Intro to GAAP & IFRS

The definition of a financial statement is “a written report which quantitatively describes the financial health of a company.” An example of a financial statement would be the income summary which shows the differences of revenues to expenses, or the balance sheet which shows the differences of assets to liabilities and wonder’s equity. According to iasplus.com, “Financial statements need to provide information about the current financial position, changes in position, and performance of an enterprise that is useful to a wide range of users in making economic decisions.

Financial statements must be understandable, relevant, reliable, comparable, and reported objectively. If an investor wished to invest some of their money into a company, they would need to look at these statements to see if a specific company was worth their while. If the statements showed profitability and were reliable and relevant, the investors might consider investing.

When reporting financial statements, there are two possible reporting them: GAAP and IFRS. GAAP stands for Generally Accepted Accounting Principles and it is the common set of policies and standards used by United States companies to report their financial statements. GAAP is extremely detailed on what is acceptable and unacceptable. After being used for approximately sixty years, all of GAAP’s rules and regulations would make a book over nine inches thick. If a company is audited and is found not be following GAAP, it could only lead to one thing: trouble. Usually, if a company doesn’t use GAAP regulations, it means that it is probably trying to hide something.

The second type of reporting standard is IFRS, which stands for International Financial Reporting Standards. IFRS is being used by over one hundred countries as their common set of policies and standards. More countries, such as Canada and India are planning to adopt IFRS as soon as 2011. Although there is still some debate, the Financial Accounting Standards Board (FASB) is planning on adopting IFRS here in the United States. A benefit of having one world wide use of financial reporting is that it makes it easier to compare the financial position of different companies in different countries. Also, it makes it easier for multi – national companies who have to report two different statements: one for GAAP and one for IFRS. IFRS also has less overall detail. It has been in use for only about ten years and all of its rules fit into a book only about two inches thick.

There are many differences between GAAP and IFRS, but only a few will be discussed. First, IFRS does not permit LIFO. LIFO stands for Last In, First Out and is a merchandise inventory method. When stocking merchandise, the old items are pushed to the back to make room for the new items of the same kind. For example, think of a group of people that are crowded into a narrow elevator with a small door. When the elevator reaches its destination, the last people to get in the elevator have to be the first people to get out of the elevator.

Next, IFRS doesn’t use historical cost. Historical cost is the original monetary value of an item. For an example, if land was originally purchased one hundred years ago for $50,000, then that land would still be on the books for $50,000. Instead, IFRS revalues items at their value or market costs and can be marked up or marked down.

Thirdly, IFRS doesn’t include extraordinary items. Extraordinary items are defined as events and transactions that are distinguished by their unusual nature and by the infrequency of their occurrence. These items receive a special placement on GAAP’s income statement while IFRS prohibits the reporting of extraordinary items. Examples of extraordinary items would be having an earthquake or a hailstorm as long as the occurrence of an earthquake or hailstorm is not common in that specific geological location.

Also, GAAP requires the reporting of comprehensive income. Comprehensive income is the net income of a company plus the gains or losses that are recognized directly in equity rather than net income. For IFRS, comprehensive income is permitted but not mandatory for reporting.

In conclusion, financial statements are a written report that quantitatively describe the health of a company. Also, GAAP and how it is very detailed unlike IFRS which has very broad rules, thus making its manual less detailed. IFRS is also growing in popularity around the world. And finally about some of the differences between GAAP and IFRS such as LIFO, historical cost, extraordinary items, and comprehensive income.