Long-Term Debt U. S. GAAP vs. IFRS Scott Bailey Acc 311 Debruine Every company in the world must raise funds in order to finance its operations and expansion. The most common form of this funding is through the use of long-term debt. Depending on where the company does business and who uses their financial statements, there are different ways of recording this debt through the use of United States Generally Accepted Accounting Principles (U. S. GAAP) and International Financial Reporting Standards (IFRS).
The main differences between the two accounting standards, with regards to long-term debt recognition, deal with debt issue costs and convertible bonds. Debt issue costs are the payments associated with issuing debt, such as various fees and commissions to third parties. According to U. S. GAAP these payments generate future benefits that under ASC 835-30-45-3 are recorded on the balance sheet as deferred charges. These charges are capitalized, reflected in the balance sheet as an asset, and amortized over the life of the debt instrument. Early debt repayment results in expensing these costs.
Under IFRS costs are deducted from the carrying value of the financial liability and are not recorded as separate assets. Rather, they are accounted for as a debt discount and amortized using the effective interest method. (IAS 39, par 43) The debate between which set of standards correctly portrays the financial implications of these costs is centered on the idea of matching expenses and revenue. Those for U. S. GAAP argue that the deferred costs create an asset to which we can then match the revenue with the expenses over the useful life of the debt.
This is in compliance with the matching principle of the conceptual framework for financial accounting. Under IFRS the costs are said to be immaterial and do not require consideration of the matching principle. This brings up possible issues of managed earnings based on when companies are issuing debt and when they are recognizing the issue costs. A convertible bond is a type of bond that the holder can convert into shares of common stock in the issuing company or cash of equal value, at an agreed-upon price.
The difference between US and international standards arises when determining how to measure and account for convertible feature of the bond. Under U. S. GAAP, ASC-420-20-25-6 states: A contingent beneficial conversion feature shall be measured using the commitment date stock price but shall not be recognized in earnings until the contingency is resolved. This basically says that the convertible feature of the bond is not recognized until it is actually resolved.
Under IFRS they refer to the convertible part of the bond (equity element) as an embedded derivative which must be accounted for separately from the liability element of the bond. (IAS 39, par 11) These embedded derivatives are treated the same as stand-alone derivatives in that they are measured at fair value with all changes in fair value recognized in profit or loss. (IAS 39, par 46) This process of recording causes a company to be less stable and more reactive to changes in the market. This is not necessarily a bad thing because it accurately portrays the value of the future benefits of the bonds.
Accounting for convertible bonds and debt issue costs is likely to change in the future. The US and international standard boards are constantly working on a convergence in order to have a single set of accounting standards for every business. The issues with long-term debt are only a few of many differences that need to be resolved between IFRS and U. S. GAAP. They have been working on the idea of a convergence for many years and personally I do not believe there will be any type of convergence in the near future.
With that being said it is important that we know the differences in reporting between IFRS and U. S. GAAP and are able to recognize the financial implications of these differences. Works Consulted Financial Accounting Foundation. (n. d. ). Financial Accounting Standards Board. In FASB Accounting Codification Standards. Retrieved October 11, 2012, from http://www. fasb. org/home IFRS Foundation. (n. d. ). International Financial Reporting Standards. In eIFRS . Retrieved October 11, 2012, from http://eifrs. ifrs. org/IB/Register