Do Corporate Governance Mechanisms Impact on Earnings Quality? Evidence from IFRS Adoption in European Union
Posted: 12 Feb 2013 Last revised: 21 Aug 2016
Date Written: March 21, 2013
This study primarily explores the impact of International Financial Reporting Standards mandatory adoption on accruals quality in the United Kingdom and Germany from 2001 to 2009. Besides accounting standard, we argue that the effectiveness of corporate governance mechanisms could be used as a proxy for preparer incentive in financial reporting and therefore should be recognised as a determinant of accruals quality. This study operationalizes preparer incentive using a self-constructed corporate governance score (CGS) which measures the effectiveness of adopted corporate governance mechanisms on firm level. We examine the joint impact of accounting standard and preparer incentive on accruals quality using a stepwise method. Our results suggest that IFRS alone generally improves accruals quality in the post-adoption period. Furthermore, IFRS and effective governance mechanisms are substitutes in improving accruals quality in shareholder-oriented economy, whereas they are partial complements in stakeholder-oriented economy. The contribution is threefold. First, it provides evidence to the debate of accounting standard versus preparer incentive on accounting quality as initiated in Ball et al. (2003) by conducting a joint test of the two determinants for accruals quality. Second, we construct CGS based on manually collected data and follow Jones et al.’s (2008) suggestion to incorporate it in the modified Dechow and Dichev (2002) model to improve its explanatory power. Third, we investigate the role of preparer incentive in accruals quality under different legal/accounting settings.
Our findings are of particular importance to accounting standard setters. The empirical evidence documented in this study can facilitate standard setter’s policy-making regarding the controversy about whether adopting high quality accounting standard is sufficient to improve financial reporting quality.
Keywords: earnings quality, incentives and corporate governance, international financial reporting standards (IFRS)
JEL Classification: M41, G34
Suggested Citation: Suggested Citation