Asbaugh Pincus 2001 Domestic Accounting Standards,

8/8/2019 Asbaugh Pincus 2001 Domestic Accounting Standards,

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Accounting Research Center, Booth School of Business, University of Chicago

Domestic Accounting Standards, International Accounting Standards, and the Predictability ofEarningsAuthor(s): Hollis Ashbaugh and Morton PincusSource: Journal of Accounting Research, Vol. 39, No. 3 (Dec., 2001), pp. 417-434Published by: Blackwell Publishing on behalf of Accounting Research Center, Booth School of Business,University of ChicagoStable URL: http://www.jstor.org/stable/2672967

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Journal of Accounting ResearchVol. 39 No. 3 December 2001Printed n U.S.A.

Domestic Accounting Standards,International Accounting Standards,and the Predictability of EarningsHOLLIS ASHBAUGH* AND MORTON PINCUSt

Received 2 March 1998; accepted 19 April 2000

ABSTRACTWe investigate (1) whether the variation in accounting standards across na-

tional boundaries relative to International Accounting Standards (JAS) hasan impact on the ability of financial analysts to forecast non-U.S. firms' earn-ings accurately, and (2) whether analyst forecast accuracy changes after firmsadopt 1AS. lAS are a set of financial reporting policies that typically require in-creased disclosure and restrict management's choices of measurement meth-ods relative to the accounting standards of our sample firms' countries ofdomicile. We develop indexes of differences in countries' accounting disclo-sure and measurement policies relative to IAS, and document that greaterdifferences in accounting standards relative to LASare significantly and pos-itively associated with the absolute value of analyst earnings forecast errors.Further, we show that analyst forecast accuracy improves after firms adoptLAS.More specifically, after controlling for changes in the market value of eq-uity, changes in analyst following, and changes in the number of news reports,we find that the convergence in firms' accounting policies brought about byadopting 1AS is positively associated with the reduction in analyst forecasterrors.

*The University of Wisconsin-Madison; tThe University of Iowa. We wish to thank DonalByard, Ole-KristianHope, Per Olsson, the anonymous referee, and workshop participantsat theUniversity of Northern Iowa, the University of Wisconsin, and the 1998 American AccountingAssociation annual meeting for their helpful comments.417

Copyright 0, University of Chicago on behalf of the Institute of Professional Accounting, 2001


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418 H. ASHBAUGH AND M. PINCUS1. Overview

We investigate the impact of differences in countries' accounting stan-dards relative to International Accounting Standards (JAS) on the accuracyof financial analyst earnings forecasts for a sample of non-U.S. firms be-fore and after they adopt 1AS. IAS are a set of accounting standards pro-mulgated by the International Accounting Standards Committee (IASC).The IASC's goal is to develop an internationally acceptable set of report-ing standards that will generate more comparable financial informationacross national boundaries by minimizing, if not eliminating, differencesin countries' domestic generally accepted accounting principles (domestic-GAAP) (FASB [1996]). For most of the firms included in our sample, IASadoption leads to increased disclosure and/or a restricted set of measure-ment methods. To the extent this causes an lAS adopter's financial in-formation to become more predictable, we expect improved accuracy ofanalysts' earnings forecasts. However, there is some controversy regardingthe degree of stringency of 1AS (Davis-Friday and Rueschhoff [1998]) andfirms' compliance with IAS (Street, Gray, and Bryant [1999]). Moreover,it is unclear how changing accounting polices, as implied by IAS adop-tion, impacts the ability of analysts to accurately forecast earnings (e.g.,Brown [1983]; Elliott and Philbrick [1990]). For example, if managerswere trying to smooth earnings, adoption of IAS might reduce their abil-ity to do so, in turn leading to more volatile earnings and analyst forecasterrors.

We develop indexes that reflect differences in countries' measurementand disclosure policies relative to 1AS. We then test whether (1) differencesin countries' accounting policies relative to 1AS and (2) the subsequentaccounting standard convergence brought about by firms' IAS adoptionsaffect analyst earnings forecast accuracy. We use a sample of non-U.S. firmsthat adopted IAS during the 1990-93 period. We focus on these firms andthis period for several reasons. First, a surge of voluntary IAS adoptionsoccurred during this period. While Ashbaugh [2001] finds that firms aremore likely to use IAS when their securities are traded on more foreignexchanges and when they engage in seasoned equity offerings, the spe-cific costs and benefits associated with firms' voluntary adoptions of IASremain unclear. Finding a statistically reliable association between changesin accounting policies due to IAS adoption and improvements in analystsforecast accuracy provides some evidence of the benefits firms receive fromadopting IAS. Specifically, after firms adopt IAS, financial analysts are betterable to predict a variable highly relevant to firm valuation. Second, studyingfirms that have voluntarily adopted IAS is particularly interesting since manycountries and securities exchanges recently have given firms the option ofpreparing IAS financial reports; e.g., Germany (Eggert [1998]). Third, theset of policies comprising 1AS was relatively static during the 1990-93 pe-riod. Since then, however, the IASC has completed two major overhauls


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DOMESTIC AND INTERNATIONAL ACCOUNTING STANDARDS 419of IAS,1 and many countries now base their reporting standards on LAS(IASC [1998]).Our indexes of differences in countries' measurement and disclosurestandards relative to IAS are positively associated with analyst earnings fore-cast errors. This evidence is consistent with the claim that the variation inaccounting standards across national borders impacts the predictions of fi-nancial analysts. We also document that, on average, the absolute value ofanalyst forecast errors decreases following firms' adoptions of IAS.

Ashbaugh [2001] provides evidence that large firms are more likely to use1AS, and that firms typically issue additional shares of stock within a year ortwo of adopting IAS. We posit that IAS adoption is part of a concerted effortby managers to satisfy the increased demand for information that typicallyoccurs as firms issue additional equity. In support of this claim, we find thatour sample firms issue additional stock in the year of or the year following LASadoption. We also detect a significant increase in the number of news reportsabout our sample firms in the year following IAS adoption. Thus, severalendogenous events that likely affect a firm's information environment, suchas the issuance of equity shares and an increase in news reports, often occurwhen a firm adopts LAS. We posit that the adoption of IAS is a response toan anticipated or realized shift in the firm's environment.

Accordingly, we control for changes in (1) market capitalization, (2) an-alyst following, and (3) news reports in our empirical analyses. We find thatthe improved forecast accuracy following LASadoptions is significantly as-sociated with changes in firms' accounting policies. Specifically, the morechanges in measurement and disclosure reporting standards implied bymoving from firms' domestic-GAAPs to IAS, the larger the reduction in an-alyst earnings forecast errors. This enhanced forecast accuracy associatedwith IAS adoptions suggests that analysts can more accurately predict a keyvariable, i.e., earnings, which is relevant to firm valuation.2. Hypotheses

Prior research suggests that the differences in countries' accounting stan-dards affect the informativeness of reported financial information (Alfordet al. [1993]). However, the empirical evidence is mixed with regard towhether the convergence of countries' accounting standards increases theinformativeness of firms' financial reports (Joos and Lang [1994]; Auer[1996]).

Our first hypothesis relates the differences in countries' accounting stan-dards relative to IAS to the accuracy of analysts' earnings forecasts. We focuson the period prior to IAS adoption since firms, in this time period, are re-porting in accordance with their domestic-GAAP, which reflect a variety ofdisclosure requirements and measurement methods. To the extent greater

1Specifically, the IASC's1995 Comparability Project and 1998 Core Project.


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420 H. ASHBAUGH AND M. PINCUSdifferences in domestic-GAAPs relative to IAS result in more variation in theinformation reflected in firms' financial reports, we expect such reportingdifferences to impair the ability of analysts to forecast earnings. Our firsthypothesis is:

HI: The absolute values of analyst earnings forecast errors are positivelyassociated with greater differences in countries' accounting measure-ment and disclosure standards relative to LAS.

Our second hypothesis examines the impact of IAS adoptions. Switchingto IAS typically increases the type and quantity of financial information afirm discloses. Lang and Lundholm [1996] document that analysts' forecastaccuracy improves as firms' disclosure levels increase. Adopting IAS gen-erally also restricts a firm's choices of accounting measurement methods.With fewer measurement rules to deal with, analysts should be better ableto master the existing set. Hence, restrictions on measurement methods aswell as expanded disclosures that result from adopting IAS should enableanalysts to more accurately predict firms' earnings.

However, while firms' choices of measurement methods under IAS gen-erally are restricted as compared to their domestic-GAAP, some degree offlexibility may remain. This suggests that some firms can adopt IAS withoutchanging many (or any) accounting measurement methods.2 Alternatively,if adopting IAS requires a firm to change its measurement methods,analysts' abilities to accurately forecast earnings might be impaired. Brown[1983] and Elliott and Philbrick [1990] report evidence consistent with thispossibility for U.S. firms. One plausible explanation for reduced forecastaccuracy concerns earnings volatility. The restricted set of measurementmethod choices under IAS might require firms to report more volatileearnings series as compared to the earnings series generated when usingthe accounting methods that are acceptable under their domestic-GAAP.If the manager's choice is constrained under IAS, there are fewer ways formanagers to disguise volatility.

Yet another factor that may hamper forecast accuracy is the extent towhich analysts rely more on public rather than private information. Barronet al. [1998] model how analyst earnings forecasts are related to analysts'public and private information, and how these two types of information mapdifferently into forecast errors. The common component of forecast error

2 Firms comply with IAS measurement standards in various ways, depending upon theirdomestic-GAAPs (Ashbaugh [2001]). Firms domiciled in countries where in 1993 there wererelatively few accounting measurement choice restrictions (e.g., Switzerland) are able to im-plement IAS without violating their domestic-GAAPs. Alternatively,some domestic-GAAPs arequite similar to IAS. Thus, Canadian firms are able to meet the requirements of their domestic-GAAP and LASby choosing measurement methods that satisfy both sets of standards. Somecountries (e.g., France) permit a firm to use domestic-GAAP in the parent company's financialstatements and LAS n its consolidated statements. Finally, n other countries, accounting stan-dards and tax laws are highly aligned (e.g., Finland, Sweden), and firms typically use footnotereconciliations to meet IAS measurement requirements.


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DOMESTIC AND INTERNATIONAL ACCOUNTING STANDARDS 421arises from errors in public information while the idiosyncratic componentof forecast error is due to errors in the private information analysts hold. Rel-evant to our study is the result that the mean forecast error primarily reflectscommon error since idiosyncratic error can be diversified away as more fore-casts are made. Thus, if under IAS errors in public information increase, weexpect analyst forecast accuracy to decrease following IAS adoptions.

Because a priori arguments can be made for either enhanced or impairedforecast accuracy following the adoption of IAS, our second hypothesis isnon-directional. It is:

H2: The accuracy of analyst earnings forecasts changes after firmsadopt IAS.

A firm may adopt IAS in anticipation of or concurrent with an increase inthe demand for more information about the firm. For example, in additionto adopting IAS, a firm might provide additional voluntary disclosures aspart of the process of raising capital in the equity markets. Firms mightalso change their operating activities at the same time they are adoptingIAS, and such operating changes might impact the ability of analysts toforecast earnings. Consequently, several endogenous factors, in addition tothe adoption of IAS, may impact the ability of analysts to predict a firm'searnings. We consider such factors in our empirical analyses.3. Sample and Data

We identify non-U.S. firms using IAS and their year of adoption basedon a list provided by the IASC.3 The IASC list identified 163 firms thatadopted IAS by 1993.4 We eliminated seven firms from Italy and 22 firmsfrom South Africa since firms from these countries could use IAS selectivelyrather than fully adopt IAS when their domestic-GAAP was silent on an ac-counting measurement or disclosure issue. In addition, we deleted one firmfrom Bermuda because Bermuda did not have a set of domestic-GAAP tobenchmark to IAS. We deleted 53 of the remaining 133 firms voluntarily us-ing IAS in 1993 because they were missing data (specifically analyst earningsforecasts) in the Historical I/B/E/S International database.5 The final sam-ple consists of 80 firms, 64% of which are engaged in manufacturing. Twopercent of the sample adopted IAS in 1990, 50 percent in 1991, 33 percentin 1992, and 15 percent in 1993. Table 1 reports the distribution of samplefirms across countries. The countries most highly represented in the sampleare Switzerland (28.75%), France (21.25%), and Canada (15.00%).

3A similar list is on the IASC's Web site (IASC [1999]). On a random basis, we examinedmore than half of our sample firms' 1990-1994 annual reports to verify their year of adoption.4Since 1994, many countries have adopted IAS as their national financial accounting stan-dards or as the basis for their reporting standards (IASC [1998]). Prior to that, Italy and SouthAfrica were among the few countries that used IAS as a basis for their national GAAP (Coopersand Lybrand [1993]).5We gratefully thank I/B/E/S International, Inc., for providing us with earnings forecastdata.


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422 H. ASHBAUGH AND M. PINCUSTABLE 1DistributionAcrossCountries f the Sampleof 80 Non-US. FirmsThatAdoptednternationalAccountingStandardsBetween1990and 1993. We dentifyNon-U.S.FirmsUsingIASand TheirYear f

AdoptionBased on a List Providedby theIASCof 163 FirmsThatAdopted AS by 1993. WeEliminatedSevenFirms rom Italy and 22Firms rom SouthAfricaSinceFirmsromTheseCountriesCouldAdoptIASSelectively atherThan FullyAdoptIAS WhenTheirDomestic-GAAPWasSilent on an AccountingMeasurementrDisclosure ssue, OneFirm rom BermudaBecauseBermudaDid NotHave a Set ofDomestic-GAAPoBenchmarkoIAS, and 53 FirmswithMissingData (AnalystEarningsForecasts s Wellas ActualEarnings,SharePrices,SharesOutstanding,and AnalystFollowing)in theHistorical /B/E/S InternationalDatabaseCountry Number PercentAustralia 5 6.25Canada 12 15.00Denmark 2 2.50Finland 6 7.50France 17 21.25Hong Kong 2 2.50Japan 3 3.75Malaysia 4 5.00Norway 1 1.25Singapore 1 1.25Spain 2 2.50Sweden 2 2.50Switzerland 23 28.75Total 80 100.00

We use three indexes to capture differences in countries' accountingstandards relative to 1AS. Table 2 summarizes the differences in disclo-sure requirements (DISCLOSE) and measurement methods (METHODS)of IAS versus sample firms' domestic-GAAPs (see appendix A for details).Table 2 also presents IASSET,which is the summary measure of poten-tial disclosure and measurement policy changes a firm in a given coun-try commits to by adopting IAS. The larger an index value, the greaterthe potential difference between a firm's domestic-GAAP and the re-porting requirements of IAS. We use DISCLOSE, METHODS, and IAS-SET to test whether reporting differences relative to IAS impair ana-lyst forecast accuracy prior to IAS adoption. After adopting IAS, how-ever, the differences in accounting regimes should be substantially re-duced. Hence, we use the change in disclosure policies (CHDISCLOSE),the change in measurement methods (CHMETHODS), and the changein reporting policies taken as a whole (CHIASSET) to investigate theimpact of IAS adoption on analyst forecast errors. The change in each in-dex equals the negative of the pre-change index value (e.g., CHIASSET=0 - IASSET).We define forecast error (FERROR)as the absolute value of the differencebetween a firm'sreported earnings per share in year t and the median analystforecast of earnings per share for year t, deflated by the firm's stock price


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DOMESTIC AND INTERNATIONAL ACCOUNTING STANDARDS 423TABLE 2Variation n AccountingStandards: ASversusDomestic-GAAPs.DISCLOSE nd METHODSAre theSum of theAdditional ASDisclosureRequirementsnd MeasurementMethodRestrictions,Respectively,Relative o theAccountingPoliciesof Firms'Domestic-GAAPssee

AppendixA). IASSET s the Sum of DISCLOSE nd METHODS.Comparisons reBased on Standards n Effectas ofJanuary1, 1993.Country DISCLOSE METHODS IASSETAustralia 1 2 3Canada 0 0 0Denmark 2 2 4Finland 6 4 10France 4 3 7Hong Kong 3 1 4Japan 2 2 4Malaysia 2 0 2Norway 7 1 8Singapore 2 0 2Spain 3 1 4Sweden 5 2 7Switzerland 4 4 8

at the beginning of year t (Lang and Lundholm [1996]).6 We obtain actualand forecasted earnings, as well as share prices, shares outstanding, andanalyst following from the I/B/E/S database.Table 3 presents descriptive statistics of firm characteristics for the 80sample firms. Compared to our sample firms' domestic-GAAPs,IASrequiresadditional disclosures in approximately three reporting areas (i.e., meanDISCLOSE= 3.12 and median = 2) and restricts management's choices ofmeasurement standards in an average of two areas (i.e., mean METHODS =2.45 and median = 2). There is a correlation of 0.78 between DISCLOSEand METHODS (not reported), suggesting that countries' disclosure andmeasurement standards tend to be similar in rigor relative to IAS.Overall, asreflected in IASSET, ample firms make approximately six (median = 7.00)disclosure and/or measurement method changes (out of the 12 financialreporting areas we consider) when adopting IAS.In the year preceding IAS adoption, the average number of analysts fol-lowing a firm (NUM) is approximately 14. In the yearafter IASadoption, themean (median) number of analysts following a firm rises to approximately

6 The time between non-U.S. firms' fiscal year-ends and the public reporting of annual earn-ings varies due to differences in reporting or filing requirements across national boundariesand equity markets (e.g., Alford et al. [1993]; Frost and Kinney [1996]). As a consequence,the forecast horizon and thus the number of forecasts of annual earnings can vary by firm. Tostandardize, we calculate the median analyst forecast of earnings per share for year t using con-sensus forecasts in the six-month period prior to firms' fiscal year-ends. As a sensitivity check,we repeat the analysis using analyst forecasts starting in the first month they become availableon I/B/E/S in the year for which the forecasts are being made; i.e., we allow forecast horizonsto vary by firm. The results are similar.


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424 H. ASHBAUGH AND M. PINCUSTABLE 3Descriptive tatisticsof Firm Characteristics. SampleFirmAppearsOnce n thePre-IASAdoptionPeriodand Once n thePost-1AS doptionPeriod. n thePre-IASAdoptionPeriod,DISCLOSE ndMETHODSAreIndexesReflectingheDifferencesn DisclosureRequirementsnd MeasurementChoices

ofFirms'Domestic-GAAPs,espectively,elative o 1AS(seeAppendixA). IASSET s the Overall ndexof AccountingStandardDifferencesndEquals theSum ofDISCLOSE nd METHODS. n thePost-lASAdoptionPeriod, heAccountingDifferencendexesEqual Zero.NUVIIs theNumberof AnalystsProvidingan Annual EarningsForecastor theMonth of theFirms FiscalYear-End,ObtainedromI/B/E/S. MVE s theLog of theFirm'sMarketValueof EquityMeasured n Millionsof U.S.DollarsatCalendarYear-Endn thePre-and Post-lASAdoptionYears.WeCalculateThis Variable y Using SharePriceand SharesOutstandingforom/B/E/S and ExchangeRates rom Worldscope.oreignListingsAretheNumberof ForeignExchangeson Which Firms SharesTradeas Reportedn theBloombeigDatabaseat theEnd of a Firmrs iscal Yearsn thePre-and Post-Adolptionears. oreignSalesas well ais heNumberof BusinessSegments nd Geographicegments reCollectedromtheWorldscolpeatabaseorthePre-and Post-lASAdolptionYears.The % ForeignSales CalculatedbyDividing a Firms ForeignSalesbyIts TotalSales. TheSample s 80 FirmsAdopting1AS n 1990, 1991, 1992, or 1993.Pre-IASAdoption Post-IASAdoption

Standard StandardVariable N Mean deviation Median Mean deviation MedianDISCLOSE 80 3.12 1.79 2.00 0 0 0METHODS 80 2.45 1.55 2.00 0 0 0IASSET 80 5.56 3.16 7.00 0 0 0NUM 80 13.79 7.83 13.50 17.11*** 8.80 15.00"MVE 80 13.24 1.37 13.14 13.67** 1.24 13.66##Foreign listings 80 2.16 1.66 2.00 2.20* 1.68 2.00Business segments 64 3.74 2.62 3.00 3.91 2.26 3.00Geographic segments 64 3.20 2.52 3.00 3.56 2.47 3.00% Foreign sales 54 59 29 64 56 30 59

*, **,***A-testof paireddifferences ejects he hypothesis f no differenceroomero (two-tail -value


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DOMESTIC AND INTERNATIONAL ACCOUNTING STANDARDS 425adopt IASin anticipation of engaging in seasoned equity offerings, and wefind that firms in our sample have significantly more shares outstanding afteradopting IAS (not reported). In particular, our sample firms have, on aver-age, 1.2 million additional shares outstanding one year after IAS adoptioncompared to the year preceding adoption (with 78%of sample firms havingmore shares outstanding). Table 3 also indicates that the average number offoreign listings increases slightly from the year prior to IAS adoption to theyear following adoption, although the median sample firm's equity sharesare traded in two foreign equity markets during both the pre- and post-IASadoption periods.To investigate whether sample firms' operating environments change inthe years surrounding IAS adoption, we calculate the number of businessand geographic segments in which they operate. Of the 80 sample firms, 64firms have segment data in the Worldscopeatabase. For this sub-sample offirms, we find no significant difference in the number of business segmentsor geographic segments in the year following IAS adoption relative to theyear preceding adoption (see table 3). Furthermore, the percentage of for-eign sales, defined as a firm'sforeign sales divided by its total sales, also doesnot change over the analysis period. To the extent that changes in businessand geographic segments and foreign sales reflect changes in sample firms'overall operating activities, the lack of significant changes in these variablessuggests an absence of operational changes that potentially impact analysts'abilities to forecast earnings.4. Empirical Design and Results4.1 THE IMPACT OF DOMESTIC-GAAP DIFFERENCES FROM INTERNATIONALACCOUNTING STANDARDS ON ANALYST FORECAST ERRORS

To test HI, i.e., whether differences in domestic accounting standardsrelative to IAS adversely affect analyst earnings forecast accuracy,we estimatethe following regression model:FERRORitI = al? /3NUMit1 ?+ 2MVEit-1 + /3Xi + 8it-1 (1)

wheret - 1 = the year prior to IASadoption;FERRORit-1= IEPSt_1 Median Analyst Forecasti, I/Pricei, 1;NUMit-1 = the number of analysts providing earnings forecasts of firmi for year t-1;MVEit 1 = the natural log of firmi's market value of equity at December31 of year t - 1, measured in millions of U.S. dollars;Xi = the index of differences in firm i's disclosure polices(DISCLOSE), measurement methods (METHODS), oroverall reporting standards (IASSET)relative to IAS.(reported below) are qualitatively unchanged when substituting the change in MVEvariablethat reflects a constant exchange rate.


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426 H. ASHBAUGH AND M. PINCUSPrior research examining analyst earnings forecast accuracy argues forcontrolling for differences in disclosure levels across firms. Following Langand Lundholm [1996], we use the extent of analyst following (NUM) to

control for differences in firms' disclosure practices that can impact analystearnings forecasts. A negative coefficient on NUM suggests that analyst earn-ings forecast accuracy improves (i.e., forecast errors fall in absolute value) asmore analysts follow a firm. We use MVE to control for differential informa-tion due to firm size (Lang and Lundholm [1993]). A negative coefficienton MVE suggests that analysts can predict the earnings of larger firms moreaccurately.Our test of HI focuses on the coefficient of X in equation (1), whichrepresents the coefficient on DISCLOSE, METHODS, and IASSET. If ac-

counting standard differences hamper the ability of analysts to accuratelypredict firms' earnings, the coefficient (P3) should be reliably positive; i.e.,larger earnings forecast errors (in absolute value) should be associated withgreater differences between IAS and domestic-GAAPs.8Table 4 reports the results of the estimations of equation (1) .9 The mod-els have adjusted R2s of 19.40%, 16.32%, and 18.87% for the disclosure,measurement, and overall accounting policy differences, respectively.10 Thecoefficients on NUM are not significantly different from zero in any of theregressions, while the coefficients on MVE are negative, as expected, andsignificant. The coefficient on DISCLOSE is reliably positive (t = 2.909,one-tail p-value


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DOMESTIC AND INTERNATIONAL ACCOUNTING STANDARDS 427TABLE 4Resultsof TestingHI: TheImpactof Differencesn Domestic-GAAPselative oIASonAnalystEarningsForecastAccuracy. ERRORs theAbsoluteValueof theDifference etweenActual EarningsPerShareand theMedianAnalystForecast f EarningsPer Share or the Year, eflatedbyStockPrice(all

Data Obtainedfrom/B/E/S). NUM is theNumberof AnalystsProvidingan Annual EarningsForecastfor theMonthof theFirm'sFiscalYearEnd (ObtainedromI/B/E/S). MVE s theLog of theFirm'sMarketValueof EquityMeasured n Millionsof U.S. Dollarsat CalendarYear-End.WeCalculateThisVariable yUsingSharePriceand SharesOutstandingfrom /B/E/S and ExchangeRates romWorldscope.ISCLOSE nd METHODSAretheSumof theAdditionalIASDisclosureRequirementsand MeasurementMethodRestrictions,Respectively, elative o theAccountingPoliciesofFirms'Domestic-GAAPsseeAppendixA). IASSET s theOverallOccountingStandard ndex or theFirm'sCountryofDomicile Reportedn Table2). All RegressionVariables re Winzorizedo the1st and 99thPercentileValues.TheSample s 80 FirmsAdopting AS in 1990, 1991, 1992, or1993 and t- 1 is theYear riortoIAS Adoption(a) Disclosure model: FERRORit- = a + ~j NUMit-I + B2MVEit- I +3 DISCLOSEj+ 8itI(b) Methods model: FERRORit- = a + j NUMit-1 + B2 MVEit-I + p3 METHODSi + sit-1(c) Set model: FERRORitI = a + j NUMit-1 + B2 MVEit-1 + 3 IASSETi + sitePredicted Model

Sign (a) (b) (c)oa ? 0.1192 0.1356 0.1187(2.088)** (2.349)** (2.055)**NUMti 1 -0.0008 -0.0008 -0.0008[-0.876] [-0.821] [-0.883]MVEit1 - -0.0077 -0.0083 -0.0076[-1.725] * [- 1.842] * [- 1.694] *DISCLOSEi + 0.0094[2.909]METHODSi + 0.0088

[2.313]**IASSETi + 0.0052[2.811]***N 80 80 80Adj. R2 19.40 16.32 18.87

t-statisticsrein brackets orone-tail ests; **, *** ne-tail p-value < .10, < .05and < .01,respectively.t-statisticsrein parenthesesor two-tailests;**two-tail -value < .05.

4.2 THE IMPACT OF IAS ADOPTIONS ON ANALYST FORECAST ACCURACYFor descriptive purposes, we calculate the unconditional change in an-alyst forecast accuracy after firms adopt LAS.Panel A of table 5 indicatesthat the absolute value of forecast errors falls significantly, from a meanof 3.58% (median = 1.28%) in the year prior to 1ASadoption to a meanof 1.73% (median = 0.76%) in the year following adoption. We also sep-

arate the sample into two groups: the 68 firms whose accounting poli-cies should be affected most by the adoption of 1AS (i.e., firms for whichCHIASSET< 0); and the 12 Canadian firms whose CHIASSET= 0. For theformer group of firms, forecast errors are reliably smaller after 1ASadop-tion. Specifically, panel B of table 5 shows that the mean FERROR s 1.82%in year t+ 1 as opposed to 3.97% in year t- 1, and the median is 0.72%in year t + 1 versus 1.60% in year t - 1. For the Canadian firms, mean andmedian FERROR remain essentially unchanged over the adoption period


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428 H. ASHBAUGH AND M. PINCUSTABLE 5UnivariateTestsof Change n Analysts'Forecast rrors.FERROR s theAbsoluteValueof theDifferenceBetweenActualEarningsPerShareand theMedian AnalystForecast f EarningsPer Shareor the Yeai;DeflatedbyStockPrice. Year - 1 (t + 1) Is the Year riorto (Post) ASAdoption.CHIASSET 0 -

IASSET;. e., the Change n Differencesn Domiestic-GAAPis-d-VisAS WhereASSET s theAccountingStandard ndex or theFirms Countryof Domicile Reportedn Table )Year N Mean Median Std. Dev. Minimum MaximumPanel A: All Firms (Variable= FERROR)t- 1 80 0.0358 0.0128 0.0566 0.0000 0.2870t+ 1 80 0.0173 0.0076 0.0281 0.0000 0.1567t-statistic -3.135***z-statistic -2.592###Panel B: Firms for which CHIASSET < 0 (Variable= FERROR)t - 1 68 0.0397 0.0160 0.0601 0.0001 0.2870t+ 1 68 0.0182 0.0072 0.0302 0.0001 0.1567t-statistic -3.154***z-statistic -2.944 #Panel C: Canadian Firms (CHIASSET = 0) (Variable= FERROR)t- 1 12 0.0141 0.0087 0.0196 0.0000 0.0673t+ 1 12 0.0123 0.0123 0.0098 0.0000 0.0307t-statistic -0.270z-statistic 0.375

A t-testof paired differences rejects the hypothesis of no difference from zero (two-tailp-value < .01).# A Wilcoxon rank suim test rejects the hypothesis of no difference in the distributions (two-tail p-value


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DOMESTIC AND INTERNATIONAL ACCOUNTING STANDARDS 429TABLE 6Resultsof TestingH2: TheImpactof ]ASAdoptionson AnalystEarningsForecastAccuracy.ChangesAre Calculatedfromhe Year riortoJASAdoption t - 1) to theYear ost-lASAdoption t + 1).CHFERRORs theChange n theAbsoluteValueof theDifference etweenActual EarningsPer Share

and theMedianAnalystForecast f EarningsPer Shareor the Yeai;DeflatedbyStockPrice. CHNUMIsthe Change n theNumberof AnalystsProvidingan Annual EarningsForecastor theMonthof theFirm'sFiscal YearEnd. CHMVE s theChange n theLog of theFirmisMarketValueof EquityMeasuredin Millionsof U.S.Dollars at CalendarYear-End. HDISCLOSEs ZeroMinusDISCLOSE,heDifferencesn DisclosuresRequiredUnderAS Vis-c2-VisFirms Domestic-GAAPRHMETHODSs ZeroMinutsMETHODS, heDifferencen MeasurementMethodRestrictionsUnderAS Vis-z-I/isa FirmsDonmestic-GAAP.HIASSETIsZeroMinus IASSETtheOverallAccountingStandard ndex or theFirm'sCountryofDomicile n thePre-IASAdoptionPeriodRelportedn Table2(a) Change in disclosure: CHFERRORi= a + PI CHNUMi + P2 CHMVEi+? 3 CHDISCLOSEi+ Si(b) Change in methods: CHFERRORi= a + PI CHNUMi + P2 CHMVEi+ /33CHMETHODSi+ Si(c) Change in policies: CHFERRORi= a + PI CHNUMi + /32 CHMVEi+ P3 CHIASSETi+ Si

Predicted ModelSign (a) (b) (c)

a ? 0.0008 0.0007 0.0023(0.093) (0.077) (0.260)CHNUMi - 0.0018 0.0013 0.0017[1.454] [1.171] [1.429]CHMVEi - -0.0180 -0.0189 -0.0184[-1.939]** [-2.0931** [-1.8961*CHDISCLOSEI 0.0055(1.823)*CHMETHODSI 0.0061(1.952)*CHIASSETi 0.0033

(2.029) **N 80 80 80Adj. R2 10.18 10.73 11.07All regression variables are winzorized to the 1st and 99th percentile values.t-statisticsare in brackets for one-tail tests;*, **one-tail p-valte < .10 and .05, respectively.t-statisticsare in parentheses for two-tail tests; *, **two-tailp-value < .10 and < .05, respectively.

The variables used to test H2 are CHDISCLOSE, CHMETHODS, andCHIASSET,which are represented by CHX in equation (2). Recall that H2 isa non-directional hypothesis, and thus predicts that ,833 0; i.e., that changein analyst forecast errors is related to changes in, respectively, disclosurepolicies, measurement methods, or accounting standards taken as a whole. 12Changes in market value and analyst following are expected to be negativelyrelated to CHFERROR.Table 6 reports the results of estimating equation (2). Adjusted R2s are ap-proximately 10-11%. The coefficients on CHNUM are not significant, whilethe coefficients on CHMVE are negative and significant, indicating that as

12Pearson (Spearman) correlations between CHFERRORand, respectively,CHDISCLOSE,CHMETHODS, and CHIASSET are 0.25 (0.20), 0.28 (0.25), and 0.28 (0.23).


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430 H. ASHBAUGH AND M. PINCUSTABLE 7UnivariateTestsof Changes n NewsReports.ChangesAre Calculatedfromhe Year riorto 1ASAdoption t-1) to the YearAfterJASAdoption t + 1). CHTOTIs the Change n the TotalNumber fNewsReportsAbouttheFinn, and CHEA s the Change n theNumber fEarnings-Related ewsReportsAbout heFirm(BothObtainedrom theFinancial Times ndex).

Variable N' Mean Std. Dev. Minimum MaximumFirms for which CHJASSET< 0:CHTOT 65 4.2461*** 12.8938 -23.0000 42.0000CHEA 65 1.8000*** 4.7374 -5.0000 15.0000Canadian Firms (CHIASSET= 0):CHTOT 12 2.5000 4.9810 -2.0000 15.0000CHEA 12 2.3333* 3.7979 -1.0000 10.0000

Th-ee firrmsor which CHIASSET< 0 were not covered in the Financial Timlesndex.***A t-test rejects the hypothesis of no difference from zero (two-tail p-value< .10 and .01 respectively).Changes are calculated from the year prior to 1ASadoption (t - 1) to the year after 1AS adoption (t + 1).CHTOT is the change in the total number of news reports about the firm, and CHEA is the change in thenumber of earnings-related news reports about the firm (both obtained from the Financial Tices Index).

firms grow in marketvalue, analystsforecast errors decrease. Turning to thevariablesof primaryinterest, we find that the coefficients on CHDISCLOSEand CHMETHODS are positive and significant (t = 1.823 and 1.952, respec-tively, two-tailp-values < .10), as is the coefficient on CHIASSET (t = 2.029,two-tailp-value < .05). These results indicate that analyst forecast errors de-crease as the number of accounting policy differences from 1ASdecrease as aresult of firms adopting LAS.13This suggests that firmsdomiciled in countrieswith accounting standards that require less disclosure and/or have moremeasurement method choices as compared to 1ASbenefit relatively morefrom adopting 1ASbecause sophisticated users of their financial reports arenow able to predict with greater accuracy a key valuation-relevant factor.144.3 THE IMPACT OF CHANGES IN NEWS REPORTS

We posit that 1AS adoptions are part of a broader strategy by firms toexpand their financial disclosures. For instance, at the same time theyadopt 1AS, firms may also increase press releases or more generally pro-mote greater news coverage of their earnings-related activities. If so, anincrease in news reports, rather than the adoption of 1AS,might explain theimprovement in analystforecast accuracy.Weinvestigate this possibility bycollecting news reports from the FinancialTimes ndex or our sample firms in the years surrounding 1ASadoption. Wefind news items for all but three sample firms in the Index.Table 7 reports

13We winzorize all variablesin the regression analysesto their 1st and 99th percentile values.When we do not winzorize variables, two-tailp-valuesare .20, .16, and .15, respectively, for thet-statisticson the coefficients for CHDISCLOSE, CHMETHODS, and CHIASSET.14Sixteen firms that adopted IASwere listed on a U.S. stock exchange that required the firmsto file U.S.-GAAP data in supplemental filings with the Securities and Exchange Commission.These firms are from Australia (3), Canada (9), Finland (1), France (2), and Spain (1). Weinclude them in our sample since analysts typicallydo not forecast alternativeearnings measuresincluded in supplemental reports. We conduct sensitivity tests excluding these 16 firms andfind that the results are at least as significant as the results based on the full sample.


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DOMESTIC AND INTERNATIONAL ACCOUNTING STANDARDS 431the change from year t - 1 to year t + 1 in the average number of earnings-related news reports (CHEA) and of all news reports (CHTOT) for the firmshaving CHIASSET< 0 and for the Canadian firms. Both subsamples reflect areliable increase in news reports over the period surrounding 1ASadoption,with firmshaving CHIASSET< 0 exhibiting a larger increase in overall newsreports. To assess the impact of the increase in news items on the test of H2,we augment equation (2) with the change in news reports. The results (notreported) indicate that the coefficient on CHTOT is insignificant, while thecoefficient on CHIASSET continues to be significant.5. Conclusion

In this study we investigate whether differences in countries' accountingmeasurement and disclosure standards relative to IAS affect analyst forecastaccuracy of non-U.S. firms' annual earnings. In addition, we examinewhether adoption of 1AS changes the absolute value of analyst forecasterrors.Using a sample of 80 non-U.S. firms, we find that, prior to adopting 1AS,the extent of differences in countries disclosure and measurement policiesrelative to IASis positively associated with analysts' earnings forecast errors.We also document a decrease in the absolute value of analyst forecast er-rors after firms adopt 1AS. We find no evidence of significant changes inadopting firms' business and geographic segments and extent of foreignsales, but we observe increases in firms' market capitalizations and analystfollowing. After controlling for changes in market capitalization and analystfollowing, the results indicate that analyst earnings forecast errors decreasewhen the differences in accounting measurement and disclosure policiesdecline as a result of firms' adoptions of IAS.Furthermore, this result holdsafter controlling for the concurrent growth in news reports.Choi and Levich [1992] argue that differences in domestic-GAAPscon-tribute to a continuum of information sets reported by firms. Our resultsindicate that those differences in reporting standards across countries rela-tive to the benchmark of 1ASaffect the ability of financial analysts to accu-rately forecast non-U.S. firms' earnings. Prior studies report mixed resultsregarding whether the convergence of countries' accounting standards to amore uniform set of standards increases the informativeness of firms' finan-cial reports (Joosand Lang [1994]; Auer [1996]). Our results are consistentwith firms'financial information becoming more predictable following theiradoptions of 1ASand the consequent reduction in the variation in measure-ment and disclosure practices.

APPENDIX AThe tables included in this appendix provide additional details aboutthe calculation of DISCLOSE, METHODS, and IASSET,which capture, re-spectively, the differences in financial reporting standards across countriesrelative to 1AS due to the differences in disclosure requirements,


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432 H. ASHBAUGH AND M. PINCUSTABLE AlDISCLOSE:Variation n DisclosureStandardsof IAS versusDomestic-GAAPs. = Whena

Domestic-GAAP as No DisclosureRequirement r theDomestic-GAAPequiresLessDisclosureThanIAS. Comparisons reBased on Standards n Effectas ofJanuary 1, 1993. Disclosure temsAreasFollows: 1) Providinga Statement f CashFlows; 2) Disclosure fAccountingPolicies; 3) Disclosure ftheEffectof a Change n AccountingPolicy; 4) Disclosure f theEffectof a Change n AccountingEstimate; 5) Disclosure f PriorPeriodAdjustments; 6) Disclosure f PostBalanceSheetEvents;(77)Disclosure fRelatedParty Transactions; nd (8) Disclosure f Segment nformation.TheCountriesExaminedAreBased on Wier-eheFirms Used n theEmpiricalAnalysisAreDomiciled.

Disclosure ItemsCountry 1 2 3 4 5 6 7 8 TotalAustralia X 1Canada 0Denmark X X 2Finland X X X X X X 6France X X X X 4Hong Kong X X X 3Japan X X 2Malaysia X X 2Norway X X X X X X X 7Singapore X X 2Spain X X X 3Sweden X X X X X 5Switzerland X X X X 4

TABLE A2METHODS:Variationn AMeasurementVIethodsfIASversusDomestic-GAAPs. = When ASRestricts heAccountingMeasurementMethodsRelative o theMeasurementMethodsAvailableUnderDomestic-GAAP omparisons reBased onStandards nEffectas ofJanuary 1, 1993. TheCountriesExaminedAreBased on VMhereheFirmsUsed n theEmpviricalnalysisAreDomiciled.Measurement Method Restrictions

Additional Accounting Accounting Research &Country Depreciation for Leases for Pensions Development TotalAustralia X X 2Canada 0Denmark X X 2Finland X X X X 4France X X X 3Hong Kong X 1Japan X X 2Malaysia 0Norway X 1Singapore 0Spain X 1Sweden X X 2Switzerland X X X X 4


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DOMESTIC AND INTERNATIONAL ACCOUNTING STANDARDS 433measurement method restrictions, and reporting standards overall (seeAshbaugh [2001]). Table Al compares eight 1ASdisclosure requirements inforce in 1993 to the 1993 disclosure requirements of the domestic-GAAPsofthe sample firms' countries of domicile. A domestic-GAAP's disclosure re-quirement is considered less demanding than LASf (1) there is no domestic-GAAP requirement or (2) the requirement is for less disclosure than1AS.Table A2 compares four 1AS measurement rules in force in 1993 tothe 1993 domestic-GAAP measurement rules for countries where firms inour sample are domiciled. lAS are considered to be more restrictive thandomestic-GAAP when 1AS has fewer acceptable accounting methods for aneconomic event relative to the methods acceptable under domestic-GAAP.

The 1ASSET ndex values presented in table 2 of the text equal the sumof the additional disclosure requirements (i.e., DISCLOSE) reported intable Al and the measurement choice restrictions (i.e., METHODS) re-ported in table A2.REFERENCES

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