1. What is the difference between rules-based and principles-based accounting standards, and what are the advantages and disadvantages of each?

2. Why has U.S. GAAP evolved into a rules-based approach? Would principles-based standards be effective in the United States? Why or why not?

3. What needs to change in the United States to make principles-based standards effective?

4. Are investors and analysts better served by rules-based or principles- based accounting standards? Why do you say so?

MINI CASE 

Recent U.S. accounting scandals, such as Enron and WorldCom, have caused some to question whether current U.S. generally accepted accounting principles (GAAP) are really protecting investors. Critics, including the U.S. Securities and Exchange Commission (SEC), charge that the rules-based approach to U.S. GAAP encourages a check-the-box mentality that inhibits transparency in financial reporting. Some observers express a preference for principles-based standards, such as International Financial Reporting Standards or those found in the United Kingdom. Both the Financial Accounting Standards Board (FASB) and the SEC have released reports on the feasibility of principles-based accounting standards in the United States. The following appeared in a leading British professional accounting journal. Ever since the Enron debacle first hit the news, smug U.K. accountants have found a new excuse for feeling superior to their transatlantic cousins. The U.S. Financial Accounting Standards Board’s massive oeuvre have been scoffed at as being merely a whole bunch of rules that don’t hang together. Both British and International standards, by way of contrast, are asserted to be based on principles. This essential difference, it is argued, helps to explain why the U.S. profession has got itself into such deep trouble.