IFRS adoption and analysts earnings forecasts: Australian evidence

Julie Cottera University of Southern Queensland Ann Tarcab University of Western Australia Marvin Weeb University of Western Australia

University of Southern Queensland. University of Western Australia. Address for correspondence: Ann Tarca, UWA Business School, M250, 35 Stirling Highway, Crawley, Western Australia 6009. Email: Ann.Tarca@uwa.edu.au Tel: +61 8 6488 3868.

Version 24 August 2009 _________________________________________________________________________ We thank Wendy Hsu, Tasha Grieve, Dessalegn Mihret, Lalith Seelanatha and Anthony Vu for data collection assistance. We also acknowledge the financial support of the Accounting and Finance Association of Australia and New Zealand (AFAANZ), UWA Business School and the University of Southern Queensland. We thank Millicent Chang, John Holland, Izan and seminar participants at Monash University and the University of Queensland for their helpful comments. We particularly acknowledge the assistance of Philip Brown and John Preiato in the preparation of this paper.

IFRS adoption and analysts earnings forecasts: Australian evidence

Abstract We study 145 large listed Australian firms to explore the impact of IFRS adoption on the properties of analysts forecasts and the role of firm disclosure about IFRS impact. We find that analyst forecast accuracy improves and there is no significant change in dispersion in the adoption year, suggesting that analysts have benefited from IFRS adoption. We measure firms IFRS impact disclosures in their financial statements issued at the end of the transition and adoption years. Transition year disclosure was not associated with forecast error and dispersion in the adoption year. However, more disclosure by firms during the adoption year (proxied by their adoption year-end financial statement disclosure) is associated with reduced error and dispersion. The findings raise questions about the timeliness and usefulness of financial statement disclosure, even in a setting where disclosure was mandated by accounting standards (AASB 1047 and AASB 1) and firms had strong incentives to provide information to analysts.

Key words: International accounting standards; international financial reporting standards; analysts forecast accuracy and dispersion; disclosure; costs and benefits IFRS. _________________________________________________________________________

1. Introduction

The adoption of international financial reporting standards (IFRS) in many countries around the world from 1 January 2005 was a major event in global capital markets (Cairns, 2003). Support for IFRS is based on the view that a single set of high-quality accounting standards will promote transparency and comparability, thus improving overall quality of financial reporting and efficiency of capital markets (EC Regulation No. 1606/2002). Whether these benefits are being realised is of interest in countries which have adopted IFRS, including Australia, New Zealand and the European Union (EU) member states, and those where adoption is underway or possible in the future (for example Canada and the USA).

The aim of this study is to contribute to the evaluation of the benefits of IFRS adoption in Australia by investigating the properties of analyst forecasts around the time of adoption and the role of disclosure about the financial impact of IFRS. The questions of interest are whether analysts benefited from IFRS adoption and to what extent did firms disclosures about the financial impact of IFRS assist analysts? Prior evidence about the impact of adoption of IFRS is mixed (Ashbaugh and Pincus, 2001; Daske, 2005; Cuipers and Buijink, 2005) and many prior studies occur in a setting where use of IFRS is voluntary. More recent studies have a mandatory setting and include larger samples of firms and countries (Hodgson, Rasoul, Harless and Adhikari, 2008; Wang, Young and Zhuang, 2008; Horton, Serafeim and Serafeim, 2008).

However, the impact of IFRS adoption must also be evaluated on an individual country basis, due to differences in institutional environments both before and after IFRS adoption (Djatej, Gao, Sarikas and Senteney, 2008). For example, the Australian market features participants who are relatively sophisticated and experienced in relation to IFRS. Australian national standards were principles-based and harmonised with IFRS, giving preparers, auditors, analysts, investors and regulators a relative advantage in adapting to IFRS. In contrast to the setting in EU, it is less obvious that IFRS should be expected to improve the properties of analyst forecasts in the Australian setting. The effect of IFRS in Australia may be different to other jurisdictions with different institutional features and thus should be investigated independently of other countries. Despite the internationalisation of standards, market participants are still interested in the specific market environment in which they operate.

We consider all Australian listed firms which are followed by at least four analysts over the period 2001 2007 (from four years prior to adoption to one year post-adoption). For these 145 large listed firms, we find that analyst forecast accuracy (captured by absolute forecast error) improves significantly over the period, suggesting that analysts following Australian firms coped effectively with transition to IFRS. Forecast error declines over the period leading up to adoption, increases in the transition year (the year immediately prior to IFRS adoption), then declines in the adoption year. Forecast dispersion also declined over the period 2001-2007. It was not significantly lower in the adoption year however it increased post-adoption.

We also make use of the Australian setting to examine the role of disclosure in the transition to IFRS. Mandatory accounting standards, AASB 1047 Disclosing the Impacts of Adopting Australian Equivalents to International Financial Reporting Standards in the transition year and AASB 1 First Time Adoption of Australian Equivalents to IFRS in the adoption year, called for disclosure about the financial impact of adopting of IFRS to assist users to understand the implications of the new standards. We investigate the extent to which analyst forecast accuracy and dispersion are affected by firms disclosures about the impact of IFRS adoption. We measure IFRS impact disclosures in financial statements issued at the end of the transition and adoption years. We expected that more disclosure about IFRS impact in the transition year would be associated with lower error and dispersion in the adoption year. The results do not support this prediction, suggesting that only limited information about the impact of adoption was provided by firms in financial statements at transition year-end. We observe that relatively more disclosure about IFRS impact was provided in the financial statements at the end of the adoption year. If we assume that the amount of IFRS impact disclosure in the financial statements at the end of the adoption year proxies for the information which was released to analysts throughout the adoption year, we show that (after controlling for the financial impact of adoption for individual firms) reduced forecast error and lower dispersion are associated with higher levels of firm disclosure. Further, lower error is associated with more qualitative disclosure and lower dispersion is associated with more quantitative disclosure.

The findings assist us to understand how analysts were affected by IFRS adoption and the role of firm disclosure in assisting analysts to adapt to IFRS. We show that in the Australian setting analysts appear to have benefited from adoption even though prior AGAAP accounts 4

were based on high quality, IFRS-harmonised standards and featured extensive disclosures. We observe that improvements in accuracy and reductions in dispersion are related to a firms disclosures about the impact of adoption. Thus our study contributes to literature assessing the impact of IFRS adoption.

We extend prior studies about properties of analyst forecasts in both the national GAAP (Lang and Lundholm, 1996; Hope 2003a, 2003b) and IFRS setting (Ashbaugh and Pincus, 2001; Daske and Gebhardt, 2006). Our study contrasts to prior research because it investigates mandatory adoption of IFRS in a developed capital market where equity finance is important and standards of regulation and disclosure are relatively high (Brown and Tarca, 2005). In addition, we specifically focus on the level, type and timing of disclosure provided to demonstrate how firms disclosure practices affected properties of analyst forecasts through the adoption period. There has been little investigation of the consequences to IFRS adoption for analysts following Australian firms and the benefits of mandatory IFRS disclosure standards. Our study provides evidence about these issues, which will be of interest to market participants and others involved in evaluating this significant change. In addition, our findings are relevant in jurisdictions where IFRS may be adopted in the future such as Canada and the USA.

The remainder of our paper is organised as follows. The next section discusses related literature and develops hypotheses. Section three discusses data and method. Section four presents results and section five concludes.

2. Literature and hypotheses

2.1 Background In Australia, all listed firms were required to adopt Australian equivalents to IFRS from 1 January 2005 (FRC, 2002).1 Some significant changes were expected in Australian firms reported financial position and performance following adoption, particularly for large firms
In addition to listed firms, other reporting entities (including unlisted, public and private entities) were required to adopt IFRS. Thus, the international accounting standards have much broader application in Australia than in some other jurisdictions. For example, the European Union adopted IFRS from 1 January 2005 but only for the consolidated financial statements of listed firms (IASB, 2002). The term Australian equivalent was used because paragraphs applicable to not-for-profit entities are added to IFRS before their adoption in Australia. In relation to for profit entities, Australian IFRS (which use the AASB label) are effectively the same as IFRS issued by the IASB.
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(Goodwin and Ahmed, 2006). Although Australia had a long tradition of principles-based standards and had previously substantially harmonised national GAAP with international standards, there were some notable differences between domestic standards and the newly adopted IFRS. Areas affected included intangible assets, financial instruments, business combinations, share-based payments, asset impairment, investment properties and accounting for deferred taxes (Ernst & Young, 2005). Unlike some other jurisdictions (notably Germany, Austria and Switzerland) Australian firms were not permitted to early-adopt IFRS.

Following the decision to adopt IFRS, questions were raised about the ability of firms to manage the transition process and of investors to understand the changes in financial statements. It was argued that investors may misinterpret information based on IFRS, giving rise to adverse reactions in capital markets (Ernst & Young, 2002, 2003; Accountnet, 2004). In the two years leading up to IFRS adoption, firms were required by AASB 1047 Disclosing the Impacts of Adopting Australian Equivalents to International Financial Reporting Standards to disclose information about (a) the expected key accounting policy differences resulting from the transition to IFRS, and (b) known or reliably estimable information about the expected impact of IFRS. In the adoption year, AASB 1 First Time Adoption of Australian Equivalents to IFRS (equivalent to IFRS 1) required firms to explain how the transition from previous GAAP to IFRS affected reported position, performance and cash flows.

2.2 Analyst forecasts and IFRS There is an extensive literature about factors affecting analyst forecast accuracy and dispersion, which is relevant to any predictions about the effect of adoption of IFRS on the properties of analysts forecasts. Lang and Lundholm (1996) show that firms with more informative disclosures have larger analyst following, less dispersion in analyst forecasts, and less volatility in forecast revisions. However, they do not find annual report disclosures to be significantly related to forecast accuracy for US firms and Eng and Teo (2000) report a similar result in Singapore. On the other hand, Hope (2003a) documents a positive relation between annual report disclosures and analyst forecast accuracy using firm-level disclosures in a cross-country setting. Further, Hope (2003b) finds that the level of firms disclosures about their accounting policies is significantly negatively related to forecast dispersion and absolute forecast error and concludes that accounting policy disclosures reduce uncertainty about forecast earnings. Thus, while the evidence about whether annual report disclosures are 6

related to analyst forecast error and dispersion is mixed, there is some evidence that disclosures about accounting policies are related to both forecast dispersion and error.

For many countries, adoption of IFRS was expected to produce more extensive and informative financial statement disclosures (Ashbaugh and Pincus, 2001). Daske and Gebhardt (2006) confirm that the quantity and quality of corporate disclosures improved with the adoption of IFRS in three European countries (Austria, Germany and Switzerland). If greater disclosure allows analysts to better understand a firms performance and prospects, we might expect analysts forecast accuracy to improve around IFRS adoption.

IFRS are more restrictive standards than many national GAAP (Asbaugh and Pincus, 2001). Consequently, they have the potential to reduce the complexity of the forecasting task and thus improve the accuracy of analysts forecasts. Hope (2004) finds that a more restricted set of accounting methods leads to greater forecast accuracy for a sample of firms from 18 countries. It is also argued that IFRS reduces variation in accounting practices, thus benefiting analysts by improving consistency in policy choice between firms (Ashbaugh and Pincus, 2001; Bae, Tan and Welker, 2008).

However, IFRS effects appear to be mixed. Ashbaugh and Pincus (2001) find lower forecast errors for voluntary adopters (primarily from Switzerland, France and Canada). Contrary evidence is provided by Daske (2005) who reports lower accuracy and higher dispersion among analysts following German firms which adopted international accounting standards (IAS) between 1993 and 2002. Cuipers and Buijink (2005) find higher dispersion among EU firms using non-national standards (US GAAP and IAS). In the post-2005 environment, Hodgson, Rasoul, Harless and Adhikari (2008) conclude that compliance with IFRS disclosure requirements enhances analysts forecast accuracy (based predominantly on firms from Switzerland and Germany). Wang, Young and Zhuang (2008) report improved forecast accuracy for EU firms post IFRS. However, Horton, Serafeim and Serafeim (2008) suggest that the improvements in the information environment related to IFRS in Europe are greatest for firms that had voluntarily adopted IFRS earlier. They find an improvement in the information environment for firms mandatorily adopting IFRS, but this improvement is only for non-financial firms.

Adoption of new standards could affect earnings forecasts because analysts are unfamiliar with the new accounting standards. Ackens, Horton and Tonks (2002) find that the introduction of UK Financial Reporting Standard 3 reduced analysts forecast accuracy in the first year of mandatory adoption. In the same vein, Cuijpers and Buijink (2005) consider early adopters of IFRS and report that benefits of IFRS adoption take time to materialise. In addition, more volatile earnings in the post-IFRS period could lead to lower forecast accuracy. Ashbaugh and Pincus (2001) suggest earnings are likely to fluctuate following the adoption of IFRS because the more restricted set of measurement methods reduces managers ability to smooth earnings over multiple accounting periods. Ball (2006) argues that fair value measurement in IFRS could lead to increased earnings volatility. Barth, Landsman and Lang (2008) confirm that there is greater volatility in earnings after the voluntary adoption of IFRS, albeit for a predominantly code-law country sample. Thus, it is important to recognise that IFRS adoption may not confer benefits and that other factors, including increased volatility in earnings, could lead to increased forecast error and dispersion.

It is difficult to predict the relationship of adoption of IFRS and properties of analyst forecasts in the Australian environment. Several new standards with potentially significant impact were introduced, as noted above. Changes could make forecasting more difficult. For example, Matolscy and Wyatt (2006) argue that adoption of IAS 38 (AASB 138) could reduce usefulness of financial statements as the standard prevents capitalisation of certain intangible assets which the authors report were associated with lower error and dispersion in analyst forecasts under AGAAP.

Some standards may lead to increased volatility of earnings, possibly making the prediction task more difficult. However, the Australian environment differs markedly from that in many EU countries where prior IFRS research has been conducted. Capital market participants (preparers, auditors, investors, analysts and regulators) are accustomed to principles-based standards and the Australian market features sophisticated information exchange mechanisms to support private equity raising and trading of securities. Further, Australian GAAP had been harmonised with international standards from 1998 and extensive disclosures of IFRS impact were required under AASB 1047 (Kent and Stewart, 2008; Palmer, 2008). In this environment, analysts may adapt to IFRS with little effect on the properties of their forecasts. Thus the following hypotheses are proposed, stated in the null form:

H1a: There is no significant difference in analysts forecast error following adoption of IFRS. H1b: There is no significant difference in analysts forecast dispersion following adoption of IFRS.

2.3. IFRS and capital market information flows It is widely recognised that managers reveal private information to outsiders to reduce agency costs (Jensen and Meckling, 1976) and to attract capital on more favourable terms (Botosan, 1997; Sengupta, 1998; Leuz and Verrecchia, 2000; Botosan and Plumlee, 2002). Theoretical models link the extent of disclosure to the costs of disclosing proprietary and nonproprietary information (Verrecchia, 1983, 1990; Dye, 1985, 1986; Penno, 1997).

The costs and benefits of disclosure vary between firms. Dye (1986) notes that a firms disclosure environment features a tension between managers incentives to reveal their own and other firms performance and the incentives to avoid adverse reactions of parties external to the firm that may be induced by such disclosures. Thus there is a trade off between achieving value maximisation and protecting proprietary information. Diamond and Verrecchia (1991) posit that a firms optimal level of disclosure is achieved when the marginal cost of disclosure is equal to its marginal benefit. Managers decide about the nature of information to be revealed, based on their assessment of costs (cost of preparation, cost of revealing that information to competitors, and risk of enforcement or legal action in response to the information) and the benefit to be obtained by making the information available to investors (attracting capital on more favourable terms).

Leading up to IFRS adoption, the disclosures provided by Australian firms had to satisfy the requirements of AASB 1047 and meet their auditors expectations in relation to the extent of necessary disclosure. However, firms had considerable discretion in the extent of disclosure which we can assume reflects their assessment of the costs and benefits of disclosure. Palmer (2008) reports that the extent and quality of AASB 1047 disclosures were related to firm size, leverage and having a Big 4 auditor. Kent and Stewart (2008) also show a link between IFRS disclosures and audit firm, and they report more disclosure by companies with superior corporate governance.

An important role of disclosures about the impact of IFRS adoption is to ensure that analysts, fund managers and other investors are able to understand and interpret the financial statement information presented. Information about IFRS impact is particularly relevant if firms experience a large effect on earnings following IFRS adoption (Horton et al., 2008). If reported earnings are significantly affected by IFRS adoption, firms have an incentive to ensure analysts understand the new earnings number by providing timely and useful disclosure. Thus, we posit that more disclosure about IFRS impact will assist analysts to predict IFRS earnings, leading to lower error and reduced dispersion. The hypotheses can be formally stated in the alternative form as follows: H2a: Analysts forecast error is negatively associated with disclosure about IFRS impact. H2b: Analysts forecast dispersion is negatively associated with disclosure about IFRS impact.

3. Data and method

3.1 Sample selection and data collection From a list of the largest 200 Australian firms (by market capitalisation) we identify 145 that have analyst data available on I/B/E/S and are followed by at least four analysts over the period 31 December 2001 to 31 December 2007. Sample firms are large, with mean and median market capitalisation being A$5.8 billion and A$1.6 billion respectively (at 31 December 2007). Industry representation (by CIGS Industry Sector) is Financials 29 firms, Consumer Discretionary 28, Materials 25, Industrials 23, Health Care 9, Consumer Staples 9, Energy 9, Information Technology 6, Utilities 5, and Telecommunication Services 2.

The Thomson Financials Datastream database provided access to I/B/E/S analyst data as well as the other data needed to calculate analyst earnings forecast error and dispersion. Annual reports for the adoption year (i.e. the first full year a firm prepared accounts based on IFRS) and the last AGAAP year (i.e. the IFRS transition year, hereafter the transition year) were accessed from the Connect4 database and firm websites. Given that the first full year of IFRS adoption began on or after 1 January 2005, the reporting dates for these final AGAAP annual reports were between 31 December 2004 and 30 November 2005. The majority of firms have a 30 June year end (102 firms, 70%), 27 firms (19%) have a December year end and the remainder (11%) have another date for their financial year end. 10

3.2 Disclosure of impact of IFRS The extent of disclosures about the impact of IFRS adoption was measured in the financial statements in both the transition and adoption years. Prior studies have used word or sentence counts to measure disclosure. For example, Palmer (2008) measures IFRS transition disclosure by sentence counts and then adds a qualitative measure of content (based on allocating 1 to 4 points, depending on the quality of the content of the sentence). Kent and Stewart (2008) measure IFRS transition disclosure by sentence counts together with a count of the number of items in the reconciliation statement.

Our study uses a self-constructed checklist (Appendix) because a measure of IFRS adoption disclosure in the transition and adoption year is not available from any other source. The checklist has eleven categories and 49 items, organised in three groups. They are: (A) Financial Performance items #1 Revenue, #2 Expenses, #3 - #4 Profit; (B) Financial Position items #5 Assets, #6 Liabilities, #7 Equity, #8 Total figures; and (C) IFRS comments items #9 Impact, #10 Volatility, #11 Other. The checklist is used to measure the amount of both qualitative (no numerical estimation) and quantitative (narrative disclosure with numerical estimation) across a clearly defined set of financial statement items, including the items which were expected to be most affected by adoption of IFRS. Thus, it measures content in a way sentence counts do not. We also measure number of items in the IFRS reconciliation statement (consistent with Kent and Stewart, 2008) and whether a reconciliation item is material in terms of financial impact (greater than 5% of relevant income statement or balance sheet class or group).

Disclosures about the impact of IFRS made in the financial statements in compliance with AASB 1047 and AASB 1 were read and coded for each firm. One point was recorded each time a checklist item was discussed, under the heading of qualitative or quantitative disclosure. A firms minimum score could be zero. There was no maximum score as points were awarded every time an item was discussed rather than limited to one point for each checklist item. The sum of the firms quantitative and qualitative disclosure scores represents the firms total disclosure score. A sub-score for each firm, representing its disclosure score in the key areas expected to most affected by IFRS was also calculated. The key areas, as stated in AASB 1047 are as follows: financial instruments, share based payment, employee

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benefits, impairment, intangible assets and income tax.2 They are captured by 14 checklist items, as shown by asterisk * in the Appendix. Two coders read each annual report separately, recorded data to checklists, then compared their coding to each other and reconciled any differences. Thus, the annual reports were all dual coded (Behn, Kaplan and Krumweide, 2001) to increase accuracy and consistency and to provide reliability in the coding process.

We also measured the extent of direct management earnings guidance provided by firms to gather information about firm disclosure during the transition and adoption years. Data was collected from annual and half-year results presentations and reports, as well as other documents lodged with the Australian Securities Exchange (ASX) that could potentially contain management earnings guidance. These company filings were accessed using Aspect Huntleys DatAnalysis, and management earnings guidance was identified using the key words target, future and forecast. This data was collected for the twelve months leading up to the announcement of annual earnings for both the adoption and transition years. The majority of management guidance about future earnings was provided in the prior period results presentation, however it was sometimes provided in a separate document such as a press release. For 95 (89) of our 145 sample firms, some form of management earnings guidance in the adoption (transition) year was provided. The type of guidance data varied in terms of whether it was quantitative, qualitative or both, as well as the specific performance measure it related to and whether quantitative guidance was expressed as a percentage increase, dollar amount or range of values. The data was coded as follows for both the adoption and transition years: one point was assigned where (a) earnings guidance was provided; (b) guidance included a quantitative estimate of earnings; (c) point rather than range guidance was given; and (d) guidance was provided in a separate announcement. Thus guidance for each sample firm in each year takes a value between 0 and 4.

3.3 Data analysis We use pooled OLS regression models to test hypothesis 1 (whether AFE and FD changed during the period surrounding adoption of IFRS). Empirical models are as follows, with variables defined below:

Two key areas we did not include are changes in foreign currency exchange rates and investment properties because they did not apply to the majority of firms in our sample.

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AFEj,t

= 0 + 1TRANS + 2ADOPT+ 3POST + 4SIZEj,t + 5PREVERRORj,t + Eq(1)

6ACHEARNj,t + 7LOSSj,t + 8NUMj,t +

FDj,t = 0 + 1TRANS + 2ADOPT+ 3POST + 4SIZEj,t + 5PREVDISPj,t + 6ACHEARNj,t + 7LOSSj,t + 8NUMj,t + Where: AFEj,t = Absolute forecast error (AFE) for firm j in relation to the first IFRS annual reporting date measured as AFEj,t = (A
j,t

Eq(2)

j,t-3)

/ Pj,t-3 where Aj,t is firm js

actual EPS for the year ended t; Fj,t-3 is firm js median consensus forecast EPS for the year ended t, measured three months prior to time t; and Pj,t-3 is firm js adjusted price per share three months prior to time t (adjusted for increases in median PE ratio over the period 2001-2007). FDj,t = Forecast dispersion for firm j measured 3 months prior to first IFRS annual reporting date, captured by the standard deviation of firm js EPS forecasts, scaled by Pj,t-3. TRANS = dummy variable equal to 1 for observations in the IFRS transition year, zero otherwise. ADOPT = dummy variable equal to 1 for observations in IFRS adoption year, zero otherwise. POST = dummy variable equal to 1 for observations in the post-adoption year, zero otherwise. SIZEj,t = the natural log of the firms market capitalisation at the beginning of the year. PREVERRORj,t = absolute value of last years forecast error, measured at the corresponding month in the previous year. ACHEARN j,t = the absolute value of the difference between the current years actual earnings per share and last years actual earnings per share, deflated by the price at t3mths. EPS from I/B/E/S excludes goodwill amortisation for all years. LOSS j,t = a dummy variable equal to 1 if the current years earnings per share (from I/B/E/S) is negative, zero otherwise. NUM j,t = the number of analyst earnings forecasts included in the consensus forecast. PREVDISPj,t = last years forecast dispersion, measured at the corresponding month in the previous year. 13

We measure AFE and FD consistently with prior studies (e.g. Lang and Lundholm, 1996; Hope, 2003a; 2003b) however we adjust price at time t-3 for the ratio of median PE ratio at time t compared to t = 0 (financial year end 2001 or 2002, depending on a firms year end dates) to control for the effects of the strong bull market in the period 2001-2007. Thus we ensure that our results do not simply reflect rising share prices over the period of the study. We include dummy variables for years (transition, adoption and post-adoption) to capture differences between years. We include firm size and number of analysts as control variables, to mitigate for differences between firms which may affect accuracy and dispersion (Lang and Lundholm, 1996; Hope 2003a; Hodgdon et al., 2008). Prior year forecast error and forecast dispersion, change in earnings, and a dummy indicator variable for a loss firm are also included as control variables as all have been shown to affect AFE and FD (Lang and Lundholm, 1996; Brown. Taylor and Walter, 1999; Herrmann, Hope and Thomas, 2007). Firm fixed effects are also controlled.

To investigate whether AFE and FD in the adoption year are associated with disclosure about IFRS financial impact (H2), we use a reduced version of the above models, as follows: AFEj,t = 0 + 1DISCj,t + 2EARNSTTj,t + 3ACHEARNj,t + 4PREVERRORj,t + 5SWITCHj,t + Eq(3)

FDj,t = 0 + 1DISCj,t + 2EARNSTTj,t + 3ACHEARNj,t + 4PREVDISP + 5SWITCHj,t + Where: DISCj,t = (a) FSdisc_T: the amount of IFRS impact disclosure in the financial statements at transition year-end about the key areas where impact is expected to be greatest (see discussion in text); or (b) FSdisc_A: the amount of IFRS impact disclosure in the financial statements at adoption year-end about the key areas where impact is expected to be greatest; (c) QUAL_T: the amount of IFRS impact disclosure (qualitative discussion) in the financial statements at transition year-end; or Eq(4)

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(d) QUAL_A: the amount of IFRS impact disclosure (qualitative discussion) in the financial statements at adoption year-end; or (e) QUANT_T: the amount of IFRS impact disclosure (quantitative discussion) in the financial statements at transition year-end; or (f) QUANT_A: the amount of IFRS impact disclosure (quantitative discussion) in the financial statements at adoption year-end; EARNSTT: the extent of change in earnings, AGAAP compared to IFRS earnings at transition year-end i.e. (EarnIFRS EarnAGAAP)/|EarnAGAAP|; SWITCHj,t = the proportion of analysts that have switched to forecasting IFRS earnings three months prior to end of adoption year; and other variables as defined above.

We measure the extent of disclosure about IFRS impact in the financial statements about key items which were expected to change under IFRS (FSdisc_T) because this information may be the most important for analysts seeking to predict earnings under IFRS.3 We also calculate this measure for the adoption year (FSdisc_A). Our measures of overall disclosure, based on the sum of a firms qualitative and quantitative disclosures are calculated for the transition (QUAL_T, QUANT_T) and adoption years (QUAL_T, QUANT_T). We control for the impact of IFRS adoption for each firm using EARNSTT, recognising that firms with greater impact on earnings from IFRS have stronger incentives to explain the impact. We include control variables for size, previous forecast error, forecast dispersion and change in earnings. We construct a more parsimonious model for H2a and H2b because we have only one year of data (compared to the pooled models for H1a and H1b). Thus we exclude variables for size and number of analysts which are not significant explanatory variables in some of the models testing H1a and H1b. The proportion of analysts forecasting according to IFRS (SWITH) controls for differences in the extent to which analysts are relying on the new IFRS numbers rather than the old AGAAP figures.

4. Results

4.1 Descriptive statistics Table 1 shows descriptive statistics for analyst forecast error (AFE) and forecast dispersion (FD) in the period from four years prior to IFRS adoption to one year post-adoption. Mean
We define a material item as one which is greater than 5% of the related financial statement subtotal. For example, investment securities are a material item if they comprise greater than 5% of total assets.
3

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and median AFE decline up to transition year, increase in transition year and then decline in the adoption and post-adoption years (compared to transition) (Panel A). Panel C shows that mean (median) AFE measured four years prior and three years prior are significantly greater than in the adoption year (t statistics and Z statistics significant at p < 0.01). Mean (median) AFE in the transition year is significantly higher than in the adoption year while there is no significant difference between mean (median) AFE in the adoption and post-adoption year.

Results for mean and median FD are similar although the time effect is not as pronounced. FD declines over the period (Panel B). Mean (median) FD measured four years prior and three years prior are significantly different to the adoption year. Other measures (two years prior and transition year) are not significantly different to adoption year. Mean and median FD for the post-adoption year is significantly higher than for the adoption year (Panel C).4 Overall, these univariate tests suggest improvements in analysts performance, with a negative effect on performance in transition year followed by a recovery in the adoption and post-adoption years. This result is consistent with Ernstberger et al. (2008) who report lower accuracy in the transition year in Germany.

Table 2 provides descriptive statistics for control variables. Over all years, mean (median) LOGSIZE is A$7.439 billion (A$7.297 billion). On average, firms experience 2.5% change in annual earnings during the period (median 1.1%). Mean analyst following ranges from 7 to 9, with an average of 7 (median 8). While 11 firms in the sample report losses four years prior to adoption, there is only one loss firm in the adoption year, reflecting sample composition of large firms as well as buoyant economic conditions during the sample period. For all years, tests of correlations (Table 3) show significant correlations between AFE and FD and the control variables (LOGSIZE, ACHEARN, PREVERROR, PREVDISP). As expected, significant positive correlations are observed between AFE, FD and previous forecast error and dispersion and change in earnings. The largest correlation is between FD and previous dispersion (51.6%). Also as expected, the model variables are negatively correlated with size; the largest correlation is between FD and LOGSIZE (-20.2%).5

One possible explanation may relate to greater volatility of earnings under IFRS, however more years of data are required to allow a conclusion to be drawn.
5

Pearson correlations provide similar results.

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Table 4 provides descriptive statistics for the financial impact of IFRS and for our measures of disclosure about the impact of IFRS adoption which we use in Models 3 and 4. Panel A shows that in terms of financial impact, firms had on average nine items in their AGAAP/IFRS reconciliation note (IFRSIMPACT), of which one item was material (MATIMPACT). When we compare AGAAP and IFRS earnings in the transition year (EARNSTT), the average impact was negative 7.3% (median -3.4%).

Panel B shows that the mean (median) disclosure on the key items was 13 (12) in the transition year and 21 (18) in the adoption year. Disclosure scores ranged from 0 to 55 in transition and 0 to 97 in adoption. The disclosure score for the key items is a sub-set of a firms disclosure on all items, which we measure in two categories qualitative and quantitative. In the transition year, qualitative disclosure scores ranged from 0 to 145 with mean (median) score of 43.8 (37). In the adoption year, qualitative disclosure scores ranged from 2 to 246 with mean (median) score of 65 (54). Overall, firms increased disclosure in the adoption year. However, they varied greatly in both years in relation to the amount of disclosure provided. Standard deviation of the scores was 26.871 in the transition year and 42.637 in the adoption year.

Quantitative disclosure scores are lower than those for qualitative disclosure. As for qualitative disclosure, quantitative scores increased from the transition to the adoption years. In the transition year, quantitative disclosure scores ranged from 0 to 118 with mean (median) score of 25 (21). In the adoption year, quantitative disclosure scores ranged from 0 to 192 with mean (median) score of 56 (43) (Panel B). In the adoption year, the measure of extent of earnings guidance ranged between zero and four with an average of 1.4 (median 2) (not tabulated), indicating that a majority of sample firms issued some form of direct management earnings guidance. An average of 74.8% (median 83.3%) of analysts following each sample company were forecasting based on IFRS three months prior to the end of adoption year (not tabulated).

Spearman correlations between IFRS financial impact measures, IFRS impact disclosure measures and control variables are reported in Table 5. As expected, the measures of financial impact (IFRSIMPACT and MATIMPACT) which are based on number of items (and number of material items) in the reconciliation are significantly correlated with each other (0.373). As expected, the IFRS impact disclosure measures are correlated with each 17

other and with IFRSIMPACT and correlations are strongest in the adoption year. Provision of earnings guidance (an additional proxy for disclosure to analysts) EG_A is significantly positively correlated with the disclosure measures and with IFRSIMPACT. IFRSIMPACT is also positively correlated with size and number of analysts and negatively correlated with the proportion of analysts which have switched to IFRS. The earnings impact of IFRS adoption (EARNSTT) is negatively correlated with IFRSIMPACT (-0.158, p < 0.10) and not significantly correlated with the disclosure measures (except for FSDisc_T, 0.173 p < 0.10), the earnings guidance measures (EG_T and EG_A) or with change in earnings (ACHEARN) thus it is used in Models 3 and 4.

4.2 Impact of IFRS on properties of analyst forecasts Multiple regression models (Table 6) show that analyst forecast error improves following IFRS adoption, allowing us to reject the null hypothesis of no significant difference pre- and post-IFRS (H1a). Model 1 (AFE) is significant overall (F = 7.1154, p < 0.01) with adjusted R2 of 60%. It shows that AFE does not significantly improve in transition year (compared to earlier years) but it does significantly improve in adoption and post-adoption years. This result is observed after controlling for previous error, change in earnings and being a loss firm (these variables are all significant to p < 0.01). Firm size and number of analysts are not significant explanatory factors.

In relation to forecast dispersion, Model 2 (FD) is significant overall (F = 4.731, p < 0.01) with adjusted R2 of 47.31%. It shows that changes in dispersion over the years are not significant, except for the post-adoption year. The negative coefficient suggests more dispersion (p < 0.10). Signs of coefficients suggest less dispersion in adoption year and greater dispersion post-adoption. Thus, we can cautiously reject the null of no significant difference pre and post-adoption (H1b). Other variables are significant in the expected direction: higher dispersion is associated with lower change in earnings, being relatively smaller and being a loss-making firm.

Overall, our results suggest that IFRS adoption had a positive effect for analysts, with AFE reducing in the adoption and post-adoption years. Dispersion increases post-IFRS, however the effect is not as strong as observed for AFE. We now proceed to our next hypotheses, which tests whether changes in AFE and FD are related to firms disclosures about the impact of adoption. 18

4.3 Effect of IFRS impact disclosure Table 7 presents four models which explore whether the change in AFE in the adoption year is associated with firms disclosure about impact of IFRS adoption. We report models using scores for disclosure about key items affected by IFRS (FSdisc_T and FSdisc_A). In Model 3 the coefficient for FSdisc_T is negative but not significant, thus we do not demonstrate a relationship between AFE in the adoption year and disclosure in the financial statements in the transition year. This result is consistent with other studies which have not been able to link financial statement disclosure and AFE or FD (Lang and Lundholm, 1996; Eng and Teo, 2000).

Model 4 shows that AFE is associated with disclosure in the adoption year (FSDISC_A). This measure of disclosure is based on financial statement disclosure, which appears after the financial year end for which the forecasts are made. However, it is reasonable to assume that a firms level of disclosure in the financial statement is a suitable proxy for the amount of disclosure made to analysts by the firm during the year. Therefore Model 4 suggests that, after controlling for the impact of IFRS on earnings (EARNSTT is positive but not significant), the level of disclosure made by a firm is important in explaining the reduction in AFE in the adoption and post-adoption years, thus providing support for H2a. In both Models 3 and 4 ACHEARN is an important explanatory variable however other variables are not (PREVERROR and SWITCH).

In relation to FD (Models 5 and 6) disclosure in the transition or adoption years (about the key items) is not associated with lower forecast dispersion (H2b is not supported). The main explanatory factors are ACHEARN, PREVDISP, and SWITCH. Consistent with prior research, forecast dispersion is higher when firms experience greater change in earnings and when prior year AFE is greater. However, we observe that forecast dispersion is lower in the adoption year for firms for which a greater proportion of analysts had switched to forecasting based on IFRS three months prior to financial year end. This result supports Model 2, which shows no significant increase in FD in adoption year. Thus for firms in our study, adoption of IFRS is not associated with greater FD in the adoption year.

To extend our analysis in Table 7, we considered firms overall qualitative and quantitative disclosure, that is, their disclosure score based on all 49 checklist items, rather than the subset 19

of 14 key items. Table 8 Models 7 10 provide some further insights to support results in Table 7. Consistent with Models 3 and 4, disclosure in adoption year (a proxy for the level of disclosure to analysts over the course of the year) is significant, but only in relation to qualitative disclosure. In relation to FD, models show a similar pattern. Disclosure in adoption year rather than transition year is significant, but only in relation to quantitative disclosure.

In robustness tests (not tabulated) we include some additional or alternative variables in our models. For example, we include IFRSIMPACT and MATIMPACT (separately) in models 314 instead of EARNSTT. As for EARNSTT, neither variable is significant. We include the measure of the extent of earnings guidance provided by firms as prior studies indicate its relevance for forecasting (Anilowski, Feng and Skinner, 2007; Cotter, Tuna and Wysocki, 2006). However, this variable is not significant in models 3 6. We also include SIZE and NUM (number of analysts) in models 3 6 and results are qualitatively similar. We include proxies for industry sector (financial, materials and other) to control for stronger IFRS effects in some industries, for example more impact of IAS 39 (AASB 139) in the financial sector (Horton et al., 2008) however industry dummies are not significant.

In summary, our findings about adoption year AFE, FD and disclosure are as follows. We tested whether disclosure in transition year financial statements was associated with lower AFE and FD. We did not observe such a relationship, either for overall quantitative and qualitative disclosure or for a disclosure score based on the key items. However, if we assume that disclosure measured in the adoption financial year end financial statements proxies for the level of firm disclosure to analysts during the first year of IFRS, then we observed some of the relationship predicted (that more disclosure is associated with lower AFE and FD). We find that higher levels of qualitative disclosure and disclosure about key items in adoption year is associated with lower AFE and that higher levels of quantitative disclosure are associated with less dispersion.

5. Conclusion

The aim of this study is to investigate whether the adoption of IFRS has been beneficial for analysts following Australian firms and the role of firm disclosure in the adoption process. There are few studies of the properties of analyst forecasts for Australian firms and none 20

which evaluate the impact of IFRS on forecast accuracy and dispersion. A priori, it was not obvious that analysts following Australian firms would benefit from IFRS given the features of the Australian setting, such as high quality accounting and auditing standards, IFRSharmonised standards, active monitoring of the securities market and sophisticated investor communication mechanisms. Given the benefits expected from use of IFRS and the considerable resources devoted to adoption, it is relevant to investigate whether benefits have been realised. In addition, the adoption of IFRS provides an appropriate setting to re-examine the question of the relationship between firm disclosure and the properties of analysts forecasts. Prior research is clear that disclosure is important (Lang and Lundholm, 1996; Hope 2003a, 2003b) and IFRS adoption is a situation where firms have incentives to communicate with analysts about the financial impact of IFRS. Standard setters introduced mandatory standards (AASB 1047 and AAAB 1) to assist in the communication process thus we exploit a setting where the link between financial statement disclosure and the properties of analyst forecasts should be able to be demonstrated empirically.

Our study provides evidence that analysts following Australian firms did benefit from the adoption of IFRS, in that AFE declined and FD did not increase in the adoption year. The result is interesting considering the setting for adoption in Australia. The main drivers for adoption in Australia were improved international comparability and reduced standard setting and preparation costs (Brown and Tarca, 2001). In contrast to the EU setting, where there was considerable between-country diversity in financial reporting and regulation, it does not necessarily follow that adoption in Australia will affect properties of analysts forecasts given their pre-existing understanding of Australian firms and their accounting. Thus our result provides evidence that adoption was beneficial in Australia and provides support the FRCs decision to endorse IFRS.

In relation to the link between firm disclosure and the properties of analyst forecasts, we show that firms which provided more information did benefit from lower forecast error and dispersion. However, our conclusion is based on the assumption that adoption year-end financial statement disclosure about the impact of IFRS proxies for the information set analysts used to forecast earnings. We do not show a direct link between financial statement disclosure about the impact of adoption in the transition year with forecast error and dispersion in the adoption year. It appears that the AASB 1047 transition year-end disclosures were limited in their usefulness for analysts and that additional information provided in the 21

subsequent year was more important. This raises the question for standard setters, preparers and auditors about how mandatory disclosures can be made more useful. It also speaks to the broader issue of the extent to which we should expect financial statements to provide the information analysts need or whether the primary role of financial statements is to capture historical position and performance, leaving analysts to use financial statement information in conjunction with information from other sources. This is an issue worthy of investigation in future research.

Limitations of our study include the relatively small sample size. However, the sample reflects the composition of the Australian market and we include all large firms which had available data. We use hand-collected data to measure disclosure, and despite controls over the coding process, the measures are subject to human error and biases. In addition, we measure disclosure in only two sources, the financial statements and earnings guidance releases. While these are important sources of information for analysts, there are other sources such as press releases and investor briefings which we are not captured in our study. It would be timely for future research to investigate these other channels of disclosure.

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Eng, L.L. and Teo, H.K. 2000. The relation between annual report disclosures, analysts earnings forecasts and analyst following: Evidence from Singapore. Pacific Accounting Review. 11: 219-39. Ernst & Young. 2002. The impact of IAS on the financial reporting of Australian entities. Available from http://www.ey.com.au. Ernst & Young. 2003. Accounting Brief: First time adoption of International Financial Reporting Standards. Available from http://www.ey.com.au. Ernst & Young. 2005 The impact of IFRS on Australian firms: A study of the financial statement disclosures of Australias top 100 firms. Available at http://www.ey.com/Global/assets.nsf/Australia/AABS_TCG_Report/$file/TCG_8-1205.pdf. Ernst & Young. 2006. IFRS: Observations on the Implementation of IFRS. Available at: http://www.ey.com/Global/download.nsf/International/IFRS_Implementation_of_IFRS _Master/$file/EY_IFRS_ImplementationOfIFRS_Master.pdf. Ernstberger, J., S. Krotter and C Stadler, 2008, Analysts' forecast accuracy in Germany: The effect of different accounting principles and changes of accounting principles,BuR Business Research Journal, Vol 1, no. 1. Financial Reporting Council (FRC). 2002. Adoption of International Accounting Standards by 2005, Bulletin of the Financial Reporting Council 3, July. Available at http://www.frc.gov.au. Goodwin, J. and K. Ahmed 2006. The impact of international financial reporting standards: does size matter? Managerial Auditing Journal, 21(5), 460-475. Herrmann, D, Hope, O-K & Thomas, WB, 2007, International Diversification and Forecast Optimism: The Effects of Reg FD, Working Paper at the Oklahoma State University, University of Toronto and University of Oklahoma. Hodgdon, C, Tondkar, RH, Harless, DW & Adhikari, A, 2008, Compliance with IFRS disclosure requirements and individual analysts' forecast errors, Journal of International Accounting, Auditing and Taxation, vol. 17, no. 1, pp. 1-13. Hope, O.K. 2003a. Disclosure Practices, Enforcement of Accounting Standards, and Analysts Forecast Accuracy: An International Study. Journal of Accounting Research, 41(2), 235-72. Hope, O.K. 2003b. Accounting Policy Disclosures and Analysts Forecasts. Contemporary Accounting Research, 20(2), 295-321. Horton, J, G. Serafeim, and I. Serafeim. Does Mandatory IFRS Adoption Improve the Informationh Environment? Working Paper. 2008. International Accounting Standards Board. (IASB). 2002. News IASB Chairman welcomes the EU decision to adopt International Accounting Standards. 7 June. Available at http://www.iasb.org.uk/news. Jensen, M., and Meckling, W. 1976. Theory of the firm: Managerial behaviour, agency costs, and ownership structure. Journal of Financial Economics 3: 305-360. Kent, P. and J. Stewart, 2008, Corporate Governance and Disclosures on the Transition to International Financial Reporting Standards, Accounting and Finance, 48, 649-671. Lang, M., Lundholm, R., 1996, Corporate Disclosure Policy and Analyst Behavior. Accounting Review, 71, 467-492. Leuz, C., and Verrecchia, R.E. 2000. The economic consequences of increased disclosure. Journal of Accounting Research 38: 91-124. Matolcsy, Z., and A. Wyatt, 2006, Capitalized intangibles and financial analysts, Accounting and Finance 46, 457-479. Palmer, P., 2008, Disclosure of impacts of adopting Australian equivalents of International Financial Reporting Standards, Accounting and Finance, 48, 847-870.

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Gallery, G., E. Cooper and J. Sweeting, 2008, Corporate disclosure quality: Lessons from Australian companies on the impact of adopting International Financial Reporting Standards, Australian Accounting Review, 46, 257-273. Sengupta, P. 1998. Corporate disclosure policy and the cost of debt. The Accounting Review, 73:459-74. Verrecchia, R.1983. Discretionary disclosure. Journal of Accounting and Economics, 5, 179194. Wang, X., D. Young, and Z. Zhuang. The effects of mandatory adoption of International Financial Reporting Standards on information environments. Paper for the 2008 American Accounting Association Conference, Anaheim, California, 2007.

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Table 1 Descriptive statistics AFE and FD

Mean Median Std. Dev. Skewness Minimum Maximum Panel A: Absolute forecast error by year (AFE) 4 yrs prior 0.0325 0.0056 3 yrs prior 0.0216 0.0064 2 yrs prior 0.0077 0.0030 Transition 0.0107 0.0052 Adoption 0.0054 0.0027 Post adopt. 0.0066 0.0028 Panel B: Forecast dispersion by year (FD) 4 yrs prior 0.0097 0.0047 3 yrs prior 0.0095 0.0043 2 yrs prior 0.0037 0.0023 Transition 0.0038 0.0027 Adoption 0.0036 0.0026 Post adopt. 0.0053 0.0032

0.1098 0.0533 0.0169 0.0317 0.0074 0.0113

6.2769 4.8837 6.1095 10.5443 2.9381 3.7997

0.0000 0.0000 0.0000 0.0000 0.0000 0.0000

0.8649 0.3639 0.1393 0.3698 0.0425 0.0786

0.0162 0.0204 0.0062 0.0046 0.0031 0.0088

5.1070 5.8243 6.5784 4.6671 3.0301 5.4370

0.0003 0.0004 0.0003 0.0002 0.0003 0.0003

0.1362 0.1630 0.0516 0.0366 0.0239 0.0670

Panel C: Differences between IFRS adoption year and surrounding years Paired Samples t-Test and Wilcoxon Signed Ranks Test AFE FD t Z t Z (p value) (p value) (p value) (p value) Difference from 4 years prior -4.346 3.526 -5.413 4.849 (0.000) (0.000) (0.000) (0.000) Difference from 3 years prior -4.172 4.307 -4.635 4.489 (0.000) (0.000) (0.000) (0.000) Difference from 2 years prior -1.417 -1.060 0.081 1.246 (0.158) (0.290) (0.935) (0.214) Difference from transition year -2.560 -3.226 -0.491 0.241 (0.011) (0.001) (0.624) (0.810) Difference from post adoption year -1.066 0.163 -2.141 -1.717 (0.287) (0.871) (0.033) (0.087) Descriptive statistics for absolute forecast error and forecast dispersion for sample of 145 firms from four years prior to IFRS adoption to one year post adoption. *** significant at p < 0.01, ** significant at p < 0.05, * significant at p < 0.10 two-tailed. IFRS adoption years are financial years ending between 31 December 2005 and 30 November 2006. Transition years are financial years ending between 31 December 2004 and 30 November 2005. AFE = Absolute forecast error for firm j in relation to the first IFRS annual reporting date. Absolute forecast error (AFE) is measured as AFEj,t = (Aj,t Fj,t-3) / AdjPj,t-3 Where Aj,t is firm js actual EPS for the year ended t; Fj,t-3 is firm js median consensus forecast EPS for the year ended t, measured three months prior to time t; and AdjPj,t-3 is firm js price per share three months prior to time t adjusted for the change in median PE over the period 2001-2007. FD = Forecast dispersion for firm j measured 3 months prior to first IFRS annual reporting date , and is captured by the standard deviation of firm js EPS forecasts, scaled by AdjPj,t-3.

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Table 2 Descriptive statistics control variables

LOGSIZE (A$ billion) ACHEARN NUM LOSS Financial Year Mean Median Std. Dev. Mean Median Std. Dev. Mean Median Std. Dev. N All 7.439 7.297 1.460 0.025 0.011 0.047 7.572 8 2.230 28 4 yrs prior 7.170 7.041 1.622 0.038 0.012 0.065 7.632 8 1.855 11 3 yrs prior 7.251 7.076 1.574 0.040 0.019 0.064 6.923 7 1.811 6 2 yrs prior 7.184 6.990 1.457 0.028 0.013 0.050 7.288 7 1.884 3 Transition 7.380 7.092 1.314 0.016 0.009 0.036 7.525 8 1.988 4 Adoption 7.763 7.492 1.282 0.017 0.010 0.024 6.836 7 2.019 1 Post adopt. 7.842 7.742 1.396 0.014 0.009 0.019 9.121 10 2.812 3 Descriptive statistics for control variables for sample of 145 firms from four years prior to IFRS adoption to one year post adoption. IFRS adoption years are financial years ending between 31 December 2005 and 30 November 2006. Transition years are financial years ending between 31 December 2004 and 30 November 2005. LOGSIZE = the natural log of the firms market capitalisation at the beginning of the year. ACHEARN = the absolute value of the difference between the current years actual earnings per share and last years actual earnings per share, deflated by the price at t-3mths. EPS from I/B/E/S excludes goodwill amortisation for all years. LOSS = a dummy variable equal to 1 if the current years earnings per share (from I/B/E/S) is negative, zero otherwise. NUM = the number of analyst earnings forecasts included in the consensus forecast.

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Table 3 Spearman correlation matrix AFE, FD and control variables

Spearman AFE FD PREVERROR PREVDISP LOGSIZE FD 0.440*** PREVERROR 0.264*** 0.305*** PREVDISP 0.372*** 0.516*** 0.416*** LOGSIZE -0.113*** -0.202*** -0.089** -0.185*** ACHEARN 0.383*** 0.395*** 0.350*** 0.358*** -0.114*** Spearman correlation matrix for forecast error and dispersion and control variables for sample of 145 firms from four years prior to IFRS adoption to one year post adoption. *** significant at p < 0.01, ** significant at p < 0.05, * significant at p < 0.10. Extreme values have been winsorised at three standard deviations. AFE = Absolute forecast error for firm j in relation to the first IFRS annual reporting date. Absolute forecast error (AFE) is measured as AFEj,t = (Aj,t Fj,t-3) / AdjPj,t-3 Where Aj,t is firm js actual EPS for the year ended t; Fj,t-3 is firm js median consensus forecast EPS for the year ended t, measured three months prior to time t; and AdjPj,t-3 is firm js price per share three months prior to time t adjusted for the change in median PE over the period 2001-2007. FD = Forecast dispersion for firm j measured 3 months prior to first IFRS annual reporting date , and is captured by the standard deviation of firm js EPS forecasts, scaled by AdjPj,t-3. LOGSIZE = the natural log of the firms market capitalisation at the beginning of the year. PREVERROR = absolute value of last years forecast error, measured at the corresponding month in the previous year. PREVDISP = last years forecast dispersion, measured at the corresponding month in the previous year. ACHEARN = the absolute value of the difference between the current years actual earnings per share and last years actual earnings per share, deflated by the price at t-3mths. EPS from I/B/E/S excludes goodwill amortisation for all years.

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Table 4 Descriptive statistics IFRS adoption impact and disclosures variables

Mean Panel A: Impact of IFRS adoption IFRSIMPACT 9.906 EARNSTT -0.073 MATIMPACT 1.472 Median Std. Dev. Minimum Maximum Skewness

9.000 -0.034 1.000

4.978 0.120 1.632

1.000 -0.444 0.000

21.000 0.245 6.000

0.437 -1.564 1.018

Panel B: Disclosures about the impact of IFRS adoption FSDisc_T 13.331 12.000 FSDisc_A 20.677 18.000 QUAL_T 43.882 37.000 QUAL_A 65.961 54.000 QUANT_T 25.811 21.000 QUANT_A 49.693 43.000

9.887 14.966 26.871 42.637 23.332 35.886

0.000 0.000 0.000 2.000 0.000 0.000

55.000 97.000 145.000 246.000 118.000 192.000

1.448 1.650 1.119 1.692 1.240 1.424

Descriptive statistics for IFRS adoption impact and disclosures variables for sample firms in adoption year. IFRSIMPACT = number of financial statement items which change following IFRS adoption as shown in IFRS reconciliation statement at transition. MATIMPACT = number of financial statement items which change following IFRS adoption as shown in IFRS reconciliation statement at transition which are material items (greater than 5% of relevant financial statement category total). EARNSTT = the extent of change in earnings, AGAAP compared to IFRS at transition year-end i.e. (EarnIFRS-EarnAGAAP)/Absolute value EarnAGAAP. FSDisc_T (FSDisc_A) = firms IFRS impact disclosure in the financial statements about key items (financial instruments, share-based payment, employee entitlements, impairment, intangible assets and tax effects, see checklist Appendix) at transition (adoption) year-end; QUAL_T (QUAL_A) = the IFRS impact disclosure in the financial statements of a qualitative nature based on 49 item checklist (see Appendix) at transition (adoption) year-end; QUANT_T (QUANT_A) = the IFRS impact disclosure in the financial statements of a quantitative nature based on 49 item checklist (see Appendix) at transition (adoption) year-end. Qualitative statements are disclosures that do not include numerical estimation. Quantitative statements are disclosures that include numerical estimation. Disclosure scores are winsorised at three standard deviations to exclude outliers.

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Table 5 Spearman correlation matrix IFRS financial impact, IFRS impact disclosure and control variables
MATIMPACT IFRSIMPACT ACHEARN QUANT_A QUANT_T EARNSTT LOGSIZE FSDisc_A

FSDisc_T

QUAL_A

QUAL_T

SWITCH

EARNSTT -0.158* MATIMPACT 0.373*** -0.135 FSDisc_T 0.329*** 0.173* -0.016 FSDisc_A 0.528*** 0.008 0.069 0.586*** QUAL_T 0.120 0.836*** 0.594*** 0.447*** -0.012 QUAL_A 0.624*** -0.048 0.192** 0.487*** 0.897*** 0.587*** QUANT_T 0.380*** 0.068 0.066 0.818*** 0.520*** 0.882*** 0.498*** QUANT_A 0.589*** -0.068 0.189** 0.499*** 0.867*** 0.584*** 0.934*** 0.518*** ACHEARN 0.067 0.083 0.007 0.185** 0.028 0.049 0.001 0.018 0.009 LOGSIZE 0.456*** -0.083 0.027 0.311*** 0.374*** 0.381*** 0.417*** 0.299*** 0.305*** -0.034 SWITCH 0.180** -0.082 0.112 -0.140 0.192** -0.139 0.059 -0.259*** -0.252*** 0.388*** -0.066 EG_T 0.020 0.097 -0.229*** 0.196** 0.194** 0.145 0.130 0.072 0.177** 0.036 0.049 0.127 EG_A 0.243*** 0.121 -0.077 0.338*** 0.321*** 0.332*** 0.293*** 0.284*** 0.319*** -0.048 0.148* 0.107 0.471*** NUM 0.281*** -0.170* 0.073 0.103 0.271*** 0.142 0.250*** 0.074 0.203** 0.024 0.453*** -0.192** 0.039 -0.013 *** significant at p < 0.01, ** significant at p < 0.05, * significant at p < 0.10. IFRSIMPACT = number of financial statement items which change following IFRS adoption as shown in IFRS reconciliation statement at transition. MATIMPACT = number of financial statement items which change following IFRS adoption as shown in IFRS reconciliation statement at transition which are material items (greater than 5% of relevant financial statement category total). EARNSTT = the extent of change in earnings, AGAAP compared to IFRS at transition year-end i.e. (EarnIFRS-EarnAGAAP)/Absolute value EarnAGAAP. FSDisc_T (FSDisc_A) = firms IFRS impact disclosure in the financial statements about key items (financial instruments, share-based payment, employee entitlements, impairment, intangible assets and tax effects, see checklist Appendix) at transition (adoption) year-end; QUAL_T (QUAL_A) = the IFRS impact disclosure in the financial statements of a qualitative nature based on 49 item checklist (see Appendix) at transition (adoption) year-end; QUANT_T (QUANT_A) = the IFRS impact disclosure in the financial statements of a quantitative nature based on 49 item checklist (see Appendix) at transition (adoption) year-end. Qualitative statements are disclosures that do not include numerical estimation. Quantitative statements are disclosures that include numerical estimation. Disclosure scores are winsorised at three standard deviations to exclude outliers. ACHEARN = the absolute value of the difference between the current years actual earnings per share and last years actual earnings per share, deflated by the price at t-3mths. EPS from IBES excludes goodwill amortisation for all years. LOGSIZE = the natural log of the firms market capitalisation at the beginning of the year. SWITCH = the proportion of analysts that have switched to forecasting IFRS earnings three months prior to adoption year end. EG_T = measure of management earnings guidance in transition year where the score takes on a value of between 0 and 4. 1 point is assigned for each of: (a) earnings guidance is provided, (b) guidance includes a quantitative estimate of earnings, (c) point rather than range guidance, (d) guidance is provided in a separate announcement. EG_A = measure of management earnings guidance in adoption year. NUM = the number of analyst earnings forecasts included in the consensus forecast. NUM = the number of analyst earnings forecasts included in the consensus forecast.

30

EG_A

EG_T

Table 6 Pooled regression results AFE and FD

Model 1 AFE Coeff. (t stat) 0.0047 (0.447) -0.0013 (-0.993) -0.0054 (-3.488)*** -0.0043 (-2.266)** 0.0023 (1.446) -0.2696 (-8.931)*** Model 2 FD Coeff. (t stat) 0.0108 (2.893)*** -0.0008 (-1.529) -0.0002 (-0.348) 0.0012 (1.745)* -0.0017 (-2.900)***

Intercept TRANS ADOPT POST LOGSIZE PREVERROR PREVDISP ACHEARN LOSS NUM

0.2593 (13.357)*** 0.0579 (12.392)*** -0.0004 (-0.914)

0.0601 (1.489) 0.0162 (2.971)*** 0.0043 (2.839)*** 0.0000 (0.097)

Firm fixed effects YES YES Adjusted R2 0.5999 0.4731 F statistic 7.1154*** 4.6624*** N 621 621 Pooled regressions comparing absolute forecast error and forecast dispersion between IFRS adoption year and surrounding years for 621 firm-years. *** significant at p < 0.01, ** significant at p < 0.05, * significant at p < 0.10 two-tailed. Extreme values have been winsorised at three standard deviations. TRANS, ADOPT and POST are dummy variables that are equal to one if the observation is from the transition, adoption or post adoption year respectively. (Years prior to transition are captured in the intercept term). The IFRS adoption years are financial years ending between 31 December 2005 and 30 November 2006. Transition years are financial years ending between 31 December 2004 and 30 November 2005. AFE = Absolute forecast error for firm j in relation to the first IFRS annual reporting date. Absolute forecast error (AFE) is measured as AFEj,t = (Aj,t Fj,t-3) / AdjPj,t-3 Where Aj,t is firm js actual EPS for the year ended t; Fj,t-3 is firm js median consensus forecast EPS for the year ended t, measured three months prior to time t; and AdjPj,t-3 is firm js price per share three months prior to time t adjusted for the change in median PE over the period 2001-2007. LOGSIZE = the natural log of the firms market capitalisation at the beginning of the year. PREVERROR = absolute value of last years forecast error, measured at the corresponding month in the previous year. PREVDISP = last years forecast dispersion, measured at the corresponding month in the previous year. ACHEARN = the absolute value of the difference between the current years actual earnings per share and last years actual earnings per share, deflated by the price at t-3mths. EPS from I/B/E/S excludes goodwill amortisation for all years. LOSS = a dummy variable equal to 1 if the current years earnings per share (from I/B/E/S) is negative, zero otherwise. NUM = the number of analyst earnings forecasts included in the consensus forecast.

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Table 7 Regression Results AFE and FD Adoption year and Disclosure Scores
AFE Model 3 Coeff. (t-stat) 0.0071 (3.322)*** -0.0102 (-1.450) Model 4 Coeff. (t-stat) 0.0081 (3.631)*** Model 5 Coeff. (t-stat) 0.0045 (6.191)*** -0.0022 (-0.942) FD Model 6 Coeff. (t-stat) 0.0048 (6.284)***

Intercept FSDisc_T (100) FSDisc_A (100) EARNSTT ACHEARN PREVERROR PREVDISP SWITCH

0.0040 (0.728) 0.1211 (3.382)*** -0.0519 (-0.952)

-0.0093 (-2.021)** 0.0040 (0.732) 0.1187 (3.352)*** -0.0534 (-0.988)

0.0013 (0.700) 0.0204 (2.176)**

-0.0023 (-1.529) 0.0013 (0.724) 0.0197 (2.111)**

-0.0022 (-0.926)

-0.0028 (-1.212)

0.1475 (2.443)** -0.0021 (-2.637)***

0.1476 (2.459)** -0.0022 (-2.876)***

Adjusted R2 0.0965 0.1110 0.0965 0.1110 F statistic 3.671*** 4.121*** 0.000*** 0.000*** N 126 126 126 126 Regression models investigating factors associated with absolute forecast error and forecast dispersion in adoption year. *** significant at p < 0.01, ** significant at p < 0.05 two-tailed, * significant at p < 0.10 two tailed. Extreme values have been winsorised at three standard deviations. AFE = Absolute forecast error for firm j in relation to the first IFRS annual reporting date. Absolute forecast error (AFE) is measured as AFEj,t = (Aj,t Fj,t-3) / AdjPj,t-3 Where Aj,t is firm js actual EPS for the year ended t; Fj,t-3 is firm js median consensus forecast EPS for the year ended t, measured three months prior to time t; and AdjPj,t-3 is firm js price per share three months prior to time t adjusted for the change in median PE over the period2001-2007. FSDisc_T (FSDisc_A) = firms IFRS impact disclosure in the financial statements about key items (financial instruments, share-based payment, employee entitlements, impairment, intangible assets and tax effects, see checklist Appendix) at transition (adoption) year-end; EARNSTT = the extent of change in earnings, AGAAP compared to IFRS at transition year-end i.e. (EarnIFRS-EarnAGAAP)/Absolute value EarnAGAAP. ACHEARN = the absolute value of the difference between the current years actual earnings per share and last years actual earnings per share, deflated by the price at t-3mths. EPS from IBES excludes goodwill amortisation for all years. PREVERROR = absolute value of last years forecast error, measured at the corresponding month in the previous year. PREVDISP = last years forecast dispersion, measured at the corresponding month in the previous year. SWITCH = the proportion of analysts that have switched to forecasting IFRS earnings three months prior to adoption year end.

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Table 8 Regression Results AFE and FD Adoption year and Qualitative and Quantitative Disclosure Scores
Model 7 Coeff. (t-stat) 0.0072 (3.323)*** -0.0034 (-1.373) AFE Model 8 Model 9 Coeff. Coeff. (t-stat) (t-stat) 0.0066 0.0083 (3.169)*** (3.554)*** FD Model 10 Coeff. (t-stat) 0.0078 (3.453)*** Model 11 Coeff. (t-stat) 0.0046 (6.196)*** -0.0009 (-1.103) Model 12 Coeff. (t-stat) 0.0045 (6.311)*** Model 13 Coeff. (t-stat) 0.0049 (6.157)*** Model 14 Coeff. (t-stat) 0.0050 (6.590)***

Intercept QUAL_T (100) QUANT_T (100) QUAL_A (100) QUANT_A (100) EARNSTT ACHEARN PREVERROR PREVDISP SWITCH

-0.0031 (-1.069) -0.0029 (-1.815)* -0.0030 (-1.629) 0.0036 (0.647) 0.1183 (3.321)*** -0.0476 (-0.878)

-0.0012 (-1.246) -0.0008 (-1.500) -0.0013 (-2.155)** 0.0013 (0.724) 0.0204 (2.216)**

0.0029 (0.527) 0.1179 (3.302)*** -0.0511 (-0.936)

0.0032 (0.571) 0.1171 (3.269)*** -0.0470 (-0.862)

0.0038 (0.691) 0.1167 (3.288)*** -0.0489 (-0.904)

0.0010 (0.569) 0.0197 (2.109)**

0.0011 (0.615) 0.0199 (2.134)**

0.0013 (0.709) 0.0199 (2.138)**

-0.0023 (-0.951)

-0.0024 (-1.000)

-0.0031 (-1.315)

-0.0031 (-1.311)

0.1474 (2.445)** -0.0021 (-2.614)**

0.1471 (2.442)** -0.0020 (-2.555)**

0.1432 (2.380)** -0.0023 (-2.952)***

0.1446 (2.431)** -0.0023 (-2.993)***

0.0949 0.0894 0.1053 0.1006 0.0949 0.0894 0.1053 0.1006 Adjusted R2 F statistic 3.622*** 3.454*** 3.942*** 3.796*** 0.000*** 0.000*** 0.000*** 0.000*** N 126 126 126 126 126 126 126 126 Regression models investigating factors affecting absolute forecast error and forecast dispersion in adoption year. *** significant at p < 0.01, ** significant at p < 0.05 twotailed, * significant at p < 0.10 two tailed. Extreme values have been winsorised at three standard deviations. AFE = Absolute forecast error for firm j in relation to the first IFRS annual reporting date. Absolute forecast error (AFE) is measured as AFEj,t = (Aj,t Fj,t-3) / AdjPj,t-3 Where Aj,t is firm js actual EPS for the year ended t; Fj,t-3 is firm js median consensus forecast EPS for the year ended t, measured three months prior to time t; and AdjPj,t-3 is firm js price per share three months prior to time t adjusted for the change in median PE over the period2001-2007. FD = Forecast dispersion for firm j measured 3 months prior to first IFRS annual reporting date , and is captured by the standard deviation of firm js EPS forecasts, scaled by AdjPj,t-3. FSDisc_T (FSDisc_A) = firms IFRS impact disclosure in the financial statements about key items (financial instruments, share-based payment, employee entitlements, impairment, intangible assets and tax effects, see checklist Appendix) at transition (adoption) year-end; QUAL_T

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(QUAL_A) = the IFRS impact disclosure in the financial statements of a qualitative nature based on 49 item checklist (see Appendix) at transition (adoption) year-end; QUANT_T (QUANT_A) = the IFRS impact disclosure in the financial statements of a quantitative nature based on 49 item checklist (see Appendix) at transition (adoption) year-end. Qualitative statements are disclosures that do not include numerical estimation. Quantitative statements are disclosures that include numerical estimation. Disclosure scores are winsorised at three standard deviations to exclude outliers. EARNSTT = the extent of change in earnings, AGAAP compared to IFRS at transition year-end i.e. (EarnIFRS-EarnAGAAP)/Absolute value EarnAGAAP. ACHEARN = the absolute value of the difference between the current years actual earnings per share and last years actual earnings per share, deflated by the price at t-3mths. EPS from IBES excludes goodwill amortisation for all years. PREVERROR = absolute value of last years forecast error, measured at the corresponding month in the previous year. PREVDISP = last years forecast dispersion, measured at the corresponding month in the previous year. SWITCH = the proportion of analysts that have switched to forecasting IFRS earnings three months prior to adoption year end.

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Appendix Financial Statement Disclosure Coding Checklist

Category Sub-item Account Group A Financial Performance 1 0 Revenue total 2 0 Expenses total *2 1 Share based compensation expense *2 2 Defined benefit plan expense (defined contribution, actuarial gain/loss) *2 3 Impairment *2 4 Amortisation 2 5 Depreciation 2 6 Leases expense *2 7 R&D expense 2 8 Administration and branch expenses 2 9 Foreign currency (gain)/loss *2 10 Financial instruments (gain)/loss 2 11 Cost of sales 2 12 Rental expense *2 13 Development expense 2 14 Restoration expense 2 16 Operating expense 2 17 Other expenses 3 1 Profit associates (equity accounting, incomes from investments in associates) 3 2 Profit joint ventures 3 3 Operating profit before tax *3 4 Tax 3 5 Discontinued operations 3 6 Net profit after tax 4 1 EPS 4 2 ROE Group B Financial Position 5 0 Assets total *5 1 Assets financial instruments *5 2 Assets defined benefit plan and employee share plan assets *5 3 Assets intangibles, goodwill, R&D, E&E 6 0 Liabilities total *6 1 Liabilities financial instruments *6 2 Liabilities defined benefit plan and employee share plan liabilities 7 0 Equity total 7 1 Equity foreign currency reserve *7 2 Equity financial instruments reserve 7 3 Equity retained earnings 8 1 Net Assets 8 2 Net Debt 8 3 Net Equity Group C IFRS Comments 9 0 Impact statements 10 0 Volatility statements 11 1 Plan 11 2 Process 11 3 Comparability (international) 11 4 External advice 11 5 Uncertainty 11 6 Miscellaneous All items of IFRS impact disclosure in the relevant annual reports are score as 1 on the checklist, thus providing a measure of amount of disclosure, by category. Items are scored 1 for every time they appear in separate discussion in the annual report. Items are classified as qualitative (no numerical estimation) and quantitative (includes numerical estimation) disclosure. The 14 checklist items marked with and asterisk * are included in a

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firms score on key disclosure items, based on the AASB 1047 statement of areas where policies are likely to change under IFRS.

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