Financial Reporting Standards: A Study on the Impact on Debt & Equity

This report critically evaluates the differential impact of International Financial Reporting Standards (IFRS) adoption on debt and equity markets, focusing on whether the emphasis on equity investment decisions has implications for stewardship and debt contracting. It also examines the conflict between relevance and faithful representation in financial reporting, particularly the challenges preparers face in satisfying both criteria. The analysis uses macroeconomic data and a pre-post design centered around the 2005 IFRS implementation. Findings suggest a stronger correlation between IFRS adoption and foreign investment in debt markets compared to equity markets, with debt markets showing a greater impact on the characteristic nature of financial reporting. The report concludes that while IFRS aims to provide information beneficial to both debt and equity investors, its impact is more pronounced in debt financing decisions. The report also highlights the dilemma faced by financial statement preparers in balancing relevance and faithful representation, especially in estimating accruals for refunds and loyalty schemes, and suggests that relevant information may be more important than fair representation in certain situations. Desklib offers a range of solved assignments and past papers to aid students in their studies.

Running head: FINANCIAL REPORTING
Financial Reporting
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Table of Contents
Introduction......................................................................................................................................2
Rational for “Financial Reporting Standards (IFRS)” having a differential impact on the debt and
equity markets..................................................................................................................................2
Critical evaluation of conflict between relevance and faithful representation................................4
Conclusion.......................................................................................................................................5
References........................................................................................................................................7

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Introduction
It is often criticized that the implementation of IFRS in 2005 has focused too much on
providing financial information related to equity investment decision that areas pertaining to
Stewardship and debt contracting. The first part of the report aims to critically evaluate whether
this adoption to the new standards is having any differential implications on the debt and equity
markets. The second part of the report has been able to identify the key qualitative characteristics
associated to the conceptual framework with regards to faithful representation. The main
criticism related to the qualitative characteristic is seen in terms of preparers of the financial
statements who may often face the confusion of satisfying both criteria at once. To present a
critical evaluation of the facts the learning objectives are relied on macroeconomic data along
with a pre-post design centred in 2005 (Agyei-Mensah 2014).
Rational for “Financial Reporting Standards (IFRS)” having a differential impact on the
debt and equity markets
The primary objective of FASB and IASB is designed to provide information about
entities reporting which is beneficial to both existing and potential investors in making decisions
pertaining to resources. Based on the previous empirical investigations shows limited research
conducted for evaluating relative impact of “financial reporting on equity versus the debt
markets”. However, among the few evidences included in “Macroeconomic Evidence from
Mandatory IFRS Adoption in SSRN Electronic Journal” and other such research, the use of
macroeconomic level investment for equity and debt is seen to provide a common platform to
know about the impact of IFRS acceptance on investment decision and equity (Santos, Fávero
and Distadio 2016).
The differential effects of IFRS is able to know about that option process of debt and
equity investment as per country’s governance before IFRS implementation. The discourse from
the research is able to signify that on using of difference design, general trading has increased
with foreign investment than by use of non-adopting countries as controls. There is existence of a
strong correlation between adoption of IFRS and foreign investment (combination of both equity
and debt investment) in a country (Ewert and Wagenhofer 2016). However, several results of the

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research have found that the implementation of IFRS is not robust to alternative deflator as these
are excluding U.S. as a potential investor. In contrast to this the debt results are more robust to
inclusion/ exclusion of countries. So, it may be stated that IFRS is having a significantly greater
implication on the “debt market” in compared to the “equity market”. This notion is constant
with investors placing more reliance towards financial statement evidence than equity investors
(Dvořák and Vašek 2015).
There are similar studies conducted to know about governance on debt investment and
foreign equity around the adoption of IFRS. Differential impact effects in terms of governance
on equity investment and foreign equity with IFRS adoption has a limiting effect to countries
having high governance quality before the adaptation. This increases the foreign equity
investment which are associated with increases in quality of governance surrounding the
adoption. The overall impact of the IFRS adoption suggests that the increase in equity
investment are dependent with high living of pre-adoption governance however, the debt
investment have not shown this relevance to the limit of governance prior to that adoption (Eng,
Sun and Vichitsarawong 2014).
Several types of earlier research studies have been able to state that this shock in the
financial reporting via the intimidation of IFRS greater debt market influence than equity
markets. Henceforth, the debt markets are having a greater impact on characteristic nature of
financial reporting rather than equity markets. Based on the findings of these research IFRS
adoption is considered to be having a greater impact on debt financing rather than equity
financing decisions. These insights provide important understandings on the regulators and the
standard setters for differential influence of financial reporting on “debt versus equity markets”
(Zakari 2014).
Despite of most of emphasis on providing financial information for equity investment
decisions few prior work is able to suggest that IFRS earnings are much more effective for
individual companies and debt contracting to derive debt market benefits. These research studies
further suggest that voluntary IFRS adopters has to bear lower rate on private loans for obtaining
a favourable loan term, thereby attracting more number of foreign lenders. In addition to this,
these companies are more likely for issuing public bonds after mandatory IFRS adoption process.

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Several other research studies have suggested that IFRS adoption is related to increasing credit
sensitivity ratings in terms of accounting default factors (Gao and Sidhu 2016).
Critical evaluation of conflict between relevance and faithful representation
The concept of relevance is identified as one of the two fundamental decisions for
specific characteristics of implying useful accounting information. The use of relevant
information can make a difference in a decision-making process and helps the users to make
predictions about the outcomes of “future, present and past events”. It needs to be further
understood that the use of relevant information can be both predictive and confirmatory. The
faithful representation on the other hand is among one of the two fundamental decisions which is
useful in terms of accounting information for defining a specific characteristic. The information
represented with this criterion is intended to represent the dependability aspect of the reporting
events. The faithful representation of report is depicted in terms of neutrality, error free and
completeness of the financial information (Ali, Akbar and Ormrod 2016).
However, satisfying both the criteria at once can be a major challenge while financial
reporting. In situations where repayments and loyalty scheme accruals are estimated, the accruals
for sales and loyalty scheme redemption is often estimated based on historical returns. This is
recorded so as to allocate them in the same financial year at the time of noting down original
revenue. The provisions are reviewed on regular basis and updated for reflecting managements-
based estimates on actual returns and redemptions which can vary accordingly (Sutton, Cordery
and van Zijl 2015). The organizations include an expanded discussion for providing information
on refunds and loyalty schemes for the preparation of financial statements as per appropriate
options and estimates. However, there may be different results for these estimates from the actual
results due to significant risk factor associated to material adjustment to the carrying amount of
liabilities and assets (Mala and Chand 2014).
To undertake an effective representation of financial information the compliance between
both the frameworks are necessary. However, when they are in conflict IAS 1 almost equates the

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fair presentation of the standards to ensure only true and fair values of financial information is
provided. However, under extreme conditions management may reach to a decision which may
show that certain provisions of standards may be misleading with the objectives of IASB
framework. Under these situations, the management may decide to depart from provisional
standards which is also known as true and fair override (Poudel, Hellmann and Perera 2014).
Henceforth, the fair presentation is not only seen with compliance to the standards, but as
standards which are detailed in every circumstance for achieving fair presentation. Henceforth, it
needs to be understood that to interpret the situation of problem by deciding on choosing fair
presentation over relevance. The choice of true and fair presentation over reliability is dependent
on desired behaviour considered with the opportune and relevancy of the ethical or moral
objectives (Madah Marzuki and Abdul Wahab 2016).
Reliability should not be confused with conformity however, based on true and fair
override standards and it can be said that relevant information is more important than fair
representation. These depictions are based on discussions associated to the inclusion of implicit
and explicit hypothesis for the new accounting model prepared as per “Conceptual Framework of
the International Financial Reporting Standards (IFRS)” (O’Brien et al. 2014). Several types of
modern conceptual framework researchers have opined that economic phenomena allow the
existing and potential investors to take economic decisions based on purchase, sale or retention
of stock. In addition to this, the previous studies have extended the needs of other stakeholders.
This approach of amalgamating partnership into accounting standardization have led to open
debate on concerns for selecting standard and decision or behaviour. However, as per the
evidences of these studies, the accountants need to focus more on the effects of distribution of
income, wealth and power for relying on relevancy versus true and fair presentation (Perera and
Chand 2015).
Conclusion
The conclusions drawn from the discourse of critical evaluation whether the IFRS
adoption to the new standards is having any differential implications on the debt and equity
markets have shown that there has been a strong correlation between adoption of IFRS and
foreign investment (combination of both equity and debt investment) in a country and IFRS is

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having a significantly more influence on debt markets than equity markets. This notion is
dependable with investors placing more reliance towards financial statement information rather
than equity investors. In addition to the discussion on differential impact is also seen with debt
markets having a greater impact on characteristic nature of financial reporting rather than equity
markets. As per the latter part of the discussions the preparers of financial statements may face
the dilemma of including both relevance and faithful representation where refunds and loyalty
scheme accruals are estimated. In addition to this, accruals for sales and loyalty scheme
redemption is often estimated based on “historical returns”. However, organizations may
introduce an expanded discussion for providing information on refunds and loyalty schemes for
the preparation of financial statements as per appropriate options and estimates. These may
produce different results for these estimates from the actual results due to risk factor associated
to material adjustment pertaining to carrying amount of liabilities and assets.

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References
Agyei-Mensah, B. K. (2014) ‘Adoption of International Financial Reporting Standards (IFRS) in
Ghana and the Quality of Financial Statement Disclosures’, International Journal of Accounting
and Financial Reporting, 3(2), p. 269. doi: 10.5296/ijafr.v3i2.4489.
Ali, A., Akbar, S. and Ormrod, P. (2016) ‘Impact of international financial reporting standards
on the profit and equity of AIM listed companies in the UK’, Accounting Forum, 40(1), pp. 45–
62. doi: 10.1016/j.accfor.2015.12.001.
Dvořák, M. and Vašek, L. (2015) ‘Are IFRS Really Global Standards of Financial Reporting?
Analysis of Worldwide Jurisdiction Profiles’, Procedia Economics and Finance, 25, pp. 156–
165. doi: 10.1016/S2212-5671(15)00724-8.
Eng, L. L., Sun, L. and Vichitsarawong, T. (2014) ‘Are international financial reporting
standards-based and U.S. GAAP-Based accounting amounts comparable? evidence from U.S.
ADRs’, Journal of Accounting, Auditing and Finance, 29(2), pp. 163–187. doi:
10.1177/0148558X14521212.
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Reduce Financial Reporting Quality’, European Accounting Review, 25(3), pp. 487–513. doi:
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Gao, R. and Sidhu, B. K. (2016) ‘Convergence of accounting standards and financial reporting
externality: Evidence from mandatory IFRS adoption’, Accounting and Finance. doi:
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Madah Marzuki, M. and Abdul Wahab, E. A. (2016) ‘Institutional factors and conditional
conservatism in Malaysia: Does international financial reporting standards convergence matter?’,
Journal of Contemporary Accounting and Economics, 12(3), pp. 191–209. doi:
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financial reporting standards on the judgments of accountants’, International Journal of
Accounting, 49(2), pp. 263–288. doi: 10.1016/j.intacc.2014.04.008.

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O’Brien, B. C., Harris, I. B., Beckman, T. J., Reed, D. A. and Cook, D. A. (2014) ‘Standards for
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dos Santos, M. A., Fávero, L. P. L. and Distadio, L. F. (2016) ‘Adoption of the International
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