RECONCILING U.S. GAAP TO IFRS James A. Weisel, Georgia Gwinnett College CASE DESCRIPTION This case focuses on comparing and contrasting U.S. GAAP and IFRS through a case analysis. Students must utilize basic accounting research skills and analytical methods to complete the case. While the case explores only five potential differences between U.S. GAAP and IFRS, they are representative of the current status of the U.S. GAAP - IFRS convergence effort. Several issues highlight the more "principle-based approach of IFRS compared to the so called "rule-based" approach of U.S. GAAP. The case also emphasizes the need for professional judgement in applying accounting standards. Moreover, the case focuses on the process of examining the differences between the two sets of standards. The case has a difficulty level of three or four and is appropriate in an undergraduate International Accounting course or an upper-division undergraduate course in Financial Accounting and Reporting. Ata minimum, students typically have completed an introductory financial accounting and reporting course. Completing the case as an in-class exercise will generally take approximately 2 hours. The case is also suitable as an outside of classroom experience with an expected 2-3 hours to complete. a CASE SYNOPSIS A U.S. based manufacturer of after-market automobile components has prepared their financial statements in conformance with U.S. GAAP. The entity destres to attract new investors to find an expansion of operations. Several of the targeted investors are based in Europe and have asked the company's CPA, the role of the student, to reconcile After-tax Operating Income and Shareholders' Equity "as i" the manufacturer was to apply IFRS The investors also use Return on Shareholders' Equity as a significant measure of performance, Deutsche Autoparts, LLC is a U.S. based manufacturer of after-market automobile components targeting primarily the German automobile market. For Fiscal Year Ending 2014, its first year of operations, Deutsche Autoparts, LLC prepared their audited financial statements in conformance with U.S. GAAP. After-tax Operating Income amounted to S630,000 ($797,468 before-tax) and Shareholders' Equity was reported at $3,500,000. The company's tax rate is assumed to be 21%. Deutsche Autoparts uses straight-line depreciation for financial accounting purposes. Deutsche Autonarts is interested in attracting additional external investors to help finance a major expansion of sales. Several of the targeted investors are based in Europe and they have asked the company's CPA (you) to reconcile U.S. GAAP After-tax Operating Income and Shareholders' Equity to IFRS. The investors have recommended that Deutsche Autoparts use fair market valuations where available under IFRS. The targeted investors have also indicated that they rely significantly on after-tax return on shareholders' equity as a decision criterion. You have identified the following items as having potentially material impacts for the reconciliation process. a. The 12/31/2014 U.S. GAAP balance sheet shows inventory with a balance of 5302,500. Records indicate historical cost of $312,000 and replacement cost of S302,500. Through additional analysis you determined that the current estimated selling price is $310,000 with $3,000 cost to sell. The normal profit margin is 15% of selling price. b. The balance sheet shows Property, Plant, & Equipment, all acquired in January 2014, with historical cost of $2,000,000 and accumulated depreciation of $200,000 as of 12/31/2014 Your analysis indicates the fair market value as of December 31 is $2,100,000. d. Deutsche Autoparts is the defendant in a product liability lawsuit. The damages being demanded amount to $150,000. Attorneys believe that it is more likely than not to be settled unfavorably with an estimated range between $100,000 and $150,000. The facts and circumstances of the lawsuit are disclosed in the footnotes of the FYE 2014 financial statements c. In 2014 Deutsche Autoparts, incurred research and development costs totaling $50,000. Learch Deutsche Autoparts, is able to clearly distinguish the research phase from the development phase of the project. Research-phase costs amounted to $30,000 and development-phase costs are $20,000. An additional $15,000 of development costs are expected in 2015. The product is expected to be brought to market in 2015 and is expected to be marketable for five years. Use the following templates to reconcile U.S. GAAP After-tax income and Shareholders Equity to IFRS After-tax income and Shareholders' Equity. In the Item column, simply indicate which of the five items you are addressing (eg Inventory). In the Amount column indicate the dollar amount of the adjustment (if any) necessary to reconcile from US GAAP ro IFRS. These adjustments represent the difference in treatment between the two sets of standards. Don't forget to include the income tax effect of the adjustment. In the Explanation column briefly describe the relevant U.S. GAAP standard applied and the original treatment of the item. Also identify the molant IFS standard and treatment of the Table 1 AFTER-TAX OPERATING INCOME RECONCILIATION Item Amount Explanation After-tax Operating Income $630,000 (U.S. GAAP) After-tax Operating Income (IFRS) Table 2 SHAREHOLDERS' EQUITY RECONCILIATION Amount Explanation Shareholders' Equity $3,500,000 (U.S. GAAP) Item Shareholders' Equity (IFRS) ROE Analysis Compare ROESGAAP TO ROERS INSTRUCTORS' NOTES Recommended Approach A three-step strategy to complete the case is recommended Replicate accounting treatment under U.S. GAAP Determine treatment "as.if under IFRS Determine differential impact to reconcile U.S. GAAP to IFRS 1. Replicate the Income Statement and Shareholders' Equity impact under U.S. GAAP. In other words, determine how each of the five issues are treated in the original financial statements. This will necessarily require students to (a) research the standards under U.S. GAAP and (b) determine the financial impact of that issue on Deutsche Autoparts. 2. Determine the accounting treatment of each of the five issues as if the firm were applying IFRS. This will necessarily require students to (a) research the standards under IFRS and (b) determine the financial impact of that issue on Deutsche Autoparts, 3. Compare the treatments under (1) and (2) above and identify the difference between the two treatments as either (a) a positive adjustment, (b) a negative adjustment, or (c) no adjustment necessary to reconcile U.S. GAAP to IFRS. The four issues represent potential differences and that an adjustment may or may not be necessary. If no adjustment is necessary, the adjusting value of course will be 50. However, an explanation should be included in the template(s) The template() should be used to organize the results of the analysis. The first column simply identifies the relevant accounting issue. The middle column identifies the adjustment necessary, including income tax effects, to reconcile U.S. GAAP to IFRS. The third column should be used to provide a short note identifying (a) the relevant U.S. GAAP standards, (b) the original treatment of the issue under U.S. GAAP, (c) the relevant IAS/IFRS standard, and (d) the treatment of the issue under IFRS. Required: 1. Complete the reconciliation of U.S. GAAP After-tax Operating Income and Shareholders Equity to IFRS. Be sure to provide supporting documentation for each of the reconciling adjustments. 2. Compare After-tax Retum on Shareholders' Equity under U.S. GAAP to the retum under par cach of the reconciling RECONCILING U.S. GAAP TO IFRS James A. Weisel, Georgia Gwinnett College CASE DESCRIPTION This case focuses on comparing and contrasting U.S. GAAP and IFRS through a case analysis. Students must utilize basic accounting research skills and analytical methods to complete the case. While the case explores only five potential differences between U.S. GAAP and IFRS, they are representative of the current status of the U.S. GAAP - IFRS convergence effort. Several issues highlight the more "principle-based approach of IFRS compared to the so called "rule-based" approach of U.S. GAAP. The case also emphasizes the need for professional judgement in applying accounting standards. Moreover, the case focuses on the process of examining the differences between the two sets of standards. The case has a difficulty level of three or four and is appropriate in an undergraduate International Accounting course or an upper-division undergraduate course in Financial Accounting and Reporting. Ata minimum, students typically have completed an introductory financial accounting and reporting course. Completing the case as an in-class exercise will generally take approximately 2 hours. The case is also suitable as an outside of classroom experience with an expected 2-3 hours to complete. a CASE SYNOPSIS A U.S. based manufacturer of after-market automobile components has prepared their financial statements in conformance with U.S. GAAP. The entity destres to attract new investors to find an expansion of operations. Several of the targeted investors are based in Europe and have asked the company's CPA, the role of the student, to reconcile After-tax Operating Income and Shareholders' Equity "as i" the manufacturer was to apply IFRS The investors also use Return on Shareholders' Equity as a significant measure of performance, Deutsche Autoparts, LLC is a U.S. based manufacturer of after-market automobile components targeting primarily the German automobile market. For Fiscal Year Ending 2014, its first year of operations, Deutsche Autoparts, LLC prepared their audited financial statements in conformance with U.S. GAAP. After-tax Operating Income amounted to S630,000 ($797,468 before-tax) and Shareholders' Equity was reported at $3,500,000. The company's tax rate is assumed to be 21%. Deutsche Autoparts uses straight-line depreciation for financial accounting purposes. Deutsche Autonarts is interested in attracting additional external investors to help finance a major expansion of sales. Several of the targeted investors are based in Europe and they have asked the company's CPA (you) to reconcile U.S. GAAP After-tax Operating Income and Shareholders' Equity to IFRS. The investors have recommended that Deutsche Autoparts use fair market valuations where available under IFRS. The targeted investors have also indicated that they rely significantly on after-tax return on shareholders' equity as a decision criterion. You have identified the following items as having potentially material impacts for the reconciliation process. a. The 12/31/2014 U.S. GAAP balance sheet shows inventory with a balance of 5302,500. Records indicate historical cost of $312,000 and replacement cost of S302,500. Through additional analysis you determined that the current estimated selling price is $310,000 with $3,000 cost to sell. The normal profit margin is 15% of selling price. b. The balance sheet shows Property, Plant, & Equipment, all acquired in January 2014, with historical cost of $2,000,000 and accumulated depreciation of $200,000 as of 12/31/2014 Your analysis indicates the fair market value as of December 31 is $2,100,000. d. Deutsche Autoparts is the defendant in a product liability lawsuit. The damages being demanded amount to $150,000. Attorneys believe that it is more likely than not to be settled unfavorably with an estimated range between $100,000 and $150,000. The facts and circumstances of the lawsuit are disclosed in the footnotes of the FYE 2014 financial statements c. In 2014 Deutsche Autoparts, incurred research and development costs totaling $50,000. Learch Deutsche Autoparts, is able to clearly distinguish the research phase from the development phase of the project. Research-phase costs amounted to $30,000 and development-phase costs are $20,000. An additional $15,000 of development costs are expected in 2015. The product is expected to be brought to market in 2015 and is expected to be marketable for five years. Use the following templates to reconcile U.S. GAAP After-tax income and Shareholders Equity to IFRS After-tax income and Shareholders' Equity. In the Item column, simply indicate which of the five items you are addressing (eg Inventory). In the Amount column indicate the dollar amount of the adjustment (if any) necessary to reconcile from US GAAP ro IFRS. These adjustments represent the difference in treatment between the two sets of standards. Don't forget to include the income tax effect of the adjustment. In the Explanation column briefly describe the relevant U.S. GAAP standard applied and the original treatment of the item. Also identify the molant IFS standard and treatment of the Table 1 AFTER-TAX OPERATING INCOME RECONCILIATION Item Amount Explanation After-tax Operating Income $630,000 (U.S. GAAP) After-tax Operating Income (IFRS) Table 2 SHAREHOLDERS' EQUITY RECONCILIATION Amount Explanation Shareholders' Equity $3,500,000 (U.S. GAAP) Item Shareholders' Equity (IFRS) ROE Analysis Compare ROESGAAP TO ROERS INSTRUCTORS' NOTES Recommended Approach A three-step strategy to complete the case is recommended Replicate accounting treatment under U.S. GAAP Determine treatment "as.if under IFRS Determine differential impact to reconcile U.S. GAAP to IFRS 1. Replicate the Income Statement and Shareholders' Equity impact under U.S. GAAP. In other words, determine how each of the five issues are treated in the original financial statements. This will necessarily require students to (a) research the standards under U.S. GAAP and (b) determine the financial impact of that issue on Deutsche Autoparts. 2. Determine the accounting treatment of each of the five issues as if the firm were applying IFRS. This will necessarily require students to (a) research the standards under IFRS and (b) determine the financial impact of that issue on Deutsche Autoparts, 3. Compare the treatments under (1) and (2) above and identify the difference between the two treatments as either (a) a positive adjustment, (b) a negative adjustment, or (c) no adjustment necessary to reconcile U.S. GAAP to IFRS. The four issues represent potential differences and that an adjustment may or may not be necessary. If no adjustment is necessary, the adjusting value of course will be 50. However, an explanation should be included in the template(s) The template() should be used to organize the results of the analysis. The first column simply identifies the relevant accounting issue. The middle column identifies the adjustment necessary, including income tax effects, to reconcile U.S. GAAP to IFRS. The third column should be used to provide a short note identifying (a) the relevant U.S. GAAP standards, (b) the original treatment of the issue under U.S. GAAP, (c) the relevant IAS/IFRS standard, and (d) the treatment of the issue under IFRS. Required: 1. Complete the reconciliation of U.S. GAAP After-tax Operating Income and Shareholders Equity to IFRS. Be sure to provide supporting documentation for each of the reconciling adjustments. 2. Compare After-tax Retum on Shareholders' Equity under U.S. GAAP to the retum under par cach of the reconciling