After the Enron debacle, the IASB proposes to shift from the rules based approach to the principles based approach of setting standards so that professional judgment is used for the purposes of financial reporting and specific rules are done away with. This paper attempts to highlight the need for consistency amongst standards so that comparability across companies over a period of time is facilitated. This would also facilitate the trend analysis of the company’s financial health over a period of time. The paper also analyzes the potential costs and benefits of adopting the principles based approach in the terms of increase in relevance of the financial information to the situation of the company as all companies have unique and customized business model (benefit) while it would also lead to loss of consistency and standardization of accounting standards for comparability (costs).
The paper reviews the trends being implemented by the standard setting bodies that focus more on the exercise of professional judgment as financial reporting is a science that is ever evolving in nature. Framing rules for every specific transaction is not an easy task given the mammoth number of participants in the financial system and the peculiarity of transactions across different companies.
Correspondingly, all the standard setters namely FASB, IASB and German Accounting Board are biased towards principle based approach which gives rise to inconsistency in the application of the standards for the same transaction in different ways by different companies that hinder cross comparison amongst companies.