IFRS and US GAAP: What Every Financial Analyst Needs to Know
Welcome to ARTIFICALAB LTD! Today, we will drive on a wonderful journey through the world of accounting standards, specifically IFRS (International Financial Reporting Standards) and US GAAP (Generally Accepted Accounting Principles).
Indeed, these two giants of the financial world are the backbone of financial reporting, and understanding them is crucial for any financial analyst. So, grab a cup of coffee, sit back, and let’s dive into the story of IFRS and US GAAP, their similarities, differences, and how they shape the financial statements we analyze every day.
Anyway, welcome back from ARTIFICALAB LTD, where we offer also Financial Analysis & Investment Finance Courses, available through here and Udemy Platform as well!
The beautiful tale of Two Financial Standards
The Two Standards start with some interesting stories.
Let's us explain the two standards in terms of historical tales.
Long years back ago, there were two distinct kingdoms:
(1) IFRS (International Financial Reporting Standards) and (2) US GAAP (Generally Accepted Accounting Principles).
Each had its own set of rules and principles, that guides how companies have to report their financial performance to the public & the government.
IFRS was widely adopted across the globe, while US GAAP was the standard in the United States.
In the past, these two standards are considered separate, until 2002, where the two International Organizations: the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) signed the Norwalk Agreement.
For now, don't think too much, and let's focus on the comparisons between IFRS and US GAAP, so you, as a financial analyst, can know the challenges on conducting Financial Analysis on both Standards.
"Understanding the main differences between IFRS and US GAAP is essential for every Financial Analyst. By understanding these foundations, Analysts are now possible to analyze any firm's financial statements that could be in IFRS Format, or US GAAP Format. It brings the more wider possibilities you have never imagined before."
— Mr. Thu Ta Naing, CEO & Founder (ARTIFICALAB LTD), Financial Analyst (Self-Employed), CFA Research Challenge 2024 (Semi-Finalist, Thailand)
Introduction to IFRS
IFRS stands for International Financial Reporting Standards, which is currently now a globally recognized accounting standards. In fact, it is developed by the IASB (which is an International Organization, stands for the International Accounting Standards Board).
As far as we could say the main purpose of this standard is to have consistency, transparency, and comparability on financial statements across different countries and industries.
This is very important since you as a CFA Financial Analyst, may have to analyze, compare and evaluate the Financial Statements across different countries, different business types and locations.
As a result, investors, financial analyst, auditors, and regulators could understand and compare financial information easily around the world.
Currently, the IFRS Standard is now widely accepted over 168 jurisdictions, including EU (the European Union).
Introduction to US GAAP
As the name goes, "US GAAP" Standard is intended for companies in the United States, whom must follow to report to the US Government.
Unlike IFRS, developed by IASB, the US GAAP Standard is developed by FASB (the Financial Accounting Standards Board).
Similarly, the US GAAP also aim to ensure consistency, transparency, and comparability in financial reporting across different industries and companies.
In this US GAAP Standard, a wide variety of accounting topics, such as revenue recognition, balance sheet classification, and materiality are already considered. It provides detailed guidelines and rules that companies must adhere to, ensuring that their financial statements are complete, accurate, and comparable.
How these two Standards: IFRS and US GAAP Converge??
The journey of both Standards converge started in the Year 2022. Started from the the Norwalk Agreement, the two Organizations: FASB and IASB signed together to conduct collaborative effort to align US GAAP and IFRS.
This results in being able to reflect and convert from IFRS to US GAAP and from US GAAP to IFRS Standards, in the Financial Statements. In CFA Level 1 Curriculum too, learners have to study about the convergence of both standards, while being able to know how to convert from one to another.
Nevertheless, please keep in mind that IFRS Financial Standard is Principles-based while US GAAP Financial Standard is Rules-based. Details will be explored in below sections.
Grab some coffee, relax and follow with us in below sections!
Similarities between IFRS & US GAAP
The Good News is that both IFRS and US GAAP standards aim to provide useful financial information to investors, creditors, and other stakeholders. Both aims to provide transparency, consistency, and comparability to investors and users of those financial statements. Not only that, both also utilize a conceptual framework to guide the development of accounting standards.
Also both IFRS and US GAAP require the preparation of similar financial statements, including the balance sheet (statement of financial position), income statement (profit & loss statement), and cash flow statement
Differences between IFRS & US GAAP
However, if you become a CFA Financial Analyst in future, you should definitely clearly know the limitations and differences between the two.
One of the major differences is that US GAAP relies on rules-based while IFRS relies on principles-based.
From my personal point of view, for investors and users of those financial information (i.e. financial analysts), the IFRS Standard is better than US GAAP since it offers broader guidelines that require interpretation.
Moreover, IFRS Standard could be considered more strict and rigorous than US GAAP, since the use of LIFO (Last-In, First-Out) method is prohibited in IFRS, while it is allowed in US GAAP. This is important to take note in terms of Inventory consideration.
However, when considering the expenses for Development Costs, the IFRS Standard allows the development costs to be capitalized in most cases while US GAAP typically requires these costs to be expensed as incurred. (If you don't clearly understand what are capitalization costs and expense cost, don't worry, we got you covered in next Blogs, as well as in our Udemy Courses as well!)
Why Financial Analysts Need to Understand IFRS and US GAAP
For financial analysts, a deep understanding of both IFRS and US GAAP is essential for several reasons:
Globalization:
As businesses operate globally, you as a Financial Analyst must be able to compare financial statements prepared under different standards.
Investment Decisions:
Typically, Financial Analysts are the ones who give Investment Recommendations to their clients on the portfolios investment. Thus, accurate analysis of financial statements is critical for making informed investment decisions.
Regulatory Compliance:
Moreover, financial analysts also need to ensure that companies comply with relevant accounting standards to avoid legal and financial repercussions.
Enhanced Credibility:
Proficiency in both standards enhances an analyst’s credibility and effectiveness in the global financial market. Thus, if you understand both IFRS and US GAAP, it gives you an competitive advantage in your career as well. So Good Luck, and try to master both!
In the ever-evolving landscape of financial reporting, the convergence of IFRS and US GAAP represents a significant step towards greater consistency and transparency.
While we could say that there are still challenges remain, the current progress made thus far contributes to the global capital markets as a whole.
For financial analysts especially CFA Charterholders (CFA Financial Analysts), mastering both IFRS and US GAAP is not just a necessity but a pathway to providing more accurate, reliable, and insightful financial analysis.
CONCLUSION
Understanding both IFRS and US GAAP is essential for anyone involved in financial analysis. These standards form the backbone of financial reporting, ensuring consistency, transparency, and comparability across different jurisdictions. By mastering these standards, financial analysts can provide more accurate and insightful analyses, aiding in better decision-making and fostering investor confidence.
If you’re ready to dive deeper into the world of financial analysis and gain a comprehensive understanding of IFRS and US GAAP, we invite you to explore our Courses Section Page on this website. You can also follow our Udemy Channel for a wide range of courses designed to enhance your financial expertise. Start your learning journey with ARTIFICALAB LTD today and take your financial analysis skills to the next level! 📈📚
Feel free to reach out if you have any questions or need further assistance. Happy learning! 😊
