Lecture 1 IFM RUG

faculty of economics accounting
and business
International Financial
Management
Worldwide Accounting Diversity &

Analysis of Foreign Financial Statements
(Chapters 2&10)
Dr. Shuo Wang

Dui 821
Shuo.Wang@rug.nl
and business
Course Structure (1)
› The aim of this course:
› Address the significant accounting and financing problems

that multinational corporations (MNCs) may experience
and propose methods that could result in possible solutions
while taking institutional, cultural, and social aspects of
internationalization into consideration.
and business

Structure:
Shuo:
› Accounting diversity (evidence, determinants, problems)
› Reconciliation (consolidation, inflation, segment
reporting)
Sakshi:
› International transfer pricing strategy
› Corporate governance in MNCs
Shiv:
› Foreign exchange exposure in MNCs
and business

› Textbooks:
› International Financial Management, Second Custom

Edition for University of Groningen, compiled by S.
Wang, S. Girdhar and S. Mukherjee, McGraw and Hill
Custom Publishing, ISBN: Print: 9781307083354;
eBook: 9781307089585
and business

› Tutorials:
› Practice questions should be prepared in
groups and each group is required to present
its answers during the tutorial
› The schedule of group presentation will be
published on Nestor. Each group is supposed to
present twice during this block.
› Exercise questions will be covered and
discussed by tutors during each tutorial.
and business

› Exam:
› Three-hour exam (75%)
› Group project (25%): the topic of the group

project will be published on Nestor. The
deadline for submission is Tuesday, June, 5,
17:00 hrs
and business

› Course Coordinator and Lecturer
› Dr. S. Mukherjee
› DUI 817
› 050-3633774
› shibashish.mukherjee@rug.nl
› Lecturers
› Dr. S. Girdhar Dr. S. Wang
› DUI 824 DUI 821
› 050-3637487 050-3633535
› s.girdhar@rug.nl shuo.wang@rug.nl
and business
Introduce myself:
Birth Place
Education
Work
Experience
Hobby
and business
Accounting Part of IFM:
1.Worldwide Accounting Diversity (p.3-44)

2.Analysis of Foreign Financial Statements (p.46-94)
3.Additional Reporting Issues (p.96-139)
and business
Part 1: Worldwide Accounting Diversity (p.3-44)
Learning Objectives
1. Provide evidence of the diversity that exists in
accounting internationally.
2. Describe the major environmental factors that influence
national accounting systems and lead to accounting
diversity.
3. Explain the problems caused by accounting diversity.
and business
Multinational Corporations (MNCs)

and business
Q&As before the Lecture

1. What was the first MNC in the world?
(British East India Company, 1600 AD)
2. How many MNCs are in the world
nowadays?
(More than 60,000)
3. What is the biggest MNC currently?
(by revenue: Walmart ($482Billion); by assets:
GM and Shell)
and business
Multinational Corporations (MNCs)

› The definition of MNC: a multinational
corporation is a corporate organization that
owns or controls production of goods or
services in two or more countries other than
their home country (Pitelis et al., 2000)
and business
MNCs accounting and control issues
› Subsidiaries spread across the globe
› Exposure to different national systems both in

financial and management accounting
› Complexity of accounting and control systems

and business
Evidence of Accounting diversity:
› Presentation differences (Format)
› Terminology differences (definition of accounts)
› Differences in recognition and measurement

rules
and business
Presentation differences (Format)

and business
Please refer to pages 5-6 in IFM book for an extensive overview

and business
U.S.: One Item (SGA)
Equity items are in front of

liability items!
and business
Terminology differences
› Example: UK/US comparative accounting terms
UK terms US terms
Trade Debtors Accounts receivable
Stocks Inventories
Creditors Liabilities
Shareholders funds Stockholders equity
Ordinary shares Common stock
Share premium account Additional paid-in capital
Profit and loss account Retained earnings
Turnover Sales or Revenue
and business
Please refer to pages 5-6 in IFM book for an extensive overview

and business
Vodafone Fiscal Year 2017
› Test:
› Use the Vodafone Financial Statement 2017 to
discover terminology differences compared
with U.S. financial statements.
and business
Verizon: 2016
SGA
and business
Differences in recognition and

measurement rules
› Example: US GAAP versus IFRS
Items US GAAP IFRS
Inventory costing LIFO is allowed. LIFO is not allowed.
Inventory Reversals are Reversals (limited to
write-downs prohibited. the amount of the
original write-down)
are required for
subsequent recoveries.
Research and Both research costs Research costs are
Development Costs and development expensed.
costs are expensed Development costs are
as incurred. capitalized (based on
some condition).
and business
Case: Philips N.V.

and business
Net income under IFRS ≠

Net income under US GAAP ≠
Net income under Dutch GAAP
and business
Sources of Accounting Diversity

Institutional Characteristics
1. Legal system
2. Taxation
3. Providers of financing
4. Inflation
5. Political and Economic ties
Culture
This is an outcome of a research “A Survey Research on Financial Reporting

in a Transnational Context” published by Meek G.K. and Saudagaran, S.M. in
1990 in Journal of Accounting Literature, p.145-82
and business
1. Legal system
› CODE LAW-(continental, civil, legalistic, macro-uniform)
 Accounting in code law countries is legislated; therefore, accounting
professions have little influence over the rules.
 Accounting rules tend to be general, opaque with low disclosure.
› COMMON LAW-(Anglo-Saxon, British-American, micro-based)

 Accounting rules in common law countries are generally determined by
the nongovernment accounting professions; therefore their accounting
rules are more specific.
 Accounting rules in common law countries are characterized with fair
presentation, high transparency and full disclosure.
and business
2. Taxation
› In some countries accounting serves for

taxation (e.g. Germany, Poland)
› If accounting rules or principles align with tax

rules;
 The net income may lose its ability to reflect
the economic reality
 There is no need for the account “deferred
taxes”.
and business
3. Providers of financing
Debt versus Equity
Debt Financing Equity Financing

Financing from family members, Financing from investors
banks, state (creditors) (potential shareholders)
Creditors are in company’s All shareholders cannot be in
board and/or have direct access company’s board and they do
to information not have direct access to
information
Firms experience less Firms provide extensive
accountability pressures accounting disclosure
Creditors focus on downside risk Investors focus on downside risk
and upside potential
and business
Correlations between sources of accounting diversity
Accounting System Micro-based Macro-based

1. Legal System Common-law Code-law
2. Taxation and detailed; flexible; broadly stated,
accounting practices branch and private uniform relatively
development and inflexible; tax-based
enforcement, e.g. accounting law
GAAP
3. Equity market active less-active
4. Government weak strong
influence
5. Involvement of strong Weak
private institutions
and business
4. Inflation
and business
4. Inflation
› Double or Triple inflation render
historical cost accounting useless
› Countries use adjusting accounting
records to correct the distorted
accounting numbers in financial
statements
› Without any adjustments, during
inflation periods, in countries where
accounting serves for taxation,
companies will be paying taxes on
fictitious profits.
and business
5. Political and economic ties

› Accounting is a technology that is borrowed
from or imposed on another country.
› Think of historical events shaping the political
arena; e.g. Colonialism, trade relations
 India and United Kingdom

 Dutch Antilles and The Netherlands
 Mexico and United States
and business
The Influence of Culture
› Culture is also widely considered to influence

accounting systems and their implementation.
and business
Hofstede’s Cultural Dimensions:

› Individualism v.s. collectivism
› Power distance: the extent to which unequal power
distribution is accepted in society
› Uncertainty avoidance: risk avoidance
› Masculinity: traditional values of performance and
achievement rather than feminine values of friendship,
caring, and nurturing
› Gray (1988) derives the theory of accounting sub-
cultural dimensions based on Hofstede
and business
Gray’s Accounting Values
 Professionalism versus Statutory Control: a preference of using

individual professional judgement and the maintenance of
professional self-regulation as opposed to compliance with
statutory control
 Uniformity versus Flexibiltiy: Uniform accounting processing for
all firms v.s. flexibiltity (The Germany’s case of depreciation
treatment in financial and tax accounting)
 Conservatism versus Optimizm: cautious measurement to
financial performance v.s. more opportunistic methods
 Secrecy versus Transparency: a preference of confidentiality
and restriction to public disclosures vs. more transparent, open
and publicly accountable approach
and business
The Influence of Culture

Accounting Values
Professionism
Culture Uniformity
Uncertainty avoidance
Masculinity
Institutional Consequences Accounting Systems

Legal systems
Authority
Corporate ownership
Enforcement
Capital markets
Education Measurement
Professional associations Disclosure
and business
Further Evidence of Accounting Diversity

Differences Examples
Language English, Chinese, Dutch etc.
Currency $, €, or any other?
Terminology What you mean by “common share” ?
Which statements will be presented, for which
Reports required
companies?
Timeliness When will be presented?
Format Where is the “cash account”?
Level of details Net or gross amount for fixed assets
Disclosure Contingent liabilities, risks?
Recognition & How do you measure cost of inventories?
measurement How do you value fixed assets?
Relevance of Which one is more important?
statements Balance sheet or Income Statement?
and business
Problems due to Accounting Diversity

› Preparation of consolidated statements
› Access to foreign capital markets or financing

abroad
› Comparability of financial statements- in terms

of understanding the financial performance and situation
› Lack of high quality disclosure standards in

some parts of the world
and business
Part 2:
Analysis of Foreign Financial Statements (p.46-94)
Learning Objectives
1. Discuss reasons to analyse financial statements of
foreign companies
2. Describe potential problems in understanding foreign
financial statements
3. Provide possible solutions to problems associated with
analysing foreign financial statements
and business
Why do we need to understand

foreign financial statements?
› Foreign portfolio investment (e.g. MSCI)
› Making credit decisions about foreign customer
› Benchmarking against global competitors
› Evaluating the financial health of foreign
suppliers
› Evaluation of foreign financial operations
› Management control
› International Mergers and Acquisitions
and business
The Case of MSCI

› The MSCI indexes are the benchmarks of several fund managers to allocate funding
around the world
› Chinese stock market is seeking to become a component of MSCI Emerging Market
Index, which could bring millions of oversea funds to the Chinese stock market
› However MSCI requires the Chinese stock market to have a better enforcement
regime, a higher disclosure quality of the listed firms’ financial statements
and business
Major impediments to understand

foreign financial statements:
› Recognition and measurement discrepancies

across countries / accounting standards
How do we
compare
apples with oranges ?
and business
How to solve this problem

› Analysts can overcome the accounting diversity
problem by performing the reconciliation
(restatement) of financial statements.
› Reconciliation of financial statements:

Converting financial statement
from one GAAP to another
› How? – Case of Arcot (p.62-71)
and business
Example: Revaluation of PPE (p.64)
› Under local GAAP, the revaluation of PPE is allowed.
› Under U.S. GAAP the value of PPE is recorded at

historic cost and revaluations are not allowed.
› How to reconcile two standards?

and business
Example: Revaluation of PPE (1)

Recalling the income statement:
Net income = gross margin – operating expenses
(assuming no interests, taxes, and dividends)
› Arcot purchased an equipment ($100m) in 2015. The life
of the equipment is five years and the residual value is
zero. Arcot uses straight-line depreciation and the
depreciation started from 2016.
› At the end of 2015 fair value of the equipment was
$1.2M.
› What was the amount of depreciation expense and the
balance sheet value of the equipment at the end of 2016
and 2017?
and business

Under U.S. GAAP: no revaluation on PPE, therefore,
Item 2015 2016 2017
PPE (BS) 100 80 60
Depreciation (IS) 0 (20) (20)
Under the local GAAP: revaluation was recorded at the

end of 2015
Item 2015 2016 2017
PPE (BS) 120 96 72
Differences: local GAAP v.s. U.S. GAAP

Item 2015 2016 2017
PPE (BS) 20 16 12
and business

Assuming that Arcot is going to IPO in Nasdaq in 2018
and therefore it has to reconcile its financial statements
from 2015 to 2017 under the U.S. GAAP.
Arcot needs to reduce the value of PPE by $12M in the

year of 2017, and increase the net income by $4M in the
year of 2017.
How does this reconciliation affect the ROE?

ROE = Net income / Equity
and business
Recent Changes in Europe
› Convergence of accounting to IFRS – International

Financial Reporting Standards
› Interfaces between financial accounting and

management accounting are stronger in IFRS,
therefore it become more popular among MNCs.
› https://www.investopedia.com/terms/i/ifrs.asp
and business
Why IFRSs?
›Management approach
 management uses the information internally for
decision-making and operational control in an

aggregated form is also used for external users
of financial statements
›Economic perspective
 makes IFRS data better suited for management
control purposes
 not influenced by tax regulations
 but prepared according to accounting principles

and business
Benefits of using IFRSs for MNCs

› More relevant financial information for all
stakeholders,
› Enhanced comparability,
› Improved transparency,
› Increased ability to access foreign markets
› Better management of global operations,
› Decreased cost of capital.
› Do not forget: Uneven implementation of IFRS

seems inevitable!!!!
and business
What have we learned today?
› MNCs experience accounting diversity

› Sources of accounting diversity
› Consequences of accounting diversity
› Why understanding foreign financial
statements is important for MNCs?
› How can we solve accounting diversity and
understand foreign financial statements?
and business
This week in Tutorials:

› Chapter 1: Exercise 1 (p. 38), Exercise 7 (p. 40),
Exercise 8 (p. 40), Case 2-2 (p.42-43)
› Chapter 2: Exercise 1 (p. 77-78), Exercise 2 (p.
78), Exercise 7 (p. 81-82),
› Practice questions on NESTOR*
Next week
Additional Financial Reporting Issues (Part 3)
and business
Thank you!

Lecture 1 IFM RUG

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faculty of economics accounting

Worldwide Accounting Diversity &

Dr. Shuo Wang

Course Structure (1)

› The aim of this course:

› Address the significant accounting and financing problems

Course Structure (2)

Course Structure (3)

› International Financial Management, Second Custom

Course Structure (4)

Course Structure (5)

› Three-hour exam (75%)

› Group project (25%): the topic of the group

Course Structure (6)

Accounting Part of IFM:

1.Worldwide Accounting Diversity (p.3-44)

Part 1: Worldwide Accounting Diversity (p.3-44)

Multinational Corporations (MNCs)

Q&As before the Lecture

Multinational Corporations (MNCs)

MNCs accounting and control issues

› Subsidiaries spread across the globe

› Exposure to different national systems both in

› Complexity of accounting and control systems

Evidence of Accounting diversity:

› Presentation differences (Format)

› Terminology differences (definition of accounts)

› Differences in recognition and measurement

Presentation differences (Format)

Please refer to pages 5-6 in IFM book for an extensive overview

U.S.: One Item (SGA)

Equity items are in front of

Please refer to pages 5-6 in IFM book for an extensive overview

Vodafone Fiscal Year 2017

Differences in recognition and

Case: Philips N.V.

Net income under IFRS ≠

Sources of Accounting Diversity

This is an outcome of a research “A Survey Research on Financial Reporting

› COMMON LAW-(Anglo-Saxon, British-American, micro-based)

› In some countries accounting serves for

› If accounting rules or principles align with tax

Debt Financing Equity Financing

Correlations between sources of accounting diversity

Accounting System Micro-based Macro-based

5. Political and economic ties

 India and United Kingdom

The Influence of Culture

› Culture is also widely considered to influence

Hofstede’s Cultural Dimensions:

Gray’s Accounting Values

 Professionalism versus Statutory Control: a preference of using

The Influence of Culture

Institutional Consequences Accounting Systems

Further Evidence of Accounting Diversity

Problems due to Accounting Diversity

› Access to foreign capital markets or financing

› Comparability of financial statements- in terms

› Lack of high quality disclosure standards in

Why do we need to understand

The Case of MSCI

Major impediments to understand

› Recognition and measurement discrepancies

How to solve this problem