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The Accounting GAAPs for Private Companies and SMEs

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The Accounting GAAPs for Private Companies and SMEs
Table of Contents
  1. Introduction
  2. Discussion
  3. Conclusion
  4. References

Introduction

In the recent past, numerous debates have focused on the relevance of Generally Acceptable Accounting principles to non-public companies has raised much attention with critics arguing that these principles have failed to address the unique cases that underpin the privately held companies (Kreischer, 2011). Throughout history small and micro business owners, accountants and chief executive Officers have argued for the establishment of different accounting to be adopted by smaller and privately owned firms as a form of replacing the cumbersome, complex, and burdensome standards established under the financial Accounting and Standards Board (FASB) and GAAP (Kreischer, 2011).

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While the opposite faction of the business and accounting world have held that the introduction of separate and unique standards would lead to multiple standards of accounting, which would be more confusing and questionable credibility of the designers of the financial statements prepared under the proposed “lesser standards” compared to the standard GAAPs (Cherry, Bekaert, & Holland, 2011). Although the latter argument attempts to hold a lot of substance with regard to the vulnerabilities of creating leeway and practical gaps, it is critical to consider the need for “little GAAPS” with a view to address the situation of the non-publicly held firms and small and medium enterprises that remain vulnerable to the challenges posed by the “Big GAAPs). In this regard, I seek to take a stand that there remain enormous reasons to support the introduction of accounting standards that would favor the non-publicly held firms (Kreischer, 2011).

Discussion

Given the magnitude and the extent of the need for these considerations, the FASB and Sarbanes Oxley have attempted to give this call a new form of life with a view to address the innate challenges faced by SMEs and privately held companies while conforming to the laid down international accounting standards (Pacter, 2009). The GAAP has been seen to promote the proliferation of the complex and technical standards that are costly and difficult in their application.

Therefore, in the wake of this challenges, the American Institute of Certified Accountants (AICPA) and FASB have developed synergies to fast track this impending issue (Rennie & Senkow, 2009). So far, numerous changes have emerged under the auspice of “little GAAP” aimed at ensuring compliance as well as smooth running of the forms of business in question. Initially, these sets of businesses were faced with daunting difficulties to comply with the provisions of GAAPs, which have since proven ineffective, cumbersome, and complex to small and private companies (Pacter, 2009).

Recently, FASB developed and auctioned the Private Company Financial reporting Committee (PCFRC) primarily concerned with addressing financial standards and issues of private companies (Throwe, 2010). This recent development in the field remains monumental to the extent that issues related to the harmonization of accounting requirements of privately held companies are adequately dealt with. In line with its mandate, the PCFRC issued statement proposing the establishment of International Financial Reporting Standards for small and Medium-sized enterprises (IFRS for SMEs) to represent an alternative for private firms and small-scale companies operating in U.S.

The IFRS for SMEs was issue in 2009 with an objective to help companies that do not trade their stocks or debts on the stock exchange, and those with no assets held in fiduciary capacity such as banks, brokers, credit unions, brokerage firms, or other related entities, including the not-for-profit organization (Throwe, 2010). The need to access separate standards by the private companies and SMEs is necessitated by the fact that absentee owners of private companies remain concerned about short-term financial information, including profitability of a firm, liquidity, and cash flow levels of a company (Throwe, 2010). As such, users of financial information held by private companies do not concern themselves with long-term financial information.

However, it should be noted that those investors interested in obtaining more detailed financial information could do so through direct interaction with the company’s management team. This close relationship between the investors and users of financial information on the management negates the necessity to adopt rigorous accounting standards within the GAAP framework (Pacter, 2009).

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In furthering this notion of “little GAAP,” the international accounting standards Board (IASB) has developed a special body of accounting standards that deals with accounting issues related to SMEs that posses the following characteristics:

  • Are precise and understandable in both language and style;
  • Include matters applicable to SMEs and private companies; and
  • Are not expected for expansion or interpretation

The IASB has ensured reduced transactional costs incurred by small and medium-Sized entities as well as reduced time associated with the processes and procedures of preparing financial statements. Although the articulation of matters of accounting standards in terms of consideration of SMEs and private companies has made substantial progress, there is a need for a strict monitoring to avoid the common errors and non-compliance with the separately held views while conforming to the widely held accounting themes (Throwe, 2010).

Under the newly structured rule of accountancy and reporting for SMEs and private companies, the internal management, eternal auditors, and external accountants are not needed to filter through the details of the accounting information with an aim of finding inherent faults in the manner and extent of accounting standardization. Further, the IASB anticipates to further review its standards proposed or adoption by SMEs and small businesses upon before the effective dates for any revisions (Rennie & Senkow, 2009).

The question that arises out of these efforts is that of “what differences present themselves that remain unique from those of the original GAAPs concerned with publicly held firms. Although these rules formulated by IASB, IFRS, and ICPA are aimed at ensuring that SMEs not only conform to the laid down standards that account for every form of transaction, but also do so with the ease they require to avoid taking them through the historical challenges and complexities (Cherry, Bekaert, & Holland, 2011).

Several attempts to address the impending case has seen a joint move by the US Institute of Certified Public Accountants and the Financial Accounting Foundation (FAF) to create Blue Ribbon Panel to have a critical analysis of how the preexisting US accounting rules could be amended with a view to improve their usability by the US privately held firms.

However, the panel’s major focus has been on the operationalization of accounting rules related to for-profit private companies and not non-profit entities. A survey of the US business market estimates the existence of 29 million private and non-profit companies with about 15,000-17,000 publicly traded companies that comply with the US Securities and Exchange Commission (SEC) (Cherry, Bekaert, & Holland, 2011). In spite of the extensive number of private companies and SMEs in the US, the accounting field continues to be driven by the interests of the accounting standards that apply to the public companies. Most importantly, private companies may not need to prepare their financial statements under the stringent and complex form advocated by the US GAAPs to the SEC, but might be required to prepare statements for the purposes of lenders, investors, bonding companies, financial regulators, and other critical third parties (Rennie & Senkow, 2009).

Studies into the consequences of applying the US GAAPs to private companies has seen the private companies to incur substantial costs whose function does not improve the usability of their accounting and financial statements (Cherry, Bekaert, & Holland, 2011). Similarly, since private companies can decide to choose to apply the exceptions of the GAAP audit reports, it is generally difficult to compare the financial statements of private companies with their immediate counterparts. The stakeholders of private companies remain unfamiliar with the GAAP rules in answering the concerns of a company’s financial statements, hence their concerns do not require a review of the company’s financial statements.

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According to the recent survey of the private companies, the set of privately held companies have become burdensome as well as complex and less fruitful to users. The movement toward the development of accounting standards that take into account the need of private companies has already taken center stage. The IASB has realized that SMEs and private companies do not require complex reporting rules and disclosures applied to public companies (Rennie & Senkow, 2009). The development of accounting standards that address the peculiarity and particular of the private companies that remain relevant to their particular size would result in a competent and usable standard that can meet the needs of these sets of companies. According to the Blue Ribbon Panel, there is an urgent need to address the issues of designing exceptions to the GAAPs within the existing system of accounting rules (Rennie & Senkow, 2009). The panel together with other proponents of the “little GAAPs” argues that current system is inefficient and inadequate in comprehending the kind of information needed by users of financial information of privately held companies and how these information needs to vary from the needs of public company financial accounting standards (Rennie & Senkow, 2009). It should be noted, however, that the introduction of a set of alternative accounting standards for private companies does not seem to create avenues for non-compliance with the already existing standards, but rather a means to enhance the reporting and management of private companies in the light of usable financial reporting rules relevant to them.

Conclusion

Several changes are envisaged under the proposed changes in the accounting GAAPs for private companies and SMEs. For instance, the proposed changes will change the complexity of the deferred income tax accounting, lease accounting, accounting for share-driven compensation, and accounting for asset impairment (Rennie & Senkow, 2009). Currently, the deferred income taxes have always been classified under long-term and shall not penalize the status of a company’s working capital while a substantial portion of an entity’s income tax falls under the short-term liabilities under the proposed US GAAP for private companies and small entities. In addition, the contractor would be required to undertaken amortization of the firm’s goodwill registered in combination with the business over a period not exceeding 10 years (Throwe, 2010).

The proposed changes would soon see the exception to the rules for entities switching from subscription to the provisions under the IFRS that demands for the disclosure requirements. However, private companies and SMEs pondering over the adoption of IFRS for SMEs should ensure that they conduct a thorough analysis of impacts of the changes based on the requirements and needs of users of accounting and financial information. Private companies need alternate and modified standards in contrast to separate accounting standard rules. Literature documents that even US public companies have argued against the expensive nature of the US GAAPs and that their results remain often marginal to the users of these accounting procedures.

References

Cherry, Bekaert, & Holland. (2011). “Big GAAP” Versus “Little GAAP”- Do we now have a Possible Solution.? Web.

Kreischer, M. (2011). Big GAAP vs. Little GAAP: a step in the right direction. Web.

Pacter, P. (2009). An IFRS for private entities, International Journal of Disclosure & Governance, 6(1), p 4-20.

Rennie, M. D., & Senkow, D. W. (2009). Financial Reporting for Private Companies: The Canadian Experience. Accounting Perspectives, 8(1), p43-67.

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Throwe, A. (2010). Should It Be ‘Big GAAP’ or ‘Little GAAP’ For Private Companies? Financial Executive, 26(2), p 14-15.

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