Comment: The importance of accounting comparability

This change does not require mention in the audit report unless it is also a correction of a material misstatement or a change in accounting principle. The change is from one generally accepted accounting principle to another only when two or more generally accepted accounting principles apply or the principle used previously is no longer accepted. If the change is made from a non-accepted principle to an accepted principle, the threat is known as a correction of a material misstatement, which we will discuss in more detail in the next section.

A change in the accounting policy may also be imposed by changes in accountancy standards. In these circumstances, the nature and circumstances leading to the change must be disclosed in the financial statements. US GAAP and the International Standards or IFRS have many standards in common, but they also disagree on many common accounting practices.

Correction of a Material Misstatement

The objective of the consistency standard is to ensure that if comparability of financial statements between periods has been materially affected by changes in accounting principles, there will be appropriate reporting by the independent auditor regarding such changes. Fn 1 It is also implicit in the objective that such principles have been consistently observed within each period. In these cases, the auditor would not refer to consistency in his report. Blankespoor et al. concluded that the cost of monitoring and acquiring accounting information demotivates retail investors using accounting disclosures in stock trading decisions. Although the cost of acquisition and processing of accounting information could avert traders using available accounting disclosures , sometimes they are reluctant to utilize all available information . In the hazy environment, users need to spend much time and efforts on acquisition, processing and analysis of accounting disclosures (Francis and Schipper, 1999; Ely and Waymire, 1999; Hope, 2003). Investors sometimes also depend on nonaccounting information while they doubt higher uncertainty on accounting disclosure .

The conservatism principle says if there is doubt between two alternatives, the accountant should opt for the one that reports a lesser asset amount or a greater liability amount, and a lesser amount of net income. Thus, when given a choice between several outcomes where the probabilities of occurrence are equally likely, you should recognize that transaction resulting in the lower amount of profit, or at least the deferral of a profit. Similarly, if a choice of outcomes with similar probabilities Comparability Principle of occurrence will impact the value of an asset, recognize the transaction resulting in a lower recorded asset valuation. Moreover, a higher valuation of earnings can help boost the value of executives’ compensation packages, which often include a significant equity component. So, managers have direct incentives to ensure greater accounting comparability with industry peers. Many firms raise additional equity financing via follow-on offerings, which often garner skepticism from investors.

Understanding GAAP

There are some important differences in how accounting entries are treated in GAAP vs. IFRS. IFRS rules ban the use of last-in, first-out inventory accounting methods. Both systems allow for the first-in, first-out method and the weighted average-cost method. GAAP does not allow for inventory reversals, while IFRS permits them under certain conditions. Companies trading on U.S. exchanges had to provide GAAP-compliant financial statements. Although it is not required for non-publicly traded companies, GAAP is viewed favorably by lenders and creditors.

• For example, if a company issues its financial statements a year after its accounting period, users of financial statements would find it difficult to determine how well the company is doing in the present.
• These include white papers, government data, original reporting, and interviews with industry experts.
• For rest of the periods, all the companies publish their financial reports annually.
• Simply because doing so would provide more useful information for comparing the targeted securities’ intrinsic and market values.
• Trend analysis helps us see whether a company’s position and/or performance has improved across time.

The ultimate goal of GAAP is to ensure a company’s financial statements are complete, consistent, and comparable. This makes it easier for investors to analyze and extract useful information from the company’s financial statements, including trend data over a period of time. It also facilitates the comparison of financial information across different companies. The study aims to investigate whether the adoption of IFRS could ensure ultimate intercompany comparability of operating performance in terms of uniformity in the application of accounting methods and reporting style. Since 2000, significant progress has been made toward achieving greater comparability in accounting standards on an international level.

Benefits and drawbacks of using comparable uncontrolled transactions

But more thought needs to be devoted to this notion as it applies to non-financial assets. The correction of a material misstatement refers to the amendment of information previously presented that was sufficiently incorrect so as to influence the decision-making of a reasonable user or the change of an incorrect accounting principle.

• The contradictory outcomes are also found regarding the comparability of financial reports because of adoption of IFRS.
• So accounting chiefs should pay close attention to the accounting policies of their industry peers and work to improve the quality of their companies’ financial reporting system.
• Tax directors tell ITR that the European Commission’s BEFIT proposal to overhaul 27 corporate tax systems for simplicity could increase business investment.
• Comparability improves usefulness of financial statements because it allows users to carry out trend analysis, cross-sectional analysis and common-size analysis.
• However, a concern about using fair value is the potential effects of discretion in estimating the fair values.
• Almost all amounts have been allocated, amortized, impaired, or ‘modified’ in some way.

We also reference original research from other reputable publishers where appropriate. You can learn more about the standards we follow in producing accurate, unbiased content in oureditorial policy. As corporations increasingly need to navigate global markets and conduct operations worldwide, international standards are becoming increasingly popular at the expense of GAAP, even in the U.S. Almost all S&P 500 companies report at least one non-GAAP measure of earnings as of 2019. Due to the progress achieved in this partnership, the SEC, in 2007, removed the requirement for non-U.S.

Principle of Permanence of Methods

We hope this experiment is a success and that it’s followed by many more. Intrinsic value is an economic https://simple-accounting.org/ concept that asserts that securities have a true value based on their future cash flow potential.

Initial efforts focused onharmonization—reducing differences among the accounting principles used in major capital markets around the world. By the 1990s, the notion of harmonization was replaced by the concept ofconvergence—the development of a unified set of high-quality, international accounting standards that would be used in at least all major capital markets. The first priority of the Financial Accounting Standards Board is to improve financial reporting for the benefit of investors and other users of financial information in U.S. capital markets.

Qualitative Characteristics of Accounting Information

The study bases its inferences on a sample of firms from 27 countries that adopt IFRS from 1995 to 2006 and a sample of US firms matched on size and industry. The measures of comparability are based on assessing differences in how accounting amounts based on IFRS or US GAAP relate to economic outcomes.

Brochet et al. exposed that adoption of IFRS decreased information asymmetries and increased the firm-level comparability in financial reporting in the UK Wang also revealed that IFRS adoption increased cross-country information transfer by improving its comparability. The adoption of unified financial reporting standards should enhance superior comparability and transparency of financial reports and reduce information asymmetry among the stakeholders by improving information quality . The comparability of financial information of a firm with its industry peers helps retail investors better assess its competitive benefits or drawbacks for specific investments (Ozkan et al., 2012; Young and Zeng, 2015). In a study over 17 European countries, Yip and Young concluded that adoption of IFRS increased accounting comparability in terms of similarity of accounting practices, degree of information transfer and earning and book value reporting. Schiebel studied the value relevance of accounting information under IFRS and German GAAP and eventually concluded that German GAAP has more value relevance than IFRS.

While presenting assets on balance sheet, most of the companies use historical cost. Only few companies maintain similarities in various steps of presenting relevant information in annual reports, but most of the organizations (80% of total) are inconsistent in this regard. The findings document that the adoption of IFRS cannot ensure the application of same accounting methods as well as way of presentations which is a precondition of greater comparability of operating performance of competitive firms. The methodological and reporting direction through local regulatory agencies alongside maximum compliance with principle based IFRS can enhance intercompany comparability of financial reports in the same industry. Financial statements are more comparable when the same accounting policies and standards are applied across multiple reporting periods, as well as across multiple entities within an industry. For example, if a number of oil and gas firms consistently apply the same industry-specific accounting standards to their financial statements, then there should be a high level of comparability within that industry.