French and German companies to British companies Insert Exhibit 5.8, 5.9 French and German earnings are more conservative than British earnings Weetman and Gray (1991) found that Netherlands was less conservative that Sweden, U.K. Swedish methods were more conservative than U.S. GAAP A Global Perspective on Earnings Management: A Global Perspective on Earnings Management Japan Earnings are relatively understated compared to the U.S. (33.9%, according to Aron (1991) Historically high PE ratios were deflated by adjustments for reserves, consolidation practices, depreciation, cross-holdings, and differences in capitalization (Morgan Stanley) Higher levels of gearing (leverage) and short-term payables are tolerated because of long-term relationships with bankers and suppliers Emphasis tends to be on long-term growth rather than instant profitability Factors Influencing Measurement Differences: Factors Influencing Measurement Differences U.S. and U.K. Stock market is the dominant influence Information needs of investors encourage a more “optimistic” view of earnings and higher share prices Accounting principles are flexible Accounting profession is independent Tax rules have a limited influence Cultural values motivate a less conservative approach to measurement Factors Influencing Measurement Differences : Factors Influencing Measurement Differences Continental Europe and Japan Taxation and sources of finance are influential Tradition of commercial codes and accounting plans Tendency to report lower earnings for tax purposesFactors Influencing Measurement Differences: Factors Influencing Measurement Differences Continental Europe and Japan Users of financial information may be more concerned with balance sheet information Black and White (2003) findings Balance sheet info is more informative in Germany, Japan Income statement is more relative in the U.S. Professional influence is low due to legal requirements related to accounting Cultural values motivate a more conservative approach Global Accounting Convergence: Global Accounting Convergence IASB sets IFRS Goal is to develop comparable international standards with low cost to MNEs Provides a model for developing countries More uniform standards have been developed to aid in capital raisings and stock exchange listings Core standards program with IOSCO was completed in 1998 May 2000 – IOSCO endorsed IFRS EU will adopt IFRS in 2005 – will nonlisted companies adopt? Will the U.S. accept IFRS?