Essay on "Advanced Financial Reporting and Theory"

Essay 6 pages (1621 words) Sources: 8

[EXCERPT] . . . .

IFRS

In a speech on February 9, 2011 in Brussels, the new chairman of the International Accounting Standards Board (IASB) Hans Hoogervorst discusses the issue of the role that financial reporting plays in society. His points were that financial reporting is focused on investors first and other stakeholders were secondary, and that transparency is the primary objective of financial reporting regulations and that economic stability flows from transparency. He disputes the notion that transparency and stability are mutually exclusive objectives, arguing rather that transparency contributes to economic stability. This means that financial statements produced under consistent, transparent methodologies are valuable contributors to overall economic stability.

Transparency

As Hoogervorst notes, one of the most important contributions that financial statements produced under International Financial Reporting Standards (IFRS) make is that they provide transparency in the statements. The statements are made public, and every company is subject to the same rules and the same methodologies that govern the compilation of those statements.

Transparency is an interesting issue with respect to reporting requirements. Hoogervorst (2011) in another speech in China that it is necessary to "maintain the highest levels of transparency in financial reporting." Accounting systems such as IFRS are essential to this for a number of reasons. At the fundamental level, by insisting that statements are produced according to consistent methodology, these standards allow investors and other stakeholders to understand the ways that the statements are rendered an

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d compiled. Investors can analyze the statements effectively because they are the same across companies in an industry, and within one company over time. Because the IFRS requires that changes to methodologies be noted in the notes to the financial statements, changes that affect the statements are noted, providing transparency not only about the rules that are used but the changes to those rules.

There are criticisms, however, regarding the level of transparency that IFRS provides. Bruce (2011) argues that transparency in financial standards is taken for granted, to the point where the issue does not receive much discussion at conferences dealing with financial reporting issues. Hoogervorst and others point to examples of accounting fraud as reasons for IFRS and other systems of implementing transparency, but these systems did not prevent the fraud examples such as Enron. The frauds prevented by transparency are, of course, the ones that never occurred in the first place. As such, the effectiveness of the transparency afforded by financial reporting requirements is difficult to discern. A lack of fraud or a lack of opaqueness is something that cannot be directly attributed to strict financial reporting requirements, or simply the lack of attempt. And the lack of attempt itself may or may not derive from the controls provided by the requirements. Therefore, the value of IFRS in improving transparency and preventing fraud is open to interpretation.

As Hoogervorst notes, the purpose of financial reporting standards is to deliver to the investor (or other stakeholder) "as faithful a picture as possible of a company or organization and that the financial statements should contain information that is as unbiased and reliable as possible." He notes, however, that the statements are produced primarily for investors. If the statements were produced for other stakeholders, they may be prepared differently or contain different information. This criticism is echoed by Gray (1992), who pointed out that even if financial statements are transparent, they ignore the natural environment.

Economic Stability

This flaw in the IFRS and other accounting standards systems weakens not only the argument that they are transparent but also the argument that Hoogervorst makes that financial statements contribute to economic stability. In theory, they contribute to economic stability, but only if the financial statements do, as Hoogervorst argues, paint as accurate a picture as possible of the firm's financial position. Gray is among those who argue that non-financial externalities are inadequately reported. Some firms do publish sustainability reports, but there are no standards for these reports. Thus, they are not reliable for investors, and although other stakeholders may appreciate the publication of such reports they are no more reliable for other stakeholders either.

The economic stability argument that Hoogervorst makes is based on the role that transparency plays in improving both liquidity and the diversification of capital flows around the world. He argues that "transparency is a necessary precondition of stability," and is right on that count, but IFRS does not necessarily mean transparent financial statements. Poor transparency with respect to the financial products at the heart of the global economic meltdown highlight the need for IFRS to be kept up-to-date, as doing so could have resulted in such products being recorded differently on bank balance sheets. The externalities on the natural environment are another example of how the IFRS offers incomplete or inadequate transparency and therefore is unlikely to deliver economic stability as a result.

Analysis

Barth, Landsman and Lang (2008) conducted a study in which they examined the impact of international accounting standards (IAS) in 21 countries and found that those nations with international calibre standards performed better than those countries that did not on a number of measures. These included earnings management, loss recognition, value reference of accounting amounts. Firms in these countries also show improvement in the quality of their statements from before and after the adoption period (Ibid).

This study shows that indeed IAS delivers on improved transparency, as it should. Hoogervorst is right that transparency is the most important objective of financial reporting. Investors and creditors use those statements to analyze the financial condition of companies, and this demands consistent preparation methodologies and transparent outputs that accurately reflect the financial condition of the company. The most important consideration when designing accounting standards should be to improve the quality of financial statements and to make it more difficult for firms to obfuscate their financial condition. It is not necessary that these accounting standards take a lay audience into consideration, however. The statements should be designed for their most frequent and important users in the investment community.

I do not necessarily agree, however, that financial reporting standards should be oriented towards economic stability an objective. While Hoogervorst is right that the two objectives are not mutually exclusive, the issue of economic stability goes far beyond the underlying conditions to which financial statements can contribute. Consider what investors get out of statements -- good statements will improve liquidity and the robustness of capital markets. IFRS in particular is important because it is becoming a global standard, soon to replace or converge with GAAP in the UK, U.S. And Canada, and hopefully to soon be adopted in China as well.

Global economic stability, however, does not flow directly from strong, liquid capital markers. Such markets are far from immune from economic volatility, as we have seen in the past few years. The robustness of American capital markets and the ability of banks globally to invest in garbage MBSs was a contributing factor in making the global economy worse during the crisis. Economic stability is the culmination of a number of factors including demographic, geographic, regulatory and political factors. The actual potential contribution that financial statements can make is insignificant in light of the myriad factors that contribute to global economic stability.

In general, the incremental value of IFRS specifically to users of financial statements is minimal. Investment decisions are not often made between stable Western assets and unstable developing world assets. While there are significant differences between accounting systems in the developed world, all are robust and IFRS is not specifically superior to any other system. IFRS does offer value to investors over nations where accounting standards do not meet Western standards, of course, because it is more transparent.

Conclusion

At its most fundamental, IFRS should be focused on transparency in reporting to the investor. This will guide the rules in a specific direction that… READ MORE

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Quoted Instructions for "Advanced Financial Reporting and Theory" Assignment:

“

Below are quotations from various sources on the role of financial reporting in the global marketplace.

There are a number of issues in this assignment, and a number of ways to approach a critical analysis.

Assignment Requirements:

Critically assess how the use of IFRSs contributes to increased transparency for stakeholders, and the extent to which IFRSs can influence economic stability. You should develop your arguments in the context of appropriate accounting theory.

We do not require a description of the contents of any individual accounting standard, but a critical analysis in general terms of whether you consider transparency and stability to be the role of IFRSs , and if these qualities help the decision-making process for users, particularly in times of financial uncertainty.

This is an assignment topic which deals with a current issue. You will be expected to include in your work references to textbooks, journal articles and internet articles (from reputable sources only ***** no Wikipedia please!).

Word limit 2000 words

Pat Mould September 2011

Below are extracts from speeches by Hans Hoogervorst, the new Chairman of the IASB :

*****It is hard to underestimate the public interest of IFRS. IFRS is already the common business language of well over 100 nations. It is indeed the only set of standards that has the potential to be used all over the world. IFRS is an engine for economic modernisation, linking industrialized nations with growth markets around the world. Only IFRS can unleash the full potential of a truly global capital market. It can make an enormous contribution to economic growth by enhancing transparency and liquidity around the world...

The second hotly debated question is the question whether the purpose of financial reporting should primarily be to provide transparency, or that it should also serve the goal of stability.

In this debate, transparency and stability are often juxtaposed as if they were conflicting goals. I think this is essentially a false contradiction. In my view, it is clear that transparency is a necessary precondition of stability. The current credit crisis has to a large extent been caused by a lack of transparency in the financial markets. Huge risks were allowed to build up on and off balance sheet without being noticed. Without proper transparency about risks, stability is bound to collapse in the end. Stability is not the same as transparency, but there can be no durable stability without transparency.*****

Conference organised by the European Commission Financial Reporting and Auditing - A time for change?

The objectives of financial reporting

Speech by Hans Hoogervorst, Brussels 9 February 2011

http://www.afm.nl/layouts/afm/default.aspx~/media/files/lezingen/2011/speech-hh-ec-financial-reporting-auditing.ashx , accessed 26 August 2011

*****.. it is hard to overestimate the importance of maintaining public trust in high quality financial reporting. As both a policy maker and a regulator, I have devoted most of my career to the pursuit of the public interest. The primary public interest that we serve is to provide investors and other market participants with financial information to make investment decisions. But the public interest role of accounting standards is deeper than this definition might imply. Sound economies rely on the provision of faithful, reliable financial information to maintain public trust and ensure the flow of capital to fuel growth.

The recent financial crisis provided a real-world example of what can happen when confidence is lost in published financial information.*****

Speech by Hans Hoogervorst in Beijing: China and IFRS ***** an opportunity for leadership in global financial reporting

29 July 2011

http://www.ifrs.org/News/Announcements+and+Speeches/Hans+Hoogervorst+Beijing+speech+July+2011.htm , accessed 26 August 2011

Other resources to get you started:

IAS plus (Deloittes) Robert Bruce provides a commentary on the speech here:

http://www.iasplus.com/bruce/column110211.htm, accessed 28 August 2011

Journal of Accounting Research

Volume 46, Issue 3, pages 467*****498, June 2008

International Accounting Standards and Accounting Quality

MARY E. BARTH1 WAYNE R. LANDSMAN2, MARK H. LANG2

http://onlinelibrary.wiley.com/doi/10.1111/j.1475-679X.2008.00287.x/full

Accounting, Organizations and Society, Vol. 17,No. 5,pp. 399---425,1992.

ACCOUNTING AND ENVIRONMENTALISM: AN EXPLORATION OF THE

CHAI.I.ENGE OF GENTLY ACCOUNTING FOR ACCOUNTABILITY,

TRANSPARENCY AND SUSTAINABILITY*

ROB GRAY

http://www.sciencedirect.com/science/article/pii/036136829290038T

8. Assessment criteria for coursework

Coursework assignment should be approximately 2000 words in length and appropriately annotated and referenced.

For the assessment of this assignment the following general criteria will be used:

For a mark of 70% and above:

ï‚§ The discussion provides an exceptional critical evaluation of all of the main issues involved and provides a balanced and well presented discussion incorporating consideration of all the views expressed in the articles and the quotation.

ï‚§ The evaluation and critical analysis demonstrates both competence and understanding together with creativity and originality. The discussion also arrives at a considered and balanced conclusion.

ï‚§ There is evidence of solid research using a variety of media, and the debate is topical and considers the issues in depth. Evidence of wider reading is apparent.

ï‚§ Appropriate referencing and presentation skills are illustrated

For a mark of 60% - 69%:

ï‚§ The discussion provided a thorough and competent financial evaluation of the issues and provides a balanced and well presented discussion incorporating consideration of all the views expressed in the articles and the quotation.

ï‚§ A competent analytical approach is taken within the context of a balanced and well-presented discussion. There is also relevant referencing, with the discussion containing no significant errors and/or omissions.

ï‚§ Appropriate referencing and presentation skills are illustrated

For a mark of 50% - 59%:

ï‚§ The discussion lacks any critical insight.

ï‚§ No attempt is made to provide a critique of the views stated. Only limited consideration of all the views expressed is provided in the report, and analysis is lacking.

ï‚§ Reading and research whilst balanced appears nonetheless limited.

ï‚§ Appropriate presentation skills are illustrated

For a mark of 40% - 49%:

ï‚§ The discussion provides an adequate analysis of the issues. However the overall discussion is mainly descriptive and lacks any depth of analysis.

ï‚§ In addition the assignment is somewhat unstructured with no critical comment provided.

ï‚§ There is little evidence of reading/research, and concluding comments are somewhat limited and inconclusive.

ï‚§ Limited presentation skills are illustrated

For a mark of 30% - 39%:

ï‚§ The discussion fails to provide any adequate evaluation.

ï‚§ The assignment is limited and unstructured and the analysis poor.

ï‚§ There is little evidence of understanding with little or no evidence of reading/research.

ï‚§ Poor presentation skills are illustrated

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