To: From: Re: Date: Professor Nantz Timothy Flosi U.S. GAAP vs. IFRS (CPA Exam Research Assignment #1) March 5, 2016 Financial accounting standards act as the language of business, providing capital market participants with quality, transparent, and relevant information. The two primary financial accounting standards used today are the United States Generally Accepted Accounting Principles (U.S. GAAP) and the International Financial Reporting Standards (IFRS). Although the reporting and presentation standards differ between U.S. GAAP and IFRS, the primary focus for accounting professionals are the divergences between the definition, recognition, and measurement of financial statement elements. Specific areas where major differences in accounting treatment exist include: ● Revenue Recognition ● Inventory Costing ● Recognition of Contingent Liabilities Revenue Recognition The theory that U.S. GAAP is rules-based and IFRS is principles-based is well supported by the differences in revenue recognition standards. Although new guidance has been issued aimed at converging revenue recognition standards between U.S. GAAP and IFRS, the new standards will not be in effect until 2018 (Grant Thorton, 2015). Under current U.S. GAAP, two criteria must be met to recognize revenue - it must be realized or realizable and earned. (Financial Accounting Standards Board, 1984) Although the two criteria seem clear-cut, U.S. GAAP provides guidance and exceptions tailored to the operating practices of specific industries. In contrast, the International Accounting Standards Board (IASB) Framework requires the following criteria to be met for revenue to be recognized: 1. It is probable that any future economic benefit associated with the item of revenue will flow to the entity. 2. The amount of revenue can be measured with reliability. (Deloitte, n.d., para 5) While the basic principles underlying U.S. GAAP and IFRS are similar, IFRS provides limited industry-specific guidance. As a result, the timing of revenue recognition can vary for transactions that are similar in economic nature. Public companies under U.S. GAAP are also subject to revenue recognition criteria provided by the SEC in SAB Topic 13. Following the guidelines under SAB Topic 13, the seller’s price must be fixed or determinable and collectability must be reasonably assured (SEC, 1999). Whereas Professor Nantz 2 March 5, 2016 IFRS only considers the probability of the economic benefit resulting from a transaction, including contingent revenue. This a stark contrast to U.S. GAAP where revenue related to a contingent consideration cannot be recognized until the contingency is resolved (PricewaterhouseCoopers, 2015). As a result, discrepancies in the timing of revenue recognition exist between the two standards. Inventory Costing Another area where major differences between U.S. GAAP and IFRS exist is accounting for inventories. Although U.S. GAAP and IFRS have similar definitions of inventory, there are significant differences in the allowable cost-flow assumptions. Under U.S. GAAP, companies are allowed to choose from the first-in first-out method (FIFO), the last-in first-out method (LIFO), and the average costing cost flow assumptions. In contrast, IFRS only allows for the use of FIFO and averaging costing. The difference in permissible cost-flow assumptions a can have a significant impact financial ratios including the current ratio, inventory turnover, and net profit margin (Seay, 2014). More importantly, accounting professionals must consider the tax implications should U.S. GAAP eliminate the use of LIFO in the future. Recognition of Contingent Liabilities The guidance in relation to contingency estimates provided by U.S. GAAP and IFRS highlights a fundamental difference between the two standards. In general, the criteria that require a company to record a liability for a potential loss are similar in nature. The difference in the two accounting frameworks lies within in the definition of the term “probable”. Under U.S. GAAP, “probable” is interpreted as having a high likelihood. Although there is no numeric standard, practitioners generally consider an event having a likelihood of seventy-five percent or more to be probable. Under IFRS, “probable” is interpreted as “more likely than not”, or greater than fifty-percent (PricewaterhouseCoopers, 2015). Consequently, more contingencies may meet the criteria for recognition under IFRS than under U.S. GAAP. Overall, the principles underlying U.S. GAAP and IFRS are largely similar. However, there are significant differences in revenue recognition criteria, permissible inventory costing methods, and contingent liability qualifications. As a result, accounting professionals must thoroughly understand the implications that these differences have on the elements that comprise financial statements. Works Cited Deloitte. (n.d.). IAS 18 — Revenue. International Accounting Standards Plus. Retrieved from http://www.iasplus.com/en/standards/ias/ias18 Financial Accounting Standards Board (FASB). 1984. Concepts Statement No. 5, Recognition and Measurement in Financial Statements of Business Enterprises. FASB. Retrieved from http://www.fasb.org/cs/BlobServer?blobcol=urldata&blobtable=MungoBlobs&blobkey=i d&blobwhere=1175820900391&blobheader=application%2Fpdf Grant Thornton LLP. 2015. Comparison Between U.S. GAAP and International Financial Reporting Standards. Retrieved from https://www.grantthornton.com/~/media/contentpage-files/audit/pdfs/white-papers/GTUS-Comparison-Document-April-2015.ashx PricewaterhouseCoopers. 2012. IFRS and US GAAP: Similarities and Differences. PWC Accounting Guide Series. Retrieved from https://www.pwc.com/us/en/cfodirect/ publications/accounting-guides/ifrs-and-us-gaap-similarities-and-differences.html Seay, S. S. (2014). The Economic Impact of IFRS--a Financial Analysis Perspective. Academy of Accounting and Financial Studies Journal, 18(2), 119+. Retrieved from http://0go.galegroup.com.librus.hccs.edu/ps/i.do?id=GALE%7CA370031054&v=2.1&u=txshrac d2512&it=r&p=ITBC&sw=w&asid=27b63d5c820030d1cbf64d069a5e508f Securities and Exchange Commission. 1999. Topic 13: Revenue Recognition. Codification of Staff Accounting Bulletins. Retrieved from https://www.sec.gov/interps/account/ sabcodet13.htm
