International Accounting, 7/e

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International Accounting, 7/e

• Frederick D.S. Choi
• Gary K. Meek

Chapter 2 Development and Classification
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Learning Objectives

• Identify and understand the importance of the
  eight factors that have a significant influence
  on accounting development.
• Understand the four approaches to accounting
  development found in market-oriented Western
  economies and identify countries in which each
  approach is prevalent.
• Have a basic working knowledge of accounting
  classifications and how they compare with one
  another.
• Explain the difference between the fair
  presentation and legal compliance orientations
  of accounting and identify nations in which each
  is prevalent.
• Explain why distinctions of accounting at the
  national level are becoming blurred.

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Why Study Development and Classification?

• Development
• Helps understand a nations accounting.
• Explains the differences and similarities in
  accounting around the world.
• Classification
• Helps understand why and how national accounting
  systems differ.
• Helps analyze whether these systems are
  converging or diverging.
• Are a way of viewing the world.
• Reveals what group members have in common, and
• What distinguishes groups from each other

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Development

• Sources of finance who, how many, how close?
• Equity markets
• Profits measure how well managers have run the
  company.
• Accounting is used to assess cash flows, risks,
  and to value the firm.
• Extensive disclosures.
• Banks
• Conservative earnings for creditor protection.
• Less extensive disclosures.

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Development (contin)

• Legal system
• Code law
• Laws are all-embracing.
• Accounting tends to be prescriptive and
  procedural.
• Accounting focuses on legal form.
• Accounting standards and procedures are
  incorporated into national laws.
• Common law
• Laws develop on a case-by-case basis.
• Accounting develops from experience and judgment.
• Accounting tends to be flexible, adaptive, and
  innovative.
• Accounting focuses on economic substance.
• Accounting rules are established by private
  sector professional organizations.

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Development (contin)

• Taxation
• Must companies record revenues and expenses in
  their accounts to claim them for tax purposes?
• Are financial accounting and taxation the same?
• Or are they different?
• Political and economic ties
• Accounting ideas and technologies are transferred
  through conquest, commerce, and other forces.
• Inflation
• Inflation distorts historical cost measurements.
• Countries with high inflation often require that
  companies incorporate price changes into the
  accounts.

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Development (contin)

• Level of economic development
• Affects the types of transactions and which ones
  are most prevalent in the economy which, in turn,
• Affects the accounting issues that are faced.
• Educational level
• Affects the capability for professional
  accounting training.
• Where education levels are low, countries import
  accounting training or send citizens elsewhere to
  get it.
• SUMMARY
• Several variables are closely associated.
• Common law legal system, strong equity markets,
  and separation of financial and tax accounting.
• Code law legal system, credit-based financing,
  and accounting rules that conform to tax law.
• Result is two basic orientations of accounting.
• Fair presentation
• Legal compliance

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Development (contin)

• Culture and accounting values
• Culture (Hofstede)
• Individualism vs. collectivism
• Power distance high vs. low
• Uncertainty avoidance high vs. low
• Masculinity vs. femininity
• Accounting values (Gray)
• Professionalism vs. statutory control
• Uniformity vs. flexibility
• Conservatism vs. optimism
• Secrecy vs. transparency

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Development (contin)

• Linking the two

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Classification

• Four approaches to accounting development
  (Mueller 1967)
• Macroeconomic approach
• Accounting derived from and designed to enhance
  national macroeconomic goals.
• Example Sweden
• Microeconomic approach
• Accounting derived from microeconomics.
• Maintaining physical capital
• Separation of capital and income
• Replacement costs
• Example the Netherlands
• Independent discipline approach
• Accounting derived from business practices,
  judgment, and trial-and-error.
• Examples U.K. and U.S.
• Uniform approach
• Accounting is standardized by central government
  and used as a tool for administrative control.
• Example France

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Classification (contin)

• Legal systems common law vs. code law accounting
• Common law accounting
• Oriented toward fair presentation, transparency,
  and full disclosure
• Separation between tax and financial accounting
• Accounting standard setting in private sector
• Parallels stockholder model of corporate
  governance
• Code law accounting
• Legalistic orientation, opaque with low
  disclosure
• Alignment between tax and financial accounting
• Accounting standard setting in public sector
• Parallels stakeholder model of corporate
  governance

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Classification (contin)

• Practice systems fair presentation versus legal
  compliance accounting
• Why national accounting distinctions are becoming
  blurred
• Importance of stock markets as a source of
  finance is growing.
• Dual financial reporting is becoming more common,
  particularly where duality is sanctioned.
• Some code law countries are shifting
  responsibility for accounting standard setting to
  the private sector.
• Fair presentation accounting
• Substance over form.
• Oriented toward decision needs of external
  investors.
• Helps judge managerial performance and predict
  future cash flows and profitability
• Extensive disclosures
• IFRS are aimed at fair presentation.
• Found in U.K., U.S., Netherlands and countries
  influenced by them.
• The trend for consolidated financial statements.

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Classification (contin)

• Legal compliance accounting
• Designed to satisfy government-imposed
  requirements, such as
• Calculating taxable income
• Complying with macroeconomic plan
• Conservative measurements
• Income smoothing
• Will persist in code law countries for
  individual-company financial statements

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