Global Finance 399to judge whether a stock might be either over or undervalued. Electricidade
de Portugal’s P/E ratio is higher under Portuguese GAAP because its earnings
per share are lower than they would be under U.S. GAAP. Under Portuguese
GAAP Electricidade de Portugal would appear to be more conservatively val-
ued than under U.S. GAAP. Similarly, bankers use the relationship of total debt
to stockholders’ equity to judge the capacity of firms to handle service and
repay their borrowed funds. By this statistic, Electricidade de Portugal will ap-
pear to be less highly leveraged because its stockholders’ equity is much higher
under Portuguese GAAP.
The differences between U.S. and Portuguese GAAP, revealed in Ex-
hibits 12.26 and 12.27, are multiplied if one adds to the types of companies
and numbers of countries. As the markets for securities become more global,
some claim that there is the absence of a level playing field because of these
GAAP differences. If the efforts of the International Accounting Standards
Committee (IASC) are fruitful, then the playing field should become much
more level in the future. However, in the meantime there remains a great deal
of international diversity in GAAP.
GAAP Differences and the Level Playing Field
Some argue that international competitiveness can be impaired if earnings and
financial position under local GAAP appear weaker than they would under the
GAAP of major competitor countries. That is, the playing field will not be
level. As an example, concern has been expressed about international GAAP
differences that deal with acquisition (of other companies) accounting. A typi-
cal acquisition will include the payment of a premium, in some cases involving
billions of dollars, for what is collectively termed goodwill. This amount con-
sists of the difference between the purchase price and the current value of the
net assets acquired, as in the following example:
Purchase price $1,000
Current fair value of net assets acquired (Assets−Liabilities) 700
Goodwill $ 300It has been a common practice in some countries to deduct immediately
the goodwill recorded in an acquisition from shareholders’ equity. (This is one
of the practices that the IASC hopes to see eliminated under its harmonization
project discussed earlier.) U.S. GAAP has for several decades required that
goodwill be amortized through the income statement. This causes the post-
acquisition earnings of a U.S. firm to appear weaker than a comparable firm in
a country that permits the immediate write-off of goodwill.
If a foreign firm, located in a country where the immediate write-off of
goodwill is permitted, and a U.S. firm were both bidding for the same com-
pany, the foreign firm would forecast a stronger post-acquisition earnings pic-
ture. This results because the foreign firm would deduct the goodwill