IFRS vs U S GAAP Key Differences INTERNATIONAL FINANCIAL REPORTING STANDARDS Balance Sheet Presentation There are more similarities than differences in balanc by xpz21332

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									IFRS vs. U.S. GAAP-

  Key Differences
             INTERNATIONAL FINANCIAL
               REPORTING STANDARDS

Balance Sheet Presentation. There are more similarities than differences in balance sheets
prepared according to U.S. GAAP and those prepared applying IFRS. Some of the
differences are:

 International standards specify a minimum list of items to be presented in the
 balance sheet. U.S. GAAP has no minimum requirements.

 IAS No.1, revised, changed the title of the balance sheet to statement of
 financial position, although companies are not required to use that title. Some
 U.S. companies use the statement of financial position title as well.

 Under U.S. GAAP, we present current assets and liabilities before noncurrent
 assets and liabilities.       IAS No. 1 doesn’t prescribe the format of the balance
 sheet, but balance sheets prepared using IFRS often report noncurrent items
 first. For example, the balance sheets of Sanofi-Aventis, a French
 pharmaceutical company, included in a recent half-year report, presented
 assets, liabilities and equity in the following order:

                                      Sanofi-Aventis
                                 Balance Sheet (condensed)
                                        At June 30

   (€ in millions)                                                  2009
   Noncurrent assets (including property, plant and equipment)    € 58,233
   Current assets                                                   18,525
       Total assets                                               € 76,758

   Shareholders’ equity                                           € 44,784
   Noncurrent liabilities                                           21,187
   Current liabilities                                              10,787
      Total liabilities and equity                                € 76,758
      INTERNATIONAL FINANCIAL REPORTING
                 STANDARDS


Income Statement Presentation. There are more similarities than
differences between income statements prepared according to U.S. GAAP
and those prepared applying international standards. Some of the
differences are:

   International standards require certain minimum information to be
    reported on the face of the income statement. U.S. GAAP has no
    minimum requirements.

 International standards allow expenses to be classified either by
  function (e.g., cost of goods sold, general and administrative, etc), or
  by natural description (e.g., salaries, rent, etc.). SEC regulations
  require that expenses be classified by function.

 In the U.S., the “bottom line” of the income statement usually is called
  either net income or net loss. The descriptive term for the bottom line
  of the income statement prepared according to international standards
  is either profit or loss.

 As we discuss later, we report “extraordinary items” separately in an
  income statement prepared according to U.S. GAAP. International
  standards prohibit reporting “extraordinary items.”
            INTERNATIONAL FINANCIAL
              REPORTING STANDARDS

Inventory Cost Flow Assumptions. IAS NO. 2 does not permit the use of LIFO.
Because of this restriction, many U.S. multinational companies employ the use of
LIFO only for all or most of their domestic inventories and FIFO or average cost for
their foreign subsidiaries. General Mills provides an example with a disclosure note
included in a recent annual report:

   Inventories (in part)
   All inventories in the United States other than grain are valued at the lower of cost,
    using the last-in, first-out (LIFO method, or market… Inventories outside of the
    United States are valued at the lower of cost, using the first-in, first-out (FIFO)
    method, or market.

   This difference could prove to be a significant impediment to U.S. convergence to
international standards. Unless the U.S. Congress repeals the LIFO conformity rule,
convergence would cause many corporations to lose a valuable tax shelter, the use of
LIFO for tax purposes. If these companies were immediately taxed on the difference
between LIFO inventories and inventories valued using another method, it would cost
companies billions of dollars. Some industries would be particularly hard hit. Most
oil companies and auto manufacturers, for instance, use LIFO. As an example, it
would cost Exxon Mobil over $4 billion. The companies affected most certainly will
lobby heavily to retain the use of LIFO for tax purposes.
     INTERNATIONAL FINANCIAL REPORTING STANDARDS

Lower of cost or market. International standards also require inventory to be valued at the
lower of cost or market. You just learned that in the United States, market is defined as replacement
cost with a ceiling of net realizable value (NRV) and a floor of NRV less a normal profit margin.
However, the designated market value according to IAS No. 2 always is net realizable value.
   IAS No. 2 also specifies that if circumstances indicate that an inventory write-down is no longer
appropriate, it should be reversed. Reversals are not permitted under U.S. GAAP.
  Under U.S. GAAP, the LCM rule can be applied to individual items, logical inventory categories,
or the entire inventory. Using the international standard, the LCM assessment usually is applied to
individual items, although using logical inventory categories is allowed under certain circumstances.
  Consider the following illustration:

   Biddle and White, LTD. prepares its financial statements according to IFRS. Using the data in
Illustrations 9-1 and 9-1A, the company would determine the inventory carrying value at year-end,
assuming the LCM rule is applied to individual items, as $377,000.

   Item            Cost            NRV               LCM
   A            $ 50,000         $ 85,000          $ 50,000
   B             100,000         100,000            100,000
   C              80,000           65,000            65,000
   D              90,000           76,000            76,000
   E              95,000           86,000            86,000
     Totals     $415,000                           $377,000

 Notice that the carrying value of $377,000 is larger than the $347,000 determined using U.S.
GAAP. This normally will be the case because replacement cost usually is less than NRV.
 The entry to record the write-down is as follows:

Inventory write-down expense ($415,000-377,000)               38,000
   Inventory valuation allowance                                          38,000
   Because IFRS allows companies to reverse write-downs later if NRV increases, it’s convenient to
use an inventory valuation account in the above entry rather than reducing inventory directly.
Reversals, then, are recorded by debiting the allowance account. IFRS does not require the write-
down to be recorded in any specific income statement account.

Cadbury Schweppes, Plc., a U.K. company, prepares its financial statements according to IFRS.
The following disclosure note illustrates the designation of market as net realizable value.
   Inventories (in part)
   Inventories are recorded     at   the   lower   of   average   cost   and   estimated   net   realizable
   value.
  INTERNATIONAL FINANCIAL REPORTING
             STANDARDS

Research and Development Expenditures.                         Other than software
development costs incurred after technological feasibility has been established, U.S.
GAAP requires all research and development expenditures to be expensed in the
period incurred. IAS No. 38 draws a distinction between research activities and
development activities. Research expenditures are expensed in the period incurred.
However, development expenditures that meet specified criteria are capitalized as an
intangible asset. Under both U.S. GAAP and IFRS, any direct costs to secure a
patent, such as legal and filing fees, are capitalized.
   Heineken, a company based in Amsterdam, prepares its financial statements
according to IFRS. The following disclosure note describes the company’s adherence
to IAS No. 38. The note also describes the criteria for capitalizing development
expenditures.

   Software, research and development and other intangible assets (in part)
   Expenditures on research activities, undertaken with the prospect of gaining
   new technical knowledge and understanding, is recognized in the income
   statement when incurred.
       Development activities involve a plan or design for the production of new
   or substantially improved products and processes. Development
   expenditures are capitalized only if development costs can be measured
   reliably, the product or process is technically and commercially feasible,
   future economic benefits are probable, and Heineken intends to and has
   sufficient resources to complete development and to use or sell the asset.
   The expenditures capitalized include the cost of materials, direct labor and
   overhead costs that are directly attributable to preparing the asset for its
   intended use.
   Amortization of capitalized development costs begins when development is
complete and the asset is available for use. Heineken disclosed that it amortizes its
capitalized development costs using the straight-line method over an estimated 3-year
useful life.
  INTERNATIONAL FINANCIAL REPORTING
             STANDARDS


Software Development Costs. The percentage we use to
amortize computer software development costs under U.S. GAAP
is the greater of (1) the ratio of current revenues to current and
anticipated revenues or (2) the straight-line percentage over the
useful life of the software. This approach is allowed under IFRS,
but not required.
  INTERNATIONAL FINANCIAL REPORTING
             STANDARDS
Depreciation. IAS No. 16 requires that each component of an item of property, plant,
and equipment must be depreciated separately if its cost is significant in relation to
the total cost of the item. In the U.S., component depreciation is allowed but is not
often used in practice.
   Consider the following illustration:

Cavandish LTD. purchased a delivery truck for $62,000. The truck is expected to
have a service life of six years and a residual value of $12,000. At the end of three
years, the over-sized tires, which have a cost of $6,000 (included in the $62,000
purchase price), will be replaced.
   Under U.S. GAAP, the typical accounting treatment is to depreciate the $50,000
($62,000 – 12,000) depreciable base of the truck over its six-year useful life. Using
IFRS, the depreciable base of the truck is $44,000 ($62,000 – 12,000 – 6,000) and is
depreciated over the trucks six-year useful life, and the $6,000 cost of the tires is
depreciated separately over a three-year useful life.

   U.S. GAAP and IFRS determine depreciable base in the same way, by subtracting
estimated residual value from cost. However, IFRS requires a review of residual
values at least annually.

Sanofi-Aventis, a French pharmaceutical company, prepares its financial statements
using IFRS. In its property, plant, and equipment note, the company discloses its use
of the component–based approach to accounting for depreciation.

Property, plant, and equipment (in part)
The component-based approach to accounting for property, plant, and equipment is
applied. Under this approach, each component of an item of property, plant, and
equipment with a cost which is significant in relation to the total cost of the item and
which has a different useful life from the other components must be depreciated
separately.
  INTERNATIONAL FINANCIAL REPORTING
             STANDARDS

Biological Assets. Living animals and plants, including the trees
in a timber tract or in a fruit orchard, are referred to as biological
assets. Under U.S. GAAP, a timber tract is valued at cost less
accumulated depletion and a fruit orchard at cost less accumulated
depreciation. Under IFRS, biological assets are valued at their fair
value less estimated costs to sell.
   INTERNATIONAL FINANCIAL REPORTING
              STANDARDS
Valuation of Property, Plant, and Equipment. As we’ve discussed, under U.S. GAAP a company reports
property, plant, and equipment (PP&E) in the balance sheet at cost less accumulated depreciation (book
value). IAS No. 16 allows a company to report property, plant, and equipment at that amount or,
alternatively, at its fair value (revaluation). If a company chooses revaluation, all assets within a class of
PP&E must be revalued on a regular basis. U.S. GAAP prohibits revaluation.
    If the revaluation option is chosen, the way the company reports the difference between fair value and
book value depends on which amount is higher:
 If fair value is higher than book value, the difference is reported as other comprehensive income (OCI)
     which then accumulates in a “revaluation surplus” (sometimes called revaluation reserve) account in
     equity.
 If book value is higher than fair value, the difference is reported as an expense in the income statement.
     An exception is when a revaluation surplus account relating to the same asset has a balance from a
     previous increase in fair value, that balance is eliminated before debiting revaluation expense.

Consider the following illustration:

Candless Corporation prepares its financial statements according to IFRS. At the beginning of its 2011 fiscal
year, the company purchased equipment for $100,000. The equipment is expected to have a five-year useful
life with no residual value, so depreciation for 2011 is $20,000. At the end of the year, Candless chooses to
revalue the equipment as permitted by IAS No. 16. Assuming that the fair value of the equipment at year-end
is $84,000, Candless records depreciation and the revaluation using the following journal entries:
(a) Depreciation expense ($100,000  5 years)                   20,000
     Accumulated depreciation                                             20,000
    After this entry, the book value of the equipment is $80,000; the fair value is $84,000. We use the ratio
of the two amounts to adjust both the equipment and the accumulated depreciation accounts (and thus the
book value) to fair value ($ in thousands):
December 31, 2011                   Before                              After
                                  Revaluation                        Revaluation
Equipment                            $100       x     84/80 =            $105
Accumulated depreciation               20       x     84/80 =              21
  Book value                         $ 80       x     84/80 =            $ 84
The entries to revalue the equipment and the accumulated depreciation accounts (and thus the book value)
are:

(b) Equipment ($105,000 – 100,000)                               5,000
     Accumulated depreciation ($21,000 – 20,000)                           1,000
     Revaluation surplus–OCI ($84,000 – 80,000)                            4,000
The new basis for the equipment is its fair value of $84,000 ($105,000 – 21,000), and the following years’
depreciation is based on that amount. Thus, 2012 depreciation would be $84,000 divided by the four
remaining years, or $21,000:


(a) Depreciation expense ($84,000  4 years)                       21,000
     Accumulated depreciation                                                 21,000

    After this entry, the book value of the equipment is $63,000. Let’s say the fair value now is $57,000. We
use the ratio of the two amounts to adjust both the equipment and the accumulated depreciation accounts (and
thus the book value) to fair value ($ in thousands):
December 31, 2012                       Before                              After
                                      Revaluation                        Revaluation
Equipment                           $105            x      57/63 =           $95
Accumulated depreciation ($21 + 21)   42            x      57/63 =            38
  Book value                        $ 63            x      57/63 =           $57
The entries to revalue the equipment and the accumulated depreciation accounts (and thus the book value)
are:

(b) Revaluation surplus–OCI ($57,000 – 63,000 = $6,000; limit: $4,000 balance) 4,000
    Revaluation expense (to balance)                                           2,000
    Accumulated depreciation ($38,000 – 42,000)                                4,000
        Equipment ($95,000 – 105,000)                                                10,000

     A decrease in fair value, as occurred in 2012, is expensed unless it reverses a revaluation surplus account
relating to the same asset, as in this illustration. So, of the $6,000 decrease in value ($63,000 book value less
$57,000 fair value), $4,000 is debited to the previously created revaluation surplus and the remaining $2,000
is recorded as revaluation expense in the income statement.

    Investcorp, a provider and manager of alternative investment products headquartered in London, prepares
its financial statements according to IFRS. The following disclosure note included in a recent annual report
discusses the company’s decision to change its method of valuing its premises and equipment.

Change in Accounting Policy
During the current period, the Group changed its policy with respect of carrying value of premises and
equipment. These assets have been revalued to their fair value in the current period and shall be carried at
their revalued amount less any accumulated depreciation and cumulative impairment losses. The revaluation
surplus has been recognized in other comprehensive income and included as separate component of equity as
revaluation surplus.
   INTERNATIONAL FINANCIAL REPORTING
              STANDARDS
Valuation of Intangible Assets. IAS No. 38 allows a company to value an intangible asset
subsequent to initial valuation at (1) cost less accumulated amortization or (2) fair value, if fair value
can be determined by reference to an active market. If revaluation is chosen, all assets within that
class of intangibles must be revalued on a regular basis. Goodwill, however, cannot be revalued.
U.S. GAAP prohibits revaluation of any intangible asset.
   Notice that the revaluation option is possible only if fair value can be determined by reference to
an active market, making the option relatively uncommon. However, the option possibly could be
used for intangibles such as franchises and certain license agreements.
   If the revaluation option is chosen, the accounting treatment is similar to the way we applied the
revaluation option for property, plant, and equipment earlier in this chapter. Recall that the way the
company reports the difference between fair value and book value depends on which amount is
higher. If fair value is higher than book value, the difference is reported as other comprehensive
income (OCI) and then accumulates in a revaluation surplus account in equity. On the other hand, if
book value is higher than fair value, the difference is expensed.
   Consider the following illustration:

Amershan LTD. prepares its financial statements according to IFRS. At the beginning of its 2011
fiscal year, the company purchased a franchise for $500,000. The franchise has a 10-year contractual
life and no residual value, so amortization in 2011 is $50,000. The company does not use an
accumulated amortization account and credits the franchise account directly when amortization is
recorded. At the end of the year, Amershan chooses to revalue the franchise as permitted by IAS No.
38. Assuming that the fair value of the franchise, determined by reference to an active market, at
year-end is $600,000, Amershan records amortization and the revaluation using the following journal
entries:

   Amortization expense ($500,000  10 years)                 50,000
    Franchise                                                            50,000

   Franchise ($600,000 – 450,000)                            150,000
     Revaluation surplus–OCI                                           150,000

   With the second entry Amershan increases the book value of the franchise from $450,000
($500,000 – 50,000) to its fair value of $600,000 and records a revaluation surplus for the difference.
The new basis for the franchise is its fair value of $600,000, and the following years’ amortization is
based on that amount. Thus, 2012 amortization would be $600,000 divided by the nine remaining
years, or $66,667.
   INTERNATIONAL FINANCIAL REPORTING
              STANDARDS
Impairment of Value: Property, Plant, and Equipment and Finite-Life Intangible Assets.
Highlighted below are some important differences in accounting for impairment of value for
property, plant, and equipment and finite-life intangible assets between U.S. GAAP and IAS No. 36.
                         U.S. GAAP                           IFRS
When to Test         When events or changes in        Assets must be assessed for indicators of
                     circumstances indicate that      impairment at the end of each reporting
                     book value may not be            period. Indicators of impairment are similar
                     recoverable.                     to U.S. GAAP.

Recoverability       An impairment loss is            There is no equivalent recoverability test.
                     required when an asset’s         An impairment loss is required when an asset’s
                     book value exceeds               book value exceeds the higher of the asset’s
                     the undiscounted sum of          value-in- use (present value of estimated
                     the asset’s estimated future     future cash flows) and fair value less costs to
                     cash flows.                      sell.

Measurement          The impairment loss is the       The impairment loss is the difference between
                     difference between book          book value and the “recoverable amount” (the
                     value and fair value.            higher of the asset’s value-in-use and fair
                                                      value less costs to sell).

Subsequent       Prohibited.                          Required if the circumstances that caused the
Reversal of Loss                                      impairment are resolved.

Let’s look at an illustration highlighting the important differences described above.

The Jasmine Tea Company has a factory that has significantly decreased in value due to
technological innovations in the industry. Below are data related to the factory’s assets:

                                                            ($ in millions)
   Book value                                                   $18.5
   Undiscounted sum of estimated future cash flows               19.0
   Present value of cash flows                                   16.0
   Fair value less cost to sell (determined by appraisal)        15.5

What amount of impairment loss should Jasmine Tea recognize, if any, under U.S. GAAP? Under
IFRS?
U.S. GAAP         There is no impairment loss. The sum of undiscounted estimated future cash flows
                  exceeds the book value.

IFRS              Jasmine should recognize an impairment loss of $2.5 million. Indicators of
                  impairment are present and book value exceeds both value-in-use (present value of
                  cash flows) and fair value less costs to sell. The recoverable amount is $16 million,
                   the higher of value-in-use ($16 million) and fair value less costs to sell ($15.5
                  million). The impairment loss is the difference between book value of $18.5
                  million and the $16 million recoverable amount.

Cadbury Schweppes, Plc., a U.K. company, prepares its financial statements according to IFRS.
The following disclosure note describes the company’s impairment policy:

Impairment review (in part)
The Group carries out an impairment review of its tangible assets when a change
in circumstances or situation indicates that those assets may have suffered an impairment loss…. Impairment
is measured by comparing the carrying amount of an asset … with the “recoverable amount,” that is the
higher of its fair value less costs to sell and its “value in use.” Value in use is calculated by discounting the
expected future cash flows…
  INTERNATIONAL FINANCIAL REPORTING
             STANDARDS
Impairment of Value: Indefinite-Life Intangible Assets Other than
Goodwill. Similar to U.S. GAAP, IFRS requires indefinite-life intangible
assets other than goodwill to be tested for impairment at least annually.
However, under U.S. GAAP, the impairment loss is measured as the
difference between book value and fair value, while under IFRS the
impairment loss is the difference between book value and the recoverable
amount. The recoverable amount is the higher of the asset’s value-in-use
(present value of estimated future cash flows) and fair value less costs to
sell.
   IFRS requires the reversal of an impairment loss if the circumstances
that caused the impairment are resolved. Reversals are prohibited under
U.S. GAAP.
   Also, indefinite-life intangible assets may not be combined with other
indefinite-life intangible assets for the required annual impairment test.
Under U.S. GAAP, though, if certain criteria are met, indefinite-life
intangible assets should be combined for the required annual impairment
test.
   INTERNATIONAL FINANCIAL REPORTING
              STANDARDS
Impairment of Value: Goodwill. Highlighted below are some important differences in accounting
for the impairment of goodwill between U.S. GAAP and IAS No. 36.
                         U.S. GAAP                          IFRS
Level of testing     Reporting unit – a             Cash-generating unit (CGU) – the smallest
                     segment or a component         identifiable group of assets that generates cash
                     of an operating segment        flows that are largely independent of the cash
                     for which discrete financial   flows from other assets. A CGU can’t be lower
                     information is available.      than a segment.

Measurement           A two-step process:           A one-step process:
                   1. Compare the fair value        Compare the recoverable amount of the CGU
                      of the reporting unit with    to book value. If the recoverable amount is
                      its book value. A loss is     less, reduce goodwill first, then other assets
                      indicated if fair value is    The recoverable amount is the higher of fair
                      less than book value.         value less costs to sell and value-in-use
                   2. The impairment loss is        (present value of estimated future cash flows).
                      the excess of book value
                      over implied fair value.

U.S. GAAP and IAS No. 36 both require goodwill to be tested for impairment at least annually, and
both prohibit the reversal of goodwill impairment losses.

Let’s look at an illustration highlighting the differences described above.

Canterbury LTD. has $38 million of goodwill in its balance sheet from the 2009 acquisition of
Denton, Inc. At the end of 2011, Canterbury’s management provided the following information for
the year-end goodwill impairment test ($ in millions):

   Fair value of Denton (determined by appraisal)                 $132
   Fair value of Denton’s net assets (excluding goodwill)          120
   Book value of Denton’s net assets (including goodwill)          150
   Present value of Denton’s estimated future cash flows           135

Assume that Denton is considered a reporting unit under U.S. GAAP and a cash-generating unit
under IFRS, and that its fair value approximates fair value less costs to sell. Determine the amount of
goodwill impairment loss that Canterbury should recognize, if any, under U.S. GAAP? Under
IFRS?
U.S. GAAP       Fair value of Denton                                      $132
                Fair value of Denton’s net assets (excluding goodwill)     120
                   Implied value of goodwill                              $ 12

                Book value of goodwill                                      $38
                Implied value of goodwill                                    12
                  Impairment loss                                           $26

IFRS            The recoverable amount is $135 million, the higher of the $135 million
                value-in-use (present value of estimated future cash flows) and the $132 million
                fair value less costs to sell.

                Denton’s book value                                       $150
                Recoverable amount                                         135
                  Impairment loss                                         $ 15

Royal Philips Electronics of the Netherlands is a world leader in healthcare, lifestyle and lighting.
The company prepares its financial statements according to IFRS. The following disclosures describe
the company’s goodwill impairment policy and a $301 million EUR goodwill impairment loss.

Impairment of Goodwill (in part)
Goodwill is not amortized but tested for impairment annually and whenever impairment indicators require.
In most cases the Company identified its cash- generating unit as one level below that of an operating
sector…. A goodwill impairment loss is recognized in the statement of income whenever and to the extent
that the carrying amount of a cash-generating unit exceeds the recoverable amount of that unit.
Goodwill (in part)
Due to deteriorating economic circumstances and the decline of the market capitalization of the company,
impairment tests were performed in the latter half of the year using updated assumptions. The tests resulted
in goodwill impairment charges of EUR 301 million,…
  INTERNATIONAL FINANCIAL REPORTING
             STANDARDS

Costs of Defending Intangible Rights.          Under U.S. GAAP,
litigation costs to successfully defend an intangible right are
capitalized and amortized over the remaining useful life of the
related intangible. Under IFRS, these costs are expensed, except
in rare situations when an expenditure increases future benefits.

								
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