Introduction
The International Financial Reporting Standard (IFRS) and the US Generally Accepted Accounting Principles (US GAAP) are the two most relevant financial reporting styles. The frameworks share many similarities and differences, and extensive academic literature analyzes this topic to identify the exact disparities and their impact on firms. Research in this field generally allows financial experts and investors to make better decisions when comparing companies that use different reporting standards. Therefore, it is critical to continue studying the topic, and the present paper provides a brief summary of the article that examines how the IFRS and US GAAP report financial ratios.
Article Summary
Several differences exist between the IFRS and US GAAP financial reporting methodologies. The article by Bao et al. (2010) focuses specifically on the five ratio metrics: current ratio (CR), inventory turnover ratio (ITR), asset turnover ratio (ATR), debt-to-asset ratio (DAR), and returns on assets (ROA), vary depending on the framework. Consequently, the authors discuss how the examined differences in ratios affect the reporting of inventory, intangible assets, property, plant, and development costs. This research is significant because it provides valuable information for accountants and investors regarding the impact of reporting differences on financial statements, allowing experts to make more thoughtful and informed decisions.
Background and Literature Review
The first part of the article is devoted to the theoretical background and literature review, explaining the basics of IFRS and US GAAP. The authors describe the primary difference between the frameworks, noting that IFRS is “principle-based,” while GAAP is “rule-based” (Bao et al., 2010, p. 25). This distinction affects the assessment of inventory and the acknowledgment of fair value reporting.
Regarding the former, IFRS does not utilize the last-in-first-out (LIFO) methodology, allows write-down reversals in some cases and uses net realizable value (NRV). On the other hand, US GAAP allows LIFO, prohibits reversals, and utilizes other approaches in the lower-of-cost inventory assessment, meaning that inventory value in IFRS should always be higher than in US GAAP. Additionally, due to historical regulations and overall principles, fair value reporting is allowed in IFRS but prohibited in US GAAP. As a result, the reported value of intangible assets, development costs, property, plant, and total assets is generally higher in IFRS.
Design and Methodology
The research design and methodology of the article are relatively straightforward. The authors propose five hypotheses regarding each ratio, namely, in IFRS, CR is significantly higher, while ITR, ATR, DAR, and ROA are substantially lower than in US GAAP. It is the initial presumption based on the idea that the differences in reporting metrics inevitably affect financial ratios.
The sample of the companies includes organizations from France, Australia, Germany, the UK, and Italy, all of which apply IFRS, and the United States, which utilizes US GAAP. The authors examined 52,225 organizations, 19,610 of which follow IFRS and 32,615 of which apply US GAAP in their financial reports. All financial information about firms is dated between 2001 and 2005 and retrieved from the Research Insight and Global Vantage databases. The data is credible and appropriate for thorough financial analysis. The authors gathered information on sales, total assets, and stockholders’ equity, comparing the mean values using a t-test for each hypothesis.
Results and Conclusions
Lastly, the authors successfully confirmed H1, H3, and H4, meaning that IFRS companies generally have higher CR but lower ATR and DAR. Bao et al. (2010) assume that the failure to verify H2 and H5 derives from the drastic difference in sample size (19,610 vs. 32,615) and the fact that the companies in the US GAAP sample are generally larger. Although ITR and ROA are lower in IFRS, these differences are not statistically meaningful, meaning that H2 and H5 are not confirmed. Moreover, there might be slight deviations in the findings due to different inflation rates during the 2001-2005 period. Bao et al. (2010) recognize that “during periods of rising costs, companies using LIFO should have smaller values of inventories and greater cost of goods sold” (p. 30).
Ultimately, the authors utilized ANOVA for H1, H3, and H4 to further validate the findings, and the test demonstrated the same results. In summary, the primary conclusion of the paper is that IFRS companies display higher CR and lower ATR and DAR compared to US GAAP firms. This information is critical for accountants and investors in decision-making.
Conclusion
The authors have successfully confirmed three hypotheses about the correlation between financial ratios and financial reporting standards. Namely, companies that utilize the IFRS style have higher CR than US GAAP firms but lower ATR and DAR. The authors could not statistically prove the hypotheses about ITR and ROA, most likely due to insufficient sample size.
Bao et al. recognize this flaw and state it should be addressed in future research. Nevertheless, the article presents highly valuable insights into the differences between the IFRS and US GAAP reporting styles. This information is significant for investors, data analysts, and other types of financial experts because it allows them to compare companies from various countries with greater accuracy.
Reference
Bao, D. H., Lee, J., & Romeo, G. (2010). Comparisons on selected ratios between IFRS and US GAAP companies.Journal of Financial Reporting and Accounting, 8(1), 22-34. Web.