IFRS? Get Ready for Islamic Standards!

American CPAs, hang onto your green eyeshades! Are you struggling to master the process of harmonizing your Generally Accepted Accounting Principles (GAAP) with the rest of the world’s International Accounting Standards? Then you had better be prepared for Islamic Accounting Standards!

At yesterday’s International Financial Reporting Standards (IFRS) breakfast meeting in Dubai, International Accounting Standards Board (IASB) member Robert Garnett promised to enter discussions with Islamic financial authorities later this year to bring international standards into conformity with Islamic standards. Said Garnett plainly and bluntly, “we will need to change our standards.”

American bean counters need not panic; Islamic standards are not terribly dissimilar to those in Western cultures. Nevertheless, the Bahraini based Accounting & Auditing Organization for Islamic Financial Institutions (AAOIFI) does establish its own financial accounting, auditing, and corporate governance standards in accordance with Shari’a principles. Interest income arrangements, for instance, are strictly forbidden, with profit sharing provisions utilized in their place.

Given the hullabaloo about the American efforts to evolve from GAAP to IFRS, though, it should be interesting to see whether American financiers and other accounting professionals follow the IASB into these new Islamic oriented arrangements. Hey, fellow Americans … how will our credit card companies survive if they cannot charge interest rates between 20% and 30%?

The Role of Personality

Just what is it, anyway, about the American persona that makes it so difficult for us to conform to the norms of other cultures? Is it something embedded within our personality? Within our cultural DNA? And if so, then how does that “something” translate into our preferred accounting practices?

Ironically, the historical American approach to accounting standards is diametrically opposed to the classic American approach to business regulation. The world knows America as a bastion of free market capitalism, a place where government regulation is kept to a minimum and where the free market is left alone to develop its own norms and standards. And yet since the establishment of the Financial Accounting Standards Board (FASB), American CPAs have always maintained a heavily prescriptive rules based system, whereas the rest of the world has opted for a more flexible principles based system.

With feedback and guidance from senior partners at Ernst & Young and Baker Tilly International, we have been training American undergraduate, graduate, and executive education students at Suffolk University in Boston to learn how to leave GAAP behind and adopt IFRS. Like others in the accounting education industry, though, we’ve been making some surprising discoveries about which Americans tend to succeed … and which tend to fail … during this period of transition.

Searching for Solid Ground

For instance, as we report at length on page 62 of this month’s April 2009 issue of the CPA Journal, the rigorous rules oriented personalities of most American CPAs seem to be particularly well suited to thrive within the world’s principles oriented accounting system.

Huh? Can rules oriented personalities thrive in a principles oriented system? That’s right … that’s what we are finding! Although the personalities of most American accountants tend to be as oriented towards rules as the system of GAAP that they have created, such personalities seem to adapt to a principles based system quite well when negotiating audit adjustments with clients.  In fact, rules oriented American CPAs tend to perform this task more effectively than their principles oriented colleagues.

We are still exploring the causes for this counter-intuitive finding, but we have gathered sufficient data to begin to formulate speculative hypotheses about why this may in fact be true. Apparently, people with rules oriented personalities will tend to look for guidance – interpretations, historical precedents, and the like – when rules are not available; they will then anchor firmly upon this guidance when negotiating with clients. In other words, when such Americans aren’t able to find a rule upon which to ground their arguments, they tend to look for anything that resembles a rule – or that comes as close as possible to one – and then they use it in place of a rule.

Conversely, according to our exploratory data, people with principles based personalities tend to see accounting disputes in relativistic terms. According to such individuals, nothing is engraved in stone … everything is up for discussion … and thus they enter negotiations ready to explore all possible compromise solutions.

The Power of Rigid Thinking

Who comes out of such an interactive process with better negotiated outcomes?  Not surprisingly, at an American business program like Suffolk’s Sawyer Business School, the hard-nosed rules oriented negotiators tend to come out on top.  We are finding that, when debating controversial financial accounting policies with clients, CPAs are better served by grounding themselves in guidance and then firmly defending their positions than by entering negotiations with no predetermined positions and with only a few general principles in mind. Thus, during our work at Suffolk, the rules oriented personalities tend to emerge triumphant.

So if you’re an American accounting firm, and you’re looking for college graduates to carry your audit staff into the upcoming era of principles based global accounting standards, we’d recommend that you avoid hiring individuals with flexible principles oriented personalities. Instead, we’d recommend that you hire the same hard-nosed rules oriented personalities that you’ve always hired, and simply instruct them to search for the guidance that they can use in place of traditional GAAP based rules.

And don’t be surprised if those same individuals are best able to adjust to the strict standards of Islamic accounting regulations as well. After all, rules based personalities are rules based personalities, whether they live in Western or in Islamic nations.