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Finance & Accounts

By : Vivek Kumar, Associate,bulls Research
Industry : Equity Research/Analytics Functional Area : India
Activity:  3 comments  2622 views  last activity : 07 06 2010 20:18:04 +0000
 Refer 10

If you think I am going to give you details reagrding GAAP then I am sorry. What, in fact, I would like to share with you is the dilemma, we investors face these days when we come across a company's financials - one prepared in accordance with the Indian GAAP and another in accordance with the US GAAP. Some times it looks quite surprising when we find that a company which made profits as per the Indian accounting standards, is a loss making company from the standpoint of US GAAP. Who can forget the classic case of Daimler Benz which was a healthy profit making company according to German Standards, but just before its ADR issue realized that it was making losses under US GAAP.

Well there are certain difference betweeb US GAAP and Indian GAAP. Below I will mention these points for your reference.

  1. Underlying assumptions: Under Indian GAAP, Financial statements are prepared in accordance with the principle of conservatism which basically means “Anticipate no profits and provide for all possible losses”. Under US GAAP conservatism is not considered, if it leads to deliberate and consistent understatements.
  2. Format/ Presentation of financial statements: Under Indian GAAP, financial statements are prepared in accordance with the presentation requirements of Schedule VI to the Companies Act, 1956. On the other hand , financial statements prepared as per US GAAP are not required to be prepared under any specific format as long as they comply with the disclosure requirements of US GAAP.
  3. Consolidation of subsidiary companies: Under Indian GAAP, Consolidation of Accounts of subsidiary companies is not mandatory where as in case of US GAAP it is mandatory.
  4. Cash flow statement: Under Indian GAAP (AS 3) , inclusion of Cash Flow statement in financial statements is mandatory only for companies whose share are listed on recognized stock exchanges and Certain enterprises whose turnover for the accounting period exceeds Rs. 50 crore. On the other hand, US GAAP (SFAS 95) mandates furnishing of cash flow statements for 3 years – current year and 2 immediate preceding years irrespective of whether the company is listed or not.
  5. Investments: Under Indian GAAP, Investments are classified as Current and Long term. These are to be further classified Government or Trust securities ,Shares, debentures or bonds Investment properties Others-specifying nature. Under US GAAP, Investments are required to be segregated in 3 categories i.e. held to Maturity Security ( Primarily Debt Security) , Trading Security and Available for sales Security and should be further segregated as Current or Non current on Individual basis.
  6. Depreciation: Under the Indian GAAP, depreciation is provided based on rates prescribed by the Companies Act, 1956. Higher depreciation provision based on estimated useful life of the assets is permitted, but must be disclosed in Notes to Accounts.Depreciation cannot be provided at a rate lower. Under US GAAP , depreciation has to be provided over the estimated useful life of the asset, thus making the Accounting more realistic and providing sufficient funds for replacement when the asset becomes obsolete and fully worn out.
  7. Foreign currency transactions: Under Indian GAAP Forex transactions ( Monetary items ) are recorded at the rate prevalent on the transaction date .Year end foreign currency assets and liabilities ( Non Monetary Items) are re-stated at the closing exchange rates. Under US GAAP, Gains and losses on foreign currency transactions are generally included in determining net income for the period in which exchange rates change unless the transaction hedges a foreign currency commitment or a net investment in a foreign entity.
  8. Expenditure during Construction Period: As per the Indian GAAP, all incidental expenditure on Construction of Assets during Project stage are accumulated and allocated to the cost of asset on completion of the project. Contrary to this, under the US GAAP, such expenditure are divided into two heads – direct and indirect. While, Direct expenditure is accumulated and allocated to the cost of asset, indirect expenditure are charged to revenue.
  9. Research and Development expenditure: Indian GAAP requires research and development expenditure to be charged to profit and loss account, except equipment and machinery which are capitalized and depreciated. Under US GAAP, all R&D costs are expenses except intangible assets purchased from others and Tangible assets that have alternative future uses which are capitalised and depreciated or amortised as R&D Expense.
  10. Long term Debts: Under US GAAP , the current portion of long term debt is classified as current liability, whereas under the Indian GAAP, there is no such requirement and hence the interest accrued on such long term debt in not taken as current liability.
  11. Goodwill: Under the Indian GAAP goodwill is capitalized and charged to earnings over 5 to 10 years period. Under US GAAP, Goodwill and intangible assets that have indefinite useful lives are not amortized ,but they are tested at least annually for impairment using a two-step process that begins with an estimation of the fair value of a reporting unit.
  12. Capital issue expenses: Under the US GAAP, capital issue expenses are required to be written off when incurred against proceeds of capitals, whereas under Indian GAAP , capital issue expense can be amortized or written off against reserves.
  13. Proposed dividend: Under Indian GAAP , dividends declared are accounted for in the year to which they relate. For example, if dividend for the FY 1999-2000 is declared in Sep 2000 , then the corresponding charge is made in 2000-2001 as below the line item . Contrary to this , under US GAAP dividends are reduced from the reserves in the year they are declared by the Board. Hence in this case under US GAAP , it will be charged Profit and loss account of 2000-2001 above the line.
  14. Employee benefits: Under Indian GAAP, provision for leave encashment is accounted based n actuarial valuation. Compensation to employees who opt for voluntary retirement scheme can be amortized over 60 months. Under US GAAP, provision for leave encashment is accounted on actual basis. Compensation towards voluntary retirement scheme is to be charged in the year in which the employees accept the offer.
  15. Loss on extinguishment of debt: Under Indian GAAP, debt extinguishment premiums are adjusted against Securities Premium Account. Under US GAAP, premiums for early extinguishment of debt are expensed as incurred.

Well these are a few difference between Indian GAAP and US GAAP, because of which differences arrive when we make final accounts. These needs to be reconciled, so that we can make the accounts equitable on International or esp American grounds and most of the Indian companies are spreading their wings in this direction.

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3 comments on "US GAAP vs. INDIAN GAAP: Need to reconcile?"
  Commented by  Imran Hussain, Chartered Accountant/CPA, Royal Philips Electronics    | 05 02 2009 08:45:42 +0000
Underlying assumptions: Under Indian GAAP, Financial statements are prepared in accordance with the principle of conservatism which basically means “Anticipate no profits and provide for all possible losses”. Under US GAAP conservatism is not considered, if it leads to deliberate and consistent understatements.

Hi, Nice artical but I'm afraid I cannot aggree to the first point you've made (As above) "the US GAAP don't consider the principal of Concervatism". Take it from me They do consider the principal of conservatism seriously and is one of the most important principal underlying US GAAP. For Eg: I case of Contingent Liabilities. Once must take into consideration if the loss is Probable and resonably estimatable. But anticipated profits are not recorded.
  Commented by  Hardik Patel, Team Lead (Staffing and Recruitment), Rishabh Softwares Pvt. Ltd. / Rishi Infotech Pvt. Ltd    | 07 23 2008 07:52:36 +0000
Good Article. Thanks.
  Commented by  Sourav Chatterjee, IT Engineer- CMC Limited-ATata Enterprise    | 07 23 2008 01:29:03 +0000
nice article 
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