Indian accounting standards (Ind AS)

In simple terms

Every set of accounts rests on rules. When should a sale count as revenue: when the order is signed, when the goods are delivered, or when the customer pays? How should a machine's cost be spread over the years? What should a company say about a lawsuit it might lose? Accounting standards answer questions like these, so that accounts mean the same thing from one company to the next.

In India, the main set of standards for larger companies is Ind AS, the Indian Accounting Standards. They are based on the International Financial Reporting Standards (IFRS) used in many countries, which makes Indian accounts easier to compare with those of companies abroad.

Knowing which rules a company follows, and which choices it made within them, is part of reading any set of accounts properly.

What accounting standards cover

Standards set out four kinds of rule for each type of item:

• Recognition: when an item enters the accounts, for example when revenue is earned.
• Measurement: at what amount, for example cost, or fair value, or the lower of cost and what the item could be sold for.
• Presentation: where it appears in the statements and under which heading.
• Disclosure: what the notes must explain about it.

There are separate standards for revenue, inventory, property and equipment, leases, financial instruments, impairment, provisions, business combinations, consolidation and more. Each company's notes summarise how it has applied them in its accounting policies.

Ind AS and international standards

Ind AS were developed in India to converge with IFRS, which are issued by an international standard-setting body and used in many countries. "Converged" means that Ind AS follow IFRS closely, but India has made some deliberate differences, often called carve-outs, where it judged that local conditions called for them.

For an investor, this means two things. Accounts prepared under Ind AS are broadly comparable with IFRS accounts from other countries. But "broadly" is not "exactly", so a careful comparison of an Indian and a foreign company still checks the notes for differences that matter in that industry.

Not every company uses the same framework

Indian companies do not all report under the same rules.

• Most listed companies and larger unlisted companies prepare their accounts under Ind AS.
• Many smaller companies use the older set of Indian accounting standards, often called Indian GAAP, which differ from Ind AS in a number of areas.
• Banks, insurers and some other financial firms follow requirements agreed with their own regulators, which have not always moved in step with those for other companies.

Which companies must use which framework is set by law and regulation and can change, so do not rely on a rule of thumb. Look at the company's own accounts instead: the first notes, usually headed "basis of preparation" or "statement of compliance", say which framework was used. The auditor's report also names the framework the accounts were audited against.

When a company moves from one framework to another, it usually restates the previous year's figures so they can be compared, and explains the main differences. Comparing a year under one framework with a year under another, without that restatement, can be misleading.

Choices within the rules

Even under one framework, standards leave room for choices and estimates. These can change reported profit without any change in the business.

Other common areas of choice and judgement include:

• Revenue timing on long contracts, where the company estimates how much of the work is complete.
• Inventory cost, for example whether the oldest costs or an average cost are used, which matters when prices are changing.
• Fair values of some assets and liabilities, which rely on estimates when there is no market price.
• Impairment tests, which depend on forecasts of future cash flows.
• Provisions for warranties, lawsuits and other uncertain costs.

How to compare companies fairly

1. Check the framework in the basis of preparation note for each company and each year you compare.
2. Read the key policies for the items that matter most in that industry, such as revenue for a construction company or inventory for a retailer.
3. Look for changes in policies or estimates, and for restated figures, and read the note explaining them.
4. Compare cash flows as well as profit. Accounting choices move profit between years, but cash from operations is much less affected by them, as the cash flow statement lesson explains.
5. Compare like with like: consolidated with consolidated, standalone with standalone.

Why it matters

Ratios and growth rates are only as comparable as the accounts behind them. Two companies can report very different profits from identical businesses because of a framework difference or an estimate, and a company can appear to improve simply by changing a policy. Checking the framework and the key policies takes a few minutes and prevents some of the most common mistakes in comparing companies.

Limitations

This lesson explains what accounting standards are and why they matter. It does not set out the detailed requirements of individual standards, which are long and technical, or which companies must use which framework, which is set by law and regulation and can change. The company's notes and auditor's report tell you what applies to that company.

Common mistakes

• Assuming all Indian companies follow the same rules. Check the basis of preparation note.
• Comparing profits without reading the policies. Estimates such as useful lives can create large differences.
• Missing a restatement when a company changes framework or policy, and comparing the new figures with old ones as originally reported.
• Treating "converged with IFRS" as "identical to IFRS".
• Ignoring cash flow when accounting choices make profit hard to compare.

Try it yourself

1. Download the latest annual report of any listed company from the NSE or BSE website.
2. Find the note on the basis of preparation. Which framework does it name?
3. Find the accounting policy for property, plant and equipment, and write down the useful lives used for the main types of asset.
4. Do the same for a competitor in the same industry. Are the useful lives the same? If not, which company's profit would they flatter?