398 Planning and Forecasting
- Among costs deferred by EP were research and development. These costs
must be expensed as incurred under U.S. GAAP. - The line item for “Pension and other post-retirement benefits” highlights
the current consistency between Portuguese and U.S. GAAP in recogniz-
ing the associated expense. However, the adjustment in Exhibit 12.27,
shareholders’ equity reconciliation, reveals a continuing difference in the
recognition of the associated benefit liability. EP had recognized a larger
liability, and charged this amount against shareholders’ equity, than
would be required under U.S. GAAP. This explains the increase in share-
holders’ equity in Exhibit 12.27. - Prior to 1995, EP reduced income in recording an accrual for self-
insurance that was not permitted under U.S. GAAP. - Termination benefits were accrued by EP in 1997 that would not have
been accrued in that year under U.S. GAAP. The necessary adjustments
are a $102,755,000 increase in Portuguese GAAP net income and a
$132,985,000 increase in shareholders equity. - EP’s policy of recognizing bad debts on accounts receivable results in
their being recorded at a later point in time than would be true under U.S.
GAAP. - EP records income taxes based upon the amount of taxes currently
payable as determined by government tax regulations. U.S. GAAP re-
quires that income taxes be recorded on the basis of earnings reported in
the shareholder income statement as opposed to earnings in the income
tax return. This results in an overstatement of the Portuguese-GAAP net
income for 1998 and a cumulative understatement of shareholders’ equity
at the end of 1998.^44
The differences between Portuguese GAAP net income and shareholders’
equity are fairly substantial, but differences between foreign and U.S. GAAP
in other countries may be far greater. EP’s 1998 net income would have been
about 35% higherunder U.S. GAAP. However, shareholders’ equity would have
been about 32% lower.
This difference between the effects on net income and shareholders’ eq-
uity result from the overstatement of assets (overstates depreciation and un-
derstates current earnings) and understated liabilities (understates expenses
and overstates earnings). For a single year, an asset overstatement may under-
state net income because a portion of the asset overstatement is amortized as
an additional expense in the income statement. Shareholders’ equity remains
overstated because asset net overstatements remain on the balance sheet.
Domestic users of foreign financial statements need to be aware of the
differences in financial reporting practices, and also have some information
on the effect of these differences on such key financial statistics as earnings-
per-share and shareholders’ equity. For example, security analysts use ratios of
market price to earnings-per-share (the price/earnings or P/E ratio) as one way