Global business and local accounting standards

The 21st century is also called by some as a global village, where countries across the world are connected for business operations across vast distances. India is no exception, and it is evident, since many Indiancompanies are listed in US and UK financial markets. This listing results in theexpansion of global business operations to and creates value.

Somerenowned Indian companies from information technology, pharmaceuticals, auto industry and banking sector are listedin global capital markets to attract investments from Foreign Institutional Investors. This is also to provide goods and services to the customers across the globe. Such companies strictly follow statutory regulatory requirements of the respective nations. It is done by adopting global accounting standards to disclose financial reports to the stakeholders.

The set of companies performing businesses in domestic and foreign markets, are incurring huge expenditure, and are also taking a lot oftime for preparing ‘accounting books’ using different GAAPs (Generally Accepted Accounting Principles)to different investors i.e. local &global.These differences in accounting procedures confuse the investors for a proper understanding of the language of business.

Traditionally, companies were required to produce financial statements based on country specific financial reporting standards. As a result, individuals who invest in companies listed in different markets must adjust with local financial statements based on different financial “languages”.

This kind of country-specific reporting creates confusion in the minds of the stakeholders especially, when an investment is in the form of FII and FDI. To give an example of reporting of Inventory in financial statements, US GAAP standard uses LIFO (Last in first out) method for reporting inventory. This will report higher cost of inventory and the unsold inventory is reported at a lower cost.

This results in reporting of lower profits, leading to lower taxes. On the contrary, IGAAP and IFRS permit reporting of inventory using either FIFO (First in first out) method or Weighted Average Method. If FIFO method is adopted by the company, it reports lower cost of inventory as expense and unsold inventory is reported at higher cost. This results in reporting higher profit, and leads to increase in taxes.

There are many other examples to highlight differences in accounting standards. For pharma companies Research &Development is a big expenditure, which influences their value estimates. There are a good number of Indian Pharma companies which are listed in US securities market like Dr. Reddy’s, Sunpharma and Cipla. Dr Reddy’s reported profit after taxes under IGAAP for the year 14-15, INR 23364 million and diluted EPS of INR 136.59.

Whereas under IFRS reported in form 20F for the same year was INR 22179 million and diluted EPS of INR 129.75. The difference in profits is due to the accounting treatment for R&D in case of IFRS as an expense, due to which the company reported lower profits, leading to lower EPS and lower stock valuation. (Prof Akbar Ali Khan is Dean, Department of Commerce, OU, Hyderabad. Dr M Chandra Shekar is a faculty at Institute of Public Enterprise, Hyderabad)

By Prof Akbar Ali Khan & Dr M Chandra Shekar