Effect of IFRS adoption on financial reporting quality

Abstract

Purpose: The purpose of this paper is to investigate whether IFRS-based data improve bankruptcy prediction over Australian GAAP-based data. In doing so, we focus on intangibles because conservative accounting rules for intangibles under IFRS required managers to write off substantial amounts of intangibles previously capitalized and revalued upwards under Australian GAAP (AGAAP). Our focus on intangibles is also motivated by empirical evidence that financially distressed firms are more likely to voluntarily capitalize and make upward revaluations of intangibles compared with healthy firms. Design: We analyze a sample of 46 bankrupt firms and 46 non-bankrupt (healthy) firms using a matched-pair design over the period 1991 to 2004. We match control firms on fiscal year, size (total assets), GICS-based industry membership, and principal activities. Using Altman's (1968) model, we compare the bankruptcy prediction results between bankrupt and non-bankrupt firms for up to five years before bankruptcy. In our tests, we use financial statements as reported under AGAAP and two IFRS-based datasets. Our IFRS-based datasets are created by considering the adjustments on the AGAAP data required to implement the requirements of IAS 38, IFRS 3 and IAS 36. Findings: We find that, under IFRS, Altman's (1968) model consistently predicts bankruptcy for bankrupt firms more accurately than under AGAAP for all of the five years prior to bankruptcy. This greater prediction accuracy emanates from smaller values of the inputs to Altman's model due to conservative accounting rules for intangibles under IFRS. However, this greater accuracy in bankruptcy prediction comes with larger Type II errors for healthy firms. Overall, our results provide evidence that the switch from AGAAP to IFRS improves the quality of information contained in the financial statements for predicting bankruptcy. Research limitations/implications: Small sample size may limit the generalizability of our findings. Originality/value: Although bankruptcy prediction is one of the primary uses of accounting information, the burgeoning literature on the benefits of IFRS adoption has so far neglected the role of IFRS data in bankruptcy prediction. Thus, we document a new benefit of IFRS adoption. In this paper, we demonstrate how the restrictions on the ability to capitalize and revalue intangibles enhance the quality of information used to predict bankruptcy. These results provide evidence to international standard setters of what they can expect if their efforts to remove nonrestrictive accounting practices for intangibles are abandoned.

Determinants and consequences of financial distress: review of the empirical literature

“…For instance, Bodle et al . () find that International Financial Reporting Standards (IFRS) rules for intangibles can better predict corporate bankruptcies in Australia.…”

“…Accounting standards‐specific distress risk studies include that of Bodle et al . (), who find that switching from Australian GAAP to IFRS improves the quality of information for predicting bankruptcy, in particular, the accounting treatment of intangible assets. Finally, Ting et al .…”

On Unbalanced Sampling in Bankruptcy Prediction

“…Skogsvik and Skogsvik (2013) indicate that 70% of early studies on bankruptcy use this design (Zmijewski 1984). An example of more recent bankruptcy research with matched pairs is the study by Bodle et al (2016). and SMOTE (synthetic minority oversampling technique); and for undersampling, RU (random undersampling), UBOCFNN (undersampling based on clustering from the nearest neighbor), and UBOCFMGD (undersampling based on clustering from a Gaussian mixture distribution).…”

Students' Attitudes towards the Adoption of International Financial Reporting Standards (IFRS) in Kuwait

“…USA: Djatej, Zhou, Gorton, andMcGonigle, 2012;Joos and Leung, 2013; Hong Kong: Helen and Kh, 2013; Ghana: Mensah, 2013;Abedana, Omane-Antwi, and Oppong, 2016; Turkey: Chebaane and Othman, 2013;Balsari and Varan, 2014;Kılıça, Uyar and Ataman, 2014;Vietnam: Phan, Mascitelli, and Barut, 2014. Libya: Zakari, 2014; Bangladesh: Hossain et al, 2015a;Hossain, Hasan,and Safiuddin, 2015b; Australia: Bodle, Cybinski, & Monem, 2016). These studies are briefly reviewed in the following section.…”

“…They also found that there are a lot of technical Challenges faced by the users while adopting IFRSs such as lot of conflicts with local GAAP. Bodle et al (2016) examined the impact of IFRS adoption on financial reporting quality by assisting in predicting bankruptcy. They found that restrictive accounting rules for intangibles under IFRS improve the quality of financial statement data by enabling better bankruptcy prediction.…”