Enron, Global-Crossing, and WorldCom recent cases have become a history in accounting practice in the U.S. and the world. The history tells us how fragile the monitoring process of the company’s financial system is. The situation leads to accountancy scandals that hurt investors, employees, and the industries.
The situation suggests that the role of accounting and financial report gains extreme importance in the 21st century. Because many stakeholders (company’s internal executives, press, and investors) require, the debate of how to serve the financial information to stakeholders becomes important as well. More than a decade ago, collaboration among accountants entrusted the task of creating sound guidelines to conduct the making of corporate financial reports. These organizations represent interests of business and authoritative bodies around them.
Some of those organizations managed to formulate designs that received recognition from accounting societies all over their nation. However, as forecasted by Patton and Littleton (1970), accounting practice from different business environment resulted in the different standards of financial reporting.
In United States, the design of financial reporting is more recognized as the Conceptual Framework of Financial Reporting. It is a part of the United States Generally Accepted Accounting Principles (US GAAP), which is developed and created by the Financial Accounting Standard Board (FASB). The conceptual framework defines the purpose of creating a reporting standard, elaborate the conditions and constraints faced by business within the society and describe what values should the financial report have, in order to deal with the constraints and achieve the defined purposes. Those values include relevance, reliability, comparability, consistency, etc (Kieso, 2004).
In the next stage, globalization takes place and alters the business perspective of all people. Larger business institutions have weaker national identity and tend to describe themselves proudly as multinational corporations (MNCs).
In the light of this development, the value of comparability (among other values) gains increasing importance in the making of a financial report. For investment decisions, people must be able to compare financial report of different companies, which made in different countries. This condition is unfavorable since the investors encounter different financial reporting standards.
Concerning the issue, this paper will discuss about the formulation of business combination regulation. Since there are difference between FASB and IASB, this paper will also discuss each view regarding the business combination. Prior to the discussion, we will provide facts about mergers and acquisition that underlie the formulation of regulation on business combination.
2. Facts on Merger And Acquisitions
In order to spread organization wings and become a multinational enterprise, top managements of a company might take various policies such as exploring new market, developing new products, or conducting mergers and acquisitions to strengthen companies’ presence in specific market.
Mergers and Acquisition (M&A) are one way for a company to keep their business growing and getting bigger. According to the Securities Data Company, the dollar value of U.S. (M&A) in 1996 recorded a 27 percent increase to US$658.8 billion from US$518 billion in 1995.
3. Role of FASB in Accounting Practice in the U.S
3.1 Financial Standard between IASB and FASB
Financial reporting is a mean of controlling business activities. It informs owners and investors that lack direct interactions with everyday operations about the performance of the company they lead or they have interested in the company’s stocks. Financial report also provides financial insights, which are the primary measurement factors of business success or failure. Because of its importance, there is a huge need for transparency and accuracy in financial reporting. With regards of those needs, the Financial Accounting Standard Board (FASB) has always put emphasize on efforts of producing the most appropriate standards for financial reporting.
The FASB itself stated that they conducted numerous efforts to improve the financial reporting standards in the United States. One of those efforts is the short-term convergence projects to eliminate individual differences between US GAAP and the IFRS.
The IASB and the FASB acknowledged that convergence of IFRS and US GAAP is a primary objective of both boards. Both boards have worked hard during the last several years to reduce the differences between the two sets of standards. However they have also acknowledge that there are many differences between the US GAAP and IFRS that will pose as difficulties in using, preparing, auditing or regulating cross-border financial reporting. Therefore, the process of converging between the standards is a gradual process that would take time and effort from both boards.
The International Accounting Standard Board is an independent, privately funded accounting standard-setter based in London, UK. The organization is committed to develop a set of global accounting standards in the basis of public interest. The standards will be with the following characteristics: understandable, enforceable, transparent and comparable. The organization has members from nine countries with a variety of functional backgrounds. In efforts of creating global standards of accounting, the IASB cooperates with accounting communities from all over the world to achieve convergence in accounting standards.
3.1.2 IASB and FASB
In their effort of producing financial reporting standard that would be accepted by the global accounting community, The IASB performs various types of convergence projects with the most recognized accounting standards in the world. The FASB itself stated that they conducted numerous efforts to improve the financial reporting standards in the United States. One of those efforts is the short-term convergence projects to eliminate individual differences between US GAAP and the IFRS.
The short-term convergence projects aim at addressing differences that meet the criteria for inclusion in the project scope. Issues that require deeper and more comprehensive considerations will use other types of convergence projects over a longer term of cooperation. The projects are divided into phases. Each phase discusses several areas and several issues within those areas.
For example, in May 22, 2006, the FASB addressed five areas: inventory costs, asset exchanges, accounting changes, earnings per share and balance sheet classification. In the earning per share area, the FASB discovered that they achieve different conclusions than the IASB. The board directed the staff so that they would further analyze those differences for discussion at future meeting between the board and the IASB (Project Updates, 2006).
The discussion between the FASB and the IASB generally about differences in detail matters within the financial reporting standards. The discussions do not always ends with agreement or the achievement of a new acceptable standard, however, the process is working gradually. In some cases, the IASB would have to settle with the extent of change the FASB would endure for the sake of an international standard.
3.2 Socialization Effort
In order to develop a world where a single accounting standard should exist, there are still various steps to be taken. As mentioned previously, the developing nations seemed to be reluctant in participating in the effort of creating and practicing a single standard. They are reluctant to take notice of what is going on within the international level of standard-setting organizations. They prefer to follow the guidance of a single standard that they recognize earlier. For some nations, that is the US GAAP, and for other the suitable standard might be the UK GAAP.
However, both the US GAAP and The UK GAAP is under evaluation by the IASB. The FASB, ASB and IASB is currently under the process of dissolving differences and creating a single and sound standards for global accounting communities. If the UK GAAP and the US GAAP experience a change, the socialization effort by the countries will bring the world together within a single set of standards.
4. FASB and Views on Business Combination
In the recent FASB document about business combinations, many issues are not address by FASB and IAS. They are as following:
4.1 Characteristics of an Assembled Workforce
It is found there are still inconsistencies regarding the assembled workforce. The similarity is both assembled workforce is not yet defined in FASB Statement No 141 or IAS No. 38 about Intangible Assets. The inconsistencies include points as following:
4.1.1 View 1
In this view, the assembled workforce is considered as intellectual capital of knowledgeable workers. Therefore, in a merger and acquisition, the acquirer obtains the benefit of having additional skilled workers. This view means that the assembled workforce is the specialized knowledge ad experience that workers bring to jobs. It shows to be underlying premise of both statement 141 and IAS 38.
Based on this view, there are possibilities to double count the assembled workforce as an intellectual capital and “know how”, which is considered in the other intangible assets of the entity such as proprietary technologies, customer intimacy and many others (FASB, 2006).
Concerning the issue, Staff of FASB believes that intellectual capital can be separated from the assembled workforce. The reason of this views is based on the fact that intellectual capital has been captured in the fair value of intangible assets of other entities like mentioned above (FASB, 2006).
4.1.2 View 2
In the second view, an assembled workforce is considered as a collection of employees that allows acquirer to perform day-to-day operational activities. The consequence of this view means that the acquirer does not need to carry out human resource recruitment process like initial hiring and training employees because the acquisition include the workforce that is able to continue operating business as usual.
In this view, training refers to the incurred cost because of lost productivity and training course fees to obtain a new employee that has already experience in the job function he or she is hired by a company. Therefore, in this view, training does not relate and involve the workers’ knowledge and experience that are gained over time (Financial Accounting Standards Board (FASB), 2006).
4.1.3 Questions Concerning the Assembled Workforce
The different views on the assembled workforce lead to many questions concerning the acquisition of intellectual capital in a merger and acquisition. Some of the questions are as following:
Does the assembled workforce represent intellectual capital (view 1) or does it represent a collection of employees (view 2)?
The problem of view 1 lies on the created date of the Statement 141, which is created five years ago. Under such circumstances, the staffs agree with viewers who believe there should be an appropriate measurement of the fair value of an assembled workforce. Fortunately, this issue has been solved by referring to FASB Statement No. 157, Fair Value Measurements, which mentions that there should be valuation techniques that comply with market, income, and cost approach (FASB, 2006).
4.2 Accounting for R&D Assets
Like the views on intangible assets, the accounting proposed in the BC ED for R&D assets would have significant impact to current U.S. GAAP. In the FASB interpretation No. 4, Applicability of FASB Statement NO.2 to Business Combinations Accounted for by the Purchase Method, require the acquirer to expense both tangible and intangible assets, which would be used in R&D and have no future use, straight away (FASB, 2006). Similarly, to the assembled workforce issue, this R&D issue also generates some questions as following:
4.2.1 Is an In-process research and development (IPR&D) Project an Asset?
In this view, some staffs of FASB disagreed to consider IPR&D Project as an asset because IPR&D, which is acquired in a business combination, does not fulfill the definition of an asset in FASB concepts Statement No. 6, Elements of Financial Statements since its success does not characterize future economic benefits (FASB, 2006).
4.2.2 Is the Fair Value of IPR&D Reliably Measured?
Concerning the questions, it is found that many respondents opposed the FASB’s proposal to capitalize IPR&D. This is because the respondents view that the fair value of IPR&D cannot be reliably measured.
However, FASB asserts that IPR&D should be capitalized base on Paragraph 23 of Concept Statement 6 as following:
To be included in a particular set of financial statements, an item must not only qualify under the definition of an element but also must meet criteria for recognition and have a relevant attribute that is capable of reasonably reliable measurement or estimate.
The statement highlights the staffs of FASB stance that view that IPR&D is identifiable and therefore, it is measurable (FASB, 2006).
Globalization has driven business to expand their presence into adjacent cities, countries, and even continents. The expansion can be performed by performing merger and acquisition horizontally and vertically.
According to one data, Mergers and Acquisition (M&A) are one way for a company to keep their business growing and getting bigger. Securities Data Company reveals the dollar value of U.S. (M&A) in 1996 recorded a 27 percent increase to US$658.8 billion from US$518 billion in 1995.
With the emerging phenomenon of globalization, the value of comparability within financial statements becomes more important. In order to provide stakeholders with a globally comparable financial report, the IASB has been striving to unite the world under a single set of standard. The convergence projects performed gradually between the IASB, FASB and the ASB is underway to achieve such a global standard.
However, the standards created by the IASB are generally less known to the world compare to the US GAAP and the UK GAAP. This is due to lack of socialization and fear that the ‘general’ nature of the standards would not provide sound guidelines for evaluations. However, such issues are temporary in nature. With the working process of convergence between the worldwide-known sets of standards, the applicability of the international standards would increase notably.
In addition to the difference standard of accounting policies, this paper has also showed that there are different views on business combination. FASB and IAS do not yet address many issues regarding business combination as following:
Characteristics of an Assembled Workforce
In the issue of assembled workforce, the similarity occurs since the definition of assembled workforce is not yet defined in FASB Statement No 141 or IAS No. 38 about Intangible Assets. Because of lack of definition, there are two views. First view sees the assembled workforce is considered as intellectual capital. Meanwhile, the second sees that an assembled workforce is considered as a collection of employees that allows acquirer to perform day-to-day operational activities
The consideration of In-process research and development (IPR&D) Project
Concerning the IPR&D, staffs of FASB believe that IPR&D Project should be considered as an asset because fair value of IPR&D can be measured reliably. However, respondents see that IPR&D Project can be considered as an asset since it does not fulfill the definition of an asset in FASB concepts Statement No. 6, Elements of Financial Statements since its success does not characterize future economic benefits (FASB, 2006).
Financial Accounting Standards Board (FASB). “Business Combinations: Applying the Acquisition Method Board Meeting Handout.” 18 October 2006.
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