Principles-Based Accounting – A Practical Enquire Into the Concept Based on Related Party Transactions Disclosures

Abstract

The International Financial Reporting Standards (IFRS) are followed and adopted in more than 140 jurisdictions worldwide nowadays. This tremendous success for the last 20 years in terms of worldwide coverage is also attributable to the main principles-based character of IFRS. This also makes mainly a difference to its “sister” Accounting Standards United States Generally Accepted Accounting Principles (US-GAAP), which is rule-based. All attempts that for U.S. companies it would be allowed to follow IFRS, did not succeed, given the litigious nature of the society of the United States to introduce a principle-based system has barriers, as fundamentals of the Case-laws would need to be restructured and changed. This research paper will look into the practical application and implication of accounting based on principles with the case of related part transactions disclosures. Many of the most well-known accounting scandals were associated to related party transactions (RPT) such as Enron, Wordcom or Parmalat. In general, there are two contrasting views on RPT: they represent either conflicts of interest as they can violate against management’s agency responsibility to shareholders or supervisory board purpose of monitoring. This view is the conflict of interest hypothesis and can be derived from agency theory by Berle and Means (1932) and Jensen and Meckling (1976). The alternative view is the efficient transactions hypothesis, which assumes that RPT efficiently fulfill underlying economic needs of the company, as they represent possibilities to achieve lower refinancing costs. This article will practically enquire into the concept of principles-based accounting. In this research paper, what implies principles-based accounting is inquired considering practical disclosure cases. Many accountants share the expectation that a standard should define disclosure rules, which companies should follow, however principles-based accounting is still after so many years new and challenging. Principles-based accounting requires the accountant to look into the standard and get an understanding what are the principles to comply with and to look through the underpinning of the standard. A lot of tools support the accountants to comprehend the meaning of the standard such as disclosure checklist or the IASB XBRL taxonomy. However, these can never fully substitute the prerequisite to fully comprehend and look into the essence of the principle laid down in the specific standard.