Mandatory IFRS Adoption and the Usefulness of Accounting Information in Predicting Future Earnings and Cash Flows

47 Pages Posted: 10 Apr 2017

See all articles by Siyi Li

Siyi Li

University of Illinois at Chicago

Theodore Sougiannis

University of Illinois at Urbana-Champaign - Department of Accountancy

Sophia Wang

California State University, Fullerton

Date Written: April 7, 2017

Abstract

We examine whether the mandatory adoption of International Financial Reporting Standards (IFRS) has changed the usefulness of accounting information in predicting future earnings and cash flows out-of-sample. Using a sample of firms from European Union countries that mandatorily adopted IFRS in 2005, we find the out-of-sample earnings and cash flows forecasts derived from alternative accounting models become significantly more accurate after IFRS adoption. The accuracy, however, varies with the strength of legal and regulatory enforcement. Firms in strong enforcement countries experience larger improvements in earnings forecast accuracy than firms in weak enforcement countries but the opposite happens for cash flow forecasts. Accruals are useful in the prediction of both earnings and cash flows, but again their usefulness varies with the strength of the legal and regulatory environment. Portfolios of stocks based on the out-of-sample forecasts earn economically significant 12-month ahead hedge returns after IFRS adoption, which corroborates the detected forecast accuracy improvements. Overall, the study contributes to the IFRS literature by providing new evidence that an important dimension of accounting quality, predictive ability, has improved after mandatory IFRS adoption.

Keywords: IFRS, out-of-sample prediction, earnings, cash flows

JEL Classification: M41, G15, G17, G18

Suggested Citation

Li, Siyi and Sougiannis, Theodore and Wang, Sophia, Mandatory IFRS Adoption and the Usefulness of Accounting Information in Predicting Future Earnings and Cash Flows (April 7, 2017). Available at SSRN: https://ssrn.com/abstract=2948775 or http://dx.doi.org/10.2139/ssrn.2948775

Siyi Li (Contact Author)

University of Illinois at Chicago ( email )

601 South Morgan Street
University Hall, Room 2303
Chicago, IL 60607
United States
312-996-0727 (Phone)

Theodore Sougiannis

University of Illinois at Urbana-Champaign - Department of Accountancy ( email )

360 Wohlers Hall
1206 South Sixth Street
Champaign, IL 61820
United States
217-244-0555 (Phone)
217-244-0902 (Fax)

Sophia Wang

California State University, Fullerton ( email )

P.O. Box 34080
Fullerton, CA 92834-6848
United States

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