33 INTRODUCTION
Chapter 4 demonstrated that the difficulties of convergence, although not in- surmountable, should not be underestimated. Even countries with a long rela- tionship and strong position in the international accounting harmonization process found themselves at different stages of convergence. This chapter ex- amines a selection of countries where experience illustrates important issues that need to be resolved if full convergence is to be achieved.
Some of these issues are internal and depend on the availability of a robust infrastructure with which to establish change. Although countries may pro- fess their strong intention to adopt International Financial Reporting Stan- dards (IFRSs), implementing this policy can be very difficult. Other issues revolve around the match between the basis of IFRSs and the economic, legal, and political environment within the country.
Externally, there is the matter of the position a country adopts with respect to international relations and the strategies of its neighboring countries. The cost of adopting IFRSs for an organization may not be outweighed by the benefits if other countries within the same geographical, political, or trading set are not adopting them.
Chapter 4 highlighted the convergence issues faced by the G4+1 countries (Australia and New Zealand, Canada, United Kingdom, United States) and are taken to represent North America, Europe and Australasia. The follow- ing discussions contrast the mixture of various influences and the pressures
operating on convergence in other parts of the world, mainly countries in the Asia-Pacific Basin.
Japan is illustrated, as it is currently the only country in this region with which the IASB has direct liaison. The other countries highlighted may not be in the forefront of the convergence debate to date but may be financially sophisticated (such as Taiwan) or currently experiencing great economic growth (such as the People’s Republic of China). A further issue, rarely ad- dressed in questions on convergence, is the position of Islamic countries. The specific example of Malaysia is given as well as an examination of Islamic standard setting.
JAPAN
Japan is one of the major capital markets in the world, and it is a strong sup- porter of the philosophy of the IASB. Under the Commercial Code in Japan, each joint stock company has to prepare an annual report and accounts.
These include an income statement, balance sheet, details of proposed profit distribution, and accompanying schedules and reports. Under the Securities and Exchange Law, companies that issue designated securities must file half- yearly and annual reports with the prime minister and with the stock ex- changes where their securities are listed.
Japanese Generally Acceptable Accounting Principles (GAAP) comprise Business Accounting Principles issued by the Business Accounting Council (BAC), standards issued by the Accounting Standards Board of Japan (ASBJ), and Practical Guidelines issued by the Japanese Institute of Certified Public Accountants (JICPA). In 2001, the Financial Accounting Standards Founda- tion (FASF) was established, and the ASBJ was organized as an independent, private sector organization under FASF.
In recent years, Japanese accounting standards have been revised sub- stantially to be more compatible to IFRSs, but full convergence has not yet been achieved. Some Japanese companies are listed on the European Union exchanges, and the dilemma is whether those exchanges will recognize Japanese standards as being the equivalent of IFRSs. This is a solution de- sired by Japan, but it is reasonable to assume that this is not possible until Japanese standards are accepted as full equivalents of IFRSs. The alterna- tive that presents itself is that Japanese companies with a European Union listing will be required to carry out reconciliation between Japanese stan- dards and IFRSs.
The position is further complicated by Japan’s close ties with the United States and by the listing of its companies on U.S. stock exchanges. It would be very burdensome to carry out reconciliation between Japanese standards and
IFRSs for the European Union as well as Japanese standards and U.S. GAAP for the U.S. markets. One solution Japan is seeking is to bring about improve- ments in its own auditing practices and converging Japanese Auditing Stan- dards with International Standards on Auditing. The hope is that, by strengthening auditing, Japanese Accounting Standards might be accepted as the equivalent of IFRSs, but it is difficult to regard this as a tenable position.
Although Japan remains supportive of the IASB, the country considers that there is an unbalanced focus on European issues, and that this is leading to deficient interpretations and applications of the Conceptual Framework.
Japan is also concerned that IFRSs sometimes conflict with the accounting and economic environment in Japan and with its own commercial code. The country is currently active in convergence discussions, and it attempts to elim- inate gradually as many differences as it can between its own standards and IFRSs. The emphasis is definitely on converging with the IASB as far as possi- ble (that is, reaching a negotiated agreement on a standard rather than adopt- ing IFRSs as they are issued).
In October 2004, the IASB and the ASBJ commenced discussions on launching a joint project to minimize differences between IFRSs and Japanese Accounting Standards. The ASBJ emphasized its enthusiasm for reducing dif- ferences between standards as much as possible.
MALAYSIA
The Financial Reporting Act of 1997 established the Malaysian Accounting Standards Board (MASB) as an independent authority to develop and issue accounting and financial reporting standards in Malaysia. At the same time, the Financial Reporting Foundation (FRF) was established. The FRF, as a trustee body, has responsibility for the oversight of the MASB’s performance, financial and funding arrangements, and provision of initial guidance for the MASB on proposed standards and pronouncements. It has no direct responsi- bility with respect to standard setting.
The legal status of accounting standards flows mainly from the Financial Reporting Act of 1997. This states that all financial statements required to be prepared or lodged under any law administered by the Securities Commis- sion, the Central Bank (Bank Negara Malaysia), or the Registrar of Compa- nies must be prepared in compliance with the MASB.
Initially, the Board adopted 24 of the extant IASs and Malaysian Account- ing Standards (MASs) issued by the Malaysian professional accountancy bod- ies prior to the creation of the MASB. Adoption by the MASB gave these IASs and MASs the status of approved accounting standards until each of these standards is amended, rescinded, or replaced by a new MASB Standard.
Different Views of Convergence • 35
The Board has principles, objectives, and concepts in their Proposed Framework for the Preparation and Presentation of Financial Statements to assist in setting standards. In addition, MASB Standards are developed with reference to the work of other national standard setters such as Aus- tralia, Canada, New Zealand, the United Kingdom, the United States, and the IASB.
The mission of the MASB is to develop and promote high quality account- ing and reporting standards that are consistent with international best prac- tices for the benefit of users, preparers, auditors, and the public in Malaysia.
In a wider context, the MASB seeks to contribute directly to the international development of financial reporting for the benefit of users, preparers, and au- ditors of financial reports.
At the end of 2004, the MASB issued four new Exposure Drafts that are revisions to existing standards. The MASB reiterated its policy of converging with IFRSs. It intends that all future standards it publishes will be modeled closely on IFRSs and modifications will only be made if essential.
One future objective of the MASB is to promote and support research in the area of financial reporting, in particular for emerging markets and Islamic markets. This issue is not high on the agenda of the IASB, but several Islamic accounting standards have been issued, and the background to these stan- dards is discussed at the end of this chapter.
PEOPLE’S REPUBLIC OF CHINA
Initially, standards were developed in China to regulate the running of state-owned corporations. The main purpose of the regulatory require- ments has been to generate an inventory of available assets, and, not sur- prisingly in a planned economy, little attention has been paid to financial performance as revealed by the income statement. The regulations were di- rected at production goals and financial and cost plans. This approach has been recognized as hampering a developing economy and the aspirations of China in world trade, and existing regulations are currently being phased out in favor of IFRSs.
The first stage of development was funding from the World Bank to sup- port the Ministry of Finance (MOF) of the People’s Republic of China (PRC) to produce 30 standards in a three-year period and exposure drafts were is- sued between 1994 and 1996. The first pronouncement was Accounting Stan- dards for Business Enterprises. This is a conceptual framework with the same purposes and substance as the IASC’s framework at that time, although there are some significant differences, particularly the emphasis on the government as a prime user of financial statements.
The original timetable of setting 30 standards for publication was not met, mainly due to the lack of infrastructure. The Ministry of Finance is the legal standard setter and, in 1998, established the China Accounting Standards Committee (CASC) to continue the development of standards. Their task is to complete the first phase of the project and to produce additional standards addressing international issues that were on the international agenda, for ex- ample interim reporting.
In 2001, the State Council issued Financial Accounting and Reporting Rules for Enterprises (FARR), and these apply to larger enterprises and those requiring external funding. Where inconsistencies exist between pronounce- ments issued by the MOF and FARRs, the requirements of the latter apply. In order to improve and develop its own structures and systems, China has been positioning itself to reach the level of quality found in the best international accounting practices.
This is an enormous task, and the country is now in a stage of transition.
The consequence is that Chinese companies wishing to list shares on U.S.
markets must prepare three sets of statements: one using PRC standards, one using international standards, and one using U.S. GAAP.
The MOF wants Chinese accounting standards to reflect the approach of IFRSs to accounting and reporting issues, but it also is compelled to take into account the existing domestic legal framework and the economic environment.
State-owned enterprises still dominate the economy, and even where they have been transferred into joint stock enterprises, there remains considerable politi- cal involvement at the regional and national level. The economy is made up of partial “free” markets. The accounting and financial infrastructure, although improving, is at a rudimentary stage in some sections of the country.
TAIWAN, REPUBLIC OF CHINA
In 1983, the Ministry of Finance in Taiwan convened a conference at which the Accounting Research and Development Foundation (the Foundation) was established. The role of the Foundation is to promote accounting knowledge and expertise and to enhance the quality of accounting and auditing practices.
The development of an accounting standard setting body reflected Taiwan’s increasing economic sophistication and growing international trade, particu- larly with the United States.
Not surprisingly, Taiwan initially based its accounting standards on those of U.S. GAAP. In 1996, however, Taiwan decided to adopt Interna- tional Accounting Standards. A project has been underway since 1999 to compare the existing Taiwanese standards with IASs and to make revisions where necessary.
Different Views of Convergence • 37
The process of issuing standards starts with the Financial Accounting Standards Committee (FASC) determining the accounting issue to be ad- dressed. An ad hoc Committee is formed to write an original draft. The Se- curities and Futures Commission (SFC), a department of the Ministry of Finance, expresses its opinion on the appropriateness of the topic, and the FASC then writes an Exposure Draft. Their deliberations are assisted by one of the full-time researchers of the Foundation who will prepare the initial text. The Exposure Draft is issued for comment, and finally the accounting standard is issued. Contentious issues such as leases and pensions are de- bated through a public hearing. The whole process is consensus-driven, and normally a two-thirds voting majority is required for a standard to be issued.
The efforts for Taiwan to achieve complete comparability with IFRSs are substantial. The resources they have to invest in standard setting are limited, and consideration has to be taken of the environment. At this stage, the coun- try has in essence three strands of influences built into its standards. There are the remnants of the FASB-based standards and the philosophy of a rules- based approach attaching to them. There are the IFRSs that have been adopted. Finally, there are the modified standards where the Ministry of Fi- nance has determined that a proposed standard has to reflect the particular concerns and interests of Taiwan.
ISLAMIC FINANCE AND STANDARD SETTING
Islamic finance, unlike conventional banking, is a faith-based system of finan- cial management that derives its principles from the Shariah. The code of Shariah is based on the canon law derived from the Qur’an. The basic princi- ple of Islamic banking is the prohibition of receiving or paying riba, or inter- est. In 1991, the Islamic banking and finance industry decided that international accounting standards were inadequate to meet its needs. The Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI), based in Bahrain, was established to prepare accounting, auditing, governance, ethics, and Shariah standards for Islamic institutions. The mem- bership of AAOIFI consists of 110 members, representing 24 countries.
Although it has a long history, a revival of Islamic banking took place in the 1970s. Compared to conventional banking where interest rates fluctu- ate according to economic conditions, Islamic banking charges a fixed profit rate for the funds provided. The profit rate is determined at the be- ginning of the financing contract. The Islamic financial system employs the concept of participation in the enterprise, utilizing the funds on a profit- and-loss sharing basis. This does not imply that investments with financial
institutions are speculative. Any such risks can be excluded by careful in- vestment policy, diversification of risk, and prudent management by Is- lamic financial institutions.
The concept of profit-and-loss sharing, as a basis of financial transactions, is a progressive one as it distinguishes good performance from poor perfor- mance. Islamic banks are structured to retain a clearly differentiated status between shareholders’ capital and clients’ deposits in order to ensure correct profit sharing according to Islamic law.
In recent times, Islamic banks have emerged in Muslim nations such as Saudi Arabia, Egypt, and many others. These banks usually work on the basis of profit-and-loss sharing, and function without interest or usury. Although elimination of interest in all its forms is an important feature of the Islamic fi- nancial system, Islamic banking is much more. It aims to eliminate exploita- tion and to establish a just society by the application of the Shariah or Islamic law to the operations of banks and other financial institutions. To ensure compliance to the Shariah, Islamic banks use the services of religious boards comprised of Shariah scholars.
There is not universal agreement on certain Shariah concepts. To date, the AAOIFI has issued 56 standards on accounting, auditing, governance, ethical, and Shariah standards. These standards have been implemented in leading Is- lamic banking and finance centers globally, such as Bahrain, Sudan, Jordan, Malaysia, Qatar, and Saudi Arabia, where they are either mandatory or are used as a guideline by the national regulators.
Although Islamic markets and finance have seen unprecedented growth in certain parts of the world, the issue has yet to gain prominence in the agenda of the IASB. The influence of Islamic finance and accounting standard setting in Malaysia is briefly illustrated below.
The Islamic financial system in Malaysia encompasses banking, takaful(or insurance), money markets, and capital markets. Islamic financing has seen unprecedented growth. In Malaysia, for example, the volume traded in the Is- lamic inter-bank money market has reached RM340 billion to date and the Central Bank reports that the annual growth rate of Islamic banking assets is 15% to 20%.
The Islamic financial transactions in Malaysia have also seen a surge in the use of Islamic leases or Ijarah-based transactions. The form of Ijarah contracts can be compared to conventional leasing arrangements. However, although the principles of Ijarahand conventional leasing are operationally similar, there are fundamental differences between the two that make standards on conventional leasing inadequate under Shariah principles.
To date, MASB 10 Leases explicitly excludes any forms of Islamic leases in Malaysia, and an Exposure Draft has been issued specifically for Islamic leases.
Different Views of Convergence • 39
Islamic finance is also being experienced in non-Muslim environments or entities. For instance, corporations such as Nestlé have floated an Islamic bond (called a sukuk bond), and the Dow Jones maintains an Islamic stock index. The German state of Saxony-Anhalt is due to launch the first Islamic Eurobond, which will be listed on the Luxembourg Stock Exchange.
The foremost principle of AAOIFI is that all Islamic financial institutions should apply, either by regulatory or Shariah requirement, the standards is- sued by the AAOIFI if such standards are available. If there are no specific standards, the Islamic financial institution may use standards other than those issued by AAOIFI, as deemed appropriate, that do not contravene the Shariah Rules and Principles.
Should the requirements of an alternative be in conflict with Shariah Rules and Principles, and the institution be compelled to use the alternative stan- dards, a disclosure must be made of the point of conflict while adhering to the requirements of Shariah requirements.