Günther Gebhardt

Mandatory IFRS Adoption and Accounting Quality of European Banks

This paper examines the implications of mandatory IFRS adoption on the accounting quality of banks in twelve EU countries. Specifically, we analyse how the change in the recognition and measurement of banks’ main operating accrual item, the loan loss provision, affects income smoothing behaviour and timely loss recognition. We find that the restriction to recognize only incurred losses under IAS 39 significantly reduces income smoothing. This effect is less pronounced in countries with stricter bank supervision, widely dispersed bank ownership and for EU banks cross-listed in the US. This provides additional evidence that institutions matter in shaping financial reporting outcomes. Further, the application of the incurred loss approach results in less timely loan loss recognition implying delayed recognition of future expected losses. In the light of the ongoing financial crises it is questionable whether this is a desirable financial reporting outcome of mandatory IFRS adoption.

The distribution of earnings relative to targets in the European Union

Abstract This paper provides evidence on the distribution of reported earnings relative to targets in the Member States of the European Union (EU). For a large sample of over 60,000 firm-years between 1986 and 2001, we find that more firms than expected (i) report small positive earnings, (ii) report small positive earnings changes and (iii) have zero or small positive forecast errors. These discontinuities are much more pronounced in the EU compared to the US, and the distributions of reported earnings and earnings changes are characterised by lower dispersion and more clustering around zero, consistent with higher income smoothing in Europe. Across the EU, we find that the avoidance of a loss or an earnings decrease is more common in those Member States which do not have a long history of accounting standard setting, and particularly in those which, until recently, were almost entirely law-based. The earnings distributions and earnings change distributions of UK firms resemble more those of their counterparts in the US. and differ from the rest of the EU. despite the various EU harmonisation efforts that have taken place.

Accounting for financial instruments in the banking industry: conclusions from a simulation model

The paper analyses the effects of three sets of accounting rules for financial instruments – Old IAS before IAS 39 became effective, Current IAS or US GAAP, and the Full Fair Value (FFV) model proposed by the Joint Working Group (JWG) – on the financial statements of banks. We develop a simulation model that captures the essential characteristics of a modern universal bank with investment banking and commercial banking activities. We run simulations for different strategies (fully hedged, partially hedged) using historical data from periods with rising and falling interest rates. We show that under Old IAS a fully hedged bank can portray its zero economic earnings in its financial statements. As Old IAS offer much discretion, this bank may also present income that is either positive or negative. We further show that because of the restrictive hedge accounting rules, banks cannot adequately portray their best-practice risk management activities under Current IAS or US GAAP. We demonstrate that – contrary to assertions from the banking industry – mandatory FFV accounting adequately reflects the economics of banking activities. Our detailed analysis identifies, in addition, several critical issues of the accounting models that have not been covered in previous literature.

Estimating the Expected Cost of Equity Capital using Analysts' Consensus Forecasts

In this study, we develop a technique for estimating a firm’s expected cost of equity capital derived from its stock price and analysts’ consensus earnings forecasts. Our estimation method, which is based on the residual income valuation model, extends and refines currently available approaches by explicitly allowing daily estimation and using only publicly available information at that estimation date. We apply this technique to estimate the expected cost of equity capital at the market, industry and individual firm level, using historical German data from 1989–2002, and to examine firm characteristics that have been systematically related to these estimated return expectations.

Financial instruments in non-financial firms: what do we know?

Accounting for financial instruments is one of the most controversial standard setting issues. Attempts by standard setters to expand the scope of fair value measurement provoked fierce opposition from preparers, in particular from the financial industry but also, albeit less frequently and less scathingly, from non-financial firms. Academic research could help to bring the discussion onto a more objective level. Most of the existing research focuses on the financial industry and uses US disclosure data from the 1990s. More recent papers use recognition and measurement data from IFRS financial statements, again primarily from the financial industry. This paper provides novel evidence on the relevance of financial instruments for non-financial firms of the STOXX Europe 600 Index. The results in particular refute the myths that fair value measurement of financial instruments is pervasive and that many fair value measurements are of the problematic ‘level 3’ quality. The empirical evidence forms the background for a survey of the small body of existing research on the effects of accounting standards relating to financial instruments on non-financial firms. This survey covers research on the effects on risk management, on the volatility of cash flows and earnings, on earnings management and on the effects on user decisions. Both in the empirical sections and in the survey sections, I identify a number of areas for further research to overcome the poor current state of knowledge.

The evolution of global standards of accounting

The globalization of markets and companies has increased the demand for internationally comparable high quality accounting information resulting from a common set of accounting rules. Despite remarkable efforts of international harmonization for more than 25 years, accounting regulation is still the domain of national legislators or delegated standard setters. The paper starts by outlining the reasons for this state of affairs and by characterizing the different institutional backgrounds of accounting standard setting in four selected countries as well as on the international level. This is followed by a summary of important international differences in accounting rules and a summary of the empirical evidence of the impact of different rules on the resulting numbers and their relevance to users. It is argued that neither a priori theoretical reasoning nor the evidence from empirical studies provides a convincing basis for choices between accounting regimes and even less so between specific accounting rules. As there is a broad consensus that there is a need for one set of global accounting standards the final sections of the paper discuss currently existing and proposed structures of international accounting standard setting. The evolving new IASC structure is critically evaluated.

Accounting for credit risk: are the rules setting the right incentives?

Banks again and again surprise the public with unexpected high provisions for loan losses sometimes threatening the financial viability of individual companies or even the stability of national financial systems. The paper analyses whether the patterns of loan loss provisions are, in part, attributable to the rules of accounting for credit risk. It compares the national German rules with the related IFRS rules and identifies inconsistencies across different types of transactions in both regimes. The analysis of the accounting rules is combined with an analysis of incentives for under-provisioning and/or over-provisioning, emanating from the capital markets and from banking supervisory authorities. The conclusion is that, in particular, the IFRS accounting rules should be changed to require a more comprehensive accounting for expected losses that can be measured reliably, using information readily available in the markets.

Erklärungsfaktoren für den Einsatz von Währungsderivaten bei deutschen Unternehmen - eine empirische Logit-Analyse

SummaryWe analyse the determinants of exchange risk management with derivative instruments by German nonfinancial companies testing hypotheses derived from financial theory. Our results differ from those of studies using data from Anglo-Saxon countries: Size related cost advantages, bankruptcy costs or costs of underinvestment because of an inadequate level of internal financing as suggested by Froot/Scharfstein/Stein (1993) turn out not to be significant. Variables that capture managerial interests or the extent of foreign exchange risk exposure are significant determinants of the use of foreign exchange derivatives. Further we find that closely held companies whose shareholders are less diversified and therefore should hedge more in fact use significantly less often foreign exchange derivatives.

Impairments of Greek government bonds under IAS 39 and IFRS 9: A Case Study

Abstract International Financial Reporting Standard 9 (IFRS 9) 9 introduces new impairment rules responding to the G20 critique that International Accounting Standard 39 (IAS 39) results in the delayed and insufficient recognition of credit losses. In a case study of a Greek government bond for the period 2009–2011 when Greece’s credit rating declined sharply, this paper highlights the discretion that preparers have when estimating impairments. IFRS 9 relies more on management expectations and will lead to earlier impairments. However, these appear still delayed and low if compared to the fair value losses.

Zukunftsorientierte Bestimmung von Risikoprämien und Eigenkapitalkosten für die Unternehmensbewertung

ZusammenfassungDer Bestimmung risikoadäquater Diskontierungssätze kommt bei der Unternehmensbewertung eine zentrale Bedeutung zu. Wird zu deren Bestimmung das CAPM verwendet, sind risikolose Zinssätze und Risikoprämien zu bestimmen. Passend zu den zu bewertenden erwarteten zukünftigen Überschussgrößen sollten auch die zur Diskontierung verwendeten Renditeforderungen die im Bewertungszeitpunkt erwarteten künftigen Renditen vergleichbarer Anlagen widerspiegeln. Die weitaus meisten Beiträge zur Operationalisierung des CAPM leiten die Renditeforderungen jedoch aus historischen Kapitalmarktrenditen und damit vergangenheitsorientiert ab. Wir zeigen in diesem Beitrag auf, wie erwartete Risikoprämien aus beobachtbaren Größen, vor allem den Überschussprognosen von Finanzanalysten, stichtagsbezogen aus Kapitalmarktdaten abgeleitet werden können. Damit wird eine konzeptionell schlüssigere Bewertung der im Bewertungszeitpunkt erwarteten künftigen Überschüsse mit den zeitgleich erwarteten künftigen Renditen ermöglicht.SummaryCost of capital estimation has long been recognized as a most critical element in business valuation. Despite the fact that the CAPM calls for measures of expected rates of return, most practical applications have utilized backward-looking return realizations as inputs into the model. We show how expected risk premia and rates of return can be derived forward-looking by exploiting observable data from capital markets, most notably consensus forecasts of financial analysts and stock prices. This methodology is conceptually convincing as it allows to discount expected future cash flows of a firm with corresponding expected alternative rates of return at a given valuation date.