IFRS Implementation in The European Union and The Survival of [PDF]

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Advances in Accounting, incorporating Advances in International Accounting 30 (2014) 187–195



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Advances in Accounting, incorporating Advances in International Accounting journal homepage: www.elsevier.com/locate/adiac



IFRS implementation in the European Union and the survival of accounting families Arno Forst ⁎ Kent State University, Department of Accounting, P.O. Box 5190, Kent, OH 44242-0001, United States



a r t i c l e



i n f o



Available online 14 April 2014 Keywords: International Financial Reporting Standards IFRS IAS IFRS adoption accounting system classifications



a b s t r a c t This study examines eight IFRS implementation choices available to European Union (EU) and European Economic Area (EEA) member countries under the EU's 2002 IAS Regulation. Great disparities in IFRS implementation exist among the countries covered under the Regulation, including statistically significant differences in the IFRS elections for financial and non-financial firms. Using hierarchical cluster analysis, a classification of EU and EEA member countries according to similarities and differences in their IFRS implementation is developed, which identifies an IFRS antagonistic, an IFRS leaning, and an IFRS integrated group. These groupings may provide a springboard for future studies on effects of IFRS implementation differences. Following Meek and Thomas (2004) call to study the continuing relevance of taxonomies of accounting systems in the IFRS era, the study also provides evidence for a survival of the traditional micro-based vs. macro-uniform, strong vs. weak equity market, and outsider vs. insider economy classifications of accounting systems into the IFRS implementation decisions of EU and EEA member countries. These results suggest that traditional accounting system classifications remain important in the post-IFRS era. © 2014 Elsevier Ltd. All rights reserved.



1. Introduction The European Union's (EU's) passage of Regulation No 1606/2002 of the European Parliament and of the Council of 19 July 2002 on the application of international accounting standards1 (hereafter: the IAS Regulation), which requires that publicly traded firms prepare their consolidated financial statements based on International Financial Reporting Standards (IFRS), has been hailed as a major milestone toward the convergence of financial reporting internationally (Armstrong, Barth, Jagolinzer, & Riedl, 2010). Not surprisingly, the IAS Regulation, which applies to the twenty-seven member states of the EU,2 as well as to the three members of the European Economic Area (EEA),3 has attracted considerable research interest (Byard, Li, & Yu, 2011; Daske, Hail, Leuz, & Verdi, 2008; Zeghal, Chtourou, & Fourati, 2013). One area that has received limited attention to date is the different ways IFRS have been, and ⁎ Tel.: +1 330 672 1113. E-mail address: [email protected]. 1 Available at http://eurlex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2002:243: 0001:0004:EN:PDF (last accessed August 29, 2013). 2 After the most recent expansion of the EU on January 1, 2007, the 27 EU member countries are Austria, Belgium, Bulgaria, Cyprus, the Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Ireland, Italy, Latvia, Lithuania, Luxembourg, Malta, the Netherlands, Poland, Portugal, Romania, Slovakia, Slovenia, Spain, Sweden, and the United Kingdom. 3 Following an agreement with the EU, the three member countries of the EEA—Iceland, Liechtenstein and Norway—are obligated to adopt all EU legislation related to the EU single market, but in turn are allowed to participate in the EU's single market without formal EU membership.



http://dx.doi.org/10.1016/j.adiac.2014.03.006 0882-6110/© 2014 Elsevier Ltd. All rights reserved.



continue to be, implemented among the member states of the EU and EEA (Nobes, 2008; Sellhorn & Gornik-Tomaszewski, 2006). The present study examines cross-country differences in IFRS implementation choices under the IAS Regulation with the goal of making two distinct contributions. First, it introduces a classification of EU and EEA member countries based on differences in IFRS implementation. Second, it examines the relevance of traditional accounting system classifications for the IFRS implementation choices of EU and EEA member states in order to provide evidence for the continuing relevance of accounting classifications in the IFRS era. Differences in accounting attributes internationally are well documented, for instance, in value relevance (Ali & Hwang, 2000), conservatism (Ball, Kothari, & Robin, 2000), and earnings management (Leuz, Nanda, & Wysocki, 2003). Will these differences disappear as the member states of the EU and EEA adopt a uniform, standardized accounting framework? One reason why differences in accounting may continue to exist in the IFRS era, it is argued, is cross-country differences in the implementation of IFRS. Soderstrom and Sun (2007), for example, conjecture that accounting quality is not just a function of the accounting standard followed, but also of the legal and political environment of the country in which a firm is domiciled. Accordingly, they surmise, differences in accounting attributes are likely to persist following the adoption of IFRS. In a similar vein, Ball (2006) voices concern that widespread IFRS adoption will mislead investors into believing that there is more uniformity in practice than actually is the case. Uneven implementation of IFRS, for instance, because of differences in IFRS enforcement regimes, Ball cautions, will cause differences in accounting



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quality, which are hidden “under the rug” of seemingly uniform standards. While Ball (2006) calls for increased attention to IFRS implementation differences, to date no classification of countries according to differences in IFRS implementation has been attempted. The present study develops a taxonomy of EU and EEA countries based on similarities in the exercise of their IFRS implementation options.4 This research advances the studies by Sellhorn and GornikTomaszewski (2006) and Nobes (2008), which have brought to the fore the idea that the accounting regimes of EU and EEA member states in the IFRS era can be, and should be, grouped based on characteristics of their IFRS implementation choices. I further investigate the relevance of traditional accounting classifications for the IFRS implementation choices of EU and EEA member states. Meek and Thomas (2004) call for an examination of the continuing importance of traditional distinctions of accounting systems upon universal adoption of IFRS. One study addressing this question is Nobes (2008). Nobes (2008) presents evidence that EU and EEA member states' election to require IFRS or domestic GAAP for unconsolidated (single-entity) accounts is consistent with his prior (Nobes, 2008) dichotomous classification of accounting systems into “Class A” (strong equity, commercially driven) and “Class B” (weak equity, government driven, tax-dominated) systems. This study extends Nobes (2008) research by examining a classification of EU and EEA member countries based on eight IFRS implementation choices. Such classification is likely to capture a given country's disposition towards IFRS more reliably than the examination of one individual election only. Moreover, I examine the linking of earlier classifications of accounting regimes to IFRS implementation choices more comprehensively by assessing three frequently used accounting classifications. In addition to the Nobes (1998, 2008) taxonomy of strong and weak equity countries, this paper also examines the classification of accounting systems into macro-uniform and micro-based systems (Doupnik & Salter, 1993; Nobes, 1983), and the three-cluster categorization put forward by Leuz et al. (2003) and Leuz (2010). Significant differences exist in the IFRS implementation elections of EU and EEA member countries. Not only do differences exist among countries, but also within each country, as all EU and EEA member countries make discriminating decisions to require, permit, or not allow the use of IFRS for certain groups of firms, or certain types of accounts (single-entity or consolidated) only. Most notably, fourteen of thirty EU and EEA member countries differentiate between financial and non-financial firms with respect to the use of IFRS in one way or another. These differences are statistically significant for the treatment of single-entity and consolidated accounts of private firms. Agglomerative hierarchical cluster analysis of IFRS implementation elections reveals the existence of three distinct groupings with respect to the level of IFRS implementation: IFRS antagonistic, IFRS leaning, and IFRS integrated countries. The cluster of IFRS antagonistic countries comprised largely of a core group of Continental European countries influenced by German and French accounting practice. A second group, which is IFRS leaning, encompasses chiefly UK-influenced and Scandinavian countries. Primarily smaller and/or formerly communist central and eastern European countries make up a third group of IFRS integrated countries. Interestingly, several countries defy common expectation, for instance, Italy and Greece, which are members of the IFRS integrated group. Further analyses demonstrate that the empirical categorization of countries into IFRS antagonistic, leaning and integrated countries is statistically significantly associated with the accounting system



4 Countries' elections with respect to the single entity accounts of public firms, the single entity accounts of private firms, and the consolidate accounts of private firms, are examined separately for financial and non-financial firms, thus contributing six implementation choices. In addition, I consider countries' decision to defer, or not defer, application of IFRS for issuers of debt only, and firms applying other GAAP due to a listing in a non-EU country.



categorization by Doupnik and Salter (1993), Nobes (1998, 2008), and Leuz (2010). Overall, the results provide evidence—consistent with Nobes (2008) and contrary to Meek and Thomas (2004) conjecture— that traditional accounting classifications continue to be influential in the IFRS era. The following section reviews the pertinent literature and develops the research questions to be addressed; the third section presents data on EU and EEA member states' exercise of implementation options under the IAS Regulation. The empirical analysis and discussion of results follow in section four. Section five summarizes the findings and concludes with suggestions for future research.



2. Literature review and development of research questions A large body of literature has examined cross-country differences in social, legal, and macro-economic factors in order to establish international accounting families that enable observed differences in accounting practices to be explained.5 The earlier research on accounting system classifications generally derived groupings of countries from an intuitive categorization of national environmental factors identified as the driving forces underlying a given country's accounting system (Mueller, 1968; Seidler, 1967). Among these earlier classification studies, Nobes (1983) can be credited with introducing the widely used differentiation of macro-uniform and micro-based accounting systems, which are based on a country's legal and economic foundations. In macro-uniform countries, accounting is subordinated to national economic policies, whereas countries characterized as micro-based have market-oriented economies, in which accounting is independent of government. Later accounting classification studies, such as Nair and Frank (1980), derive classifications of countries primarily from comparative statistical analyses of financial reporting rules or practices. For instance, Doupnik and Salter (1993) advance—and empirically verify—Nobes (1983) conjecture by deriving a classification of countries with similar accounting practices using hierarchical cluster analysis. Their detailed nine-cluster classification conforms at the most fundamental level to the dichotomous structure of accounting systems proposed by Nobes (1983). Panel A of Table 1 presents Doupnik and Salter's (1993) frequently used (Hora, Tondkar, & McEwen, 2003; Nikkinen & Sahlström, 2004) categorization of countries into micro-based and macro-uniform accounting regimes. Nobes (1998) reformulates his earlier classification and proposes a categorization of accounting systems based on the strength of the equity market in each country. He argues that the prevalent financing system drives the function of accounting and, thereby, defines the properties of the accounting system. His updated classification of accounting systems into strong equity, commercially driven (“Class A”), and a weak equity, government driven, tax dominated (“Class B”) systems, closely follows the earlier micro-based versus macro-uniform distinction, with UK and US GAAP forming the strong equity group and French, German, and Italian GAAP making up the weak equity group. In 2008, Nobes expanded his taxonomy to include all EU member countries not included in his earlier paper. Panel B of Table 1 displays his categorization. Leuz et al. (2003), exploring cross-country differences in earnings management, also emphasize the strength of a given country's equity market and propose a grouping of countries based on investor protection, stock-market development, and ownership concentration. Using k-means cluster analysis with three predetermined clusters, they classify countries into insider and outsider economies with strong and weak legal enforcement. Panel C of Table 3 shows this classification as modified in Leuz (2010). In the context of IFRS, the Leuz et al. (2003) and 5 The literature on accounting systems classifications is voluminous. Emphasis is based in the following on those studies that are used as reference points in the following empirical analyses. Nobes (2011) provides a more complete review of the accounting classification literature, incorporating much of the older literature. In addition, D'Arcy (2001) comprehensively covers studies that have based accounting classifications on cultural and environmental factors, which have been left out here entirely for brevity.



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Table 1 Prior accounting classifications. Panel A: Doupnik and Salter (1993) two-cluster solution Micro-based



Macro-uniform



EU and EEA member countries: Ireland, Luxembourg, Netherlands, United Kingdom Other countries: Australia, Bermuda, Botswana, Canada, Hong Kong, Israel, Jamaica, Malaysia, Namibia, Netherlands Antilles, New Zealand, Nigeria, Papua New Guinea, Philippines, Singapore, South Africa, Sri Lanka, Taiwan, Trinidad United States, Zambia, Zimbabwe



EU and EEA member countries: Belgium, Denmark, Finland, France, Germany, Italy, Norway, Portugal, Spain, Sweden Other countries: Argentina, Brazil, Chile, Colombia, Costa Rica, Egypt, Japan, Korea, Liberia, Mexico, Panama, Saudi Arabia, Thailand, United Arab Emirates



Panel B: Nobes (2008) classification Class A (strong equity, commercially driven)



Class B (weak equity, government driven, tax-dominated)



Cyprus, Denmark, Ireland, Malta, Netherlands, Norway, United Kingdom



Austria, Belgium, Czech Republic, Estonia, Finland, France, Germany, Greece, Hungary, Italy, Latvia, Lithuania, Luxembourg, Poland, Portugal, Slovakia, Slovenia, Spain, Sweden, Switzerland



Panel C: Leuz (2010) cluster membership of countries Outsider economies with strong legal enforcement



Insider economies with strong legal enforcement



Insider economies with weak legal enforcement



EU and EEA member countries: Ireland, United Kingdom



EU and EEA member countries: Austria, Belgium, Denmark, Finland, France, Germany, Netherlands, Norway, Spain, Sweden Other countries: Chile, Japan, Korea (South), Switzerland



EU and EEA member countries: Greece, Italy, Portugal



Other countries: Australia, Canada, Hong Kong, Israel, Malaysia, New Zealand, Singapore, South Africa, USA



Leuz (2010) classifications have been used, for instance, by Schleicher, Tahoun, and Walker (2010), who rely on the distinction between insider and outsider economies to explain differences in investment cash flow sensitivity across member states of the EU in the post-IFRS adoption period.6 The study closest to proposing an accounting system classification based on IFRS implementation choices is Sellhorn and GornikTomaszewski (2006). Sellhorn and Gornik-Tomaszewski provide succinct qualitative information on EU and EEA member states' implementation choices under the IAS Regulation. They propose that EU member states that exhibit an identical exercise of implementation options should be classified into groups of like countries. However, they do not provide quantitative analysis of the data which would yield such hierarchical classification. Instead, they consider each of the three implementation choices they study separately, and therefore three separate “classifications” are provided. To give an example, Sellhorn and Gornik-Tomaszewski place Cyprus and Slovakia into the same category with respect to the accounting for consolidated accounts of private firms, because both countries require IFRS for this purpose. However, they place Cyprus and Slovakia into different classes with respect to the single-entity accounts of public firms, because Cyprus requires, but Slovakia prohibits, IFRS in this context.7 As a result, the work of Sellhorn and Gornik-Tomaszewski (2006) ultimately does not allow one to determine if two given countries, which 6 One other notable study is D'Arcy (2001). Using a similar methodological approach as Doupnik and Salter (1993), she analyzes financial reporting requirements in fourteen countries and identifies three clusters of countries. Cluster one, the (primarily) European group, comprises Austria, Belgium, Denmark, France, Germany, Japan, the Netherlands, Spain, Sweden, Switzerland, and the United Kingdom. A second, North American, group is made up of Canada and the United States. International accounting standards are also identified as belonging in this group. Australia, finally, is found an outsider and constitutes a third cluster of its own. D'Arcy's classification is unique in that she does not find support for a unified Anglo-American cluster of countries. Unlike the majority of accounting classifications, the United Kingdom is grouped with Continental European countries informed by German and French accounting practice, and Australia holds an outlier position. Nobes (2004) raises the possibility that data coding issues may be at the core of D'Arcy's (2001) unusual results. 7 The information provided in Sellhorn and Gornik-Tomaszewski (2006) is dated in this respect. Slovakia has changed its position and now permits IFRS for the single-entity accounts of public non-financial firms and requires IFRS for the single-entity accounts of public financial firms (see Panels A of Tables 2 and 3). Several countries have changed their IFRS implementation choices, and two additional countries (Bulgaria and Romania) have joined the EU since the publication of their paper.



Other countries: Argentina, Brazil, Colombia, India, Mexico, Pakistan, Philippines, Taiwan, Thailand



have exercised some, but not all, available implementation choices in a similar fashion, should be considered similar or distinct with respect to their implementation of IFRS. The present study attempts to fill this void by developing such a classification. Whereas Sellhorn and GornikTomaszewski (2006) present three classifications of EU and EEA countries based on the exercise of three implementation choices, the present study uses eight IFRS implementation elections to develop one classification. The question of which EU and EEA countries will group together based on similarities and differences in their IFRS implementation choices is exploratory in nature. RQ1: Which groups of EU and EEA member countries can be identified based on similarities and differences in their IFRS implementation choices? While research on accounting classifications has played a prominent role in international accounting research, it is debatable whether traditional classifications of accounting systems have a future following the universal adoption of IFRS. Cairns (1997), for example, argues that the harmonization of accounting standards and practices taking place internationally renders historical classifications of accounting regimes irrelevant. Nobes (2006) poses the hyperbolic question of whether the field of international accounting will come to an end altogether upon universal, compulsory use of IFRS. In a similar vein, Meek and Thomas (2004) call specifically to examine the continuing importance of traditional distinctions of accounting systems upon universal adoption of IFRS. Few studies to date have examined the survival of traditional accounting classifications under IFRS. One example is Nobes (2011), who shows that the IFRS practices of large listed firms from a number of countries8 can be traced to the dichotomous classification of microbased and macro-uniform accounting systems (Nobes, 1983). Thus, evidence exists that differences in accounting practice persist despite de jure adherence to an identical set of rules (IFRS), and, moreover, that these differences in practice are informed by earlier accounting systems classifications. An alternate way traditional accounting classifications may continue to manifest themselves is in the IFRS implementation choices of countries. Nobes (2008) finds a statistically significant association between EU and EEA member states' decision to require or 8 Nobes (2011) covers Australia, France, Germany, Italy, the Netherlands, Spain, Sweden, and the UK.



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Publicly traded companies



Other companies (private firms)



Consolidated financial statements



IFRS mandatory for fiscal years starting on or after 1/1/2005



Option to require or permit IFRS



Single-entity annual accounts



Option to require or permit IFRS



Option to require or permit IFRS



Fig. 1. Implementation options under the IAS regulation.



to permit IFRS for the preparation of single-entity accounts, and his classification of strong and weak equity countries. He concludes that accounting classifications have survived into the IFRS era, and that they are useful for predicting how countries will implement IFRS. The current study expands on Nobes (2008) conjecture by relating a classification, developed here, which captures EU and EEA member countries' overall implementation of IFRS, to three traditional accounting taxonomies. In addition to Nobes (1998, 2008) taxonomy of strong and weak equity countries, this paper also examines the classification of accounting systems into macro-uniform and micro-based systems (Doupnik & Salter, 1993; Nobes, 1983) and the three-cluster categorization put forward by Leuz et al. (2003) and Leuz (2010). Doupnik and Salter (1993) suggest that their hierarchies of microbased versus macro-uniform countries could act as a blueprint for the future harmonization of accounting standards, arguing that harmonization should be easier within, rather than across, families. In some respects, this prediction has been proven wrong as European countries, scattered across several branches of the accounting family tree, agreed to follow one uniform accounting standard, IFRS. However—consistent with Doupnik and Salter's premise—full integration of IFRS, i.e., a complete substitution of IFRS for domestic GAAP, may be more challenging for macro-uniform countries, where accounting practices are closely tied to national economic policies, than for micro-based countries, where accounting is more independent of the government. Based on the above conjecture, and the evidence presented by Nobes (2008), I expect to find an association between a comprehensive measure of IFRS implementation elections of EU and EEA countries and accounting classifications pre-dating the proliferation of IFRS, stated in the null form: H1: EU and EEA member countries' IFRS implementation choices are not independent from traditional accounting classifications. 3. IFRS implementation in EU and EEA member countries The EU's IAS Regulation requires that the consolidated financial statements of publicly traded companies be prepared in accordance with IFRS for financial years starting on or after January 1, 2005.9 Article 5 of the Regulation, however, enables member states of the EU and EEA to expand the scope of the Regulation and also to require or permit IFRS for the consolidated accounts of private companies, or for the annual single-entity (non-consolidated) accounts of public and private firms. Fig. 1 displays the scope of the IAS Regulation and the areas in which countries retain a choice of accounting system. In all areas not directly addressed by the IAS Regulation, member states maintain full regulatory authority and therefore have the option to require or to permit IFRS, or, in the negative, not to allow IFRS and 9 Specifically, the IAS Regulation requires covered firms to follow “IAS adopted by the EU.” The EU did not transfer standard setting authority to the IASB. IFRS to be used in the EU must be adopted through an endorsement mechanism. The endorsement criteria require that the accounting standard under consideration (1) not be contrary to the principles set out in the Fourth and Seventh Directive; (2) be conducive to the European public good; and, finally, (3) meet the criteria of understandability, relevance, reliability, and comparability required of the financial information needed for making economic decisions and assessing the stewardship of management (IAS Regulation, Recital 9).



to continue to require domestic GAAP. Each of these implementation options, thus, represents a choice between IFRS or domestic GAAP. Article 8 of the IAS Regulation requires that member states report their implementation of the existing options under the Regulation to the European Commission. Data reported in the following are based on the European Commission's July 2, 2012 IFRS implementation report.10 A large number of countries distinguish between non-financial and financial firms in their implementation choices.11 Accordingly, information with respect to the exercise of implementation options is presented separately for financial and non-financial firms. Table 2 provides data for non-financial firms; Table 3 displays the same data for financial firms. Panels A of Tables 2 and 3 provide information on which EU and EEA member countries require, permit, or do not allow publicly traded firms to prepare single-entity annual accounts in accordance with IFRS. Similarly, Panels B and C of Tables 2 and 3 show the use of implementation options with respect to the application of IFRS for the consolidated annual accounts and single entity annual accounts of private firms. In addition to implementation options with respect to the scope of IFRS, the IAS Regulation also provides for timing options. Specifically, Article 9 enables member states to defer application of the Regulation until financial years starting after January 1, 2007 for issuers of debt securities only and/or for companies whose securities were admitted to public trading in a non-member state and which, for that purpose, had previously been using another internationally-accepted standard. The latter option was introduced as a bridge measure for EU and EEA companies that had opted to use US GAAP prior to the passage of the IAS Regulation because their shares were cross-listed on a US stock exchange. Table 4 summarizes the exercise of implementation options under the transitional provisions of Article 9. The data in Tables 2 and 3 highlight the variations in approaches to IFRS implementation among EU and EEA member countries. For instance, only four countries require, but twenty-five countries permit, the use of IFRS for consolidated financial statements of private, nonfinancial firms (Table 2, Panel B). Most member states, thus, allow private firms to decide whether or not to follow IFRS for their group accounts, effectively passing down the option to decide to the firm level. This approach grants maximum flexibility to use IFRS instead of domestic GAAP for private companies that for any reason prefer market-oriented IFRS, for instance, in preparation for going public. For the consolidated statements of private firms operating in the financial sector, the picture is quite different. Many more countries limit choice for financial firms: 14 countries require IFRS for financial firms



10 Available at http://ec.europa.eu/internal_market/accounting/docs/ias/ias-use-ofoptions_en.pdf (last accessed September 12, 2013). 11 Member states that differentiate in their implementation of IFRS in one way or another between non-financial and financial firms include Belgium, Denmark, Estonia, Greece, Italy, Latvia, Lithuania, Malta, Poland, Portugal, Romania, Slovakia, Slovenia, and Spain. In addition, some countries differentiate large and small firms (e.g., Bulgaria, Slovakia); firms that are required to prepare consolidated statements or not (e.g., Denmark, Portugal); and firms that are required to be audited or not (e.g., Finland, Greece). As a result, to allow for comparisons across countries, the test case for categorizing implementation options in Tables 2 and 3 is defined as a large firm, which is required to prepare consolidated statements and is audited by a public accounting firm.



A. Forst / Advances in Accounting, incorporating Advances in International Accounting 30 (2014) 187–195 Table 2 Exercise of IFRS implementation choices for non-financial firms.



Table 3 Exercise of IFRS implementation choices for financial firms.



Panel A: Single entity annual accounts of publicly traded non-financial firms



Panel A: Single entity annual accounts of publicly traded financial firms



IFRS required



IFRS required



IFRS permitted



IFRS not allowed



Bulgaria, Cyprus, Czech Republic, Estonia, Greece, Iceland, Italy, Latvia, Lithuania, Malta Denmark, Finland, Ireland, Liechtenstein, Luxembourg, Netherlands, Norway, Poland, Portugal, Slovakia, Slovenia, United Kingdom Austria, Belgium, France, Germany, Hungary, Romania, Spain, Sweden



191



IFRS permitted



IFRS not allowed



Bulgaria, Cyprus, Czech Republic, Estonia, Greece, Iceland, Italy, Latvia, Lithuania, Malta, Romania, Slovakia Denmark, Finland, Ireland, Liechtenstein, Luxembourg, Netherlands, Norway, Poland, Portugal, Slovenia, United Kingdom Austria, Belgium, France, Germany, Hungary, Spain, Sweden



Panel B: Consolidated financial statements of private financial firms Panel B: Consolidated financial statements of private non-financial firms IFRS required IFRS permitted



IFRS not allowed



Bulgaria, Cyprus, Malta, Slovakia Austria, Belgium, Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Iceland, Ireland, Italy, Latvia, Liechtenstein, Lithuania, Luxembourg, Netherlands, Norway, Portugal, Romania, Slovenia, Spain, Sweden, United Kingdom Poland



IFRS required IFRS permitted



IFRS not allowed



Panel C: Single entity annual accounts of private financial firms



Panel C: Single entity annual accounts of private non-financial firms



IFRS required



IFRS required IFRS permitted



IFRS permitted



IFRS not allowed



Bulgaria, Cyprus, Malta Denmark, Estonia, Finland, Greece, Iceland, Ireland, Italy, Liechtenstein, Lithuania, Luxembourg, Netherlands, Norway, Slovakia Slovenia, United Kingdom Austria, Belgium, Czech Republic France, Germany, Hungary, Latvia, Poland, Portugal, Romania, Spain, Sweden



(Table 3, Panel B) compared to only four countries requiring IFRS for non-financial firms (Table 2, Panel B). In about half of the EU and EEA member countries, flexibility does not trump comparability when it comes to financial firms, most likely because of a preference for fair value accounting for financial firms. 4. Empirical results The data reported in Tables 2 through 4 reveal similarities and differences among EU and EEA member states' exercise of available implementation options under the IAS Regulation. To assess which countries exercised their IFRS implementation options in a similar fashion, all implementation choices were coded such that higher (lower) numbers indicate higher (lower) levels of IFRS integration into a country's overall accounting system.12 If a given country requires IFRS in a certain instance, it was scored “1”; if the use of IFRS is prohibited, this choice was coded “−1.” If a country elected to permit firms to use IFRS at their discretion, this choice was coded as the midpoint, hence “0.” For the two dichotomous variables, deferral of application or not, the choice to defer was coded “−1” and “0” for not using this option.13 Table 5 provides descriptive statistics, means, medians, standard deviations, and ranges of EU and EEA member states' implementation choices under the EU's IAS Regulation. The largest (smallest) standard deviation exists with respect to the single entity accounts of private financial firms (consolidated accounts of private non-financial firms), indicating the smallest (largest) uniformity of implementation elections 12 For purposes of robustness, I applied a variety of coding schemes. None of these alternative coding schemes resulted in materially different results, as long as choices expanding (limiting) IFRS were consistently coded as high (low), or vice versa. Furthermore, because not all adoption choices may be of equal economic importance, I tested coding schemes that put higher weights on some items in an ad hoc fashion. Ultimately, I opted for a non-weighted coding scheme for its ease of interpretability and because it is difficult to establish unequal weights justified across all countries. 13 The deferral options may be considered less important than the other implementation choices. Also, member states' ability to defer application of IFRS for certain firms expired in 2007, and thus these elections are only of historical relevance. However, use of the deferral options can be considered an important culture variable, indicating countries' supportiveness of the move toward IFRS. Inclusion, or exclusion, of these two variables in the scoring scheme, however, does not alter the result materially. If the deferral options are excluded, only one country is reclassified. Slovenia moves from the IFRS leaning to the IFRS integrated group.



Belgium, Bulgaria, Cyprus, Estonia, Greece, Italy, Latvia, Lithuania, Malta, Poland, Portugal, Romania, Slovakia, Slovenia Austria, Czech Republic, Denmark, Finland, France, Germany, Hungary, Iceland, Ireland, Liechtenstein, Luxembourg, Netherlands, Norway, Spain, Sweden, United Kingdom None



IFRS not allowed



Bulgaria, Cyprus, Estonia, Greece, Italy, Latvia, Lithuania, Malta, Romania, Slovakia, Slovenia Denmark, Finland, Iceland, Ireland, Liechtenstein, Luxembourg, Netherlands, Norway, United Kingdom Austria, Belgium, Czech Republic France, Germany, Hungary, Poland, Portugal, Spain, Sweden



among EU and EEA member countries with respect to these two options. As indicated by the largest (smallest) mean values of any of the IFRS implementation choices for the consolidated accounts of private financial firms (annual accounts of private non-financial firms), EU and EEA member countries as a group are most (least) likely to require IFRS for these particular contexts. A test of difference in means between financial and non-financial firms with respect to the accounting for the single entity accounts of public firms is not significant at conventional levels (t = 1.36, p = .18, two-tailed). However, a significant difference in the exercise of implementation options for these two groups of firms exists for the single entity (t = 2.80, p b .01, two-tailed) and consolidated accounts (t = 3.61, p b .01, two-tailed) of private firms. These statistically significant differences in IFRS implementation between financial and non-financial firms lend credence to the approach of tracking accounting implementation choices separately for financial and non-financial firms. Following the empirical approach of Doupnik and Salter (1993) and D'Arcy (2001), I next employ agglomerative hierarchical cluster analysis to identify groupings of EU and EEA member countries based on similarities and differences in their exercise of IFRS implementation choices. The results of this analysis will provide an answer to RQ1. In agglomerative hierarchical cluster analysis, each case (country) initially constitutes its own, independent cluster. Because the distance between two cases that are alike will be small, clusters are formed based on distances between cases. Cases that display the smallest distance to each other will be merged first to form a cluster. In each subsequent step, the next two nearest clusters will be merged until all cases have been combined in one universal cluster in the final step. Results are reported based on the between-group linkage measured by the squared Euclidean distance.14 A dendrogram depicting the combination of countries into clusters according to their IFRS implementation decisions is reproduced in Fig. 2. The cluster analysis reveals the existence of three primary groups of countries. A cluster of nine countries at the left of the cluster solution is formed by countries that did not implement IFRS into their accounting



14 Various alternate measures have been used to protect against the sensitivity of the cluster solution to the choice of method. Alternate distance measures employed include Euclidean distance, cosine, and Minkowski, in addition to defining clusters based on the within-group linkage, furthest neighbors, centroids, and Ward's method. The results also remain qualitatively similar by using k-means clustering instead of hierarchical clustering.



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Table 4 Deferred application of IAS regulation.



Companies that only issue debt securities



Companies admitted to public trading in a non-member state and following other internationally accepted standard for that purpose



Chose to defer effective date of the IAS Regulation until 2007



Chose not to defer effective date of the IAS Regulation until 2007



Austria, Belgium, Denmark, Finland, France, Germany, Hungary, Iceland, Ireland, Luxembourg, Norway, Poland, Romania, Slovenia, Spain, Sweden Austria, Belgium, France, Germany, Iceland, Luxembourg, Norway, Romania



Bulgaria, Cyprus, Czech Republic, Estonia, Greece, Italy, Latvia, Liechtenstein, Lithuania, Malta, Netherlands, Portugal, Slovakia, United Kingdom Bulgaria, Cyprus, Czech Republic, Denmark, Estonia, Finland, Greece, Hungary, Ireland, Italy, Latvia, Liechtenstein, Lithuania, Malta, Netherlands, Poland, Portugal, Slovakia, Slovenia, Spain, Sweden, United Kingdom



Table 5 Descriptive statistics of IFRS implementation option exercises. St. dev.



Min.



Max.



Single entity annual accounts of publicly traded non-financial firms Single entity annual accounts of publicly traded financial firms



Variable



Mean 0.07 0.17



Median 0.00 0.00



0.785 0.791



−1.00 −1.00



1.00 1.00



Consolidated financial statements of private non-financial firms Consolidated financial statements of private financial firms



0.1 0.47



0.00 0.00



0.403 0.507



−1.00 0.00



1.00 1.00



Single entity annual accounts of private non-financial firms Single entity annual accounts of private financial firms



−0.30 −0.03



0.00 0.00



0.651 0.850



−1.00 −1.00



1.00 1.00



Deferral for companies that only issue debt securities Deferral for companies trading outside of the EU and EEA



−0.53 −0.27



−1.00 0.00



0.507 0.450



0.00 0.00



1.00 1.00



t-stats t = 1.36 p = .18 t = 3.61 p b .01 t = 2.80 p b .01



Reported are the mean, median, standard deviation and range of IFRS implementation option exercises under the EU's IAS Regulation. Elections to require (permit, prohibit) IFRS in a certain context are coded 1 (0, −1). Decisions to defer (not defer) the application of IFRS for specific groups of firms are coded −1 (0). t-statistics are for the difference in means (two-sided tests).



systems much, if at all, beyond the required scope of the IAS Regulation, and can be considered IFRS antagonistic. Conversely, ten countries grouped at the right side of the cluster solution display the highest levels of IFRS implementation and can be labeled as IFRS integrated. In between these two, a middle cluster of eleven countries emerges, comprised of countries that may be named IFRS leaning. These countries have expanded the scope of IFRS to some degree. Table 6 displays the cluster memberships of EU and EEA member states and the mean IFRS implementation for each group.15 The mean IFRS implementation for antagonistic (leaning, integrated) countries is −4.50 (−0.55, 4.55). These values indicate that IFRS antagonistic countries tend to make implementation choice generally in the direction of not allowing IFRS (negative scores), whereas the on average high positive score of IFRS integrated countries indicates IFRS elections more consistent with requiring IFRS. Results of t-tests reported in Table 6 indicate that differences in IFRS implementation between clusters are statistically significant. The group of IFRS integrated countries, which have greatly expanded the use of IFRS beyond the limited mandate of the IAS Regulation, consists primarily of smaller and formerly communist European countries. The inclusion of Italy and Greece in this group may appear surprising, but is based on these countries' legislative responses to the IAS Regulation. Countries informed by Anglo-American accounting practice (UK and Ireland) are not at the forefront of IFRS adoption, but included in the IFRS leaning group. Scandinavian countries are also prominent in this group of countries. Finally, the group of IFRS antagonistic countries, which did not expand the use of IFRS much beyond the scope of the IAS Regulation, is compromised largely of countries influenced by German and French accounting practice. Fourteen of the countries included in this analysis are also found in the study by Doupnik and Salter (1993), who classify ten of these countries as macro-uniform and four as micro-based (Table 1, Panel A). All



15 While this study does not use IFRS implementation scores for each countries, such scores can be easily derived. A country that requires IFRS for all contexts, and also has not chosen to defer the application of IFRS, will display a high score of 6, whereas a country prohibiting IFRS for all contexts, and also opting to defer the mandatory application of IFRS to the maximum extent, will receive a low score of −8.



countries identified as micro-based fall in the IFRS leaning group. Of the ten macro-based countries, one is classified as IFRS integrated (Italy) and three as IFRS leaning (Denmark, Finland, and Sweden). The remaining countries (Belgium, France, Germany, Norway, Portugal, and Spain) fall into the IFRS antagonistic group. Panel A of Table 7 displays a cross tabulation of the cluster results with Doupnik and Salter's classification. A chi-square test of independence reveals that there is a statistically significant relationship between the macro-uniform and micro-based distinction and IFRS implementation at the p b 0.10 level, X2 (2) =5.600, p = 0.061.16 Results of a Fisher's exact test are similar and confirm a significant relationship between the two categorizations, p = 0.105.17 All but four countries (Bulgaria, Romania, Iceland, and Liechtenstein) overlap with Nobes (2008) categorization of Class A and Class B accounting systems (Table 1, Panel B). Table 7, Panel B, shows a crosstabulation of the IFRS implementation clusters and Nobes (2008) classifications of countries into Class A (strong equity) and Class B (weak equity). Class A countries are predominantly IFRS leaning, while Class B countries are spread out across all three implementation groups, with a dominance of IFRS antagonistic countries. A chi-square test again reveals a statistically significant relationship between Nobes' taxonomy of countries and a classification of countries based on IFRS implementation at the p b 0.05 level, X2 (2) = 7.081, p = 0.029. A supplemental Fisher's exact test also confirms a significant relationship, p = 0.022. Finally, fifteen EU and EEA countries are also included in the classification by Leuz et al. (2003) and Leuz (2010), which is based on the importance of the stock market for corporate financing and the quality of legal enforcement in each country (Table 1, Panel C). Table 7, Panel



16 The chi-square test assumes that the expected value for each cell is five or higher, an assumption that cannot be met given the small overlap of only 14 countries. An argument can be made not to report chi-square tests if their results may not be valid because of small sample size and low cell counts. However, reliance on these test statistics—despite such validity concerns—is consistent with prior research (Nobes, 2008). The reporting of chisquare tests thus assures comparability. To address validity concerns, I introduce a methodological advance over Nobes (2008) and corroborate the reliability of the results by additionally conducting Fisher's exact test. Fisher's exact test is neither sensitive to small sample sizes nor to uneven or small cell counts. 17 Fisher's exact test does not provide a test statistic, but computes the p-value directly.



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193



Fig. 2. Hierarchical classification of IFRS implementation choices.



C, displays a cross-tabulation with Leuz's (2010) classification. Both overlapping countries in the outsider/strong category (Ireland and the United Kingdom) fall in the IFRS leaning category. Insider economies with strong legal enforcement are fairly evenly split between the IFRS leaning/antagonistic categories and insider economies with weak legal enforcement between the IFRS integrated and IFRS antagonistic clusters. A chi-square test confirms again a statistically significant association between a taxonomy of countries based on IFRS implementation choices and Leuz's classification based on the development of equity markets and legal enforcement, X2 (4) = 12.429, p = 0.014. Fisher's exact test confirms this result, p = 0.016. Taken as a whole, these results provide solid evidence in support of H1. IFRS implementation choices and traditional accounting system classifications are not independent. These findings corroborate Nobes (2008) conjecture that previous accounting classifications can be used to predict and explain IFRS implementation decisions. The macroeconomic, political, and legal factors which gave rise to earlier classifications of accounting systems survive into the IFRS era by informing countries' IFRS implementation choices. Specifically, in areas not covered by the IAS Regulation, macro-uniform (weak-equity, insidereconomy) countries largely require domestic GAAP and therefore tend to fall in the IFRS antagonistic group. Micro-based (strong-equity, outsider-economy) countries by contrast, are more open to IFRS and have a propensity to allow firms either to use domestic GAAP or IFRS whenever the application of IFRS is not mandatory.



However, IFRS implementation choices also display remarkable departures from these earlier categorizations, however. For instance, the “Latin block,” comprised of Italy, Greece, Portugal, and Spain, identified in Nobes (2008), is split evenly between Italy and Greece in the IFRS integrated, and Portugal and Spain in the IFRS antagonistic cluster. None of the “strong equity” countries identified by Nobes or Leuz are leading in IFRS implementation. Apart from Italy and Greece, the countries comprising the IFRS integrated group (Cyprus, Malta, Bulgaria, Slovakia, Estonia, Latvia, and Lithuania) are all smaller, primarily formerly communist countries. None of these countries can be said to have strong, developed equity markets, yet they are leading in the implementation of market-oriented IFRS. Ramanna and Sletten (2009) and Judge, Li, and Pinsker (2010), indeed, provide evidence that less powerful countries are more likely to adopt IFRS. In the case of the former communist countries, the lack of a well-developed and entrenched domestic accounting system, combined with the cost of such a system's development, and the desire to attract foreign capital (Daske et al., 2008), may also have played a role in their being at the forefront of IFRS implementation. Consistent with these studies, observed deviations in the association between IFRS implementation and prior accounting system classifications indicate that EU and EEA member states' IFRS implementation choices are based on a complex set of factors, not entirely captured by the drivers underlying the accounting systems classifications of Doupnik and Salter (1993), Nobes (2008), and Leuz (2010).



Table 6 Cluster membership of EU and EEA member countries. IFRS antagonistic group (Cluster 1) Austria, Belgium, France, Germany, Hungary, Poland, Portugal, Romania, Spain, Sweden Mean score μ = −4.50 t-tests of differences C1 vs. C2 between clusters t = 6.84, p b 0.001



IFRS leaning group (Cluster 2)



IFRS integrated group (Cluster 3)



Czech Republic, Denmark, Finland, Iceland, Ireland, Liechtenstein, Luxembourg, Netherlands, Norway, Slovenia, United Kingdom μ = −0.55 C2 vs. C3 t = 11.06, p b 0.001



Bulgaria, Cyprus, Estonia, Greece, Italy, Latvia, Lithuania, Malta, Slovakia μ = 4.55 C1 vs. C3 t = 13.79, p b 0.001



Reported are groupings of EU and EEA member countries derived from a hierarchical cluster analysis of eight IFRS implementation choices under the EU's IAS Regulation. t-statistics are for differences in country mean exercise of implementation options between country groupings (two-sided tests).



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Table 7 Cross-tabulation of IFRS implementation groups with other classifications. Panel A: IFRS implementation groups versus Doupnik and Salter (1993) classification Antagonistic group



Leaning group



Integrated group



Total:



Denmark, Finland, Sweden



Italy



10



Micro-based



Belgium, France, Germany, Norway, Portugal, Spain None



None



4



Total:



6



Ireland, Luxembourg, Netherlands, United Kingdom 7



Macro-uniform



1



14



Panel B: IFRS implementation groups versus Nobes (2008) classification Antagonistic group



Leaning group



Integrated group



Total:



Strong equity, commercially driven



None



Cyprus, Malta



7



Weak equity, government driven, tax-dominated Total:



Austria, Belgium, France, Germany, Hungary, Poland, Portugal, Spain, Sweden 9



Denmark, Ireland, Netherlands, Norway, United Kingdom Czech Republic, Finland, Luxembourg, Slovenia 9



Estonia, Greece, Italy, Latvia, Lithuania, Slovakia 8



19 26



Panel C: IFRS implementation groups versus Leuz (2010) classification



Outsider/strong Insider/strong Insider/weak Total:



Antagonistic group



Leaning group



Integrated group



Total:



None Austria, Belgium, France, Germany, Spain, Sweden Portugal 7



Ireland, United Kingdom Denmark, Finland, Netherlands, Norway



None None



2 10



None 6



Greece, Italy 2



3 15



5. Summary and conclusion The primary contribution of this research lies in the development of a classification of the accounting systems of EU and EEA member countries, based on differences and communalities in IFRS implementation choices. Pronounced variation exists in the level of IFRS implementation across member states of the EU and EEA. The study highlights statistically significant differences in the application of IFRS for financial and non-financial firms. The qualitative data on the IFRS implementation elections presented here may be of interest to practitioners or researchers who may have assumed a more uniform adoption process. The story of IFRS implementation in most member countries of the EU and EEA is that of supplementation of domestic GAAP with IFRS for specific uses. The implication for the ongoing debate concerning the adoption of IFRS in the U.S. is that framing the adoption question in terms of a substitution of accounting systems may be misspecified. Presumably the most meaningful area for future research on the effects of IFRS implementation differences may be the differences in IFRS implementation in the top and bottom left quadrants of Fig. 1. For the consolidated financial statements of public firms, all member states of the EU and EEA must utilize IFRS. However, for the single-entity annual accounts, IFRS or domestic GAAP may be applicable depending on each country's implementation choice reported in Panels A of Tables 2 and 3. Some countries require IFRS for the preparation of single-entity accounts; as a result no difference between the applicable accounting standard for the preparation of single-entity and consolidated statements exists. However, if domestic GAAP is permitted, or even required, for single-entity accounts, the potential for different outcomes is present. While technically independent, it is likely that in countries requiring domestic GAAP for the preparation of single-entity accounts, but IFRS for group accounts, any judgment involved in the preparation of consolidated statements under IFRS may be exercised in accordance with domestic GAAP for reasons of convenience (Nobes, 2006) or to avoid cognitive dissonance.18



18 Evidence for this conjecture is provided by Macías and Muiño (2011), who find that the explanatory power of earnings and equity book value for stock prices, as well as the ability of earnings to explain cash flows, is lower for firms domiciled in countries which require the preparation of single-entity annual accounts using domestic GAAP, as compared to firms domiciled in countries where IFRS is acceptable for single-entity annual accounts.



Using hierarchical cluster analysis, I derive a classification of EU and EEA member countries reflecting the depth of IFRS implementation in each country's overall accounting system. The analysis reveals the existence of an IFRS antagonistic, an IFRS leaning, and an IFRS integrated group of countries. Differences in IFRS implementation, Ball (2006) argues, constitute a possible source for persistent cross-country variation in accounting quality, because uneven implementation of a uniform accounting standard buries accounting inconsistencies at a deeper, less transparent level than more readily observable differences in standards. By providing a taxonomy of EU and EEA member countries based on a comprehensive review and analysis of cross-country differences in IFRS implementation, this study paves the way for future work assessing the relevance of cross-country differences in IFRS implementation on various attributes of accounting. Meek and Thomas (2004) and Nobes (2006, 2008) suggest examining whether universal adoption of IFRS has rendered traditional distinctions of accounting systems irrelevant. This study provides evidence that three traditional taxonomies of accounting systems—which distinguish between macro-uniform and micro-based countries (Doupnik & Salter, 1993; Nobes, 1983), strong equity, commercially driven, and weak equity, government driven, accounting systems (Nobes, 1998, 2008), and insider and outsider economies (Leuz, 2010; Leuz et al., 2003)—continue to be important in the IFRS-era. Chi-square and Fisher's exact tests reveal that the IFRS implementation elections of EU and EEA member countries are not independent of these accounting classifications. A majority of EU and EEA member countries thus appear to utilize their implementation options under the IAS Regulation consistent with the economic factors and accounting traditions which gave rise to widely-used accounting classifications identified in prior work. Clearly, the adoption of IFRS throughout the EU and EEA did not result in a breakdown of traditional accounting families. Much to the contrary, consistent with Nobes (2008), the evidence suggests that traditional accounting classifications permeate countries' IFRS implementation decisions. Traditional accounting classifications have therefore not become obsolete, but remain useful to explain and predict IFRS implementation. The limited overlap of countries with the categorizations by Doupnik and Salter (1993) and Leuz (2010), however, must be noted as a practical limitation to assessing fully the survival of these accounting classifications in the IFRS era. Moreover, the current study only provides a snapshot of the implementation decisions in force at



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the time of this writing. As EU and EEA member countries revise and/or expand their use of IFRS, researchers in the future may wish to reassess whether or not traditional accounting classifications continue to be relevant in the IFRS era.



Acknowledgments I especially thank the associate editor, Robert Larson, and two anonymous referees for their helpful comments and suggestions. For their comments on an earlier draft of this paper, I am also grateful to the participants at the 2011 American Accounting Association Ohio and Mid-Atlantic region conferences. I would like to thank Matt Geiszler for his research assistance.



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