U.S. accountants should adopt a worldwide perspective and be able to answer the following fundamental questions:

* What is the European Economic Community?

* What is the EEC's Fourth Directive?

* What are the implications for U.S. Accountants?

An Introduction to the EEC

Membership. The EEC was formed January 1, 1958, based upon the Treaty of Rome which was signed on March 25, 1957, but six European Countries: Belgium, the Netherlands, Luxembourg, France, Ital, and the Federal Republic of Germany (West Germany). Over the next thirty years, six other countries: Denmark, the United Kingdom, Ireland, Spain, Greece, and Portugal joined the community. Most recently, the demolition of the Berlin wall and the subsequent reunification of Germany is seen by the European commission as symbolic of an end to a divided Europe and resulted in increasing the size of the EEC by over 16 million people. Furthermore, expectations are that more countries will become affiliated with the community, as many have made recent overtures for association or membership. The economic power of the EEC has the potential to become the largest in the world.

Directives. The EEC's chief means by which unification or harmonization is brought about is through the issuance of directives. The directives are not laws meant to be obeyed by citizens or companies within member states. Rather, they are instructions to the states to change their laws if necessary to achieve compliance. While directives are not laws per se, as instructions they have the effect of law as member state do not have a choice of compliance versus noncompliance.

The issuance of a directive is a long and complicated proces, referred to as "The Cooperation Procedure," a system of proposals, acceptances, rejections, alterations, and finally publication. The procedure involves the top three rule making bodies in the community: the European Commission proposes a directive, the European Parliament reviews, accepts, rejects, or amends the proposal, and the Council of Ministers has the final authority to approve and publish the directive.

The Council of minsters, the only body with the authority to issue directives, is comprised of the foreign ministers of member states, or the ministers of the other government functions, depending on the issue at hand. Furthermore, since the ministers serve at the pleasure of the political party in power, the deliberations of the council and its issuance of directives is essentially a political process. Once a directive is published, each member state is given a period of time to bring its laws into compliance.

When member states fail to comply with directives, the commission has three courses of action. In order of severity, these are letter complaint, formal allegation, and ultimately filing a court case in the Court of Justice.

The Fourth Directive

The Fourth Directive, adopted in 1978, is the major source document governing the form and content of annual financial statements and valuation methods used in their preparation. It also covers publication of the annual financial statements. This directive, which is applicable to both public and private companies doing business in the EEC, has had, and will continue to have, a major impact on financial reporting for companies. Because the objective of the directive is to "harmonize" rather than "standardize," there continues to be considerable differences in financial reporting among member states. Accordingly, those interested in understanding financial reporting in the EEC should start by studying the requirements of the Fourth Directive and proceeding to learn the country-specific requirements that exist within each member state.

There are other directives that affect companies doing business in the EEC, such as the seventh, which deals with preparation of group accounts and the eighth, which establishes minimum requirements for those authorized to perform statutory examinations of company financial statements. In addition, other directives have been issued dealing with industry specific reporting such as banks and insurance companies.

Although the Fourth Directive is applicable to both public and private companies, there are exceptions for smaller companies and certain companies covered in subsequent directives. The directive primarily establishes the composition of the annual accounts (financial statements) to include a balance sheet, profit and loss account, and notes. Furthermore, the annual accounts shall give a "true and fair view" of the company's assets, liabilities, financial position, and profit and loss. However, latitude exists to interpret a "true and fair view" differently by different countries.

Prior to the harmonization measures, companies were able to carry on cross-border commerce with different accounting and fiscal systems. But they spent considerable time and expense standardizing the financial information into a form and content that was consistent with their own domestic reports. The additional administrative costs caused by differing auditing and fiscal systems was estimated to be from 10 to 30% of the costs of the departments involved.

The directive's extensive disclosure requirements are of utmost importance. Disclosure serves as the basis of harmonization. Any user, at least theoretically, should be able to derive comparable financial data by modifying financial statements with the required disclosure information.

Implications for U.S. Accountants

U.S. accountants, and perhaps Americans in general, have long had a tradition of insensitivity to business developments in other countries. The Japanese, German, Italian, and other foreign business executives have been more than willing to learn as much as possible about U.S. business practices. They have examined U.S. business practices. They have examined U.S. practices in detail; frequently adapting useful techniques they have observed.

The U.S. may be one of the world's leaders in financial reporting. This is supported by observing the various U.S. reporting practices that have been adopted by other countries.s Most EEC countries may not have the level of financial statement regulation and disclosures that are required in the U.S. But focusing on our leadership role is missing the point. We should be well versed in what has happened in the EEC counties in the last decade.

By the end of 1992, EEC countries are obligated to deal with many of the factors that have divided them. The European accountancy professions recognized from the mid-1960's that effective business communication and cross-border investment is facilitated by comparative financial reporting. The Europeans realized they mst have an understanding of all aspects of their neighboring countries in order to do business with them.

After 25 years, the European accountants are well on the way to communicating with each other. Now is the time for U.S. accountants to familiarize ourselves with European financial reporting to facilitate trade and investment between the United States and the EEC.

Larry L. Orsini, CPA, is an associate professor of accounting at St. Bonaventure University. He is a former partner with the European practice of Ernst & Young. Lawrence R. Hudack, PhD, CPA, is an assistant professor of accounting at St. Bonaventure University.

The authors express their appreciation to the following contributing editors: Professor John D. Gould, CPA and Distinguished Visiting Professor at Western Carolina University; and John P. McAllister, PhD, CPA and a Professor of Accounting at St. Bonaventure University.

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