Financial accounting in Germany used to be focused on prudent determination of net profit in the individual (ie, company) accounts, since, according to corporate and tax law, the payment of dividends and income taxes depends to a large extent on the performance that is shown there. However, globalisation of business and a higher demand for equity financing have put much more emphasis on comparable investor information about performance and companies' financial position at the group level.

Pressure from capital markets has recently led many companies to report in a way that was unthinkable 10 years ago (eg, financial statements under foreign GAAP, segment, cash flow, risk and interim reporting, disclosure of additional performance measures and other information about the business in extended management reports).

German accounting principles have been developed over decades. In practice, the hierarchy of principles (a 'House of German GAAP') is derived from several sources that might be almost as confusing as the patchwork of US GAAP. In Germany, as in many European countries, financial accounting is based on legal requirements. The Third Book of the Commercial Code (Handelsgesetzbuch) contains the basic provisions on preparation, audit and publication of individual and group financial statements, notes and management reports in accordance with the Fourth and Seventh European Company law Directives.

These general rules are supplemented by additional reporting requirements provided by laws for companies that have a specific legal form (eg, stock corporations, limited liability companies), size, industry (eg, banks or insurance companies) or listing at a stock exchange. For listed companies, stock exchanges impose further requirements depending on the market segment a company's stocks are traded in.

As usual in legal systems influenced by Roman law, Germany's legal requirements are quite general, and therefore must be interpreted so as to be applied appropriately to individual cases.

In addition, the German Institute of Chartered Accountants (Institut der Wirtschaftsprüfer) has over many years issued standards and pronouncements on recognition, measurement and disclosures covering a wide range of topics. In practice, solutions for most accounting problems are to be found in a handful of established, comprehensive manuals that are collections of codified principles, best practices and recommendations supported by reasons derived from general principles. Therefore, in Germany detailed interpretations and recommendations on a 'cookbook level' comparable with US GAAP are traditionally neither provided by law nor in standards set by a private institution, but in accounting literature published by academics, preparers and auditors. In many cases, there exists a single, generally accepted accounting treatment. Often, however, more than one solution is acceptable, since there are good reasons for different treatments and there is no authoritative source requiring that one specific treatment be used.

As outlined above, standard-setting in Germany has for a long time been mainly the responsibility of the legislators, ie, the Federal Ministry of Justice (Bundesjustizministerium), and the courts. In 1998, however, this tradition was modified in two significant ways:

• Section 292a of the Commercial Code allowed parents that have listed debt or equity securities to use, up to the year 2004, standards set by foreign private organisations (the International Accounting Standards Committee or the US Financial Accounting Standards Board) for consolidated financial statements instead of German GAAP.
• Section 342 of the Commercial Code opened the door for the foundation of a national private standard-setter (GASC) that should develop GAAP for German consolidated accounts, advise parliament on financial reporting and represent Germany on international accounting bodies.

In September 1998, the Federal Ministry of Justice (FMJ) recognised the German Accounting Standards Board (GASB). The board is currently staffed by seven independent accounting experts (preparers, auditors, an analyst and an academic); the due process is in many respects similar to that of comparable standard-setters. GASB adopts a standard after publishing at least one draft version, discussing the comments received in a public meeting and hearing the consultative council, which comprises about 40 organisations involved in financial accounting. The draft versions are prepared by steering committees and GASC staff.

According to the Commercial Code, the standards are presumed to be German GAAP for accounting in consolidated financial statements if the FMJ has approved and published them in the Federal Gazette (Bundesanzeiger). This means that the legislative authority remains with the FMJ, which is necessary to comply with the German constitution.

In the last two years, GASB has met more than 30 times (four times in public). The panel on pp102-103 shows German accounting standards (GAS), drafts and position papers that have been issued so far. GASB explicitly intends to modify German GAAP for consolidated financial statements in a way that brings them more in line with international standards. Where such proposals are in conflict with existing national GAAP, GASB suggests changes in legislation.

The scope of the standards that GASB is to set seems to be limited considerably by the fact that most rules for recognition and measurement touch existing German GAAP for individual financial statements. So far, the Commercial Code allows GASB to set standards for consolidated accounts only.

In this context, there are basic questions that do not seem to be finally resolved. For example, whether it would be appropriate to generate different GAAP regarding recognition and measurement for consolidated financial statements from those for individual accounts, or whether GASB has the power to eliminate options that are explicitly granted by the Commercial Code provisions.

Within this somewhat blurred legal frame, several future projects could possibly result in recommendations only to change the existing legislation, which up to now has been governed by the historical cost approach and the principle of prudence (eg, on revenue recognition or setting-up provisions). Such changes are not to be decided on the national level only, but in accordance with the EU directives as well.

Adopting the European Commission's proposal of February 2000 on fair value accounting for financial instruments would remove one barrier to international harmonisation. Further harmonisation with international standards is to be expected in 2001.

GASB's national relevance in the future depends on political decisions, the outcome of which is hard to predict. For the near future, there is uncertainty about whether German legislators will allow changes in existing laws on basic accounting issues concerning individual financial statements that would have severe consequences for tax and dividend payments. The more important question in the long run, however, seems to be to what extent IAS will be adopted in Germany. According to a communication from the European Commission last June, all EU companies listed on a regulated market will be required to prepare consolidated accounts in accordance with IAS from 2005 onwards. EU member states would be allowed to extend this requirement to unlisted companies and for preparing individual accounts. At the meeting of the European Council of Finance Ministers (Ecofin) in July last year, there was no majority for granting an option to use US GAAP after 2005. If the EU legislation were adopted into German law in a way that requires all companies to apply IAS, the era of separate national private standard-setting in Germany will have been quite a short one. GASB's remaining, still important, role would then probably be consulting the legislator, international representation, and application of IAS to specific national issues such as labour and corporate law requirements. According to FMJ and GASB officials, it is much more likely that in Germany IAS will become mandatory for listed companies only from 2005 onwards. Then there will still be space for GASB to develop national standards for unlisted companies (which then might have an option to use IAS or German GAAP). It seems to be probable that in this case GASB, perhaps in cooperation with the German Institute of Accountants, will form a national interpretation body comparable with that of the Standing Interpretations Committee on IAS. If the scope of GASB standards remains limited to consolidated accounts, the proposed standards would, for the reasons stated above, mainly be recommendations to change existing GAAP. In spite of these uncertainties, there is no doubt that the rules for German financial accounting are going to become international at a pace that very few people would have predicted some years ago.

Dr Gerd Fey is partner in the technical department of PricewaterhouseCoopers in Frankfurt/Main and chairman of a GASB steering committee; he was formerly a project manager at the IASC in London. Liesel Knorr is secretary general of the GASB in Berlin; she was formerly technical director at the IASC in London.