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International Financial Reporting Standards are a set of rules issued by the International Accounting Standard Board, an independent body located in London, United Kingdom. In the period 1973-2000, the International Accounting Standard Board (IASB) and the International Accounting Standard Committee (IASC), an organization formed in 1973 by professional accountancy bodies in Australia, Canada, France, Germany, Japan, Mexico, Netherlands, United Kingdom and Ireland, and the United States, issued the international standards. Those standards were known during the mentioned period as the International Accounting Standards (IAS) (Ball 2005).
From April 2001onwards, the IASB became the official body for issuing rules and standards regarding accounting and financial issues under IFRS. At the same time, IAS which issued by the International Accounting Standard Committee (IASC) are still acceptable by the IASB (Ball 2005).
According to the International Accounting Standard Board, since 2001 at least 120 countries have required or permitted the adoption of IFRS. In 2002, the European Union launched that all EU countries' listed companies must prepare themselves to adopt IFRS from 2005. In 2003, the first IFRS1 issued by IASB "first-time adoption "and the following countries commit themselves to adopt the IFRS (Australia, Hong Kong, New Zealand and South Africa). In 2005, In Europe nearly 7,000 listed firms in 25 countries concurrently change to IFRSs.
US Security Exchange Committee Chief Accountant issues 'roadmap' describing steps towards the removal of the reconciliation requirements by 2009.
2006, China adopts accounting standards considerably in line with IFRSs in order to get full convergence after the Memorandum of Understanding has been made between IASB and FASB for advancing convergence of IFRSs and US GAAP. In 2007, Brazil, Canada, Chile, India, Japan and Korea all launch a date to adopt or converge with IFRSs. In 2008, Israel, Malaysia and Mexico to adopt IFRSs and United States issues 'roadmap' for IFRS adoption, update of IASB-FASB Memorandum of Understanding released and IASB tracks complete response to the financial crisis.
The completion of first part of Constitution Review by IASCF was in 2009, also the IASB increased members to 16 by 2012.
This study will focus on the impact of implementing IFRS on UK listed companies through statistical analysis, measuring the differences of financial ratios before and after the adoption of IFRS. Then the study will examine the balance sheet and income statement items in order to explore the reasons for differences in financial ratios and then examine which of the IFRSs that made these differences. The financial ratios will be used in this study are:
The profitability ratios: operating profit margin (OPM), return on equity (ROE) and return on invested capital (ROIC).
Leverage: measured by equity ratio (ER) and gearing ratio (GR).
Liquidity ratios: current ratio (CR) and quick ratio (QR).
Market-based ratio: price to earnings ratio (PE).
This study will be attempting to examine the following:
The effects that may result from changing reporting standard from the UK GAAP to the International Financial Reporting Standard.
The study will concentrate on financial ratios, specifically profitability ratios, financial leverage, liquidity ratios and the market-based ratio of the firms that adopt the IFRS and impacts of this adoption.
Aims and Objectives of the study:
This study will address the research question whether there is an impact on the performance of the companies that adopt IFRS instead of their local GAAPs.
Further more, this study is a try to add more literature to the ones that already done in this area but on different countries in order to
Rationale and Justification for the study:
The rationale and the justification of this study is an attempt by the researcher to determine whether if there is an impact on the key financial ratios results when adopting the International Financial Reporting Standards. There are many literatures done about the issue of adopting IFRS and its impact on the performance of the firms. Such literatures tackle the subject from different point of view, but this study will focus on analysing the impact on financial ratios through statistical analysis.
This study will analyse the impact of adoption of IFRS on financial ratios of the listed firms in UK for the years 2002, 2003 and 2004 as the years before the mandatory adoption in 2005, then the years 2006, 2007 and 2008 as the years after the adoption. The study will use the financial ratios for 30 listed firms in the UK.
This research will adopt the study of Lantto & Sahlstrom (2009), where they analyse the differences between financial ratios before and after the conversion from Finnish accounting standards to IFRS. This study will use the same methodology on the UK firms and will test the statistical significances of the differences, and examine the major reasons for the differences before and after the conversion.
Chapter one: introduction
Chapter two: differences and similarities between IFRS and UK GAAP
Chapter three: research methodology
Chapter four: results
Chapter five: conclusion and discussion
Plan of the Study:
The submission of the dissertation will be on the of September 2010 and it will be finished in approximately four months starting from June up to September and can be scheduled as follows:
Many literatures have studied the impact of the adoption of IFRS instead of national GAAPs in order to examine the improvement of financial reporting. IFRS is established to minimize the gap between financial statements prepared under different national or domestic GAAPs.
Lantto & Sahlstrom (2009) examine the impact of IFRS adoption on key financial ratios in Finland after conversion from DAS to IFRS. Their study conclude that there have been changes in key financial ratios of Finnish companies after the adoption of IFRS noticeably increasing in profitability ratios and gearing ratios on one hand. On the other hand, they have found a decreasing in the PE, equity and quick ratios. These increases in profitability ratios and decreases in PE ratio are due to the increases in the income statement profits. They refer that the removal of the amortization of purchased goodwill according to IFRS 3 is the main reason for the noticeable increasing in the ratios of profitability. They also found that there is an increase in obligation items and a decrease in shareholders equity and this will lead to increase the financial leverage ratios. In addition, the increase of the current liabilities made the liquidity ratios to decrease, where Daske et al (2008) examine the mandatory adoption of (IFRS) and its effects on the economy on different countries over the world. They analyze a sample of firms in 26 countries in order to examine the effects on market liquidity, cost of capital, and Tobin's q in these countries. Their finding was, on average, market liquidity increases around the time of the introduction of IFRS which contradict Lantto & Sahlstrom (2009). They recorded an increase in equity valuations which is consistent with Lantto's results and a decrease in firms' cost of capital, when the effects took place before the official adoption date. When dividing their sample, they find that countries that have intensives for transparency tend to have capital-market benefits. When they make comparison between mandatory and voluntary adopters, they find that the capital market effects are most obvious for companies that voluntarily adopted IFRS, in both years when they adopt IFRS and again afterwards, when IFRS become mandatory. Moreover, Cordazzo (2007) address the concern of changing from Italian GAAP to IFRS by providing empirical support of the nature and the size of the differences between Italian GAAP and IAS/IFRS. He studied Italian listed companies in order to show the most important effects of the adoption of IAS/IFRS. The results show a further the total impact of changing to IFRS on net income than shareholders' equity. His results confirms Lantto & Sahlstrom (2009) results in terms of positive impact on net income and contradicts with Daske et al (2008) and Lantto & Sahlstrom (2009) in the impact on shareholders equity when his results showed a decrease in this item. The individual adjustments show more major differences between the Italian GAAP and IAS/IFRS in how to treat business combination, financial instruments, provisions and intangible assets with reference to both net income and shareholders' equity; while there has been an important difference only on shareholders' equity in income taxes, and property, plant, and equipment. Nevertheless, Jermakowicz (2004) study the adoption of IFRS in Belgium. The study examined 20 companies in Belgium tracking the impact of IFRS on their reports. This study adopted a survey approach sent to 20 Belgian firms aims to find out that applying IFRS will affect the method of reporting of these companies as well as enhance the comparability levels in preparing consolidated accounts for these firms. The first three companies that adopted the IFRS in 2003 were analyzed quantitatively. The study summarises that companies adopted the IFRS instead of Belgian GAAP reported a considerable impact on their net income, as well as equity, which is consistent with Daske et al (2008) and Lantto & Sahlstrom (2009). Also, Iatridis & Rouvolis (2009) investigate the effects of the adoption of IFRS instead of Greek GAAP on the financial figures of Greek listed companies. They also study the factors related to IFRS voluntary disclosures before officially adopting IFRS, the degree of earnings management under IFRS, and the value relevance of IFRS-based accounting numbers. Their results show that the adopting IFRS has caused instability in the figures of balance sheet and income statement of Greek companies. They found that there has been a major improvement in financial figures in the following period even though the effects of the transition cost because of adopting IFRS.
The results show that the year of the adoption of IFRS in 2005 did affect the financial figures adversely in terms of profitability and liquidity. In year 2006, these figures recorded an improvement, which they refer it to that IFRS became more well-known to the Greek companies. Another study has been done on German companies that adopt IFRS by Van Tendeloo and Vanstraelen in 2005. They tackle the issue of whether the adoption of IFRS is related to lower earnings management. They study German companies that have adopted IFRS if they engage significantly less in earnings management compared to companies preparing their reports under German GAAP. In their results, they propose that the adoption of IFRS cannot be related with lower earnings management.
Schipper (2005) study the effects related to compulsory adoption of IFRS in the European Union and he found that the International Accounting Standards Board must provide more details about the use of the IFRS and the adverse effects that may result due to the adoption of IFRS, or there will not be wide use of IFRS by the accountants who prepare the financial reports and they will continue to use local GAAPs or US GAAP. Jones & Higgins (2006) support Schipper's results when he studied 60 companies in Australia that adopt IFRS through a telephone survey. They find significant variation in the survey answers with elements such as firm size, industry background and expected impacts on financial performance; the overall results show that many of the companies have not been well prepared for changing to IFRS and they are doubtful about getting any benefits from adopting IFRS.
Callao et al (2006). Quoted in Callao, Jarne & LaÂ´Ä±nez (2007) inspect the way in which Spanish companies have dealt with process of applying IFRS. The base of empirical study is a survey sent to Spanish business groups listed on the Madrid stock exchange. The results show that these companies have taken a very positive attitude towards the harmonization process and the adoption of IFRS in one hand. On the other hand, changing to IFRS is costly and needs more changes in business organization and structures, as well as accounting policies. A year later a contradictory study done by Callao et al (2007) when he examine the effects of the adoption of IFRS on the comparability and relevance of financial reporting in Spain. This study tried to compare between firms that adopt IFRS and others that still use the local GAAP. They found that adopting IFRS did negatively affect the comparability and concluded that applying both standards at the same time in the same country will make it difficult when comparing between firms, even in the same industry. Their study also results that the financial reporting has not improved because there was a gap between the book value and market value when changing to IFRS. They also concluded that there will not be benefits from applying IFRS in the short term and may be there will be in medium and long term.
Peng & Smith (2009) investigate the convergence process through the years (1992-2006) of the convergence of Chinese GAAP with IFRS from theoretical point of view. They find that there have been an important movement towards convergence took place through the issuance of four following Chinese GAAPs: 1992, 1998, 2001, and 2006. Convergence between Chinese GAAP to IFRS happened through both, the direct import of standards from IFRS and progressive changes to Chinese GAAP. Direct import was observed for items either reflective of traditional Chinese accounting practice or ones that addressed situations not considered or not relevant under the previous accounting model. Progressive changes to Chinese GAAP were observed on items substantially different from traditional practice. On the whole, they concluded that both combination of staged implementation and direct import has proven to be practical and effective in the convergence of Chinese GAAP with IFRS.
Jones and Luther (2005) examine three Bavarian companies and two management consultancy firms in Germany, whether the change to IFRS could have significant effects on the distinctive traditional management accounting practices applied in the field of control. They conclude that managers have to choose between, either combining external and internal reporting or continuing to operate dual accounting systems, confining the adoption of IFRS to external reporting.
Ormrod and Taylor (2004) analyse the impact of the adopting IFRS instead of UK GAAP on covenants included in debt contracts. Their results showed more volatile on earnings figures, as well as in variations reported profits and balance sheet elements.
Weißenberger, Stahl, andVorstius (2004) study the surveyed a group of German firms listed in (DAX100) for the reasons that made these firms choose IFRS or US GAAP rather than German GAAP. The researchers received 81 responses out of 359 firms' sample. Their results showed that the reason of adoption of IFRS or USGAAP by these German firms was that they was expecting to have footing in the capital markets, as well as to improve supply of information, and the internationalization of investors. Nevertheless, they found that not all of these objectives were attained.
Larson and Street (2004) study 17 European countries to examine the obstacles of the convergence in these countries (Switzerland, the10 new EU members and other EU candidate countries). The data used was gathered in2002 convergence survey by the former Big Six international accounting firms. They showed in their results that two major obstacles to convergence are the difficulty of definite IFRS and the tax-orientation of many local systems.