Assessing the Financial Reporting Consequences of Conversion to IFRS: The Case of Equity-Based Compensation

Abstract

The potential conversion of accounting standards from U.S. GAAP to International Financial Reporting Standards (IFRS) raises the issue of unknown financial reporting consequences. We consider one important accounting issue, namely equity-based compensation, and study how IFRS conversion will affect financial statements and the quality of reported numbers. The difference between the two standards is that IFRS reports tax benefits from equity-based compensation at their intrinsic value each period. This amounts to quasi fair-value accounting under IFRS compared to historic-cost accounting under GAAP. We develop and compare pro forma GAAP and IFRS accounting reports for a broad cross section of US firms. We find that IFRS conversion will significantly increase deferred tax assets and recognized tax benefits for about one-third of our sample firms. Moreover, reported tax items are more volatile under IFRS. Importantly, we find that IFRS tax items are better able to predict future cash flows. One conclusion is that IFRS improves the relevance, and thereby, the quality, of at least some reported numbers.

Keywords: IFRS, stock-options, tax benefits, relevance

JEL Classification: M41, G15