Introduction of IAS / IFRS by the BMW AG in 2000

Index of the 5th Case Study: Accounting under different standards

Preface: Accounting under different standards by multinational companies

1. Introduction of International Accounting
1.1 Objectives of accounting standards and enforcement of IAS / IRFS
1.2 Reasons for using international standards
1.2.1 Globalization of economy and finance markets
1.2.2 Improved internal steering of multinational companies
1.3 Worldwide competition of Accounting Standards
1.3.1 Reasons for different accounting standards
1.3.2 Reasons for US SEC’s reservation about accepting IAS / IFRS
1.3.3 Reasons for the creation of independent IAS / IFRS
1.3.4 Objectives of IAS / IFRS
1.3.5 Adoption of International Accepted Standards in Germany
1.4 The phases of development of IAS / IRFS
1.4.1 The early years of the IASC
1.4.2 The second phase of the IAS
1.4.3 The third and final phase
1.4.4 Conclusion
1.5 Organization of the IASC Foundation
1.5.1 Board of the IAS
1.5.2 Trustees
1.5.3 Standards Advisory Council (SAC)
1.5.4 The International Financial Reporting Interpretations Committee (IFRIC)
1.5.5 The standard-stetting process on national level
1.6 Summary and outlook

Appendix: IAS / IFRS worldwide

2. Short summery of BMW Group’s history and activities
2.1. BMW Group’s key markets
2.2 BMW’s reasons of changing its accounting system
2.3 The effects of BMW Group changing accounting from HGB to IAS
2.4 Rules of propagating the BMW balance sheet under IAS
2.5 Some definitional, recognition and measurement requirements
2.6 BMW Group a 4 years comparison in euro million

3. BMW and the IAS standards
3.1 The effects of the International Accounting Standards on BMW
3.3.1 Sales figures since 1998
3.3.2 Profit figures since 1998
3.3.3 Dividends since 1998
3.3.4 How does BMW rate
3.3.5 Investments and cash flow
3.4 Stock prices since 1998
3.5 Accounting standards in the automotive industry
3.6 Summing up and looking forward

Bibliography of 5th Case: Accounting under different standards

Preface: Accounting under different standards by multinational companies

Since 1970, BMW has developed from being a domestic car manufacturer to an international big player in the automotive sector. This part of the company’s history was examined by our group within the last three case studies, dealing with the following milestones:

- ensuring the company’s growth by merging the Rover Group (2nd case),
- realizing the strategy “production follows the market(s)” by building a plant in South Carolina, USA, becoming part in BMW’s worldwide production network (3rd and 4th case) and
- BMW’s efforts to conquer the small-car segment by redesigning and selling the MINI worldwide (also 4th case).

This 5th case study now deals with an important financial aspect of multinational companies: their obligation of accounting.

Until the year 2000, BMW used to prepare its annual external audits under German Commercial Code Standards (HGB)^[1]. This tradition ended in 2000, when BMW accounted under “International Accounting Standards” (IAS)^[2] for the first time.

7 years before, Mercedes-Benz was the first German automotive manufacturer adopting international Standards in 1993. But in Mercedes’ case “US-Generally Accepted Accounting Principles” (US-GAAP) were chosen, because the objective was to become listed at the “New York Stock Exchange” (NYSE). At this time US-GAAP were not accepted outside the “North American Free Trade Association” (NAFTA), esp. not by the EU Commission, but the US-Principles were applied in the largest and most important stock market worldwide. On the other hand, US organizations like the “Securities and Exchange Commission” (SEC) did not accept any other accounting standards in these days^[3]. Accordingly, Mercedes-Benz had to prepare two annual audits: one under US-GAAP and the other under HGB.

This treatment, obviously, was highly inefficient, providing lots of encumbrances to US-capital-seeking European companies: accounting and auditing took too much time, personnel resources and money. Another negative effect was that many US companies hesitated with urgently required investments in Europe. But nevertheless, multinational groups seemed to have several advantages by using international accounting standards, even if they had to prepare more than one audit annually.

Within the 1st part, this case study provides basic information’s dealing with accounting standards: in particular reasons and objectives, organizational patterns and the process of IAS becoming international accepted by pointing out their most important differences compared to US-GAAP and German HGB Standards.

The 2nd part deals with the reasons of changing BMW’s accounting standards by looking at the Group’s key markets and the impact of IAS-adoption by examining their figures of non current assets, inventories, other current assets, liabilities & deferred incomes, provisions, equity as well as research & development within a four years comparison.

At last the 3rd part gives an examination and summary of the results of IAS-reception for BMW, the effects on the stock market, changes of rating on the global market and gives hints to future accounting trends in the Automotive sector.

1. Introduction of International Accounting

To start with the basic information about International Accounting, a definition of what Accounting Standards are in general, is given by the “International Accounting Standards Board” (IASB) itself^[4]:

“Accounting standards are authoritative statements of how particular types of transaction and other events should be reflected in financial statements”. Standards issued by the Board of the International Accounting Standards Committee (1973-2001) are designated "International Accounting Standards" (IAS). Its successor, the International Accounting Standards Board (IASB) announced in April 2001 that its accounting standards would be designated "International Financial Reporting Standards" (IFRS).

The structure of the IAS regulation system includes three parts:

- overall considerations for the presentation of financial statements (IAS 1)
- particular regulation (IAS 2 - 41) and
- underlying concepts: objective of financial statements, accounting principles, definition, recognition and measurement principles as well as concepts of capital and capital maintenance (Framework).

Nothing in the Framework overrides any specific IAS. In case of conflict, the requirements of IAS prevail over those of the Framework^[5].

1.1 Objectives of accounting standards and enforcement of IAS / IRFS

In a free market economy, usually the market player decides about demanded information’s provided by certain accounting principles. But there are important reasons for accounting standards being mandatory: most of the accounting abuses of recent years, such as

- offsetting in balance sheet finance,
- “window dressing”,
- presentation of debt as equity and
- abuse of reorganization provisions

were practiced in areas of accounting where there were no authoritative accounting standards. From the 1920's, experience has shown that, in the absence of regulation, financial reporting may not give the information that users need to make informed assessments of companies. Therefore, accounting standards aim to promote

- comparability,
- consistency and
- transparency

in the interests of users of financial statements. In the IASB’s point of view, good financial reporting should not only promote healthy financial markets, it also should help to reduce the cost of capital because investors can have faith in companies' reports. Although the IASB as a civil organization has no authority to enforce compliance with its accounting standards, many countries require the financial statements of publicly-listed companies to be prepared in accordance with IAS / IFRS, in order to providing a true and fair view of the companies’ financial position, the results of its operations and cash flows at the end of the financial year.

Thanks to the support by national institutes, international accounting firms and the “International Forum for Accountancy Development”, compliance with IAS will be achieved by preparers and auditors of financial information^[6]. In addition, recent big accounting scandals like Enron and WorldCom made investors, analysts, shareholder groups and the media much more sensitive in watching for signs when management has tried to depart from IAS or the framework. Any attempt will usually be attacked and pursued by securities regulators immediately^[7]. In other words, where IFRS are the required accounting standards, or a company has chosen to comply with IFRS, the requirements of all IFRS have to be regarded as mandatory.

1.2 Reasons for using international standards

Reasons for using international standards (IAS/IRFS, US-GAAP) are generally caused by progressing globalization of economy and finance markets, the need of internal improved steering multinational companies, as well as worldwide competition of accounting standards and the increasing need for worldwide harmonized accounting standards.

1.2.1 Globalization of economy and finance markets

In the European top management’s point of view, permanent globalization of economy and finance markets is an external reason for thinking seriously about a listing at international capital markets in order to

- receive new equity more easier and in larger amounts compared to many national stock markets,
- take the chance using their own shares as currency for acquiring competitors or suppliers in other countries and to use the annual financial statements for negotiations regarding the acquisition and the price^[8],
- attract their current and potential share- and stakeholders with a reputation of being a “global player”, fitting stricter quality standards of international stock markets^[9] and to
- decrease the costs of equity by reducing their spread and increasing their trade volume as well as the volatility of their share prices. In cases like this, the management believes in the theory that the elements are correlating with the quantity and quality of available information’s about a publicly traded company. Companies accounting under IAS / IRFS or US-GAAP are said to have a 35% lower spread and a trade volume 50% higher than companies accounting under HGB standards^[10].

An increasing demand of international accounting comes not only from the huge international, but also from national stock markets for particular market segments.

In Germany, the admission as prime standard (DAX 30, MDAX, SDAX and TDAX) requires quarterly reporting, ad-hoc information and current reporting in English as well as reporting based on IAS / IRFS or US-GAAP^[11]. The reason for this is to achieve more transparence about the publicly listed companies’ financial strengths and weaknesses by improved finance information’s^[12]. Beside Germany, an increasing number of other nations have been adapting their accounting standards to IAS / IFRS.

Referring to Liesel Knorr from the “German Accounting Standards Committee e.V.” (GASC), four different gradual intensities of IAS-adoption can be recognized so far^[13] (see also Appendix “IAS / IFRS worldwide” at the end of this part):

(a) the use as national standards
in Hong Kong, Malaysia, Sri Lanka, Croatia, Romania, Cyprus, Bahrain, Kuwait, Oman, Zimbabwe, etc.
(b) used in absence of or supplement to national standards
in India, Mongolia, Thailand, Taiwan, Russia, etc.
(c) used in convergence of national standards with IAS
in Australia, New Zeeland, UK, Netherlands, Denmark, Sweden, South Africa, etc.
(d) accepted in consolidated financial statements of listed companies
in Germany, France, Italy, Austria, Belgium, Finland.

Regarding Hong Kong and Germany, a restriction to Mrs. Knorr has to be done:

Firstly Hong Kong’s Government does not permit the use of IAS without reconciliation to domestic generally accepted accounting principles, as well as USA, Canada and Japan. And secondly Germany belongs to those countries with an own long accounting history, where IAS / IFRS are only an additional standard without giving up the traditional principles of the German Commercial Code till 2005, when the EU IAS-Regulation will become effective (see below)^[14]. At this time, IAS / IFRS are usually transformed into national standards mostly by nations, which are in need of economical reforms; former East block countries and developing nations. The main reason for this adoption is to attract potential investors by presenting them with an accounting system of international accepted standards^[15]. Nevertheless, EU companies will need to prepare comparatives for 2004 as well, so the time to prepare for IAS / IFRS compliance in 2005 is now^[16].

Furthermore, banks and rating agencies are demanding more information based on internationally standard from companies, which intends lending money or selling their shares. Because of the recent international banking regulations like Basel II, banks today have to be very strict in their estimation of financial risks and in calculating the price for loans. Only companies providing the demanded finance information’s can be sure to receive favorable conditions for loans^[17].

An essential demand in clear understandable and (inter-)nationally comparable accounting information’s is also given for the mass of private stockholders and stakeholders (e.g. suppliers, employees, etc.) as well as global investment firms and finance analysts. Managing lots of wide scattered stock-portfolios of companies of different nations is much easier when at least the applied accounting standards are similar. More comparable financial information’s saves time and costs and helps to enable the international allocation of capital additionally^[18].

In summary, the globalization of business activities caused a need for International Accounting Standards: Neither multinational companies nor national institutions can escape from internationally share- and stakeholder-oriented standards like IAS / IFRS and US-GAAP in the future^[19]. For European companies it is important to prepare for the IAS / IRFS adoption before 2005, when they become law. Although IAS / IFRS are not mandatory by law yet, they have strong external influences on financial needs of multinational companies.

1.2.2 Improved internal steering of multinational companies

In addition to the discussed external reasons, there are also some important internal reasons for companies, applying IAS / IFRS or US-GAAP within their annual audits.

In contrast to the US and UK, many European and also Japanese companies are working with different key figures: for internal calculation, key figures are used for calculating prices of products and services, as well as planning and measuring costs of production, promotion, etc.

On the other hand, key figures for external usage were applied in the financial statement. The reasons for these distinction results of the different purpose of accounting in code and case law oriented countries. While accounting standards from code law countries are determined to protect external investors, esp. banks, case law countries like the USA and UK often have a strong stock market tradition. Their accounting standards are determined to protect shareholders being equity owner, leading to less influence of the “Prudence principle”. Without dropping the calculation figures, this approach effects the companies’ internal controlling instruments: their key figures are also disclosed within the external financial statements. In other words: the management of US and UK companies is much more driven by external key figures than e.g. in Germany. The advantages are:

- usage of group-wide uniform key figures and simplification of controlling,
- integration of internal calculation and external reporting systems
- improved international comparability and comprehensibility.

For European companies, changing to international accounting systems, this approach also includes the reception of modern value-oriented key figures like

- Economic Value Added
- Return on Capital Employed
- Cash Flow Return on Investment

for improved internal steering within international business activities^[20].

1.3 Worldwide competition of Accounting Standards

In the worldwide competition of Accounting Standards for the best companies with highest values and the best share performances, the IASC / IASB plays an important role, being the authorized European institution to prescribe accounting standards for European publicly listed companies. Within this part, reasons for the existence different accounting standards, the US SEC’s reservation about accepting IAS / IFRS and the creation of independent IAS / IFRS will be examined as well as objectives of IAS / IFRS, closing up with some informations about the adoption of International Accepted Standards in Germany

1.3.1 Reasons for different accounting standards

The main reason for the differences of IAS/IFRS, US-GAAP and the German HGB is connected with the different legal and finance system:

As mentioned above, key figures for internal and external usage differs in many European and Japanese companies from those in the USA and UK.

Historically, code law oriented nations have relied strongly on bank financing and far less on public equity markets, prescribing financial reporting standards for the goal of protecting the interests of creditors and ensuring the effectiveness of taxation. While this distinction now is fading in times of financial globalization, there are still national standards effective, allowing the management to accumulate “hidden reserves” in order to protect their interests at the expense of share- and stakeholders^[21]. Hidden reserves are assets, whose net worth have been understated, e.g. by overstated depreciations, undervalued assets and receivables or overvalued liabilities.

The German HGB allows the accounting of many different reserves or provisions for certain expenditures, ensuring the company’s financial liquidity in the future by raising its liabilities and reducing its annual surplus simultaneously, e.g. for reparations (§ 249 I 3, II HGB)^[22].

Under US-GAAP, the intensive application of the “Prudence principle”, the strong influence of taxes and many accounting methods leading to hidden reserves, are strictly forbidden, because they are contradictory to the demand of financial Information’s by share- and stakeholders^[23].

For IAS / IFRS, the opening to shareholders’ information needs was essential to become internationally accepted, by the “International Organization of Securities Commission” (IOSCO) and the EU-Commission, both believing strongly in stock market advantages (see below, 1.5).

1.3.2 Reasons for US SEC’s reservation about accepting IAS / IFRS

Unfortunately the worldwide application of IAS / IFRS is still blocked by the US SEC’s refusal to recognize their validity as a basis for filing registration statements and periodic reports under US securities laws. Receiving the admission by the SEC to become listed at US stock markets is still impossible for foreign companies, if they do not account under US-GAAP or do not – at least – a reconciliation to US-GAAP for major captions in the income statement and balanced sheet^[24]. In the SEC’s point of view, the US-GAAP are standards of highest quality worldwide and their application and compliance is a must for ensuring the smooth and undisturbed function of the US capital market. But the main reason for the still refrained acceptance is obviously the SEC’s intention to protect US companies against foreign competitors struggling for scarce US capital^[25].

1.3.3 Reasons for the creation of independent IAS / IFRS

Although the US-GAAP includes a collection of standards for all financial positions and most branches, being historically developed since 1939^[26] and therefore the most experienced accounting standards worldwide, there were several reasons for the IASC / IASB not to take over US-GAAP into European law:

- focused on US-specific needs only
- no possibilities to bring in European interests into the process of standard-setting and development of US accounting politics^[27]
- regulation overload

Over the decades, US GAAP has become largely “rule based”, although it was once far more “principle based”. Currently it contains by far the largest number of specific rules, including several still-effective Accounting Research Bulletins, 31 APB Opinions, 146 FASB Statements, scores of Interpretations, Technical Bulletins and Statements of Position and Accounting Guides issued by the AICPA, as well as other relevant professional literature^[28]. Overtaking the “house of GAAP” never was a proper solution for Europe’s companies.

1.3.4 Objectives of IAS / IFRS

The intended solution is an approach of IAS / IFRS to the contents of US-GAAP until 2005 and the continued enforcement of the IAS / IFRS’ worldwide acceptance, becoming a serious counterpart to US-GAAP by

- developing, in the public interest, a single set of high quality, understandable and
- enforceable global accounting standards that require highly quality, transparent and comparable information in financial statements and other financial reporting to help participants in the world’s capital markets and other users to make economic decisions;
- to promote the use and rigorous application of those standards; and
- to bring about convergence of national accounting standards and international to high quality solutions^[29].

1.3.5 Adoption of International Accepted Standards in Germany

As mentioned above, this change was not initiated by politicians, but by European companies beginning in 1993 with Mercedes-Benz, accounting the first time under US-GAAP.

Afterwards many companies followed until 1998. Then the KapAEG became effective with § 292a HGB in 1998, allowing multinational companies located in Germany to add international demanded information’s to their annual financial statements in order to receive listings at international stock markets easier.

The following overview shows companies accounting under HGB, IAS or US-GAAP standards in Germany recently:

illustration not visible in this excerpt

The next two charts presents the development of accounting practice in Germany from 1997 to 2001, first in DAX, second in MDAX, showing very clear the movement away from HGB to IAS / US-GAAP made esp. by DAX companies till 2000^[30].

1.4 The phases of development of IAS / IRFS

The International Accounting Standards Committee was founded in 1973 by representatives of professional institutions and organizations from Australia, Canada, France, Germany, Mexico, the Netherlands, the UK, Ireland and the USA^[31]. Reviewing the history of the IASC, from its inception until its transformation to the new IASB, three different stages can be identified^[32].

1.4.1 The early years of the IASC

Beginning with the early years since 1973, the attempt was made to establish a common body of on major accounting issues, e.g. for inventory, leases and long-lived assets. To receive as much support as possible by other international institutions and accounting organizations, the IASC followed a “lowest common dominator” approach by endorsing virtually all mainstream methods of all major nations and permitting diverse alternative accounting methods for similar accounting situations.

1.4.2 The second phase of the IAS

The objective of the second phase in the IASC’s evolution was to narrow the range of acceptable alternative accounting treatments. Its highlight was the “Comparability / Improvements Project” with the result of 10 revised standards that took effect in 1995:

illustration not visible in this excerpt

[...]

^[1] Within the further case study, the “German Commercial Code” is abbreviated with HGB.

^[2] Since 2002, the IAS are part of the “International Financial Reporting Standards” (IFRS).

^[3] Wagenhofer, IRS, p. 2, 29; Heyd, IR, p. 1 ff.

^[4] IASB, faq

^[5] Baus, International Accounting, p. 14

^[6] Wagenhofer, IRS, P. 71 f.

^[7] IASB, faq; Tweedie, IASC Foundation, Annual Report 2002, p. 4

^[8] Wagenhofer, IRS, p. 10, pointing out that many guarantees concerning balance sheets are based on IFRS

^[9] Wagenhofer, IRS, p. 6 f.

^[10] critical about this theory: Wagenhofer, IRS, p. 9 and fn. 15

^[11] Wagenhofer, IRS, p. 72 f.; Baus, International Accounting, p. 8

^[12] Wagenhofer, IRS, p. 8, 10

^[13] Knorr, IFRS presentation 2002, p. 18

^[14] Wagenhofer, IRS, p. 83 f.; Ditges / Arendt, Bilanzen, p. 337

^[15] Wagenhofer, IRS, p. 79

^[16] Tweedie, IAS: the view from the top

^[17] Wagenhofer, IRS, p. 10 f.

^[18] Wagenhofer, IRS, p. 8

^[19] Epstein / Mirza, IAS 2003, p. 5 f.

^[20] Wagenhofer, IRS, p. 12

^[21] Epstein / Mirza, IAS 2003, p. 3 f.; Wagenhofer, IRS, p. 12

^[22] Ditges /Arendt, Bilanzen, p. 287 ff.

^[23] Wagenhofer, IRS, p. 12; Ditges /Arendt, Bilanzen, p. 342

^[24] Epstein / Mirza, IAS 2003, p. 6

^[25] Wagenhofer, IRS, p. 6

^[26] Wagenhofer, IRS, p. 37: From 1939 to 1959, the Committee of Accounting Procedure (CAP) was the first US standard setter.

^[27] Wagenhofer, IRS, p. 41

^[28] Epstein / Mirza, IAS 2003, p. 4 f.

^[29] Heyd, IR, p. 14; see also the official website of the IASC Foundation www.iasc.org.uk

^[30] Heyd. IR, p. 65 f.

^[31] Epstein / Mirza, IAS 2003, p. 6

^[32] Epstein / Mirza, IAS 2003, p. 8 ff.