International Accounting, 7/e

Frederick D.S. Choi

Gary K. Meek

Chapter 2: Development and

Classification

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Learning Objectives
 Identify and understand the importance of the eight factors
that have a significant influence on accounting development.
 Understand the four approaches to accounting development
found in market-oriented Western economies and identify
countries in which each approach is prevalent.
 Have a basic working knowledge of accounting classifications
and how they compare with one another.
 Explain the difference between the “fair presentation” and
“legal compliance” orientations of accounting and identify
nations in which each is prevalent.
 Explain why distinctions of accounting at the national level are
becoming blurred.

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Why Study Development and
Classification?
 Development
 Helps understand a nation’s accounting.
 Explains the differences and similarities in accounting
around the world.
 Classification
 Helps understand why and how national accounting
systems differ.
 Helps analyze whether these systems are converging or
diverging.
 Are a way of viewing the world.
 Reveals what group members have in common, and
 What distinguishes groups from each other

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Development
 Sources of finance – who, how many, how
close?
 Equity markets
 Profits measure how well managers have run the company.
 Accounting is used to assess cash flows, risks, and to value
the firm.
 Extensive disclosures.
 Banks
 Conservative earnings for creditor protection.
 Less extensive disclosures.

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Development (contin)
 Legal system
 Code law
 Laws are all-embracing.
 Accounting tends to be prescriptive and procedural.
 Accounting focuses on legal form.
 Accounting standards and procedures are incorporated into national
laws.
 Common law
 Laws develop on a case-by-case basis.
 Accounting develops from experience and judgment.
 Accounting tends to be flexible, adaptive, and innovative.
 Accounting focuses on economic substance.
 Accounting rules are established by private sector professional
organizations.

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Development (contin)
 Taxation
 Must companies record revenues and expenses in their
accounts to claim them for tax purposes?
 Are financial accounting and taxation the same?
 Or are they different?
 Political and economic ties
 Accounting ideas and technologies are transferred through
conquest, commerce, and other forces.
 Inflation
 Inflation distorts historical cost measurements.
 Countries with high inflation often require that companies
incorporate price changes into the accounts.

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Development (contin)
 Level of economic development
 Affects the types of transactions and which ones are most prevalent in the
economy which, in turn,
 Affects the accounting issues that are faced.
 Educational level
 Affects the capability for professional accounting training.
 Where education levels are low, countries import accounting training or send
citizens elsewhere to get it.
 SUMMARY
 Several variables are closely associated.
 Common law legal system, strong equity markets, and separation of financial
and tax accounting.
 Code law legal system, credit-based financing, and accounting rules that
conform to tax law.
 Result is two basic orientations of accounting.
 Fair presentation
 Legal compliance

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Development (contin)
 Culture and accounting values
 Culture (Hofstede)
 Individualism vs. collectivism
 Power distance – high vs. low
 Uncertainty avoidance – high vs. low
 Masculinity vs. femininity

 Accounting values (Gray)

 Professionalism vs. statutory control
 Uniformity vs. flexibility
 Conservatism vs. optimism
 Secrecy vs. transparency

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Development (contin)
 Linking the two:

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Classification
 Four approaches to accounting development (Mueller 1967)
 Macroeconomic approach
 Accounting derived from and designed to enhance national macroeconomic
goals.
 Example: Sweden
 Microeconomic approach
 Accounting derived from microeconomics.
 Maintaining physical capital
 Separation of capital and income
 Replacement costs
 Example: the Netherlands
 Independent discipline approach
 Accounting derived from business practices, judgment, and trial-and-error.
 Examples: U.K. and U.S.
 Uniform approach
 Accounting is standardized by central government and used as a tool for
administrative control.
 Example: France

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Classification (contin)
 Legal systems: common law vs. code law
accounting
 Common law accounting
 Oriented toward fair presentation, transparency, and full
disclosure
 Separation between tax and financial accounting
 Accounting standard setting in private sector
 Parallels stockholder model of corporate governance
 Code law accounting
 Legalistic orientation, opaque with low disclosure
 Alignment between tax and financial accounting
 Accounting standard setting in public sector
 Parallels stakeholder model of corporate governance

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Classification (contin)
 Practice systems: fair presentation versus legal compliance
accounting
 Why national accounting distinctions are becoming blurred
 Importance of stock markets as a source of finance is growing.
 Dual financial reporting is becoming more common, particularly where
duality is sanctioned.
 Some code law countries are shifting responsibility for accounting
standard setting to the private sector.
 Fair presentation accounting
 Substance over form.
 Oriented toward decision needs of external investors.
 Helps judge managerial performance and predict future cash flows and
profitability
 Extensive disclosures
 IFRS are aimed at fair presentation.
 Found in U.K., U.S., Netherlands and countries influenced by them.
 The trend for consolidated financial statements.

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Classification (contin)
 Legal compliance accounting
 Designed to satisfy government-imposed
requirements, such as:
 Calculating taxable income
 Complying with macroeconomic plan
 Conservative measurements
 Income smoothing
 Will persist in code law countries for individual-
company financial statements

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Other Chapter Exhibit

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