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The effects of mandatory IFRS adoption: A review of evidence based on accounting standard setting criteria

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Abstract

The present article attempts to provide a broad picture regarding the consequences of the mandatory adoption of the International Financial Reporting Standards (IFRS) around the world by reviewing extant empirical evidence relating to four comprehensive accounting standard setting criteria: decision usefulness, reduction of information asymmetry, economic consequences of standards and political aspects of standard. The review reveals that mixed evidence exists regarding the decision usefulness of accounting numbers under the IFRS. The majority of the extant studies reviewed find that the value relevance of accounting numbers and financial reporting comparability is enhanced following the adoption of the IFRS. However, mixed evidence exists regarding the effect of IFRS adoption on earnings management, timely loss recognition and other properties of accounting quality. The majority of the extant empirical studies reviewed find a reduction in information asymmetry (enhanced analysts forecast accuracy, consensus and other properties). Generally, the extant studies reviewed provide evidence regarding favourable economic consequences (lower cost of equity and increasing foreign investment) under the IFRS regime. Certain studies provide evidence regarding the role of political pressures and lobbying activities in the development of a number of standards by the International Accounting Standards Board. A number of studies find that the favourable consequences following the adoption of the IFRS regime dependent on the strength of reporting incentives for a firm and the strength of a country’s enforcement system. In the absence of sufficient evidence regarding the consequences of IFRS adoption in developing countries and the significant differences in the institutional features of such countries, the aforementioned conclusions are less likely to be generalizable to developing countries. The conclusion of the present study is likely to be useful for international and national authority bodies and the users of financial reports. The conclusions also provide significant suggestions for further research regarding the consequences of IFRS adoption.

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Notes

  1. The present study suggests that if the real consequences of a set of accounting standards are compatible with the objectives of the standards, the set of accounting standards can be referred as successful standards.

  2. Bruggemann et al (2013) label economic consequences that relate to the predicted objectives by the policymaker (EC) as intended consequences, or principal effects, whereas the consequences that are not mentioned in the objectives of the policymaker, but in fact occurred, are labelled as unintended consequences, or side effects.

  3. The objectives of the IASB and the IFRS regime are compatible with the four accounting standard setting criteria suggested by Scott (2009). However, an investigation concerning whether or not the IFRS has been developed based on the aforementioned criteria is beyond the scope of the present study.

  4. Given that Soderstrom and Sun (2007) review evidence regarding the consequences of voluntary IFRS adoption and in the absence of new evidence in this area, mandatory IFRS adoption is the principal focus of the present study in an effort to achieve a reliable conclusion. In addition, a concern exists concerning self-selection problems in studies examining voluntary adoption. In a consistent manner, Christensen et al (2008) argue that voluntary adopters had incentives to adopt IFRS, but firms waited until mandatory adoption of IFRS, when such incentives no longer existed.

  5. To differentiate among scholarly journals, the Academic Journal Quality Guide version 4, prepared by the ABS, was referenced. It is available online: www.myscp.org/pdf/ABS%202010%20Combined%20Journal%20Guide.pdf. To limit the scope of the present research and review the main empirical evidence, only evidence from the scholarly journals identified is utilized. However, the exclusion of evidence from other scholarly journals does not imply that evidence within such journals is not reliable.

  6. The eight countries are Australia, Canada, France, Germany, Japan, New Zealand, the United Kingdom and the United States.

  7. Big Four audit firms are Deloitte Touche Tohmatsu, Ernst and Young, KPMG and PricewaterhouseCoopers (Larson and Kenny, 2011).

  8. ‘There remains a deep-seated cynicism towards an accounting regulatory regime that represents Anglo-American values such as independence from the State and, to an extent, the emphasis it places upon the market’ (Crawford et al, 2013, p. 13).

  9. The flexible standards of the IFRS provide more reporting discretion for managers with regard to the application of private information to provide more informative reports concerning the firm’s performance to external users. However, Hail et al (2010) argue that managers, by using reporting discretion, have a motivation to distort economic performance, to achieve expected earnings, to smooth earnings and to avoid contract violation. Dye and Sridhar (2008) compare rigid and flexible standard regimes, pointing out that flexible standards are appropriate when the cost of financial reporting manipulation is high because high costs are deterrent to manipulate accounting numbers. In addition, investors can distinguish the manipulations performed under rigid accounting standards more easily than under flexible accounting standards because the manipulations under rigid accounting regimes are common among firms, whereas manipulations under flexible standards are firm-specific. In addition, the complex nature of the IFRS has caused an increase in the use of professional judgments. Therefore, complex standards reduce the usefulness of financial reports because only professional and experienced analysts can interpret and evaluate the reported financial information (Larson and Street, 2004; Jermakowicz and Gornik-Tomaszewski, 2006).

  10. On the basis of the balance sheet model, ‘the market value of equity is equal to the market value of assets minus the market value of liabilities’ (Holthausen and Watts, 2001, p. 53).

  11. ‘In earnings association studies, earnings are assumed informationally linked to future cash flows or valued directly’ (Holthausen and Watts, 2001, p. 53).

  12. The model was developed by Ohlson (1995) and Feltham and Ohlson (1995). ‘Stock price can be written as linear function of earnings and book value equity’ (Holthausen and Watts, 2001, p. 53).

  13. Compared with the findings of prior studies regarding the voluntary IFRS adoption, self-selection at the firm level is less of an issue in the literature of mandatory IFRS adoption.

  14. ‘Misclassification errors can include Type I errors, which classify accruals as abnormal when they are a representation of fundamental performance (i.e., a false positive), and Type II errors, which classify accruals as normal when they are not’ (Dechow et al, 2010, p. 358).

  15. Given that the present review reveals that the IASB is dominated by European countries, the United States and Australia, and the fact that significant institutional differences exist between developed and developing countries, it is suggested that developing countries establish a ‘watchdog group of developing countries’. Such a group can operate as one of the bodies of IASB, such as Standard Advisory Council. Such a watchdog group can not only improve the cooperation between the IASB and developing countries, but is also more likely to assist the standard setter in setting standards that are easily applicable by both developing and developed countries.

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  1. Faculty of Economics and Management, Universiti Kebangssan Malaysia, Bangi, 43600, Selangor Darul Ehsan, Malaysia

    Fakhroddin Mohammadrezaei

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Mohammadrezaei, F., Mohd-Saleh, N. & Banimahd, B. The effects of mandatory IFRS adoption: A review of evidence based on accounting standard setting criteria. Int J Discl Gov 12, 29–77 (2015). https://doi.org/10.1057/jdg.2013.32

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