CAMBRIDGE, Mass., June 8, 2009 — As the debate continues about whether to adopt International Financial Reporting Standards (IFRS) in the U.S., research by MIT Sloan School of Management Professor Rodrigo Verdi sheds light on the effects of such a change. In one of the first papers addressing the economic consequences of IFRS adoption around the globe, Verdi and his coauthors found countries that gain the most from following IFRS are those with pre-existing enforcement institutions and those that are significantly changing their financial reporting policy with convergence. While the U.S. has enforcement institutions in place for financial reporting, it also already has a high quality accounting infrastructure with U.S. GAAP.
The introduction of IFRS for listed companies in more than 100 countries around the world has been one of the most significant regulatory changes in accounting history, but there have been few studies on the impact of such regulation. In “Mandatory IFRS Reporting around the World: Early Evidence on the Economic Consequences,” coauthors Verdi, Holger Daske of the University of Mannheim, Luzi Hail of the Wharton School of the University of Pennsylvania, and Christian Leuz of the Graduate School of Business at the University of Chicago address the issue.
In their study, the authors sampled over 3,100 firms in 26 countries around the world that are mandated to adopt IFRS to analyze the effects on stock market liquidity, cost of equity capital, and firm value. They found that firms experienced modest, but economically meaningful increases in market liquidity after IFRS reporting becomes mandatory. “In our firm-year analyses, the effects range in magnitude from 3% to 6% for market liquidity relative to levels prior to IFRS adoption,” they wrote, noting that firms that voluntarily adopted IFRS prior to it becoming mandatory often experienced greater benefits than firms that adopted IFRS after it became mandatory.
The study also showed that capital-market benefits only occur in countries with relatively strict enforcement regimes and in countries where the institutional environment provides strong incentives for firms to be transparent. “In other IFRS adoption countries, market liquidity and firm value remain largely unchanged around the mandate,” they wrote. They further found that the effects around mandatory adoption are stronger in countries without a prior convergence strategy towards IFRS and in countries that have larger differences between local GAAP and IFRS, especially if they have proper enforcement structures in place and hence the move to IFRS makes a difference.
“In countries like the U.S., there may be minimal room for improvement because U.S. GAAP is already considered a high-quality accounting regime,” said Verdi. He added that while some argue that adopting IFRS in the U.S. would make it easier for investors to compare firms with those in other countries and decrease costs of reconciliations, this study provides “weak” evidence of any comparability benefits. “This is an area where more research will occur, but as of now there is no general agreement as to how large this type of benefit could be. The adoption of IFRS is a hot topic and it will take a few more years to get a full understanding of the long-term consequences.”