Accounting in the UK and the US is a case of division by a common language. Stock in the US becomes shares in the UK, stock in British accounting becomes inventory in American accounting. This article aims to provide an overview of accounting in the UK for US companies looking to set up in the UK, and as a way of highlighting some of the more important ways in which financial reporting differs.

The accounting requirements for companies in the UK need to be considered in three categories:

1. Companies whose shares or bonds are listed on the London Stock Exchange or a secondary market such as the Alternative Investment Market (AIM)
2. Other privately-held companies
3. Small companies

UK LISTED COMPANIES
Listed companies from the beginning of 2005 must prepare their consolidated accounts in conformity with International Financial Reporting Standards (IFRS). This requirement applies equally to all of the other 24 states in the European Union (EU). It is part of a package of measures (the Financial Services Action Plan) which is designed to promote the development of a single capital market in the EU. AIM companies will use IFRS from 2007.

Accounting standards differ between the US and UK

Companies whose primary listing is in the US, but which also have their shares quoted in London can continue to provide to their shareholders financial statements prepared using US Generally Accepted Accounting Principles (GAAP) without further reconciliation to IFRS.

IFRS is a different system of accounting standards from either UK standards or US GAAP. In general, it is closer to UK standards in terms of length and the extent of rules and guidance for particular circumstances. It is therefore less complex with fewer exceptions to the principles and less detailed guidance than is found in US GAAP. While income statements and balance sheets would mostly report the same numbers under either system, there are some areas where items would be accounted for very differently under IFRS or US GAAP (these are so-called recognition and measurement differences). The recognition or measurement differences would include:

• Inventories cannot be valued using the last-in-first-out (LIFO) system in IFRS
• Property, plant and equipment can be revalued upwards from historical cost in IFRS, though the uplift does not form part of income for the year and it is only an option
• Likewise properties held as investments can be stated at fair value, but the change here is part of profit
• The boundaries of the group for consolidation purposes are determined basically by control over the activities of
  a company in IFRS and not the majority of voting rights as in US GAAP
• Development costs of new products and services that are expensed under US GAAP must be capitalised in IFRS when certain conditions are met concerning their likely recovery via future sales
• The IFRS rules on revenue recognition are much more generally stated and the guidance for particular industries much less extensive than in US GAAP

Nevertheless, different sets of rules are just that and, although broadly similar, there are a series of lesser differences, for instance in deferred tax and in lease accounting.
For UK listed companies, there is no direct equivalent of the Securities and Exchange Commission. The Financial Services Authority (FSA) supervises the operation of the capital markets, as well as being the prudential regulator for banks, insurers and financial intermediaries. The enforcement and monitoring of good financial reporting is handled by the Financial Reporting Review Panel which is, however, suitably armed with powers to change reports when necessary.

OTHER UK COMPANIES
For all other companies (including privately held businesses, joint ventures and subsidiaries of other UK or of overseas companies), even though not publicly traded, there is a requirement to file annual financial statements on a public record (at Companies House). There is therefore more information in the public domain in the UK about your company, but equally more information available about your trading partners and your competitors.

These accounts have to be prepared in compliance with either:

• IFRS as for listed companies
• UK standards and certain requirements in company law (the Companies Act)

This is a free choice for most UK-based companies, but the expectation for now is that most unlisted companies will not choose IFRS. This will probably even include the UK subsidiaries of EU listed companies, which will have to complete group reporting packages using IFRS. The reasons for this likely low take-up include the potential tax effects, restrictions on distributions and the greater disclosure requirements.

The Companies Act requirements include some outline principles of accounting and also include formats for the presentation of the income statements and balance sheets. As with IFRS, these legal rules represent a degree of harmonisation across Europe.
The main body of accounting rules are the standards produced by the UK Accounting Standards Board (ASB) and pronouncements by its Urgent Issues Task Force (UITF). This system of standards, as indicated above, is reasonably similar to IFRS. Key areas of difference of treatment to be expected include:

• All of the IFRS/US differences noted above and, additionally for most UK companies, there is no standard dealing with the recognition and measurement of financial instruments, including rules on hedge accounting
• Development costs can be expensed as an accounting option
• Deferred tax liabilities can be discounted to a present value and are not required on revaluations of property where there is no present intention to sell
• Investment properties must be at market value, but the change in a period does not generally affect profit
• On business combinations, merger accounting (the pooling method) is still allowed in some circumstances and goodwill can be amortised over a period of up to 20 years with no annual impairment check

In addition to the standards and the law, there are Statements of Recommended Practice (SORP), which set out how the standards should be applied in different sectors (for example oil and gas, charities and pension schemes).

SMALL COMPANIES
Another key difference between UK standards and IFRS or US GAAP is that there is a simpler regime for small companies. Small companies are essentially those which meet two out of the following:

• 50 or fewer employees
• Assets of less than £2.8m
• Turnover (sales) of less than £5.6m

They cannot be public limited companies or regulated by the FSA (see above) or members of groups containing any of these. This does mean for example that a subsidiary of a US company could qualify if it is not in the financial services sector and falls below the size thresholds.

Instead of applying the ASB’s main standards, they can opt to apply the Financial Reporting Standard for Smaller Entities (FRSSE) offering a more straightforward set of rules for companies to follow. There are some note disclosure reductions compared to the full UK standards, but essentially no recognition or measurement differences.

The Companies Act has the more significant reductions for small companies. In particular there is no requirement to:

• Prepare consolidated accounts where a small company has subsidiaries
• File full accounts, as abbreviated accounts only comprising a balance sheet and supporting notes will do
• Have the accounts audited

CONVERGENCE OF ACCOUNTING STANDARDS
There are developments ahead for all those three categories which will tend to make UK financial reporting more understandable to US investors and other users. There is an agreement between the two bodies responsible for IFRS and for US GAAP that there should be convergence between those two systems. This means that most significant new developments in financial reporting are being developed jointly and simultaneously on both sides of the Atlantic.

Recent examples have been harmonised rules on the accounting for share/stock options and in the accounting for business combinations. In addition, there is a programme for convergence in respect of existing standards, for example on segment reporting, deferred tax and provisions. At the same time as US GAAP and IFRS adopt more similar accounting, UK standards will also be converging on IFRS. The ASB sees no case for maintaining in the longer term a significantly different UK set of standards.

Therefore over the next few years existing UK standards will be replaced by new versions that are word-for-word equivalents of IFRS and any new IFRS issued in the UK at the same time. The process has begun with UK versions of the IFRS on share options and on financial instruments.

A version of the IFRS suitably adapted for application to small and medium-sized entities is being developed. In due course, this may well be adopted in the UK to replace the FRSSE.

Companies interested in establishing in the UK should contact UK Trade & Investment (UKTI) at:
Website: www.ukinvest.gov.uk/gateway/index.html

In addition, ACCA provides a wealth of resources on financial reporting. For more information, visit:
Website: www.accaglobal.com/ifrs