Working Paper # 01-14
Haub School of Business Working Paper Series
International Accounting Standards:
The History and Inevitable Future
Thomas M. Brinker, Jr., J.D., M.S., C.P.A.
Associate Professor of Accounting
W. Richard Sherman, J.D., LL.M., C.P.A.
Associate Professor of Accounting
St. Joseph’s University
Haub School of Business
Divisions: 1) Accounting; 2) International Business
Over the past decade, technological advances, namely the Internet, have helped many
businesses become global competitors and have made international investing more appealing to stockholders around the world. However, worldwide diversity in financial accounting and reporting practices has resulted in dysfunctional information for companies and investors looking to go “global”. This basic lack of comparability may result in poor decision making across the
board. This article gives a comprehensive examination of the differences in modern international accounting practices, the causes of such diversity, and the obstacles which stand in the way of accounting harmonization in our increasingly global economy.
The primary reason for accounting’s existence is that it satisfies a need for information.
Accounting is generally defined as the language of business but what happens when there is more than one accounting language? And what if each language has its own eccentricities and nuances? Such is the case with international accounting. Each country has its own set of acceptable accounting regulations (Generally Accepted Accounting Principles or GAAP) in the domestic business community. While there may be significant commonalities between and among countries' GAAPs, each nation has the ability to impose its own set of rules on companies doing business within its borders. This is fine in a purely domestic setting. After all, the investors and creditors of a country will be able to understand their own accounting and reporting practices and will be able to use domestic financial statements to make sound business decisions. However, when these same investors or creditors wish to invest or lend internationally or when businesses seek capital from other countries, the differences in national generally accepted accounting principles (GAAP) can make these efforts nearly impossible. Access to cross-border capital providers is closed on the simple basis of ignorance.
The Need for International Accounting Standards
There is an obvious need to resolve the diversity in accounting and financial accounting
practices. Corporate executive officers (CEOs) and corporate financial officers (CFOs) in
multinational enterprises (MNEs) conduct business in a global environment. These executives
are faced daily with the varying rules governing accounting in the countries in which their
businesses operate. A uniform way of maintaining financial information and reporting would
resolve many of the interpretation issues they currently face.
Companies around the world are looking to expand their capital in foreign countries.
However, to effectively raise capital in a foreign market, a MNE's financial statements must be
understandable to foreign investors. One solution is to prepare more than one set of financial
statements (so-called "secondary financial statements"), using the language, currency, and
accounting principles that are generally accepted in those foreign markets. Yet, the costs of such
a solution are prohibitively high. A more effective solution would be to create and use a
commonly acceptable set of reporting practices, enabling MNEs to cross-list their securities on
various stock exchanges throughout the world, engage in trans-border financing activities, and
satisfy the potential information needs of creditors and investors wherever they are located.
Indeed, the “linkage of worldwide capital markets is one of the driving forces behind the
movement toward a single set of accounting rules” (Wyatt & Yospe, 1993).
The International Accounting Standards Committee (IASC), the organization in the lead
in establishing international accounting standards (IAS), believes that having such standards will
1) Lower cost by requiring business to have only one set of financial statements,
2) Lower the confusion in interpreting different countries’ reports,
3) Increase credibility of accounting and financial statements in general, and
4) Help developing countries create a national standard that is useful in today’s international
world. (IASC, 1999a)
Why Isn't There Just One GAAP?
Given the obvious benefits of having a uniform set of reporting standards - the potential savings from not having to keep records in accordance with multiple sets of accounting rules,
access to more capital markets, information creditability and understandability, and lowered
capital costs (Pacter, 1998) - why do accounting and financial reporting differ almost everywhere?
Are these differences merely idiosyncratic - or is there a reason for this diversity?
Quite clearly, countries do not adopt particular accounting standards just to be different. Rather, a country's (or region's or cluster's) reporting standards represent reactions to and
reflections of several major environmental variables. These environmental factors are what
cause the diversity in international accounting - and these variables present obstacles to the
adoption of a single set of international accounting standards.
A first environmental factor that impacts the type of accounting that is required under "home country GAAP" is the relationship that has developed between businesses and the
providers of capital. Mueller, et al., (1997) suggest that countries fit into three different
relationship patterns. If the investor and creditor group in a country has become large and
diverse, financial statements tend to be oriented towards the information needs of this group.
The widespread ownership is usually uninvolved in the day-to-day running of the business.
Therefore, the objective of the financial statements is to describe the financial position of a
business and the results of its recent operations. This user orientation assists investors and
creditors in making sound investment decisions. The United States and the United Kingdom are
excellent examples of this relationship pattern.
Another relationship scenario occurs where most of the capital needs of domestic businesses are satisfied by a small number of very large banks. Personal contact is the critical
component in establishing a banking relationship in this environment. Hence, financial
statements are designed to protect the creditors. Some countries in this situation include
Switzerland, Germany, and Japan.
A third relationship pattern, where the nation’s government largely controls natural
resources, can be found in France and Sweden. Financial accounting rules are compliance
oriented, with accounting focused on decision-making by government planners. The uniformity
of accounting and reporting practices act as the facilitators for better governmental decisions.
Accounting standards exists to help the government make clear decisions about future resource
allocation. With national standards centered on three different foci (investor and creditors, tax collection and creditor protection, or macroeconomic policies), it seems natural for diversity to
Another environmental factor impacting the development of reporting standards is the level of inflation a country has experienced. If a country has not experienced significant inflation, the historical cost principle forms the unit of measurement for accounting. The historical cost
principle assumes that the dollar (for U.S. companies) does not change in value. It is as stable a unit of measurement as is a gallon or an inch for accounting purposes. In economies
experiencing spiral inflationary rates, such as most of the countries in Latin America, this
standard is replaced with principles that deal with the changing value of the nation’s currency.
When examining a country’s business environment, one must also consider the size and
complexity of domestic business enterprises, the sophistication of the management and financial
community, and the overall general levels of education. Countries with larger businesses require
more highly educated accountants to deal with the more sophisticated business operations on the
financial statements. In addition, if the country’s general education level is low, users of
accounting information will not demand a more sophisticated set of financial statements.
Unfortunately, highly skilled accountants are typically unavailable in countries where general
education levels are low, unless that country imports accounting talent or sends its brightest
students elsewhere for training. Mueller, et al., (1997) are quick to point out that “if accounting
responds to information needs, then accounting in developing countries may very well be at an
appropriate level of sophistication under the circumstances . . . as long as accounting satisfies the
needs of its user groups, it is doing what it is supposed to do.”
A final environmental variable that effects accounting development is culture. Although research is sparse and inconclusive, most analysts believe there is a direct correlation between
culture and accounting. Recent accounting research has attempted to link culture to components
of accounting concepts, standards, and practices. Intuitively, diversity in accounting practices are
understandable since national accounting standards develop around what a country finds
important, which differs based on the cultures of individual countries, races, religions,
geographic areas, and other unique features.
Problems With Having Diversity in GAAP
The differences in national standards can be seen worldwide. This diversity in GAAP effects corporate managements of multinational corporations (MNCs). Different sets of financial
statements must be prepared in accordance with each country’s standards, which is a costly
proposition. MNCs also sense that accounting diversity affects competitiveness. MNCs are
required to issue financial statements in compliance with national GAAP and Securities
regulations, limiting the possibilities for raising capital. The significant differences in worldwide
GAAP can create significant inequalities in acquiring, disposing, or operating a company. The
current atmosphere of accounting diversification creates an “unlevel playing field”, creating
barriers and possible retaliation.
Investors are adversely affected because accounting diversification limits international investment opportunity. Global investing is difficult when investors cannot understand the
financial statements of a foreign company. Investment analysts experience interpretation issues
due to worldwide differences in accounting. If investors, analysts, and underwriters experience
difficulty with GAAP diversity, financial markets are operating inefficiently with investors
receiving less than optimal returns on their investments.
Stock markets feel the effect when looking for foreign companies to list on their exchanges. Accounting and disclosure requirements vary extensively for listing a company on a
foreign stock exchange. Most companies will not make the plethora of changes necessary to list
on a foreign stock exchange because of the increased costs to prepare the new financial
statements. As a result, domestic stock exchanges do not represent all global investment
Accounting professionals are perceived as seeing a positive effect of diversity; the complexity and confusion surrounding competing and conflicting GAAP produces an increased
need for accountants, and, therefore, higher fees. Because GAAP diversity complicates cross-
border auditing, a cynical view would see accountants as welcoming these differences inasmuch
as they would generate increased audit fees. However, seemingly against their own best interests,
accounting professionals are pushing for the acceptance of a set of uniform accounting standards
- specifically, of the International Accounting Standards (IAS).
Current Harmonization Scenarios
The harmonization of accounting, auditing, and financial reporting is multi-dimensional. The current harmonization schemes are varied. However, three major harmonization trends have
When two countries have similar accounting systems, the regulators of the countries may
try to work on a bilateral level to gain mutual recognition. The market regulators of the different countries engage in negotiations seeking mutual recognition of each other’s accounting standards
to facilitate multinational offerings. The multi-jurisdictional disclosure system between the U.S. and Canada is an example of this system. Bilateral agreements only work for countries with
similar accounting systems and reporting standards. Otherwise, the investment of both time and
money to reconcile a set of financial statements may prove cost prohibitive (i.e., Japan and the
U.S. have incompatible accounting systems). Although a bilateral arrangement makes life easier
for securities regulators with its reciprocal acceptance of domestically prepared financial
statements (Wyatt & Yospe, 1993), it does not help investors and creditors, who still must
decipher the regulations of another country’s accounting system.
Increased economic cooperation and regional trade barrier reductions drive regional cooperation. The objectives of a regional level of cooperation include: increasing free movement of goods, labor, and capital; eliminating or reducing trade barriers; and harmonizing accounting
reporting requirements on the respective countries' stock exchanges (Hora & Tondkar, 1997).
The North American Free Trade Agreement (NAFTA), the Association of Southeast Asian
Nations (ASEAN), and the European Union (EU) are all examples of regional level responses to
accounting diversity. The accounting standards setting committees of countries involved in
regional co-operations attempt to create accounting standards that will be accepted in all member states. Some regional areas, such as ASEAN, have decided to de-emphasize their focus of
accounting harmonization, leaving that difficult task to the IASC (discussed later). Instead,
ASEAN is promoting regional cooperation on issues of accounting education and the
development of training and professional standards for accountants in its member nations. This concept of a regional cooperation or mutual recognition emphasizes the political clout of
regional economies while de-emphasizing the roles of professional accountants and their organizations.
The third scenario places the responsibility of international harmonization with private
international accounting standard setting bodies such as the International Accounting Standards Committee (IASC) and the International Federation of Accountants (IFAC). However, there is some question as to who should lead and who should follow - the standard-setters or the accountants. Wyatt & Yospe (1993) claim that “many believe a quality body of international accounting standards, having relatively few acceptable alternatives and requiring disclosure of information investors and creditors reasonably need to make investment decisions, should be developed through a collaborative effort of many countries’ accounting professions.” Under this view, the professional groups would make the internal agreements on key issues and then negotiate acceptance with regulators and other political bodies.
These approaches - bilateral, regional, international - are not necessarily intermediate and
sequential steps on the way to a single set of worldwide accounting standards. Indeed, they might actually be counter-productive to such a movement. Often, bilateral and regional approaches may prove more feasible than a set of IAS. As a result, the potential exists for a competitive rather than a complementary effect on global harmonization. As J.H. Denman observes, cooperation among national standard setters and governments on a regional basis “may be threatening progress towards internationalization and, specifically, threatening the existence of the IASC and delaying the internationalization of financial reporting” (Hora & Tondkar, 1997).
Organizations Trying to Solve the Problems
Each nation and region has created organizations to answer questions on accounting practices. On the international level, however, there are only a few key players in the
development of international accounting standards.
International Accounting Standards Committee
The International Accounting Standards Committee (IASC) was formed in 1973 to develop worldwide accounting standards. The IASC, comprised of 143 professional accountancy
organizations in 104 countries worldwide, is trying to harmonize the world’s accounting
standards and eliminate those differences in national practices that cannot be explained by the
environmental variables previously discussed. The member countries see the IASC as an
effective voice for defining acceptable “world class” accounting principles (see Table 1 for a
When formulating an international accounting standard, the IASC has two main objectives. The first is to formulate and publish accounting standards in the public interest that
are to be observed in the presentation of financial statements and to promote their worldwide
acceptance and observance (IASC, 1999b). Its second objective is to work for the general
improvement and harmonization of regulations, accounting standards, and procedures relating to
the presentation of financial statements. In short, the IASC is simply trying to produce
international accounting standards that will be accepted and used throughout the world. While
this may seem to be an overwhelming task, general acceptance is critical if the IAS are to be
used for cross border-listings.
The IASC follows a conceptual framework developed for preparation and presentation of financial statements. This conceptual framework helps the Committee in developing future IAS,