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SHRI CHINAI COLLEGE OF COMMERCE AND ECONOMICS, ANDHERI (EAST), MUMBAI: 400 069 A PROJECT REPORT ON “INTERNATIONAL FINANCIAL REPORTING DYSTEM (IFRS)” BACHELOR OF MANAGEMENT STUDIES (BMS) T.Y.B.M.S. (SEMESTER V) UNDER THE GUIDANCE OF (Prof. CHEATNA BADIYANI) SUBMITTED BY JAY C RAICHURA UNIVERSITY OF MUMBAI ACADEMIC YEAR 2011-2012

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    SHRI CHINAI COLLEGE OF COMMERCE AND ECONOMICS,

    ANDHERI (EAST), MUMBAI: 400 069

    A

    PROJECT REPORT

    ON

    INTERNATIONAL FINANCIAL REPORTING DYSTEM (IFRS)

    BACHELOR OF MANAGEMENT STUDIES (BMS)

    T.Y.B.M.S. (SEMESTER V)

    UNDER THE GUIDANCE OF

    (Prof. CHEATNA BADIYANI)

    SUBMITTED BY

    JAY C RAICHURA

    UNIVERSITY OF MUMBAI

    ACADEMIC YEAR 2011-2012

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    DECLARATION

    I, JAY C RAICHURA , OF SHRI CHINAI COLLEGE OF COMMERCE &

    ECONOMICS , OF TYBMS HEREBY DECLARE THAT I HAVE COMPLETED THIS

    PROJECT ON INTERNATIONAL FINANCIAL REPORTING SYSTEM (IFRS)

    during THE ACADEMIC YEAR 2011-2012 THE INFORMATION SUBMITTED IS TRUE

    ORIGINAL TO THE BEST OF MY KNOWLEDGE.

    --------------------------------------------

    SIGNATURE OF THE STUDENT

    CERTIFICATE

    I Prof. CHETNA BADIYANI HEREBY CERTIFY THAT JAY C RAICHURA OF SHRI

    CHINAI COLLEGE OF COMMERCE & ECONOMICS, OF TYBMS HAS COMPLETED HIS

    PROJECT ON INTERNATIONAL FINANCIAL REPORTING SYSTEM

    (IFRS) DURING THE ACADEMIC YEAR 2010-2011. THE INFORMATION

    SUBMITTED IS TRUE AND ORIGINAL TO THE BEST OF MY KNOWLEDGE.

    --------------------------------- -------------------------------------------------

    SIGNATURE OF PROJECT SIGNATURE OF THE PRINCIPAL

    GUIDE

    --------------------------------------

    SIGNATURE OF EXTERNAL

    EXAMINER

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    ACKNOWLEDGEMENT

    This project on INTERNATIONAL FINANCIAL REPORTING SYSTEM

    (IFRS) is a result of co-operation hard work and good wishes of many people. I student of

    SHRI CHINAI COLLEGE OF COMMERCE AND ECONOMIC S would like to thank my

    project guide Prof. CHETANA BADIYANI for her involvement in my project work and timely

    assessment that provided me inspiration and valued guidance throughout my study.

    I owe the debt to Dr. MALINI JOHRI principal of SHRI CHINAI COLLEGE OF

    COMMERCE AND ECONOMICS for giving an opportunity to present a creative outcome in

    the form of project work.

    I also take this opportunity to express my sincere gratitude to the library staff that has provided

    me right information and study material at the right time.

    I am also thankful to my parents, professors, and even my friends and relatives for their guidance

    and encouragement.

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    EXECUTIVE SUMMARY

    Project Summary

    This project covers a brief overview of IFRS. It majorly includes:

    History and working background of IFRS

    Need for IFRS

    Comparison between standards (U.S. GAAP and IFRS)

    This project has been undertaken with the following objectives:

    Revisiting the concepts of accounting as per US GAAP and IAS.

    Understanding the major differences in accounting practices.

    Summarizing the similarities and differences between IFRS,U.S. GAAP and Indian

    GAAP.

    Objectives:

    My objectives behind taking up this project were:

    Good revision of the accounting standards.

    A clear and concise understanding of the existence of IFRS standards, and their usage.

    Scope of Convergence.

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    TABLE OF CONTENT

    CHAPTER NO

    TOPIC NAME PAGENO.

    TITLE PAGE

    DECLARATION & CERTIFICATE

    ACKNOWLEDGEMENT

    EXECUTIVE SUMMARY

    I

    II

    III

    IV

    1. FINANCIAL RPORTING STANDARDS 1-7

    2. INTERNATIONAL ACCOUNTING

    STANDARD BOARD(IASB)

    8-13

    3. USE OF IFRSs AROUND THE WORLD 14-21

    4. INTERNATIONAL STANDARD

    CONVERGENCE

    22-31

    5. UNDERSTANDING THE VARIOUS

    ACCOUNTING SYSTEM AS PER IFRS

    32-38

    6. SUMMARY OF COMPARISIONS

    BETWEEN IFRS , US GAAP & INDIAN

    GAAP

    39-50

    7. ANNEXURE; LIST OF INTERNATIONAL

    ACCOUNTING STANDARDS

    51-53

    8. BIBLIOGRAPHY & WEBLIOGRAPHY 54

    1. FINANCIAL REPORTING STANDARDS

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    1.1 Objective of Financial Statements

    1.2 Importance of reporting standards in security analysis and valuation

    1.3 Standard-setting bodies

    1.4 Regulatory authorities

    1.5 Ongoing barriers to developing one universally accepted set of financial reported standards.

    1.6 Framework of International Financial Reporting Standards (IFRS)

    1.7 General requirements for financial statements

    1.8 Coherent financial reporting framework

    1.9 Importance of monitoring developments in financial reportingstandards:

    1.10 Disclosures of significant accounting policies

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    FINANCIAL REPORTING STANDARDS

    1.1 Objective of Financial Statements

    The objective of financial statements is to provide economic decision makers with usefulinformation about a firms financial performance and changes in financial position.

    1.2 Importance of reporting standards in security analysis and valuation

    Given the variety and complexity of possible transactions and the estimates and assumptions afirm must wake when presenting its performance, financial statements could potentially take anyform if reporting standards didnt exist.

    Reporting standards ensure that the information is useful to a wide range of users, includingsecurity analysts, by making financial statements comparable to one another and narrowing therange of managements reasonable estimates.

    1.3 Standard-setting bodies

    Standard-setting bodies are professional organizations of accountants and auditors thatestablish financial reporting standards.

    The two primary standard-setting bodies are:

    1. Financial Accounting Standards Board (FASB):

    In the United States the FASB sets forth Generally Accepted Accounting Principles (GAAP).

    2. International Accounting Standards Board (IASB):

    The IASB establishes International Financial Reporting Standards (IFRS).

    Many standard setting bodies (including the FASB) are working toward convergence with IFRS.Some of the older IASB standards are referred to as International Accounting Standards (IAS).

    Goals of IASB:

    The IASB has for stated goals:

    1. Develop global accounting standards requiring transparency, comparability, and highquality in financial statements.

    2. Promote the use of global accounting standards.

    1

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    3. Account for the needs of emerging markets and small firms when implementing globalaccounting standards.

    4. Achieve convergence between various national accounting standards and globalaccounting standards.

    1.4 Regulatory authorities

    Regulatory authorities are government agencies that have the legal authority to enforcecompliance with financial reporting standards.

    Regulatory authorities, such as the Securities and Exchange Commission (SEC) in the UnitedStates and the Financial Services Authority (FSA) in the United Kingdom, are established bynational governments.

    Most national authorities belong to the International Organization of Securities Commissions

    (IOSCO). The three objectives of financial market regulation according to IOSCO are to:

    1. Protect investors.

    2. Ensure the fairness, efficiency, and transparency of markets

    3. Reduce systemic risk.

    Because of the increasing globalizations of securities markets, the IOSCO has a goal of uniformfinancial regulations across countries.

    1.5 Ongoing barriers to developing one universally accepted set of financial reportedstandards.

    1. One barrier to developing one universally accepted set of accounting standards (referred to asconvergence) is simply that different standard-setting bodies and the regulatory authorities of different countries can and do disagree on the best treatment of a particular item or issue.

    2. Other barriers result from the political pressures that regulatory bodies face from businessgroups and others who will be affected by changes in reporting standards.

    1.6 Framework of International Financial Reporting Standards (IFRS)

    The ideas on which the IASB bases its standards are expressed in the IFRS Framework for thePreparation and Presentation of Financial Statements that the organization adopted in 2001. TheIFRS framework details the qualitative characteristics of financial statements and specifies therequired reporting elements. The framework also notes certain constraints and assumptions thatare involved in financial statement preparation.

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    Qualitative Characteristics

    To meet the objectives of fairness and usefulness financial statements should be understandable,

    relevant, reliable, and comparable. The IFRS framework describes each of these qualities.Understandability : Users with a basic knowledge of business and accounting and who make areasonable effort to study the financial treatments should be able to readily understand theinformation the statements present.

    Comparability : Financial statement presentation should be consistent among firms and acrosstime periods.

    Relevance : Financial statements are relevant if the information in them can influence userseconomic decisions or affect users evaluations of past events or forecasts of future events. To be

    relevant, information should be timely and sufficiently detailed (meaning no material omissionsor misstatements).

    Reliability : Information is reliable if it reflects economic reality, is unbiased, and is free of material errors. Specific factors that support reliability include:

    Faithful representation of transactions and events. Substance over form, presenting not only the legal form of a transaction or event, but its

    economic reality. Neutrality, an absence of bias.

    Prudence and conservation in making estimates. Completeness, within the limits of cost and materiality.

    Required Reporting Elements:

    The elements of financial statements are the by-now familiar groupings of assets, liabilities, andowners equity (for measuring financial position) and income and expenses (for measuring

    performance). The IFRS framework describes each of these elements:

    Assets are the resources the entity controls and from which it expects to derive economic benefits in the future.

    Liabilities are obligations that are expected to require an outflow of resources.

    Equity is the owners residual interest in the assets after deducting the liabilities.

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    Income is an increase in economic benefits, either increasing assets or decreasingliabilities in a way that increases owners equity (but not including contributions byowners). Income includes revenues and gains.

    Expenses are decreases in economic benefits, either decreasing assets or increasing

    liabilities in a way that decreases owners equity (but not including distributions toowners). Losses are included in expenses.

    An item should be recognized in its financial statement element if a future economic benefitfrom the item (flowing to or from the firm) is probable and if the items value or cost can bemeasured reliably.

    The amounts at which items are reported in the financial statement elements depend on their measurement base. Bases of measurement used in financial statements include the following:

    1. Historical cost :It is the amount originally paid for the asset

    2. Value : It is the amount the firm would have to pay today for the same asset.

    3. Realizable value :It is the amount for which the firm could sell the asset.

    4. Present value :It is the discounted value of the assets expected future cash flows

    5. Fair value :It is the amount at which two parties in an arms-length transaction wouldexchange the asset

    Constraints and Assumptions:

    Some of the qualitative characteristics of financial statements can be at cross-purposes.

    One of the constraints on financial statement preparation is the need to balance reliability,in the sense of being free of error, with the timelines that makes the information relevant.

    Cost is also a constraint; the benefit that users gain from the information should begreater that the cost of presenting it.

    A third constraint is the fact that intangible and non-quantifiable information about acompany (its reputation, brand loyalty, capacity for innovation, etc) cannot be captured

    directly in financial statements.

    The two primary assumptions that underlie financial statements are the accrual basis and thegoing concern assumption.

    The accrual basis means that financial statements should reflect transactions at the timethey actually occur, not necessarily when cash is paid.

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    The going concern assumptions means there is an assumption that the company willcontinue to exist for the foreseeable future. If this is not the case, then presenting thecompanys financial position fairly requires a number of adjustments (for example, itsinventory or other assets may only be worth their liquidation values).

    1.7 General requirements for financial statements

    International Accounting Standards (IAS) No. 1 defines which financial statements are requiredand how they must be presented. The required financial statements are:

    Balance sheet. Income statement. Cash flow statement.

    Statement of changes in owners equity. Explanatory notes, including a summary of accounting policies.

    The fundamental principles for preparing financial statements are stated in IAS No. 1:

    Fair presentation, defined as faithfully representing the effects of the entitys transactionsand events according to the standards for recognizing assets, liabilities, revenues andexpenses.

    Going concern basis, meaning the financial statements is based on the assumption that thefirm will continue to exist unless its management intends to (or must) liquidate it.

    Accrual basis of accounting is used to prepare the financial statements other than thestatement of cash flows.

    Consistency between periods in how items are presented and classified, with prior-periodamounts disclosed for comparison.

    Materiality, meaning the financial statements should be free of misstatements of omissions that could influence the decision of users of financial statements.

    Also stated in IAS No. 1 are principles for presenting financial statements.

    Aggregation of similar items and separation of dissimilar items. No offsetting of assets against liabilities or income against expenses unless a specific

    standard permits or requires it. Most entities should present a classified balance sheet showing present and noncurrent

    assets and liabilities.

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    Minimum information is required on the face of each financial statement and in the notes.For example, the face of the balance sheet must show specific items such as cash andcash equivalents, plant, property and equipment, and inventories. Items listed on the faceof the income statement must include revenue, profit or loss, tax expense, and financecosts, among others.

    Comparative information for prior periods should be included unless a specific standardstates otherwise.

    1.8 Coherent financial reporting framework

    A coherent financial reporting framework is one that fits together logically.

    Characteristics:

    Transparency Full disclosure and fair presentation reveal the underlying economics of the company to the financial statement user.

    Comprehensiveness All types of transactions that have financial implications should be part of the framework, including new types of transactions that emerge.

    Consistency Similar transactions should be accounted for in similar ways acrosscompanies, geographic areas, and time periods.

    Barriers:

    Barriers to creating a coherent financial reporting framework include issues related to valuation,standard setting, and measurement.

    Valuation The different measurement bases for valuation involve a trade-off betweenrelevance and reliability. Bases that require little judgment, such as historical cost, tend to

    be more reliable, but may be less relevant that a basis like fair value that requires more judgment.

    Standard setting Three approaches to standard setting are a principle-based approachthat relies on a broad framework, a rules-based approach that gives specific guidanceabout how to classify transactions, and an objectives-oriented approach that blends theother two approaches. IFRS is largely a principles-based approach. U.S. GAAP hastraditionally been more rules-based, but FASB is moving towards an objectives-orientedapproach.

    Measurement Another trade-off in financial reporting is between properly valuing theelements at one point in time (as on the balance sheet) and properly valuing the changes

    between points in time (as on the income statement). An asset/liability approach, whichstandard setters have largely used, focuses on balance sheet valuation. A

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    revenue/expense approach would tend to place more significance on the incomestatement.

    1.9 Importance of monitoring developments in financial reporting standards:

    As financial reporting standards continue to evolve, analysts need to monitor how thesedevelopments will affect the financial statements they use. An analyst should be aware of new

    products and innovations in the financial market those generate new types of transactions. Thesemight not fall neatly into the existing financial reporting standards. The analyst can use thefinancial reporting framework as a guide for evaluating what effect new products or transactionsmight have on financial statements.

    To keep up to date on the evolving standards, an analyst can monitor and professional journalsand other sources, such as the IASB ( www.iasb.org )

    1.10 Disclosures of significant accounting policies:

    Companies that prepare financial statements under IFRS or U.S. GAAP must disclose their accounting policies and estimates in the footnotes. Significant policies and estimates that requiremanagement judgments are also addressed in Managements Discussion and Analysis. Ananalyst should use these disclosures to evaluate what policies are discussed, whether cover all therelevant data in the financial statements, which policies required management to make estimates,and whether the disclosures and estimates have changed since the prior period.

    Another disclosure that is required for public companies is the like impact of implementing

    recently issued accounting standards. Management can discuss the impact of adopting a newstandard, conclude that the standard does not apply or will not affect the financial statementsmaterially, or state that they are still evaluating the effects of the new standards. Analysts should

    be aware of the uncertainty this last statement implies.

    http://www.iasb.org/http://www.iasb.org/
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    2. INTERNATIONAL ACCOUNTING STANDARDS BOARD(IASB)

    2.1 IASB due process

    2.2 IASB chronology

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    2. INTERNATIONAL ACCOUNTING STANDARDS BOARD(IASB)

    2.1 IASB due process

    The IASB follows a rigorous open due process. All meetings of the IASB and of the IFRSInterpretations Committee (formerly IFRIC) and its formal working groups are held in publicand are usually webcast. Formal due process for projects normally, but not necessarily, involvesthe following steps (steps required by the IFRS Foundations Constitution are indicated by anasterisk*):

    Staff is asked to identify and review the issues associated with a potential agenda topicand to consider the application of the Framework to the issues;

    National accounting requirements and practices are studied and views about the issues areexchanged with national standard-setters;

    The IFRS Foundation Trustees and the IFRS Advisory Council are consulted about thetopics and priorities in the IASBs agenda;

    An advisory group is formed (generally called a working group) to advise the IASB andits staff on the project;

    A discussion document is published for public comment (usually called a discussion

    paper, which will often include the Boards preliminary views on some of the issues inthe project);

    An exposure draft approved by at least nine votes (ten votes once there are 16 members)of the IASB is published for public comment, including therein any dissenting opinionsheld by IASB members (in exposure drafts, dissenting opinions are referred to asalternative views);

    A basis for conclusions is published within the exposure draft;

    All comments received within the comment period on discussion documents andexposure drafts are considered and discussed in open meetings;

    The desirability of holding a public hearing and of conducting field-tests is consideredand, where appropriate, these steps are undertaken;

    A Standard is approved by at least nine votes (ten votes once there are 16 members) of the IASB and any dissenting opinions are included in the published Standard; and

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    A basis for conclusions is included within the final Standard explaining, among other things, the steps in the IASBs due process and how the IASB has dealt with publiccomments received on the exposure draft.

    2.2 IASB chronology

    1973 Agreement to establish IASC is signed by representatives of the professional accountancy bodies in Australia, Canada, France, Germany, Japan, Mexico, Netherlands, UnitedKingdom/Ireland and United States.

    Steering committees IASCs first three projects are appointed.

    1975 First final IASs published: IAS 1 (1975) Disclosure of Accounting Policies, and IAS 2(1975) Valuation and Presentation of Inventories in the Context of the Historical Cost System.

    1982 IASC Board is expanded to up to 17 members, including 13 country members appointed

    by the Council of the International Federationof Accountants (IFAC) and up to 4 representativesof organizations with an interest in financial reporting. IFAC recognizes and will look to IASCas the global accounting standard-setter.

    1989 The Federation of European Accountants (FEE) supports international harmonization andgreater European involvement in IASC.

    IFAC adopts a public-sector guideline to require government business enterprises to followIASs.

    1994 IASC Advisory Council is established, with responsibilities for oversight and finances.

    1995 European Commission supports the agreement between IASC and InternationalOrganization of Securities Commissions (IOSCO) to complete core standards and concludes thatIASs should be followed by European Union multinationals.

    1996 US SEC announces its support of IASCs objective to develop, as expeditiously as possible, accounting standards that could be used in preparing financial statements for the purpose of cross-border offerings.

    1997 Standing Interpretations Committee (SIC) is formed and has 12 voting members. Themission was to develop interpretations of IASs for final approval by IASC.

    Strategy Working Party is formed to make recommendations regarding the future structure andoperation of IASC.

    1998 IFAC/IASC membership expands to 140 accountancy bodies in 101 countries.

    IASC completes the core Standards with approval of IAS 39.

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    1999 G7 Finance Ministers and International Monetary Fund urge support for IASs tostrengthen the international financial architecture.

    IASC Board unanimously approves restructuring into 14-member board (12 full-time) under anindependent board of trustees.

    2000 IOSCO recommends that its members allow multinational issuers to use IASC standardsin cross-border offerings and listings.

    Ad hoc nominating committee is formed, chaired by US SEC Chairman Arthur Levitt, tonominate the trustees who will oversee the new IASB structure.

    IASC member bodies approve IASCs restructuring and a new IASC Constitution.

    Nominating committee announces initial trustees.

    Trustees name Sir David Tweedie (chairman of the UK Accounting Standards Board) as the firstChairman of the restructured IASB.

    2001 Members and new name of IASB are announced. IASC Foundation is formed. On 1 April2001, the new IASB assumes its standard-setting responsibilities from the IASC. Existing IASsand SICs adopted by IASB.

    IASB moves into its new offices at 30 Cannon Street, London.

    IASB meets with chairs of its eight liaison national accounting standard-setting bodies to begincoordinating agendas and setting out convergence goals.

    2002 SIC is renamed as the International Financial Reporting Interpretations Committee(IFRIC) with a mandate not only to interpret existing IASs and IFRSs but also to provide timelyguidance on matters not addressed in an IAS or IFRS.

    Europe requires IFRSs for listed companies starting 2005.

    IASB and FASB issue joint agreement on convergence.

    2003 First final IFRS and first IFRIC draft Interpretation are published.

    Improvements project is completed major revisions to 14 IASs.

    2004 Extensive discussions about IAS 39 in Europe, leading to EC endorsement with twosections of IAS 39 carved out.

    Webcasting of IASB meetings begins.

    IFRSs 2 through 6 are published.

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    IFRICs 1 through 5 are published.

    2005 IASB Board member becomes IFRIC chairman.

    Constitutional changes.

    US SEC publishes roadmap to eliminating IFRS-US GAAP reconciliation.

    EC eliminates fair value option IAS 39 carve-out Meetings of Working Groups opened to public.

    IFRS 7 is published.

    IFRICs 6 and 7 are published (and IFRIC 3 withdrawn).

    2006 IASB/FASB update agreement on convergence.

    IASB issues statement on working relationships with other standard setters.IASB announces that no new major Standards will be effective before 2009.

    IFRS 8 is published.

    IFRICs 8 through 12 are published.

    2007 IFRIC is expanded from 12 to 14 members.

    US SEC drops requirement for reconciliation to US GAAP for foreign IFRS registrants andinvites comments on use of IFRSs by US domestic registrants.

    Revisions to IAS 1 and IAS 23 are published.

    IFRICs 13 and 14 are published.

    Board proposes separate IFRS for small and medium-sized entities (SMEs).

    2008 IOSCO issues statement urging entities to clearly state whether they comply in full withIFRSs as adopted by the IASB.

    IASB and FASB accelerate joint projects for completion in mid-2011, in anticipation of adoption

    of IFRSs by additional jurisdictions, including the US, by around 2014.American Institute of Certified Public Accountants designates IASB as a recognized standardsetter under its ethics rules.

    SEC proposes roadmap for use of IFRSs by US domestic registrants.

    Amendments to IFRS 1, IFRS 2, IFRS 3, IFRS 7, IAS 1, IAS 27, IAS 32 and IAS 39 are issued.

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    First Annual Improvements Standard is issued.

    IFRICs 16 and 17 are published.

    IASBs response to global financial crisis includes new fair value measurement guidance, fast-

    track amendments to IAS 39; acceleration of projects on fair value measurement andconsolidation; enhanced financial instrument disclosures; and appointment of two expertadvisory groups.

    2009 IASB is expanded to 16 members (including maximum 3 part-time) and geographic mixestablished. One vacancy not filled.

    IASCF forms a Monitoring Board of public authorities.

    Amendments to IFRS 1, IFRS 2, IAS 24, 32 and IFRIC 14 are issued.

    IFRS 9 (classification and measurement of financial assets) is issued as the first phase in theBoards replacement of IAS 39.

    Second Annual Improvements Standard is issued.

    IFRICs 18 and 19 are issued.

    Response to global financial crisis continues, including projects on replacement of IAS 39,including measurement of loan impairments.

    2010 Amendments to IFRS 1 are issued.

    IASB publishes two types of annual Bound Volumes of IFRSs one with only currentlyeffective standards and the other with all issued standards.

    Names are changed to IFRS Foundation (formerly the IASC Foundation);

    IFRS Interpretations Committee (formerly the IFRIC) and IFRS Advisory Council (formerly theSAC).

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    3. Use of IFRSs around the world

    3.1 Use of IFRSs in Europe

    3.2 Use of IFRSs in the United States

    3.3 Use of IFRSs in Canada

    3.4 Use of IFRSs elsewhere in the Americas

    3.5 Use of IFRSs in Asia-Pacific

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    1

    3. Use of IFRSs around the world

    3.1 Use of IFRSs in Europe

    European Accounting Regulation effective from 2005

    Listed companies to implement a financial reporting strategy adopted by the EuropeanCommission (EC) in June 2000, the European Union (EU) in 2002 approved an AccountingRegulation requiring all EU companies listed on a regulated market (about 8,000 companies intotal) to follow IFRSs in their consolidated financial statements starting in 2005. The IFRSrequirement applies not only in the 27 EU countries but also in the three European EconomicArea (EEA) countries. Most large companies in Switzerland (not an EU or EEA member) alsouse IFRSs.

    For the purpose of filings by non-EU companies listed on an EU regulated market, in December 2008, the EC designated the GAAPs of the United States, Japan, China, Canada, South Koreaand India to be equivalent to IFRSs as adopted by the EU. (The status of China, Canada, SouthKorea and India will be re-examined by 31 December 2011.) Companies from other countrieshave been required to use either IFRSs as adopted by the EU or IFRSs as adopted by the IASB asof 2009.

    Unlisted companies and separate-company statements EU Member States may extend the IFRSrequirement to non-listed companies and to separate-company statements. Nearly all Member States permit some or all non-listed companies to use IFRSs in their consolidated statements andthe majority permit it in separate statements.

    Endorsement of IFRSs for use in Europe

    Under the EU Accounting Regulation, IFRSs must be individually endorsed for use in Europe.The endorsement process involves the following steps:

    EU translates the IFRSs into all European languages;

    The private-sector European Financial Reporting Advisory Group (EFRAG) gives its views tothe EC;

    The ECs Standards Advice Review Group (SARG) gives its views to the EC on FRAGsrecommendations;

    The ECs Accounting Regulatory Committee makes an endorsement recommendation; and

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    2

    The EC submits the endorsement proposal to the European Parliaments Regulatory Procedurewith Scrutiny Committee and to the 27-member Council of the EU. Both must approveendorsement or the proposal is sent back to the EC for further consideration.

    By the end of March 2010, the EC had voted to endorse all IFRSs except the revisions to IFRS 1

    and IAS 24 and all Interpretations except IFRIC 19 and the amendments to IFRIC 14.Endorsement of IFRS 9 has been postponed.

    Enforcement of IFRSs in Europe

    European securities markets are regulated by individual member states, subject to certainregulations adopted at the EU level. EU-wide regulations include:

    Standards adopted by the Committee of European Securities Regulators (CESR), a consortiumof national regulators. Standard No. 1 Enforcement of Standards on Financial Information inEurope sets out 21 high level principles that EU member states should adopt in enforcing IFRSs.

    Standard No. 2 Coordination of Enforcement Activities adopts guidelines for implementingStandard No. 1;

    The Directive on Statutory Audit of Annual Accounts and Consolidated Accounts which wasissued in September 2006. The new Directive replaced the 8th Directive and amended the 4thand 7th Directives. Among other things, the Directive adopted International Standards onAuditing throughout the EU and required Member States to form auditor oversight bodies; and

    Amendments to EU directives that establish the collective responsibility of board members for a companys financial statements.

    In March 2009, a high-level EU study group recommended that the current EU groups of bank,insurance and securities regulators be transformed into three new European authorities (theEuropean Banking Authority, the European Securities Authority, and the European InsuranceAuthority) with stronger oversight power and, in some cases, legal powers. These proposals wereapproved by the EU Council of Finance and Economics Ministers in December 2009. Finaladoption is expected in 2010.

    In September 2009, the EU Parliament and Council approved funding for the IFRSF (formerlyIASCF) of 4 million per year; the European Commission decides on the actual and maximum

    amounts.

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    3

    3.2 Use of IFRSs in the United States

    SEC recognition of IFRSs

    Of the approximately 13,000 companies whose securities are registered with the US Securitiesand Exchange Commission (SEC), over 1,000 are non-US companies. Prior to November 2007,if those foreign private issuers submitted IFRS or local GAAP financial statements rather thanUS GAAP, a reconciliation of net income and net assets to US GAAP figures was required.

    In November 2007, the SEC voted to allow foreign private issuers to submit financial statements prepared using IFRSs as issued by the IASB without having to include a reconciliation of theIFRS figures to US GAAP. This new rule applies to financial statements covering years endedafter 15 November 2007.

    In August 2007, the SEC published for public comment a Concept Release to stimulate debateon whether to allow US domestic issuers to submit IFRS financial statements for the purpose of complying with the rules and regulations of the SEC.

    In November 2008, the SEC published for public comment a proposed IFRS roadmap. Theroadmap outlines milestones that, if achieved, could lead to mandatory transition to IFRSsstarting for fiscal years ending on or after 15 December 2014. The proposed roadmap would alsoallow certain entities to adopt IFRSs before that date. SEC adoption of the roadmap wasexpected in 2010.

    In February 2010, the SEC published a Statement in Support of Convergence and GlobalAccounting Standards in which it directs its staff to develop and execute a Work Plan to

    position to enhance understanding of the Commissions purpose and public transparency in thisarea with a view to enabling the SEC, on completion of the Work Plan and the convergence

    projects of the FASB and IASB, to make a decision regarding incorporating IFRS into thefinancial reporting system for US issuers. In the Statement the SEC expresses a view that thefirst time USE issuers would report until IFRS would be approximately 2015 to 2016. The Work Plan will further evaluate this timeline.

    IFRS-US GAAP convergence

    The Norwalk Agreement In October 2002 the FASB and the IASB formalized their commitmentto the convergence of US GAAP and IFRSs by issuing a memorandum of understanding(commonly referred to as the Norwalk Agreement). The two boards pledged to use their bestefforts to:

    make their existing financial reporting standards fully compatible as soon as is practicable; and

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    Co-ordinate their future work programmes to ensure that, once achieved, compatibility ismaintained.

    Compatible does not mean word-for-word identical standards, but rather that there are nosignificant differences between the two sets of standards.

    Memorandum of Understanding 2006-2009 In February 2006, the FASB and the IASB releaseda Memorandum of Understanding (MOU) that identified short- and long-term convergence

    projects with steps and milestones toward achieving convergence. The MOU was updated in2008. In November 2009 the two Boards reaffirmed their commitment to convergence and issueda further statement outlining steps for completing their convergence work outlined in the MoU

    by 2011.

    Short-term projects

    The FASB and the IASB set the goal of concluding by 2008 whether major differences in a fewfocused areas should be eliminated through one or more short-term projects and, if so,completing or substantially completing work in those areas. The status of those short-term

    projects is as follows:

    Projects completed

    Joint: Business Combinations

    FASB: Fair Value Option

    Research and development assets acquired in a business combination

    IASB: Borrowing Costs

    Operating Segments

    Ongoing short-term convergence

    FASB: Subsequent Events

    Investment Properties

    IASB: Joint Arrangements (replacement of IAS 31 expected in first half of 2010)

    Short-term convergence work deferred

    Government Grants

    Impairment

    Income Taxes

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    Long-term projects

    The goal for 2010 for the projects listed below is to have made significant progress in the areas

    identified for improvement (IASB status shown in brackets). Conceptual framework (ED on objectives issued in 2008; ED on reporting entity issued in2010; DPs on measurement and on elements and recognition planned for 2010).

    Fair value measurement guidance (final standard planned for second half of2010).

    Financial statement presentation Phase B (EDs planned for 2010).

    Post-employment benefits defined benefit plans (ED planned for first half

    of 2010).

    Revenue recognition (ED planned for 2010).

    Liabilities and equity (ED planned for first half of 2010).

    Financial instruments replacement of IAS 39 (final standard on classification andmeasurement of financial assets issued in November 2009; ED on impairment issued in

    November 2009; 2 EDs on hedge accounting and derecognition planned for 2010).

    Consolidation, including Special Purpose Entities (final standard planned for 2010).

    Intangible assets (not part of active agenda). Leases (ED planned for 2010).

    More specific goals have been set for each individual project.

    3.3 Use of IFRSs in Canada

    Currently, domestic Canadian companies listed in the United States are allowed to use USGAAP for domestic reporting. Foreign issuers in Canada are permitted to use IFRSs. Canadianentities that are publicly accountable will be required to apply IFRSs for their fiscal years

    beginning on or after 1 January 2011. Earlier use of IFRS is permitted on a case-by-case basiswith approval of the relevant securities regulator. Non-for-profit entities and pension plans areexcluded and will not be required to adopt IFRSs.

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    3.4 Use of IFRSs elsewhere in the Americas

    Chile began phasing in IFRSs for listed companies in 2009. Listed companies and banks in

    Brazil were required to start using IFRSs in 2010. The Mexican Banking and SecuritiesCommission has announced that all listed companies are required to use IFRSs starting in 2012.The government of Argentina has adopted a plan to require IFRSs for listed companies startingin 2011, with IFRSs optional for unlisted companies. IFRSs are already required in a number of other Latin American and Caribbean countries.

    3.5 Use of IFRSs in Asia-Pacific

    Asia-Pacific jurisdictions are taking a variety of approaches toward convergence of nationalGAAP for domestically listed companies with IFRSs.

    Requirement for IFRSs in place of national GAAP

    Mongolia requires IFRSs for all domestic listed companies.

    All national standards are virtually word-for-word IFRSs

    Australia, Hong Kong, Korea (effective 2011, permitted in 2009), New Zealand, and Sri Lanka(effective 2011) are taking this approach.

    Effective dates and transitions may differ from IFRSs as issued by the IASB.

    Further, New Zealand has eliminated some accounting policy options and added somedisclosures and guidance.

    Nearly all national standards are word-for-word IFRSs

    The Philippines and Singapore have adopted most IFRSs word-for-word, but have made somesignificant modifications. Singapore has announced full convergence with IFRSs by 2012.

    Some national standards are close to word-for-word IFRSs

    India, Malaysia, Pakistan and Thailand have adopted selected IFRSs quite closely, but significantdifferences exist in other national standards, and there are time lags in adopting new or amendedIFRSs. India has announced a plan to adopt IFRSs in full as Indian Financial ReportingStandards phased in (depending on the size of the listed company) from 2012 to 2014. Malaysiawill adopt IFRSs as Malaysian Financial Reporting Standards by 2012 and Taiwan will do thesame as of 2013.

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    IFRSs are looked to in developing national GAAP

    This is done to varying degrees in Indonesia, Japan, Taiwan and Vietnam, but significant

    differences exist.In February 2006, China adopted a new Basic Standard and 38 new Chinese AccountingStandards generally consistent with IFRSs with few exceptions.

    In December 2009, Japan began permitting listed companies that meet specified criteria to useIFRSs starting in 2010. Japan intends to consider, around 2012, whether to make IFRSsmandatory for all public companies starting around 2015 or 2016.

    Some domestic listed companies may use IFRSs

    This is true in China (companies listed in Hong Kong), Hong Kong (companies based in HongKong but incorporated elsewhere), Laos and Myanmar.

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    4. INTERNATIONAL STANDARDS CONVERGENCE

    4.1 For asset and liability category on the Balance sheet

    4.2 For major revenue and expense categories on the income statement

    4.3 For interest and dividends on cash-flow statements

    4.4 Overall effect on the balance sheet, income statement, and thestatement of changes in equity

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    4. INTERNATIONAL STANDARDS CONVERGENCE

    4.1 For asset and liability category on the Balance sheet

    The elements of the balance sheet (assets, liabilities, and equity) are defined in the IASBs

    conceptual framework. According to the framework, for an item to be recognized on the balancesheet as an asset (liability), it must be probable that a future economic benefit (expense) willflow to or from the firm and the items cost can be reliably measured. Conceptually, equity issimply assets minus liabilities.

    1. Marketable Investment Securities

    Marketable investment securities are initially recorded on the balance sheet at cost; that is, thefair value at the date of acquisition. The main issue involves whether to adjust the balance sheetto reflect subsequent changes in the fair value. The adjustments depend on the classification of the securities.

    Marketable investment securities are classified as held-to-maturity, trading, or available-for-saleunder SFAS No. 115. Under IFRS, the accounting for marketable investment securities isvirtually the same. One difference is that trading securities are known as held-for-tradingsecurities under IFRS.

    Held-to-maturity securities are debt securities acquired with the intent and ability to own themuntil they mature. Held-to-maturity securities are reported on the balance sheet at amortized cost.Amortized cost is equal to the face (par) value less any unamortized discount or plus anyunamortized premium. Subsequent changes in fair value are ignored unless the security is sold or otherwise disposed of.

    Held-for-trading securities are debt and equity securities, including derivatives, acquired withthe intent to profit from near-term price fluctuations. Held-for-trading securities are reported onthe balance sheet at the fair value. Unrealized gains and losses (changes in market value beforethe securities are sold) are recognized in the income statement.

    Available-for-sale securities are debt and equity securities that a firm does not expect to holduntil maturity nor expect to trade in the near term. Like held-for-trading securities, available-for-sale securities are reported on the balance sheet at fair value. However, any unrealized gains or

    losses are not recognized in the income statement. Rather, any unrealized gains or losses arereported as other comprehensive income.

    Regardless of a securitys classification, dividend income, interest income, and any realizedgains and losses (actual gains or losses relative to carrying values realized when securities aresold) are recognized in the income statement.

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    Figure 1 summarizes the differences among the treatments of the three categories of marketablesecurities on the balance sheet and income statement.

    Figure 1: Summary of Marketable Investment Security Classifications

    Held-for-Trading Available-for-sale Held-to-MaturityBalance Sheet Fair Value Fair Value Amortized cost

    Income Statement Unrealized G/L No effect No effect

    Example: Classification of investment securities:

    Triple D Corporation purchased a 6% bond, at par, for $1,000,000 at the beginning of the year.Interest rates have recently increased, and the market value of the bond declined $20,000.

    Determine the bonds treatment on the financial statements under each classification of securities.

    Answer:

    If the bond is classified as a held-to-maturity security, the bond is reported on the balance sheetat $980,000 and $60,000 [$1,000,000 x 6%] is reported in the income statement.

    If the bond is classified as a held-for-trading security, the bond is reported on the balance sheet at$980,000 and the $20,000 unrealized loss and $60,000 of interest income are both recognized inthe income statement.

    If the bond is classified as an available-for-sale security, the bond is reported on the balancesheet at $980,000 and $60,000 of interest income is recognized in the income statement. The$20,000 unrealized loss is not recognized in the income statement. The $20,000 unrealized lossis not recognized in the income statement; rather, it is reported as other comprehensive incomeand decreases stockholders equity.

    The performance of held-for-trading securities is more transparent since both unrealized gainsand unrealized losses are recognized in the income statement. Conversely, there is asymmetrictreatment with available-for sale securities since the unrealized gains and losses bypass the

    income statement and are reported as a direct adjustment to equity. By bypassing the incomestatement, the performance of available-for-sale securities can be misinterpreted by analysts. If afirm owns an equity security classified as available-for-sale, continuing decreases in share pricesdo not affect the income statement as long as the security is not sold.

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    Firms that follow IFRS are required to make qualitative and quantitative disclosures about creditrisk, liquidity risk, and market risk. Qualitative disclosures provide information about managingthe risks and quantitative disclosures deal with the amount of risk.

    2. Inventory

    Under IFRS, the choice of inventory method is based on the physical flow of the inventory; thatis, whether the inventory that is purchased or produced first, is sold first. Two acceptablemethods are first-in, first-out (FIFO) method and the average cost method.

    Last-in first-out (LIFO) is allowed under U.S. GAAP, but is not permitted under IFRS.

    Under IFRS and U.S. GAAP, inventory is reported on the balance sheet as the lower of cost or net realizable value. Under U.S. GAAP, once an inventory write-down occurs, any subsequentrecovery of value is ignored. Under IFRS, subsequent recovery in the value of inventory can berecognized in inventory values.

    3. Property and Equipment

    Under IFRS and U.S. GAAP, property and equipment, sometimes referred to as fixed assets, arereported on the balance sheet at original cost less accumulated depreciation. U.S. GAAP does not

    permit upward revaluations of property and equipment.

    Under IFRS, property and equipment can be revalued upward. In this case, the property andequipment are reported at fair value at the revaluation date less the accumulated depreciationsince revaluation.

    The increase in value is reported in the income statement to the extent that a previous downwardvaluation was included in net income. Otherwise, any increase in value is reported as a directadjustment to equity. This results in consistent treatment in the income statement. Similarly, adecrease in value is reported as a loss on the income statement unless it reverses a previousupward revaluation taken directly to equity.

    4. Intercorporate Investment

    When a firm makes an equity investment in another firm, the accounting treatment depends onthe firms ability to influence or control the policies and actions of the investee. The

    classification of marketable equity securities as held-for-trading and available-for-sale onlyapplies to passive investments . An investment is considered passive if the investor cannotsignificantly influence or control the investee. As a practical guideline, an ownership interest of less than 20% is considered passive.

    If an ownership interest is between 20% and 50%, the investor can usually significantlyinfluence the investee. Under IFRS, significant influence is defined as the power to participate

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    in the financial and operating policy decisions of the investee without control or joint controlover those policies. (IAS No. 31)

    For investments over which they have significant influence, firms must use the equity method of accounting. Under the equity method, a pro-rata share of the investees net income is reported as

    investment income and increases the reported value of the firms equity investment. Dividendsreceived from the equity investment decrease the reported value of the investment (but increasecash).

    If an ownership interest is greater than 50%, the investor can usually control the investee. In thiscase, the consolidation method must be used, and the firm reports all of the assets andliabilities, as well as the net income, of the investee in its own financial statement items.

    In the case of joint control of an investee, such as an ownership interest in a joint venture, IFRSrecommends the use of the proportionate consolidation method. Under proportionate

    consolidation, the investor reports its pro-share of the assets liabilities, and net income of theinvestee. Alternatively, the equity method can be used, but proportionate consolidation is preferred.

    Under the U.S. GAAP, the equity method is usually required for joint ventures.

    Proportionate consolidation is permitted under IFRS only.

    Figure 2 summarizes the accounting treatment for intercorporate investments.

    Figure 2: Accounting Treatment for Intercorporate Investments

    Method Ownership Degree of Influence

    Market Less than 20% No significant influence

    Equity 20% - 50% Significant influence

    Consolidation More than 50% Control

    Proportionate Consolidation (IFRSonly)

    Shared Joint control (venture)

    5. Goodwill

    Goodwill is the excess of purchase price over the fair value of the identifiable assets andliabilities acquired in a business acquisition. Goodwill is an unidentifiable intangible asset thatcannot be separated from the firm.

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    Goodwill is not asymmetrically amortized in the income statement but is tested at least annuallyfor impairment. If impaired, goodwill is written down on the balance sheet and the consequentloss is recognized on the income statement. The impairment of goodwill does not affect cashflows, but does affect certain financial ratios. In periods after a write-down, ratios such as ROA,ROE, and asset turnover will improve because the denominator of each is reduced.

    Judgment is involved in determining whether goodwill is impaired. Of course, when judgment isinvolved, there are opportunities for the firm to manipulate earnings.

    For comparability, analysts often make the following adjustments:

    Completely eliminate goodwill when computing ratios. Exclude goodwill impairment charges from the income statement when analyzing trends. Evaluate future acquisitions in terms of the price paid relative to the earning power of the

    acquired assets.

    Two other issues affect the comparability of the financial statements of the acquiring firm in a business acquisition.

    1. The assets and liabilities of the acquired firm are recorded at fair value at the date of acquisition. As a result, the acquiring firm reports assets and liabilities with a mixture of

    bases for valuation; old assets continue to be reported at historical cost while acquiredassets are carried at their fair value.

    2. The revenues and expenses of the acquired firm are included in the acquiring firmsincome statement from the acquisition date. There is no restatement of prior-periodincome statements. Without restatement, acquisitions may create an illusion of growth.

    6. Identifiable Intangible Assets

    Under U.S. GAAP and IFRS, purchased intangible assets are reported on the balance sheet attheir cost less accumulated amortization. The costs of internally developed intangibles aregenerally expensed as incurred. U.S. GAAP does not permit upward revaluations of intangibleassets.

    As with property and equipments, IFRS does allow upward revaluations of identifiableintangible assets. Intangible assets are then reported at their fair value as of the revaluation date,less the accumulated amortization since revaluation.

    As with property and equipment, any increase in value is reported in the income statement to theextent that a previous downward revaluation reduced net income. Any upward revaluation inexcess of prior downward revaluation is reported as a direct adjustment to equity. Under thesame principle, a decrease in value is reported in the income statement to the extent that a

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    previous upward revaluation was included in net income, and any decrease in value in excess of prior upward revaluation as a direct adjustment to equity.

    Analysts must be aware that not all intangible assets are reported on the balance sheet. Someintangibles are expensed as incurred. These unrecorded assets must still be considered when

    valuing a firm. A valuable brand name such as Coke , the software developed by MicrosoftCorporation, or the patents and manufacturing expertise of a large pharmaceutical firm may not

    be recorded as firm assets.

    7. Provisions

    Provisions are nonfinancial liabilities that are uncertain as to their timing or amount. Examplesinclude warranty obligations and contingencies. According to IAS No. 37, a firm shouldrecognize a liability when it has a present obligation that is a result of a past event and the firmcan reliably estimate the cost to settle the obligation.

    U.S. GAAP does not use the term provisions. Under U.S. GAAP, if a contingency is probableand can be reasonably estimated, a loss is recognized in the income statement and a liability isrecorded on the balance sheet.

    4.2 For major revenue and expense categories on the income statement

    The definition of revenue and the criteria for revenue recognition under U.S. GAAP and IFRSdiffer slightly. The main principles are the same but U.S. GAAP provides more industry-specificguidance than IFRS.

    1. Construction Contracts

    Under U.S. GAAP, the percentage-of-completion method of revenue recognition is appropriatefor contracts that extend beyond one accounting period if the outcome of the project can bereasonably estimated. Accordingly, revenue, expense, and therefore profit are recognized as thework is performed. If the outcome of project cannot be reasonably estimated, the completed-contract method is required.

    Under IFRS, if the firm cannot reliably measure the outcome of the project, revenue isrecognized to the extent of contract costs and profit is only recognized at project completion.

    2. Cost of Goods SoldIFRS does not permit LIFO inventory accounting; LIFOR firms that follow U.S. GAAP mustdisclose the LIFO reserve in the footnotes to their financial statements. The change in the LIFOreserve over a period of time is equal to the difference between COGS calculated under LIFOand COGS calculated under FIFO, Disclosure of the LIFO reserve allows user to adjust the LIFOCOGS to FIFO COGS. This adjustment enhances the comparability U.S. and IFRS firms.

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    3. Operating Expenses

    U.S. GAAP differentiates between expenses and losses, but IFRS does not. Under IFRS, lossesnot related to a firms primary business operations are included in operating expenses.

    4. DepreciationTangible assets (excluding land) are depreciated, intangible assets (except goodwill) areamortized, and natural resources are depleted. All three terms describe the allocation of anassets cost over its useful life. The allocation process requires the use of estimates such as usefullife and salvage value. Estimates often change as new information is acquired. A change in anestimate is put into effect prospectively, that is, no cumulative adjustment is made for prior

    period depreciation, just as with U.S. GAAP.

    In choosing an appropriate allocation method (e.g. straight-line, accelerated), IFRS requires thatthe method reflect the pattern of expected consumption and the allocation must be made on asystematic over the assets useful life.

    5. Interest Expense

    Borrowing costs (interest) are generally expensed in the year incurred. Both IFRS and U.S.GAAP require firms to capitalize interest incurred in constructing or producing assets that take asubstantial amount of time to complete. The capitalized interest is simply added to the costs of the asset and is eventually recognized in the income statement as the asset is depreciated.

    6. Income Taxes

    Both U.S. GAAP and IFRS require firms to recognize temporary differences between financialreporting standards and tax reporting standards. These differences can create both deferred taxassets and deferred tax liabilities.

    The differences between IFRS and U.S. GAAP in accounting for income taxes relate primarily todifferences and exceptions in financial accounting principles between U.S. GAAP and IFRS.

    7. Nonrecurring Items

    Analysts often ignore nonrecurring items when forecasting future earnings because recurringearnings are usually viewed as more sustainable. Over the past several years, there has beenconvergence between U.S. GAAP and IFRS in reporting discontinued operations and changes inaccounting principles. However, their treatments of extraordinary items still differ.

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    Under U.S. GAAP, an extraordinary item is a material transaction that is both unusual in natureand infrequent in occurrence. Extraordinary items are reported in the income statement, net of tax, below income from continuing operations.

    IFRS does not permit firms to treat items as extraordinary in the income statement. The

    analyst, however, can use required IFRS disclosures to separate recurring and non-recurringearnings.

    4.3 For interest and dividends on cash-flow statements

    Under U.S. GAAP, dividends paid to the firms shareholders are reported as CFF and interest paid is reported as CFO. Interest received and dividends received from investments are alsoreported as CFO.

    IFRS allows more flexibility in the classification of interest and dividend cash flows. Under IFRS, interest and dividends received may be classified as either operating or investing activities(CFO or CFI). Dividends paid to the firms shareholders and interest paid on the firms debt may

    be classified as either CFO or CFF.

    4.4 Overall effect on the balance sheet, income statement, and the statement of changes inequity

    When comparing firms that follow different accounting standards, the analyst must makeadjustments to the specific balance sheet and income statement accounts that differ. This is done

    by recasting the financial statements of one of the firms so that the financial statements of bothfirms can be compared.

    As an example, consider a U.S. firm that reports its inventory under LIFO and an IFRS firm thatreports its inventory under FIFO. The income statements and balance sheets of the two firmscannot be compared without recasting the IFRS firms financial statements to U.S. GAAP or viceversa. Because LIFE firms are required to disclose the LIFO reserve in the financial statementsfootnotes, it is usually easier to convert the LIFO firm statements to a FIFO basis.

    In an inflationary environment, a LIFO firm will report higher COGS and lower inventory ascompared to a FIFO firm. Higher COGS will result in lower profitability (gross profit, operating

    profit, taxable profit, and net profit). Lower taxable profit will result in lower income taxes.Lower net profit will also result in lower equity (lower retained earnings).

    The LIFO reserve is the difference between LIFO and FIFO inventory. By adding the LIFOreserve to the U.S. firms inventory balance, the analyst can state the U.S. firms inventory on aFIFO basis to make it comparable with the IFRS firm.

    In addition, it is necessary to convert LIFO COGS to FIFO COGS. This can be accomplished bysubtracting the increase in the LIFO reserve over the period from LIFO COGS.

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    Example: LIFO adjustments for comparison purposes.

    Brownfield Company is a LIFO firm. At the end of last year, Brownfield reported inventory of $2 million and cost of goods sold of $6.4 million. Brownfields LIFO reserve was $600,000 atthe beginning of the year and $900,000 at the year-end. Calculate Brownfields COGS and

    ending inventory on a FIFO basis.

    Answer :

    The LIFO reserve increased $300,000 over the year [$900,000 - $600,000]. By subtracting theincrease in the LIFO reserve from LIFO COGS, COGS on a FIFO basis is $6.3 million [$6.4million - $300,000].

    By adding the LIFO reserve of $900,000 to Brownfields LIFO inventory of $2 million,inventory on a FIFO basis is $2.9 million [$2 million + $900,000].

    Adjustments to LIFO inventory and LIFO COGS (in an inflationary environment) to their FIFOequivalents will result in:

    Higher gross profit margin [(revenue COGS) / revenue] because of lower COGS. Higher operating profit margin [operating profit / revenue] because of higher gross profit. Higher net profit margin [net income / revenue] because of higher operating profit. Higher current ration [current asset / current liabilities] because of higher current assets

    (inventory). Lower total asset turnover ratio [revenue / average total assets] because of higher total

    assets (inventory). Lower inventory turnover ratio [COGS / average inventory] because of lower COGS and

    higher inventory. Lower debt-to-equity ratio because of higher equity.

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    5. Understanding the various accounting statements as per IFRS

    5.1 Income Statement

    5.2 Balance Sheet

    5.3 Understanding the Cash Flow Statement

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    5. Understanding the various accounting statements as per IFRS

    5.1 Income Statement

    1. Specific Revenue Recognition applications

    a. Long-term Contracts

    For long term contracts, percentage-of-completion method and the completed-contract methodare used for contracts that extend beyond one accounting period, often contracts related toconstruction projects.

    In certain cases involving service contracts or licensing agreements, the firm may simply

    recognize revenue equally over the term of the contract or agreement.

    The percentage-of-completion method is appropriate when the projects cost and revenue can be reliably estimated. Accordingly, revenue, expense, and therefore profit, are recognized as thework is performed. The percentage of completion is measured by the total cost incurred to datedivided by the total expected cost of the project.

    The completed-contract method is used when the outcome of a project cannot be reliablymeasured or the project is short-term. Accordingly, revenue, expense, and profit are recognizedonly when the contract is complete. Under either method, if a loss is expected, the loss must be

    recognized immediately.Under International Financial Reporting Standards (IFRS), if the firm cannot reliably measurethe outcome of the project, revenue is recognized to the extent of contract costs, costs areexpensed when incurred, and profit is recognized only at completion.

    b. Installment sales

    An installment sale occurs when a firm finances a sale and payments are expected to bereceived over an extended period.

    If collectability is certain, revenue is recognized at the time of sale using the normal revenuerecognition criteria. If collectability cannot be reasonably estimated, the installment method isused. If collectability is highly uncertain, the cost recovery method is used.

    IFRS addresses when installment sale treatment is appropriate for certain real estate transactions.

    c. Barter Transactions

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    In a barter transaction, two parties exchange goods or services without cash payment.

    Under IFRS, revenue from barter transactions must be based on the fair value of revenue fromsimilar non-barter transactions with unrelated parties.

    Under US GAAP, revenue from a barter transaction can be recognized at fair value only if thefirm has historically received cash payments for such goods and services and can use thishistorical experience to determine fair value.

    2. Inventory

    FIFO and average cost are permitted under both US GAAP and IFRS.

    LIFO is allowed under US GAAP, but is prohibited under IFRS.

    3. Extraordinary items (non-recurring items)

    IFRS does not allow extraordinary items to be separated from operating results in the incomestatement.

    Under US GAAP, an extraordinary item is a material transaction or event that is both unusualand infrequent in occurrence. Examples include:

    Losses from an expropriation of assets.

    Gains or losses from early retirement of debt (when it is judged to be both unusual andinfrequent)

    Uninsured losses from natural disasters that is both unusual and infrequent.

    5.2 Balance Sheet

    1. Format of balance sheet

    International Financial Reporting Standards (IFRS) require the current/noncurrent liabilitiesunless a liquidity-based presentation is more relevant, as in the banking industry.

    2. Minority Interest

    If a firm has a controlling interest in a subsidiary that is not 100% owned, the parent reports aminority (non-controlling) interest in its consolidated balance sheet. The minority interest is the

    pro-rata share of the subsidiarys net assets (equity) not owned by the parent company.

    Under IFRS, the minority interest is reported in the equity section of the consolidated balancesheet.

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    Under US GAAP, the minority interest can be reported in the liabilities section, the equitysection, or the mezzanine section of the balance sheet. The mezzanine section is located

    between liabilities and equity.

    3. Intangible Assets

    Intangible assets are long-term assets that lack physical substance.

    Under IFRS, a firm must identify the research stage and the development stage. Accordingly, thefirm must expense costs during the research stage but can capitalize costs during thedevelopment stage.

    All of the following costs should be expensed as incurred:

    Start-up and training costs

    Administrative overhead Advertising and promotion

    Relocation and reorganization costs

    Termination costs

    Under US GAAP, except for certain legal costs, intangible assets that are created internally,including research and development costs, are expensed as incurred.

    4. Comprehensive Income

    Accumulated other comprehensive income includes all changes in stockholders equity exceptfor transactions recognized in the income statement (net income) and transactions withshareholders, such as issuing stock, reacquiring stock, and paying dividends.

    Comprehensive income aggregates net income and certain special transactions that are notreported in the income statement but that affect stockholders equity. These special transactionscompromise what is known as other comprehensive income. Comprehensive income is equalto net income plus other comprehensive income.

    Under IFRS, firms are not required to report comprehensive income.Under US GAAP, the firm can report comprehensive income in the income statement (below netincome), in a separate statement of comprehensive income, or in the statement of changes instockholders equity.

    The statement of changes in stockholders equity summarizes all transactions that increase or decrease the equity accounts for the period. The statement includes transactions with

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    shareholders, and a reconciliation of the beginning and ending balance of each equity account,including capital stock, additional paid-in-capital, retained earnings, and accumulated other comprehensive income. In addition, the components of accumulated other comprehensiveincome are disclosed (i.e., unrealized gains and losses from available-for-sale securities, cashflow hedging derivatives, foreign currency translation, and adjustments for minimum pensionliability).

    5.3 Understanding the Cash Flow Statement

    1. Interest and Dividends

    Under IFRS, interest and dividends received may be classified as either operating or investingactivities. Dividends paid to the companys shareholders and interest paid on the companys debtmay be classified as either operating or financing activities.

    Under US GAAP, dividends paid to the firms shareholders is reported as financing activitieswhile interest paid is reported in operating activities. Interest received and dividends receivedfrom investments are also reported as operating activities.

    2. Income Taxes

    Under IFRS, income taxes are also reported as operating activities unless the expense isassociated with an investing or financing transaction.

    Under US GAAP, all taxes paid are reported as operating activities, even taxes related toinvesting and financing transactions.

    3. Method of presenting Cash Flow statement

    Both direct method and indirect method are permitted under US GAAP and IFRS. The use of thedirect method, however, is encouraged by both standard setters.

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    4. Disclosure requirements

    Regarding payments for interest and taxes

    Under IFRS, payments for interest and taxes must be disclosed separately in the cash flow

    statement under either method (direct or indirect).Under US GAAP, payments for interest and taxes can be reported in the cash flow statement or disclosed in the footnotes.

    Regarding adjustments related to reconciliation

    Under US GAAP, a direct method presentation must also disclose the adjustments necessary toreconcile net income to cash flow from operating activities. This disclosure is the sameinformation that is presented in an indirect method cash flow statement.

    Under IFRS, reconciliation is not required.

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    6. Summary of Comparisons between IFRS, US GAAP & IndianGAAP

    6.1 Accounting framework

    6.2 Financial statements

    6.3 Assets

    6.4 Liabilities

    6.5 Equity Instruments

    6.6 Derivatives and hedging

    6.7 IFRS FOUNDATION

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    6. Summary of Comparisons between IFRS, US GAAP & IndianGAAP

    6.1 Accounting framework

    SUBJECT IFRS US GAAP Indian GAAPHistorical costor fair valuation

    Generally uses historical cost, but intangible assets,property, plant andequipment (PPE)andinvestment property may

    berevalued to fair value.

    Derivatives, certainotherfinancial instrumentsandbiological assets are revalued

    to fair value.

    No revaluations except for certain types of financialinstruments.

    Uses historical cost, but property, plantandequipment may berevaluedto fair value.

    Certainderivatives arecarried at fair value.

    No comprehensiveguidanceon derivativesand biologicalassets.

    First-timeadoption of accountingframeworks

    Full retrospective applicationof all IFRSs effective at thereporting date for an entitysfirst IFRS financialstatements,with someoptional exemptionsandlimitedmandatoryexceptions.Reconciliationsof profit or lossin respect ofthe last periodreportedunder previous GAAP,

    ofequity at the end of that period and of equity at thestart of the earliest period

    presented in comparativesmust be included in anentity's first IFRSfinancialstatements.

    First-time adoption of USGAAP requires retrospectiveapplication.

    There is no requirementto present reconciliationsof equity or profit or losson first-time adoption of US GAAP.

    Similar to US GAAP.

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    6.2 Financial statements

    SUBJECT IFRS US GAAP Indian GAAPComponents of financialstatements

    Two years consolidated balance sheets, incomestatements, cash flow

    statements, changes in equityand accounting policies andnotes. In limited circumstancesor on a voluntary basis, anentity may present single-entity

    parent company(standalone) financialstatements along with itsconsolidatedfinancialstatements.

    Similar to IFRS, exceptthree years required for SEC registrants

    forallstatementsexceptbalancesheet.

    Specific accommodationsin certain circumstancesfor foreign private issuersthat may offer relief fromthe three-yearrequirement.

    Single-entity parentcompany(standalone) twoyears

    balance sheets,incomestatements, cashflowstatements, andaccounting

    policies andnotes.Public listed company:Additionally are requiredtoprepareconsolidatedfinancial statements alongwiththe standalonefinancialstatements.

    Balance sheet Does not prescribe aparticular format. Acurrent/non-currentpresentation of assets

    andliabilities is used,unless aliquidity presentationprovidesmore relevant andreliableinformation. Certainminimum items are presentedonthe face of the balancesheet.

    Entities may presenteither aclassified or non-classified

    balance sheet.

    Items on the face of thebalancesheet aregenerally presentedindecreasing order of liquidity.

    SEC registrantsshouldfollowSEC regulations.

    Accounting standards donotprescribe a particular format;certain items must

    bepresented on the face of thebalance sheet.

    Formats are prescribed bythe Companies Actandother industryregulationslike banking,insurance, etc.

    Incomestatement

    Does not prescribe astandardformat, althoughexpenditure is

    presented inone of two formats(functionor nature). Certainminimumitems are presented ontheface of the incomestatement.

    Present as either a single-step or multiple-stepformat.

    Expenditures arepresented byfunction.SEC registrantsshouldfollowSEC regulations.

    Does not prescribeastandard format; butcertainincome andexpenditureitems aredisclosed inaccordancewith accountingstandardsand theCompanies Act.Industry-specific formatsareprescribed byindustryregulations.

    Exceptional(significant)items

    Does not use the term butrequires separate disclosureof items that are of such size,incidence or nature that their separate disclosure isnecessary to explaintheperformance of the entity.

    Similar to IFRS, butindividuallysignificantitemsare presented on the face of theincomestatement anddisclosedin the notes.

    Similar to IFRS, exceptthatthe Companies Actuses theterm exceptionalitems.

    ExtraordinaryItems

    Prohibited. Defined as being bothinfrequentand unusual,and are rare.

    Negativegoodwill is presentedasan extraordinary item.

    Defined as eventsortransactionsclearlydistinctfrom the ordinaryactivitiesof the entity andare notexpected to recur frequentlyand regularly.

    Statement of recognizedincome andexpense(SoRIE)/

    A SoRIE can be presented asa primary statement, in whichcase a statement of changesinshareholders equity isnotpresented.

    Total comprehensiveincome andaccumulatedothercomprehensiveincome are disclosed,presentedeither asaseparateprimarystatement or

    Not required.

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    Other comprehensiveincome andstatement of accumulatedother

    comprehensiveincome

    Alternatively, itmay bedisclosed separatelywithin the

    primary statementof changes inshareholdersequity.

    combinedwith theincomestatement or withthestatement of changes instockholders equity.

    Statement of changes in share(stock) holdersequity

    Statement showscapitaltransactions with owners,themovement inaccumulatedprofit/loss andareconciliation of allothercomponents of equity.Thestatement is presented asaprimary statement exceptwhena SoRIE is presented.In this case, only disclosureinthe notes applies.

    Similar to IFRS exceptthat USGAAP does nothave a SoRIE,and SECrules permit thestatementto be presented either asa primary statement or in thenotes.

    No separate statementisrequired.Changesinshareholdersequity aredisclosed in separateschedules ofShare capitalandReserves and surplus.

    Cash flowstatements format andmethod

    Standard headings, butlimitedguidance on contents.

    Use direct or indirectmethod.

    Similar headings to IFRS,butmore specificguidance for itemsincluded in each category.

    Direct or indirect methodused.

    Similar to IFRS.However, indirect methodisrequired for listedcompanies anddirectmethod for insurancecompanies.

    Cash flowstatements definition of cashand cashequivalents

    Cash includes cash equivalentswith maturities ofthree monthsor less from the date of acquisition and mayinclude

    bank overdrafts.

    Similar to IFRS, exceptthat bank overdraftsareexcluded.

    Similar to US GAAP.

    Cash flowstatements exemptions

    No exemptions. Limited exemptions for certain investment entitiesanddefined benefit plans.

    Exemption for certainSmalland MediumSizedEnterprises (SMEs)havingturnover or

    borrowingsbelow certainthreshold.

    Changes inaccounting

    policy

    Comparatives and prior yeararerestated againstopeningretained earnings,unlessspecifically exempted.

    Similar to IFRS Restatement is notrequired.The effect of changeisincluded in current-yearincome statement.Theimpact of changeisdisclosed.

    Correction of errors

    Comparatives are restatedand, if the error occurredbeforethe earliest priorperiod

    presented, theopening balancesof assets,liabilities and equityfor theearliest prior

    periodpresented are restated.

    Similar to IFRS. Restatement is notrequired.The effect of correctionisincluded in current-yearincome statement withseparate disclosure.

    Changes inaccountingestimates

    Reported in incomestatement in the current

    period and future, ifapplicable.

    Similar to IFRS. Similar to IFRS.

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    6.3 Assets

    SUBJCT IFRS US GAAP Indian GAAPAcquiredintangible assets

    Capitalised if recognitioncriteria are met; amortisedover useful life.

    Intangiblesassigned anindefinite usefullife arenot amortisedbutreviewedat least annuallyforimpairment.Revaluations arepermittedin rarecircumstances.

    Similar to IFRS, exceptrevaluations are not

    permitted.

    Capitalised if recognitioncriteria are met; allintangibles are amortised

    over useful life with arebuttable presumption of not exceeding 10 years.

    Revaluations are not permitted.

    In case the life of anIntangible asset isascertained to be morethan ten years, thenimpairmenttesting iscompulsorilyrequired

    irrespective of thetriggering event.Internallygeneratedintangible assets

    Research costs areexpensedas incurred.Developmentcosts arecapitalisedandamortisedonly when specificcriteria are met.

    Unlike IFRS, bothresearchanddevelopmentcosts areexpensed asincurred,with the exceptionof some softwareandwebsitedevelopmentcoststhat are capitalised.

    Similar to IFRS.

    Property, plantand equipment

    Historical cost or revaluedamounts are used. Regular valuations of entire classesofassets are required whenrevaluation option ischosen.

    Historical cost is used;revaluations are not

    permitted.

    Historical cost is used.Revaluations are

    permitted,however, norequirement on frequencyof revaluation.On revaluation, an entireclass of assets is revalued,or selection of assets ismade on a systematic

    basis. Non-currentassets held for sale or disposalgroup

    Non-current assets areclassified as held for saleif their carrying amountwill berecovered

    principally througha sale transaction rather than through continuinguse. Anon-current assetclassified as held for saleis measuredat the lower of its carryingamount andfair value lesscosts to sell.Comparativebalance sheetis not restated.

    Similar to IFRS. Similar to IFRS; however there is no requirement toclassify and present anassetas held for sale on thefaceof the balance sheet or in the notes.

    Leases Classification A lease is a finance leaseif substantially all risks and

    Similar to IFRS, but withmore extensive form-driven requirements.

    Similar to IFRS.

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    rewards of ownership aretransferred. Substanceratherthan form isimportant.

    Leases lessor Accounting

    Amounts due under finance leases are recorded

    as areceivable. Grossearningsallocated to giveconstant rate of return

    based on (pre-tax) net investmentmethod.

    Similar to IFRS, but withspecific rules forleveraged

    leases.

    Similar to IFRS.

    Impairment oflong-livedassetsheld for use

    Impairment is a one-stepapproach under IFRS andisassessed on the basis of discounted cash flows. If impairment is indicated,assets are written down tohigher of fair value lesscoststo sell and value inuse.

    Reversal of impairmentlosses is required incertaincircumstances, except for goodwill.

    Impairment is a two-stepapproach under USGAAP. Firstly, impairmentisassessed on the basisof undiscounted cashflows. If less than carryingamount,the impairmentloss ismeasured as theamount bywhich the carrying amountexceedsfair value. Reversaloflosses is prohibited.

    Similar to IFRS, exceptreversal of impairmentlosses for goodwill isrequired in certaincircumstances.

    Capitalisation of borrowing costs

    Permitted as a policychoicefor all qualifyingassets, butnot required.However, theoption has

    been removed intherevised IAS 23.

    Required Required

    Investment property

    Measured at depreciatedcost or fair value, withchanges in fair valuerecognised in the incomestatement.

    Treated the same as for other properties(depreciated cost).Industry-specificguidance applies toinvestor entities (for example, investmententities).

    Treated the same as along-term investment andiscarried at cost.

    Provision for diminution ismade for a decline other than temporary.

    Inventories Carried at lower of costandnetrealisable value.FIFO orweighted averagemethod isusedtodeterminecost. LIFO

    prohibited.

    Reversal is required for subsequent increase invalueof previous write-downs.

    Similar to IFRS; however,use of LIFO is permitted.

    Reversal of write-down is prohibited.

    Similar to IFRS exceptcaptialisation of distributioncost is not allowed

    Biological assets Measured at fair value lessestimated point-of-salecosts, with changes in

    Not specified. Generallyhistorical cost used.

    Not specified. Generallyhistorical cost used.

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    valuation recognised in theincome statement.

    Financial assets Measurement

    Depends on classificationof instruments if held tomaturity or loans and

    receivables, they arecarriedatamortised cost;otherwiseat fair value.

    Gains/losses onfair valuethrough profit orlossclassification (includingtrading instruments) isrecognised in incomestatement. Gains andlosseson available-for-saleinvestments, whilst theinvestments are still held,arerecognised in equity.

    Similar accounting modelto IFRS, with somedetailed differences in

    application.

    Long-term investments,loans and receivables arecarried at cost less

    impairment; whereascurrentinvestments arecarried at lower of costand fair value.

    Any reduction in thecarryingamount and anyreversal of such reductionis charged orcredited toincomestatement.

    Industry-specific guidanceapplies e.g. banking andinsurance.

    Derecognition of financial assets

    Financial assets arederecognised based onrisksand rewards first;control issecondary test.

    Significantly differentmodel to IFRS andderecognition is based oncontrol. Requires legalisolation of assets even in

    bankruptcy.

    Limited guidance. Ingeneral,financial assets arederecognised based ontransfer of risks andrewards.

    Guidance note issued byICAI on securitisationrequires derecognition

    based on control.

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    6.4 Liabilities

    SUBJECT IFRS US GAAP Indian GAAPProvisions General

    Liabilities relating to presentobligations from pasteventsrecorded if outflow

    ofresources is probable andcanbereliably estimated.Provisions are discounted topresentvalue where the effectof the timevalue of money ismaterial.

    Similar to IFRS. However,probable is a higher threshold than more likely

    than not.

    Similar to IFRS,exceptthatdiscounting is

    not permitted.

    Provisions Restructuring

    Restructuring provision isrecognised if detailed formalplan(identifying specifiedinformation)announced orimplementationeffectively

    begun.

    Recognition of liability based solely oncommitment to plan is

    prohibited. In order torecognise, restructuring

    plan has to meetdefinition of a liability,including certain criteria

    regarding likelihood thatno changes will be madeto plan or that plan will bewithdrawn.

    Restructuring provisions isrecognised whenrecognition criteriafor provisionsaremet.

    Contingencies Disclose unrecognised possible losses and probablegains.

    Similar to IFRS. Similar to IFRS,exceptthatcontingentgainsareneitherrecognisednor disclosed.

    Deferredincometaxes generalapproach

    Full provision method isused(some exceptions) driven

    bybalance sheettemporarydifferences.

    Deferred taxassets are recognisedif recovery is probable (morelikelythan not).

    Similar to IFRS but withmany differences inapplication.

    Full provisionmethod isused driven bytimingdifferences arisingfromtaxable andaccountingincome. Deferredtaxassetsisrecognised if realisat