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A single standard for the world?

25 March 2008 – Financial Times –Surveys ICA1 -Page 1If Europeans and others can switch accounting standards in three years, how long will Americans need?

This is a hot topic in the accounting world as the US moves towards international financial reporting standards, or IFRS, and so towards dropping its own well-developed rules.

US acceptance of IFRS would be no small achievement, making it all but certain that a single set of accounting standards would be followed around the world.

European Union countries managed the change in three years, from 2002, when it was announced, to 2005, when the first financial statements in IFRS were required.

This year, there are great expectations for the US. After all the talk about convergence for many years, the first concrete signs of it happening are generating an enormous buzz.

Late last year, the US Securities and Exchange Commission (SEC) voted to allow foreign companies to file in IFRS without reconciling their accounts to US generally accepted accounting principles, or GAAP, in what amounted to a tacit acceptance of the higher quality of IFRS.

More recently still, the International Accounting Standards Board and its US counterpart produced their first joint accounting standard. More are in the pipeline.

This month, Christopher Cox, chairman of the SEC, said the commission would this year study formal proposals for moving from US GAAP to IFRS.

“The major questions now aren’t ‘if’, they’re ‘when’ and within that, ‘how will the SEC handle it?’,” says Ed Nusbaum, chief executive of Grant Thornton US.

“Will they force it, or allow companies a choice? The key right now is to set a time-frame for all of this.”

Expectations are that the US will look to the EU to learn from its experiences.

“Europe didn’t happen until the Commission set a date and the same will be true of the US,” says Will Rainey, global head of IFRS at Ernst & Young, who thinks the US will have a headstart on the EU, which had to cope with many languages and wildly varying standards and training.

“US GAAP is much more mature and developed than (were) a lot of local European GAAPs,” he says. “A lot of its principles are already similar to those in IFRS so US accounting will experience relatively minor tweaks rather than a complete overhaul.”

The US should also benefit greatly from the existing IFRS experience elsewhere. More than 100 countries – including Japan, Canada and China – are now using or adopting IFRS.

Europe and other first-wave adopters learnt from the problems of being early users. New rules were issued by the standard-setter almost up until the last minute, making it hard for companies, auditors and investors to get to grips with the new system.

The immediate questions for the US are more technical. Plans need to be put in place for training accountants and auditors, and for making investors and companies aware of the changes.

“Right now, IFRS is very rarely taught and not to the level of depth that’s required,” says Robert Dohrer, a partner at McGladrey & Pullen, who nonetheless believes this should not be allowed to slow unduly the switchover.

“My biggest fear is that the SEC moves forward with multiple milestones – in other words, they say something like ‘we agree to move forward, but not until we’ve reached a certain educational standard’, and this drags the process out.”

“If Europe could do it, then we should also be able to do it,” Mr Dohrer continues. “I don’t think that it takes a four-year degree in IFRS to be able to use them. I give our people more credit than that.”

There is another debate over whether the US should set a single cut-off date or, instead, “step” the process, pushing larger companies with greater accounting skills to switch first before requiring smaller companies to follow suit.

The European Union chose a partly-stepped route that required the largest, listed companies to lead the way for consolidated accounts, while legacy GAAPs have continued to appear at local levels.

So far, the idea of IFRS has won widespread approval in the US partly because discussions so far have taken place among insiders such as accountants and auditors who understand fully the issues and ramifications of the switch. But the success of such a radical change requires a wider commitment in business circles.

“Corporate America is barely aware this will touch them – many companies’ first response is to ignore the deadline until it’s in your face, then panic,” says Matt Kelly, editor of Compliance Week, a newsletter on corporate governance and compliance.

If not handled carefully, the switch to IFRS could lead to a relatively late, but powerful, political upsurge.

Making the change will involve high one-off costs and much company time – when there is already a groundswell of feeling, both corporate and public, against the sort of all-consuming regulation represented by Sarbanes-Oxley, the reform of business practices introduced in the US in 2002.

“The SEC and FASB have to think through ‘what if someone in Congress stands up and files some bill objecting to this?’,” says Mr Kelly. “Congress doesn’t need to approve the change, but they have the power to disapprove.”

There is a precedent. On the eve of the SEC’s decision to drop its reconciliation requirement for foreign filers, Senator Christopher Dodd, chairman of the Senate’s powerful banking committee, wrote to the regulator describing the move as “premature and… unduly rushed”.

Senator Dodd told the regulator that the differences between the two sets of standards were “too significant to warrant the removal of reconciliation”.

One of the biggest perceived differences lies in the greater reliance by IFRS on broader principles compared with US GAAP’s rules-based framework.

This has resulted in the complete IFRS being about 2,500 pages long compared with 25,000 for its US counterpart – although the simple numbers go no way towards reflecting US GAAP’s far longer development.

The problem for the US is that it is used to more detailed rules. “We have a more litigious society and these are fuzzier standards,” says Mr Kelly. “It could lead to more lawsuits.”

There is also a concern that principles will lead to a greater range of results because of the wider interpretations they allow, but accountants are sanguine about this. “I happen to think it’s a strength of IFRS to allow good reasoned judgment, but there is a fear before people get used to the concept,” says Mr Dohrer.

As those best placed to understand the rules, the accounting profession will certainly have its work cut out in explaining the switch to the American people.

But they are confident that they can do it.

“IFRS isn’t really scary,” says Mr Rainey. “It’s just a little bit different.”

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