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Toward Global Generally Accepted Accounting Principles
Mahmoud Abu-Raddaha
William Schneider
Rick Hayes
John Karayan
Ernst & Young Ramallah, West Bank
The Maastricht School of Management, Netherlands
California State University, Los Angeles
California State Polytechnic University, Pomona
Accountants worldwide inhabit a Tower of Babel. If accounting is the practical
language of economics – that is, the way stories about contracts and exchange
activities are told — a uniform set of syntax and grammar is required to ensure
that high quality communication occurs. This happens for organizations operating
within a single country, because they issue financial statements in accordance
with that country’s Generally Accepted Accounting Principles (GAAP). However,
despite the marked integration of the world’s economy in recent years, GAAP
continues to vary substantially from country to country. This can cause a
multinational organization to report dramatically different accounting results to
stakeholders in different countries simply because the countries in which the
organization operates have differing financial accounting rules. This article
proposes a comprehensive conceptual model as a basis for the development of
Global GAAP.
Introduction
In 1994 Daimler Benz (now known as Daimler Chrysler) properly reported $895 million
in profit to its European shareholders. It also properly reported $1,052 million in profit to the
U.S. capital markets. This $150+ million swing resulted purely from differences between
German and American GAAP. Albeit understandable under the circumstances, such big
differences may undermine the credibility of accounting information (Speidell & Bavishi, 1998;
Bloom, 1996; Bloomer, 1996). The Secretary-General of the International Accounting
Standards Committee (IASC) presented the issue as:
…Multinational companies have been with us for a long time. But economic
trends are bringing more and more incentives to encourage genuinely international
operation. Linked with this is the increasingly global nature of capital markets. If
businesses are multinational in scope, it is likely that they will wish and need to
raise their capital in many different countries. They are assisted in this by
increasing competition among the capital markets, each anxious to increase its
share of world business.
However, the case for uniform accounting goes much deeper. The issue is
fundamentally about the credibility of accounting. If a company reports dramatically
different results for its operations, for a given year, because it has to publish
results according to the rules in different countries, confidence in accounting will
suffer….(Schweikart et al., 1996)
As the existence of an organization like the IASC suggests, steps are being taken to
harmonize country-to-country differences into a set of more globally accepted accounting
principles (See, e.g., Kelly, 1999; Nobes, 1996; Roussey, 1994). However, recent research
(e.g., Epstein & Birchard, 1999) suggests that this approach may not be sufficient, because
changes in the world’s economy are making financial reporting in accordance with current
GAAP less and less adequate to meet the needs of key users of such information (see also
Beresford, 1999; Fleming, 1996; AICPA, 1994; Goulty, 1991). In developing Global GAAP it
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thus may be important to first identify generally accepted information objectives which can
then be used to develop descriptive identification, measurement, and disclosure guidance for
accountants dealing with multinational organizations.
A Communication for Accountability Model
The model proposed in Figure 1 is an attempt to identify such information objectives. It
suggests that financial information is part of a comprehensive communication scheme with the
objective of providing informative, accessible data which users can structure into reports to
meet their unique needs (cf. Green & Spaul, 1997; Hague, 1997). In this way, it is more
comprehensive in scope than that underlying almost all countries’ GAAP. Among other things,
the new model signals a change in focus from company controlled release of reports, based
on a set of prescriptions contained in current GAAP, to a more opened, flexible communication
system based on notions of generally accepted information objectives.
Figure 1
Company
Management
Disaggregated data
Based on Generally Accepted Information Objectives (GAIO)
Financial
Non-financial
Current
Real time
Forward-looking
On line Reporting of Data
Regulators
Feedback
Framework,
Globally or/and
Nationally
Users
Conversion
Third Party
Algorithms
Aggregation of Data
User Specified Reporting
Decisions
Feedback
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The proposed model is based on three major considerations. The first is that accounting
is the practical language of economics (and business). It provides one set of measures of entity
and management performance. Also, it is one of the key inputs for decision makers throughout
the capital market system which allocates financial resources worldwide. In essence accounting is about communication. The task therefore should be the development of the objectives
and methods of communication that inform. Thus, unlike current GAAP, reporting is an activity
that lies outside the model: accounting reports are prepared by users (that is, the consumers
of accounting information) rather than received as a product, delivered by the organizations
under scrutiny, in a “one size fits all” structure.
The second major consideration is that the business environment is being shaped by at
least three important factors:
(a) the rapid growth of international trade;
(b) the globalisation of capital and commercial markets; and
(c) the fact that the peoples, enterprises, and nations of the world are much more
interdependent economically than ever before.
Third, the information provided by accounting should facilitate international trade and
capital flows, not hamper them. It should inform, not just report. More importantly, the
information demands of both domestic and international financing, and other commercial
relationships, have to be satisfied. This typically means going beyond national expectations
and customs in providing financial reports. The ultimate goal is the satisfaction of all
stakeholders’ information needs, in both the literal and figurative meaning of the word “globally”.
This kind of model is unlikely to find ready acceptance. One reason is that, traditionally,
GAAP has been normative. Rule makers have assumed that they knew the desired state to
be achieved and that they knew how to achieve it. The suggested model challenges this.
Another reason is that every country has its own set of economic, political, regulatory, and
social priorities. A country’s accounting profession has to respond to those priorities first
before attending to international concerns. (e.g., Wilson, 1998; Gray & Roberts, 1991.) Other
priorities, including international matters, may be lowered as a consequence. Also, national
standard-setting structures cover a spectrum from predominately government-set standards
(such as in France) to those predominantly set by the private sector (such as in the U.S.). It
may be extremely difficult to bring these diverse structures into agreement on anything,
including the value of the proposed model and process (Goetty, 1991).
There are factors, however, suggesting that the proposed model may indicate future
trends. The economic and business environment throughout the world is becoming more
complex and sophisticated. Technology is changing rapidly and this constantly gives rise to
new products and services. These in turn form the basis for new economic and business
activities. As a result, information requirements of capital market also keep changing
(Wallman, 1997). Standards tend to lag behind new development, not the least of which
because changes tend to result from lengthy due process procedures. This suggests that
there would usually be a situation where some important information requirements are not
covered by the existing accounting standards.
This may cause a steady pressure to expand financial reporting. Because reporting is not
free, any improvements should occur only after considering the relative costs and benefits. A
practical balance should be achieved in weighing the costs and benefits of information. Note
that it is not possible to accurately measure many of the costs and benefits of improved or
alternative disclosure schemes, especially in a global context. Two of the most significant
costs to GAAP traditionalists inherent in the proposed model are:
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• an explicit shift from valuing reliable information more highly than relevant
information; and
• a shift from exercising power by establishing prescriptive or proscriptive
identification, measurement, and reporting standards to creating a more
descriptive, permissive set of guides to improve communication based on
known information needs.
Accounting: It's About Communication
Communication for accountability is the main purpose of financial reporting (Inanga,
1991). Financial reporting is the main way that management discharges this responsibility. It
is part of the communication process with stakeholders initiated by directors and managers
regarding the quantitative and qualitative performance of the entity, along with their qualitative
assessment of the past performance and the future direction of the enterprise. Financial
accounting has developed over the last 500 years to report the financial results for outsiders
(AICAPA, 1994). It relies heavily in reporting reliable data, even though it leaves a lot of
relevant data unrecorded (such as the current value of assets, intellectual capital, and brands).
Moreover, the system has become a limited tool for giving shareholders and financial analysts
the information they need for their judgments regarding the future performance of the
company and its stock prices. This is because most assets are listed not at value but at
historical cost, while many others are not valued at all.
Generally the demand for accountability information arises from a need by stakeholders
to know the actions taken by enterprise managers. A general definition of “accountability
information” is reporting “…on the control and uses of resources by those accountable for their
control and use to those to whom they are accountable” (Inanga, 1991). Accountability
information covers a wide variety of accounting dimensions. The most traditional use of
accounting for these purposes is to fulfill stewardship objectives. This involves confirming that
corporate resources actually exist, that they have been used for legitimate and legal purposes
where utilized during a period, and that assets and resources have been accounted for in a
proper way. Auditors play an important role in this area by verifying and validating the
enterprise’s stewardship reports. Income reporting also fulfills an accountability role because
financial reports show the distribution of the enterprise’s resources to the various parties
involved, and net income indicates the accounting profits available for distribution and
reinvestment.
In general terms, a conceptual framework is a statement of generally accepted principles,
which form the frame of reference for a particular field of enquiry. In terms of financial reporting,
these principles provide the basis for both the development of new reporting practices and the
evaluation of existing ones. Therefore, a conceptual framework should set out the rationale
that underlies why, what, and how something is done. The problem with the current approach
to GAAP may be that it is based on a set of unexamined and untested assumptions about what
should be communicated and how (Inanga, 1991).
Managers should develop a new strategy for corporate accounting reporting: first, by
adopting a new philosophy of reporting, and next, by changing the substance of what they
report to the outsiders. In short, they should create a communications strategy based on
reporting useful information for users, telling their story via numbers. Corporate communication should give outsiders a view of the company “through the eyes of management” (AICPA,
1994). The old accounting measures, based on bookkeeping principles now 500 years old,
do not suffice in today’s competitive, global markets (Epstein & Birchard, 1999).
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These authors argue that the tradition of management has been to hold most information
close to the vest. That was a good strategy when high-level performance information gave the
company a competitive advantage. However, this policy today may work in the opposite way:
it blocks the deepening of business relationships and suppresses feedback that promotes
improvements (Gearin & Khandelwal, 1995).
The World Wide Web allows companies to disseminate data immediately, at almost no
additional cost. That helps address a long standing compliant by financial analysts that
performance data arrives, far too late to be of use. With a few clicks, users can surf down
through an organization’s web site to find financial and non-financial figures that most closely
suits their information needs (Epstein & Birchard, 1999). This suggests that managers should
expand their role beyond merely being stewards of the financial figures to become stewards
of performance measures. Epstein and Birchard argue that managers spend too little time
examining how they could use data for gaining an advantage through both internal reporting
and public accountability. They should be managing disclosure as a competitive opportunity
and should start by making a more transparent communications strategy a critical component
of corporate strategy. That does not necessary mean the disclosure should follow a new
format. Instead, it should include entirely new measurement information.
With information systems today, managers can build an accountable organization. Figure
2 below illustrates this transition. These systems give managers new opportunities to expand
the measurement and control function to many categories of performance. The current
ongoing development of Extensible Financial Reporting Markup Language (XFRML) suggests a significant change in what can be reported, how it can be reported, and what users
can do with what is reported is on the horizon (see Green & Spaul, 1997).
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Figure 2: Accoutability and Communication
Management
Corporate Strategy
Performance Measurement
Traditional
New Measures
Corporate
Communication
Financial Measurement
Non-Financial Measures
Financial Statements
Cycle Time, Satisfaction
Accountability
Management Systems
Targets, Pay, Incentives...
Reporting
External & Internal
Pressures on, and Obstacles To, Global Gaap
Fall 2000
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The global economy is currently characterized by a new economic and corporate world
in which national boundaries are losing their importance. Figure 3 suggests that enormous
pressures are being exerted on traditional reporting models and structures, and that there is
significant resistance to the development and imposition of global standards at the national
level.
Figure 3: Pressures for and Constraints on GGAFAP Development
International
Economic and
Political
Interdependences
National Self Interest
Foreign Investment
and Multinational
Companies
GGAFAP
Technological Change
Internationalisation
of Financial Markets
One of a multinational corporation’s key objectives is to maximize shareholder wealth,
subject to environmental, regulatory, and ethical constraints. The objective is sometimes
difficult to achieve if managers decide to maximize their own utility functions. This is the classic
agency problem, where the goals of shareholders might conflict with those of the managers.
The problem may be more frequent in the case of multinational corporations, where activities
in a single country often are focus in a single subsidiaries whose managers may be more
inclined to maximize the value of their respective subsidiaries. The multinational corporation
calls for specific performance evaluation and control techniques to alleviate the potential
agency problems that arise from the divergent interests of subsidiaries and the multinational
corporations. It is also calls for specific accounting standards to deal with the unique pressures
of accountability from domestic and foreign interest group. Accordingly, Gray and Roberts
(1991) argued that there is a case for standards applicable to multinational corporations
(MNCs) as follows:
…The present lack of consistency in MNC accountability and the proliferation
of national standards may lead to the conclusion that worldwide harmonization of
MNC reporting - disclosure and measurement - is needed. Equally, there may be
a major priority for international (domestic) enterprises with no foreign operations.
A major feature of recent times has been rapid technological changes, with special
reference to information technology and organizational innovation. New organizational
approaches, including just-in-time, emphasizing flexibility, communication, coordination and
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quality, have required changes towards a greater decentralization of decision-making with the
focus on cooperation and networking rather than exercise of hierarchical authority. MNCs
have been at the forefront of these developments, leading to substantial cost reductions and
improvements in efficiency.
Recommendations
There is no sign that globalisation of the capital markets will not continue until such time
as almost all barriers have disappeared. With respect to financial reporting alone, there are
a myriad of problems to consider. These encompass analysts’ needs for internationally
acceptable standards of financial reporting, including common accounting methods, adequate disclosure, and sufficient frequency of reporting.
As globalization occurs, there will be an increasing need for a common information and
financial reporting framework to facilitate cross-border financing. There is no question that
achieving that goal is an ambitious task that will require an unparalleled degree of cooperation
among standards setters and regulators around the world. It involves a process of reconciling
the interests of different business, professional, and regulatory cultures and systems. It will
be a challenging task, but one that is worth the effort. Figure 4 illustrates the factors involved
in establishing a new world accounting order.
Figure 4
Financial and Non-
Co-operation
between
Standard-Setters
Financial Information
Users’ Needs
Main Objective
New Forms of
Reporting
Flexibility
- On-line Reporting
- Relevant Data
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High quality research on users’ needs for information has been limited, but must be done,
and is the cornerstone of the proposed communication model. Much of what is written about
users’ needs for information is speculative. That is, the author speculates about what would
or would not be useful to users, not testing the speculative ideas with empirical data or with
direct observations or otherwise working with users. Most of the empirical research on users’
needs that has been done is not intended to identify information needs in terms of objectives
in the context of a global communication system.
The focus on users’ needs will provide a common framework for standard setters in all
countries. Under this approach, users’ information needs, determined by research and the
participation of users, would be the basis for international accounting standards. This
approach, which is different from attempting to reconcile differences among the standards of
different countries, should enable international standard setters to arrive at standards that
serve the information needs of users. It should also allow standard setters to identify
instances, if there are any, where international standards are not possible because information needs among different groups of users are incompatible.
Traditionally, financial statements have been the primary means by which information
about a company is communicated to users, yet they disclose financial information only.
Today’s users also demand non-financial or operating information. It helps users understand
the connections among ongoing events, the financial statements, and factors that produce
long-term value and wealth for the company. Operating data can provide information to users
before the effects of events are captured fully in the financial statements.
Although most of today’s financial reporting focuses on the past, which may be useful
when making predictions, users are more concerned with the future. Useful forward-looking
information includes key trends the identification of and disclosure of expected opportunities
and risks resulting from those trends. Management’s plans should also be disclosed along
with factors critical to the plan’s success. The current litigation environment in the U.S. and
Europe may have a dampening effect on the disclosure of forward-looking information
(Wallman 1997). It is an understandable defensive measure to reduce litigation risk, but its
consequence is to deprive users of information and inhibit the progress in business reporting
that comes from experience with voluntary disclosure.
Companies should be encouraged to experiment voluntarily with ways to improve the
usefulness of reporting. Regulators and users should encourage companies to experiment
voluntarily with improved reporting practices. The experimental presentations can be supplementary to what is now required, but with the co-operation of standard setters and regulators,
they can also take the form of replacing currently required presentations or parts of them. In
that case, standard setters and regulators would have to grant participating companies
permission to substitute items from the model for required items. For example, under current
rules, companies cannot separately display the effects of core and non-core activities and
events. Permission would have to be granted in order for the model’s core-non-core approach
to replace what is currently required.
A constantly changing environment affects the relevance of the information to business
report users. Economic and technological change occurs swiftly, and the changes affect the
needs of users of business information. Standard setters should have some systematic
approach to awareness of the likely importance of these changes for business reporting so
that agenda priorities are well chosen.
No one can have detailed, accurate knowledge of the future, but developing such
knowledge aims is identify enough of the broad outline of the future to improve planning and
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facilitate a strategic approach to standard setting tasks. Responding to problems as they arise
ensures that reporting standards will always lag behind users’ needs for information. Even if
the problem solving approach was once suitable, it will not suffice in the rapidly evolving era
we have entered.
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