AC5710 Advanced International Financial Accounting

Report on Differences Between China General Accepted Accounting Standards (China GAAP) and International Financial Reporting Standards (IFRS) on Debt Restructuring and Impairment of Assets

Date: 21 September 2011

AC5710 Advanced Internationally Financial Accounting

21 September 2011

1. Differences between China GAAP and IFRS

1.1 Debt Restructuring Debt restructuring is a process of a company, which has financial difficulties, to renegotiate with the creditor the terms of the loan, say the repayment period, in order to restore its liquidity and make itself possible to continue its operation. CAS12 of China GAAP covers the accounting treatment for debt restructuring whereas the accounting for that in IFRS is covered in IAS39. By comparing the two standards, the differences of the accounting treatments of both the borrower and the lender are summarized in the following table1: China GAAP Accounting by the borrower Terms of debt instrument modified substantially difference recognized in P&L Accounting by the lender IFRS No matter the terms of the debt instrument modified substantially or not difference recognized in P&L

Adjust the carrying amount The difference is of the receivable which is computed by comparing calculated by computing the present value of the estimated future cash flows using the financial instrument's original effective interest rate. adjustment recognized in P&L the fair value of the receivable after the terms have been modified, with the previous carrying amount. difference recognized in P&L

1.2 Impairment of Assets An asset is considered to be impaired when its carrying amount is higher than its recoverable amount. CAS8 of China GAAP covers the accounting treatment for impairment of assets whereas IAS36 covers that in IFRS. By comparing the two standards, the key difference is on the reversal of impairment losses. CAS8 prohibits the reversal of all impairment losses but IAS36 only prohibits the reversal of impairment loss for goodwill.2

1 KPMG, An Overview of New PRC GAAP: Differences between old and new PRC GAAP and its convergence with IFRS. 2 Deloitte, Audit, Publication on Chinas New Accounting Standards, A Comparison with PRC GAAP and IFRS.

AC5710 Advanced Internationally Financial Accounting

21 September 2011

2. The Key Reasons of the Gap Between China GAAP and IFRS
The differences occur between China GAAP and IFRS can be explained by the following key factors: 2.1 Legal and Practice Systems In China, the accounting standards are issued by the Ministry of Finance, which is a department under the China Government. That means the accounting standards in China are like a set of laws which requires all the company in China to follow. We called this rule-based accounting system. On the other hand, IFRS is issued by IASB which is an independent accounting professional body which allows flexibility based on professional judgments when adopting the IFRS to prepare the financial statements. We called this principle-based accounting system. Since the reversal of impairment is also based on professional judgments and the reversal of impairment loss increases the chance of revenue manipulation, this explains why CAS8 prohibits the reversal of all impairment losses but IAS36 only prohibits the reversal of impairment loss for goodwill. That is, more flexibility in the accounting treatments under IFRS than under China GAAP. In other words, China GAAP tends to be legal compliance accounting while IFRS is aimed at fair presentation accounting. It will affects in many fields of accounting principles, such as application of the fair price, recognition of capital and impairment of asset as aforementioned. 2.2 Economic Environment In China, most of the large companies are owned or partly owned by the state. In order to protect their own earnings, they may tend to be more conservative in their accounting treatment so as to stabilize their income and reduce fluctuations. However, since there are an increasing number of multinational enterprises and development of stock market which will definitely expedite the convergence of China GAAP and IFRS.
References
1. Deloitte, Audit, Publication on Chinas New Accounting Standards, A Comparison with PRC GAAP and IFRS. 2. KPMG, An Overview of New PRC GAAP: Differences between old and new PRC GAAP and its convergence with IFRS. 3. International Journal of Business and Management, On the Construction of Chinas Accounting Standard System with International Convergence in Accounting Standards, Hongman Zhang and Xianfeng Liu.