GAAP stands for Generally Accepted Accounting Principles. It is the set of rules and guidelines for U.S. companies to follow. GAAP regulates financial reporting for public companies, private businesses, non-profits, and government authorities. This means that GAAP outlines the procedures to make sure that businesses are recording their financials in the same way.
The principles in GAAP ensure transparency and consistency. This includes the following topics:
The overall philosophy behind these principles is to prevent deceptive recording.
While the United States follows the GAAP, most of the developed world follows the International Financial Reporting Standards (IFRS.) In 2008, the United States decided to move towards adopting the IFRS to be more consistent with the rest of the world. While the long term effects are only speculative, the short term changes will have an immediate impact on accountants, managers, and investors.
What is the benefit of following the same set of guidelines as the rest of the world? One major advantage of having the same international financial reporting guidelines is the effect on investors. Investors will be able to compare and contrast investments between nations more accurately.
For example, if there is one startup in the United States and one in London, then they will likely use different methods for financial reporting. This could make the investor’s decision very difficult. If inventory and depreciation are valued differently, then the investor might not fully understand the true standing of these startups.