Understanding GAAP

GAAP is meant to ensure a minimum level of consistency in a company's financial

statements, which makes it easier for investors to analyze and extract useful
information. GAAP also facilitates the cross-comparison of financial information
across different companies.

These 10 general principles can help you remember the main mission and direction
of the GAAP system.

1.) Principle of Regularity

The accountant has adhered to GAAP rules and regulations as a standard.

2.) Principle of Consistency

Professionals commit to applying the same standards throughout the reporting

process to prevent errors or discrepancies. Accountants are expected to fully
disclose and explain the reasons behind any changed or updated standards.

3.) Principle of Sincerity

The accountant strives to provide an accurate depiction of a company’s financial

situation.

4.) Principle of Permanence of Methods

The procedures used in financial reporting should be consistent.

5.) Principle of Non-Compensation

Both negatives and positives should be fully reported with transparency and without
the expectation of debt compensation.

6.) Principle of Prudence

Emphasizing fact-based financial data representation that is not clouded by

speculation.

7.) Principle of Continuity

While valuing assets, it should be assumed the business will continue to operate.

8.) Principle of Periodicity

Entries should be distributed across the appropriate periods of time. For example,
revenue should be divided by its relevant periods.

9.) Principle of Materiality / Good Faith

Accountants must strive for full disclosure in financial reports.

10.) Principle of Utmost Good Faith

Derived from the Latin phrase “uberrimae fidei” used within the insurance industry. It
presupposes that parties remain honest in transactions.

Compliance
GAAP must be followed when a company distributes its financial statements outside
of the company. If a corporation's stock is publicly traded, the financial statements
must also adhere to rules established by the U.S. Securities and Exchange
Commission (SEC).

GAAP covers such things as revenue recognition, balance sheet item classification
and outstanding share measurements. If a financial statement is not prepared using
GAAP, investors should be cautious. Also, some companies may use both GAAP
and non-GAAP compliant measures when reporting financial results. GAAP
regulations require that non-GAAP measures are identified in financial statements
and other public disclosures, such as press releases.

The hierarchy of GAAP is designed to improve financial reporting. It consists of a

framework for selecting the principles that public accountants should use in
preparing financial statements in line with U.S. GAAP. At the top of the GAAP
hierarchy are statements by the Financial Accounting Standards Board (FASB) and
opinions by American Institute of Certified Public Accountants (AICPA). The next
level consists of FASB Technical Bulletins and AICPA Industry Audit and Accounting
Guides and Statements of Position. On the third level are AICPA Accounting
Standards Executive Committee Practice Bulletins and positions of the FASB
Emerging Issues Task Force (EITF). Also included are Topics discussed in Appendix
D of EITF Abstracts. On the lowest level are FASB implementation guides, AICPA
Accounting Interpretations, AICPA Industry Audit and Accounting Guides and
Statements of Position not cleared by the FASB. Also included are practices that are
widely recognized.

Accountants are directed to first consult sources at the top of the hierarchy and then
proceed to lower levels only if there is no relevant pronouncement at a higher level.
The FASB's Statement of Accounting Standards No. 162 provides a detailed
explanation of the hierarchy.

GAAP vs. IFRS

GAAP is focused on the practices of U.S. companies. The Financial Accounting
Standards Board (FASB) issues GAAP. The international alternative to GAAP is
the International Financial Reporting Standards (IFRS) set by the International
Accounting Standards Board (IASB). The IASB and the FASB have been working on
the convergence of IFRS and GAAP since 2002. Due to the progress achieved in
this partnership, the SEC, in 2007, removed the requirement for non-U.S. companies
registered in America to reconcile their financial reports with GAAP if their accounts
already complied with IFRS. This was a big achievement, because prior to the ruling,
non-U.S. companies trading on U.S. exchanges had to provide GAAP-compliant
financial statements.

Some differences that still exist between both accounting rules include:
  LIFO Inventory - While GAAP allows companies to use the Last In First Out
(LIFO) as an inventory cost method, it is prohibited under IFRS.
 Costs of Development - These costs are to be charged to expense as they
are incurred under GAAP. Under IFRS, the costs can be capitalized and
amortized over multiple periods.
 Write-Downs - GAAP specifies that the amount of write-down of an inventory
or fixed asset cannot be reversed if the market value of the asset
subsequently increases. The write-down can be reversed under IFRS.

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. As the chart below shows, in 2004, almost all
North American companies reported their earnings using GAAP metrics. By 2016
that number had fallen to less than half.

Notes
GAAP is only a set of standards. Although these principles work to improve the
transparency in financial statements, they do not provide any guarantee that a
company's financial statements are free from errors or omissions that are intended to
mislead investors. There is plenty of room within GAAP for unscrupulous
accountants to distort figures. So, even when a company uses GAAP, you still need
to scrutinize its financial statements.

What are International Financial Reporting Standards (IFRS)?

International Financial Reporting Standards (IFRS) set common rules so that
financial statements can be consistent, transparent and comparable around the
world. IFRS are issued by the International Accounting Standards Board (IASB).
They specify how companies must maintain and report their accounts, defining types
of transactions and other events with financial impact. IFRS were established to
create a common accounting language, so that businesses and their financial
statements can be consistent and reliable from company to company and country to
country

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International Financial Reporting Standards (IFRS)

Understanding International Financial Reporting Standards (IFRS)
IFRS are designed to bring consistency to accounting language, practices and
statements, and to help businesses and investors make educated financial analyses
and decisions. The IFRS Foundation sets the standards to “bring transparency,
accountability and efficiency to financial markets around the world… fostering trust,
growth and long-term financial stability in the global economy.” Companies benefit
from the IFRS because investors are more likely to put money into a company if the
company's business practices are transparent.
IFRS are used in at least 120 countries, as of March 2018, including those in
the European Union (EU) and many in Asia and South America, but the U.S.
uses Generally Accepted Accounting Principles (GAAP).
The U.S. Securities and Exchange Commission (SEC) has said it won't switch to
International Financial Reporting Standards, but will continue reviewing a proposal to
allow IFRS information to supplement U.S. financial filings. GAAP has been called
"the gold standard" of accounting. However, some argue that global adoption of
IFRS would save money on duplicative accounting work, and the costs of analyzing
and comparing companies internationally.

IFRS are sometimes confused with International Accounting Standards (IAS), which
are the older standards that IFRS replaced. IAS was issued from 1973 to 2000, and
the International Accounting Standards Board (IASB) replaced the International
Accounting Standards Committee (IASC) in 2001.

Standard IFRS Requirements

IFRS covers a wide range of accounting activities. There are certain aspects of
business practice for which IFRS set mandatory rules.

 Statement of Financial Position: This is also known as a balance sheet. IFRS

influences the ways in which the components of a balance sheet are reported.
 Statement of Comprehensive Income: This can take the form of one
statement, or it can be separated into a profit and loss statement and a
statement of other income, including property and equipment.
 Statement of Changes in Equity: Also known as a statement of retained
earnings, this documents the company's change in earnings or profit for the
given financial period.
 Statement of Cash Flow: This report summarizes the company's financial
transactions in the given period, separating cash flow into Operations,
Investing, and Financing.

In addition to these basic reports, a company must also give a summary of its
accounting policies. The full report is often seen side by side with the previous
report, to show the changes in profit and loss. A parent company must create
separate account reports for each of its subsidiary companies.

IFRS vs. American Standards

Differences exist between IFRS and other countries' Generally Accepted Accounting
Principles (GAAP) that affect the way a financial ratio is calculated. For example,
IFRS is not as strict on defining revenue and allow companies to report revenue
sooner, so consequently, a balance sheet under this system might show a higher
stream of revenue than GAAP's. IFRS also has different requirements for expenses;
for example, if a company is spending money on development or an investment for
the future, it doesn't necessarily have to be reported as an expense (it can be
capitalized).

Another difference between IFRS and GAAP is the specification of the way inventory
is accounted for. There are two ways to keep track of this, first in first out(FIFO)
and last in first out (LIFO). FIFO means that the most recent inventory is left unsold
until older inventory is sold; LIFO means that the most recent inventory is the first to
be sold. IFRS prohibits LIFO, while American standards and others allow participants
to freely use either.

KEY TAKEAWAYS

 IFRS were established to create a common accounting language, so business

and accounts can be understood from company to company and country to
country.
 Both companies and investors benefit from IFRS because people are more
confident investing in a company if its business practices are transparent and
reliable.
 The IFRS are set by the International Accounting Standards Board, an
independent body of the IFRS Foundation, which provide updates, insights
and guidance on the standards.

History of IFRS
IFRS originated in the European Union, with the intention of making business affairs
and accounts accessible across the continent. The idea quickly spread globally, as a
common language allowed greater communication worldwide. Although the U.S. and
some other countries don't use IFRS, most do, and they are spread all over the
world, making IFRS the most common global set of standards.

The IFRS website has more information on the rules and history of the IFRS.

The goal of IFRS is to make international comparisons as easy as possible. That

goal hasn't fully been achieved because, in addition to the U.S. using GAAP, some
countries use other standards. And U.S. GAAP is different from Canadian GAAP.
Synchronizing accounting standards across the globe is an ongoing process in the
international accounting community.

1. Financial Accounting
Financial accounting involves recording and classifying business transactions, and
preparing and presenting financial statements to be used by internal and external
users.
In the preparation of financial statements, strict compliance with generally accepted
accounting principles or GAAP is observed. Financial accounting is primarily
concerned in processing historicaldata.
2. Managerial Accounting
Managerial or management accounting focuses on providing information for use
by internal users, the management. This branch deals with the needs of the
management rather than strict compliance with generally accepted accounting
principles.
Managerial accounting involves financial analysis, budgeting and forecasting, cost
analysis, evaluation of business decisions, and similar areas.
3. Cost Accounting
Sometimes considered as a subset of management accounting, cost accounting
refers to the recording, presentation, and analysis of manufacturing costs. Cost
accounting is very useful in manufacturing businesses since they have the most
complicated costing process.
Cost accountants also analyze actual and standard costs to help managers
determine future courses of action regarding the company's operations.
4. Auditing
External auditing refers to the examination of financial statements by an independent
party with the purpose of expressing an opinion as to fairness of presentation and
compliance with GAAP. Internal auditing focuses on evaluating the adequacy of a
company's internal control structure by testing segregation of duties, policies and
procedures, degrees of authorization, and other controls implemented by
management.
5. Tax Accounting
Tax accounting helps clients follow rules set by tax authorities. It includes tax
planning and preparation of tax returns. It also involves determination of income tax
and other taxes, tax advisory services such as ways to minimize taxes legally,
evaluation of the consequences of tax decisions, and other tax-related matters.
6. Accounting Information Systems
Accounting information systems (AIS) involves the development, installation,
implementation, and monitoring of accounting procedures and systems used in the
accounting process. It includes the employment of business forms, accounting
personnel direction, and software management.
7. Fiduciary Accounting
Fiduciary accounting involves handling of accounts managed by a person entrusted
with the custody and management of property of or for the benefit of another person.
Examples of fiduciary accounting include trust accounting, receivership, and estate
accounting.
8. Forensic Accounting
Forensic accounting involves court and litigation cases, fraud investigation, claims
and dispute resolution, and other areas that involve legal matters. This is one of the
popular trends in accounting today.