THE ACCOUNTING REVIEW

Vol. 85, No. 1

2010
pp. 3161

American Accounting Association

DOI: 10.2308 / accr.2010.85.1.31

Market Reaction to the Adoption of

IFRS in Europe
Christopher S. Armstrong
University of Pennsylvania
Mary E. Barth
Alan D. Jagolinzer
Stanford University
Edward J. Riedl
Harvard University
ABSTRACT: This study examines European stock market reactions to 16 events associated with the adoption of International Financial Reporting Standards (IFRS) in Europe. European IFRS adoption represented a major milestone toward financial reporting
convergence yet spurred controversy reaching the highest levels of government. We
find an incrementally positive reaction for firms with lower quality pre-adoption information, which is more pronounced for banks, and with higher pre-adoption information
asymmetry, consistent with investors expecting net information quality benefits from
IFRS adoption. We find an incrementally negative reaction for firms domiciled in code
law countries, consistent with investors concerns over enforcement of IFRS in those
countries. Finally, we find a positive reaction to IFRS adoption events for firms with
high-quality pre-adoption information, consistent with investors expecting net convergence benefits from IFRS adoption.
Keywords: IFRS; IAS 39; convergence; Europe.
Data Availability: All data are publicly available from sources indicated in the text.
JEL Classifications: M41, G15, G38.
We thank Robert Bushman, Craig Chapman, Tony Cope, Gilbert Gelard, Ian Gow, Bob Holthausen, Ole-Kristian
Hope, Dave Larcker, Jim Leisenring, Dave Maber, Greg Miller, Karl Muller, Joe Piotroski, Thorsten Sellhorn, Dan
Taylor, and two anonymous referees for helpful comments and discussions. We also thank seminar participants at
the American Accounting Association Annual Meeting, especially Luzi Hail, discussant, European Accounting
Association Annual Congress, Harvard Business School Accounting Seminar Series, Harvard Business School
International Seminar Series, The Ohio State University, Southern Methodist University, Stanford Graduate
School of Business Accounting Summer Camp, The University of Chicago, The University of Iowa, University of
North Carolina Global Issues in Accounting Conference, and University of Toronto. We thank Sarah Eriksen and
James Zeitler for data assistance, and Susanna Kim for research assistance.
Editors note: Accepted by Steven Kachelmeier, with thanks to Dan Dhaliwal for serving as editor on previous
versions.

Submitted: August 2007

Accepted: April 2009
Published Online: January 2010

31

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Armstrong, Barth, Jagolinzer, and Riedl

I. INTRODUCTION
his study examines European stock market reactions to events associated with the
2005 adoption of International Financial Reporting Standards (IFRS) in Europe.1
Prior to 2005, most European firms applied domestic accounting standards. Thus,
the adoption of IFRS in Europe represented one of the largest financial reporting changes
in recent years and was controversial, generating debate that reached the highest levels of
government. The adoption of IFRS as issued by the International Accounting Standards
Board (IASB) would result in the application of a common set of financial reporting standards within Europe, and between Europe and the many other countries that require or
permit application of IFRS. Thus, the debate was about not only the benefits and costs of
IFRS adoption itself, but also the global financial reporting convergence implications
if IFRS were modified as a result of the adoption process.2 Modifying IFRS would result
in European standards differing from those used in other countries, thereby eliminating
some potential convergence benefits.3 We refer to the adoption of IFRS as issued by the
IASB as the adoption of IFRSadoption of modified standards is not adoption of IFRS.
It is unclear how investors in European firms would react to this anticipated change in
financial reporting. This study examines these reactions.
It is possible that investors in European firms would react positively to movement
toward IFRS adoption if, for example, investors expected application of IFRS to result in
higher quality financial reporting information, thereby lowering information asymmetry
between the firm and investors and information risk and, thus, cost of capital. Investors
also might have believed that application of a common set of standards would have convergence benefits, such as lowering the costs of comparing firms financial position and
performance across countries, and that IFRS adoption would enable European capital markets to become more globally competitive, with consequent increases in liquidity for European firms. Alternatively, it is possible that investors in European firms would react negatively to movement toward IFRS adoption. This could be the case if investors believed
that IFRS would result in lower quality financial reporting information. For example, IFRS
might not adequately reflect regional differences in economies that led to differences in
domestic accounting standards. Also, investors might have believed that potential variation
in the implementation and enforcement of IFRS would lead to an increase in the exercise
of opportunistic managerial discretion when applying IFRS. Finally, investors might have
believed that the implementation and transition costs associated with IFRS would exceed
any benefits.
To gain insight into investors expectations regarding the net cost or benefit of IFRS
adoption in Europe, we examine three-day market-adjusted returns for firms with equity
traded in the European stock market centered on 16 events that we assess as affecting the
likelihood of IFRS adoption in Europe. We find an incrementally positive reaction for firms
with lower pre-adoption information quality, which is consistent with investors expecting
that IFRS adoption will result in greater informational benefits for these firms. We find an

We examine market reactions in all stock markets in Europe. Throughout, we refer to these markets collectively
as the European stock market. Also, we examine market reactions for firms trading in the European stock
market. Throughout, we refer to these firms as European firms.
For example, the U.S. Securities and Exchange Commission (SEC) recently eliminated the requirement for
cross-listed firms that prepare their financial statements using IFRS as issued by the IASB to reconcile net
income and shareholders equity from those based on IFRS to those based on U.S. standards. The SEC did not
propose to eliminate the requirement for cross-listed firms that use IFRS as modified by any particular jurisdiction, including the European Union.
Market reactions studied in this paper may reflect perceptions of investors in European firms regarding the global
convergence implications of any decision by Europe to modify IFRS before adoption.

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even more positive reaction for banksbut only those banks with lower pre-adoption information quality. This is consistent with investors expecting that IFRS will result in a
greater improvement in information quality for these banks, perhaps reflecting perceived
net benefits associated with adoption of the controversial International Accounting Standard
(IAS) 39, Financial Instruments: Recognition and Measurement. We also find an incrementally positive reaction for firms with higher pre-adoption information asymmetry, which
is consistent with investors expecting that IFRS adoption will mitigate this asymmetry.
Finally, we find an incrementally negative reaction for firms domiciled in code law countries. This finding is consistent with investors harboring concerns regarding implementation
of IFRS in countries that are generally thought to have weaker accounting standards enforcement, although this reaction could be attributable to other factors associated with a
firm being domiciled in a code law country.
Further analyses reveal a positive reaction to IFRS adoption events for the subset of
European firms with the highest quality pre-adoption information. To the extent investors
expect little, if any, informational benefits from IFRS adoption for these firms, this finding
is consistent with investors expecting net benefits associated with convergence. Sensitivity
analyses reveal that our results are robust to alternative proxies for information quality,
measures of standards enforcement environments, and benchmark returns.
Section II discusses the background of IFRS adoption in Europe. Section III reviews
prior research and provides the basis for interpreting the market reaction to each event.
Section IV describes our data and research design. Section V presents our empirical results,
and Section VI presents sensitivity analyses. Section VII concludes.
II. BACKGROUND
European Union Adoption Process
We focus on the European Union (EU) adoption of IFRS because the EU comprises
most countries in Europe.4 In March 2002, the European Parliament passed a resolution
requiring all firms listed on stock exchanges of European member states to apply IFRS
when preparing their financial statements for fiscal years beginning on or after January 1,
2005. This requirement affected approximately 7,000 firms.5 The prospects of adopting
IFRS represented a substantial shift in financial reporting for European firms because many
requirements in IFRS differ from those in domestic standards of European countries. Also,
the adoption of IFRS in Europe reflects an EU goal of achieving capital market integration;
it is a necessary step toward convergence of financial reporting not only across Europe, but
also between Europe and the rest of the world. Although the resolution requires firms to
use IFRS, which are issued by the IASB, a private-sector standard-setter, the European
Commission (EC) must endorse the standards before they are required in the EU. Thus,
the EC retains the power to reject any standard, or part of a standard, it believes does not
meet its criteria for endorsement. The three primary criteria are: the standard is not contrary
to the EUs true and fair principle; the standard meets the criteria of understandability,
4

The exceptions are Iceland, Liechtenstein, and Norway, which are members of the European Economic Area
(EEA), and Switzerland. Members of the EEA are committed to following EU Directives, including those relating
to IFRS adoption. Switzerland is centrally located in Europe and, thus, has close economic ties with other
European countries. Effective in 2005, Switzerland required all listed firms to use either IFRS or U.S. standards.
Presumably its decision was related to that of the EU. Thus, our sample includes firms domiciled in Norway
and Switzerland; no firms in Liechtenstein or Iceland met our data requirements. Because Switzerland is not
committed to following EU Directives, we conducted all of our tests omitting Swiss firms with no change in
our inferences.
The required adoption date is January 1, 2007 for firms trading securities in the U.S. and basing their financial
statements on U.S. standards, and firms trading debt securities but not equity securities.

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Armstrong, Barth, Jagolinzer, and Riedl

relevance, reliability, and comparability; and adopting the standard is in the European public
interest.
The EC endorsement process, which played a key role in the adoption of IFRS in
Europe, is as follows (Brackney and Witmer 2005; KPMG IFRG Limited 2005). The IASB
develops IFRS in accordance with due process procedures outlined in its governing constitution (IASB 2006). This process involves public meetings and extensive input from
interested parties around the world. Among these is the European Financial Reporting
Advisory Group (EFRAG), a private-sector organization comprised of accounting experts
from the EU, which provides advice to the EC regarding technical accounting matters.
After the IASB issues a standard, EFRAG reviews it and, after public consultation, EFRAG
decides whether to recommend that the EC endorse the standard for use in Europe. Taking
EFRAGs advice into account, the EC drafts proposed regulation. The EC then seeks input
from the Accounting Regulatory Committee (ARC). The ARC, a governmental organization
comprised of representatives from each EU member state, reviews the regulation and provides its recommendation about adoption in the EU. The ARC considers the technical merits
of the standard as expressed in EFRAGs recommendation letter, as well as the implications of the standard for the European public interest. If the ARC recommends endorsement,
then the EC decides whether to endorse the standard, as written by the IASB or as amended,
or to reject it. If endorsed, the standard becomes regulation applicable to firms in the EU.
If the ARC recommends rejection of the standard, then the EC can ask EFRAG to consider
it further, or send it to the European Parliament for a decision.6
The debate surrounding the adoption of IFRS in Europe initially focused on the merits
of adopting IFRS, such as whether the benefits of the expected increase in capital flows
would outweigh the costs of implementation and loss of diversity in domestic accounting
standards. The debate later centered on IAS 39, Financial Instruments: Recognition and
Measurement, and, to a lesser extent, on IAS 32, Financial Instruments: Disclosure
and Presentation (IASB 2004a). The provisions in these two standards, particularly IAS 39
(IASB 2004b), had the potential to materially affect financial statement amounts for firms
with a large number of financial instruments, notably banks. The debate regarding IAS 39
ultimately led to the modification of IAS 39 for adoption in Europe. However, modifications
of IAS 39, or any other IASB standard, undermine the EUs goal of adopting a set of global
standards.
Regarding IAS 39, the controversy focused on two types of requirements. The first
type relates to use of fair value as the measurement attribute. IAS 39 requires many financial
instrumentsnotably derivativesto be recognized at fair value, with changes in fair value
recognized in profit or loss.7 IAS 39 also includes a fair value option that permits firms to
designate irrevocably financial instruments on initial recognition as ones to be measured at

The process can apply to a single standard or to a group of standards. For the initial endorsement of IFRS in
Europe, the extant set of standards was considered as a group. Specifically, the EC considered all standards
effective at March 1, 2002, which included IAS 1 through IAS 41, as well as the related Standing Interpretations
Committee (SIC) interpretations, i.e., SIC 1 through SIC 33.
IAS 39 classifies financial assets into (1) loans and receivables not held for trading; (2) held-to-maturity investments; (3) financial instruments held for trading, including derivatives; and (4) available-for-sale financial
assets. Financial assets in (1), (2), (3), and (4) are recognized at, respectively, amortized cost; amortized cost
subject to impairment; fair value with changes in fair value recognized in profit or loss; and fair value with
changes in fair value recognized in other comprehensive income. Most financial liabilities are recognized at
amortized cost, except derivatives and liabilities held for trading, which are recognized at fair value with changes
in fair value recognized in profit or loss.

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fair value with changes in fair value recognized in profit or loss. The second type of
controversial requirements relates to qualifying criteria for hedge accountingIAS 39s
qualifying criteria are specific and not easy to satisfy. Hedge accounting generally results
in gains (losses) on a hedged item and losses (gains) on a designated hedging instrument
being recognized in profit or loss at the same time to the extent the gains (losses) on the
hedged item result from the hedged risk(s). Thus, hedge accounting reduces volatility in
profit or loss resulting from, e.g., measuring derivatives entered into for hedging purposes
at fair value and measuring the hedged item at amortized cost. However, IAS 39 does not
permit hedge accounting for many financial instruments ostensibly entered into for hedging
purposes. For example, IAS 39 does not permit hedge accounting for interest rate risk
associated with core demand deposits, even though European banks frequently claim to
hedge such risk. For many European firms, the fair value and hedging requirements in IAS
39 differ substantially from requirements in their domestic standards. In fact, most European
domestic standards do not include standards specifying the financial reporting for many
financial instruments.
IFRS Adoption Events
Although the adoption of IFRS was an involved process with considerable discussion,
we identify 16 events between 2002 and 2005 that we assess as affecting the likelihood
that IFRS would be adopted in Europe.8 We identify the events by searching Dow Jones
News Retrieval using the terms IFRS, international financial reporting standards, harmonization, and IAS 39, as well as by examining press releases and available listings
of documents publicly released by the IASB, the European Parliament, the EC, and EFRAG.
This search provided an initial listing of approximately 40 events. Each author independently verified each events timing, content, and likely directional effect on IFRS adoption
likelihood. Each author then independently identified the events that likely had the greatest
effect on the likelihood of IFRS adoption; events that simply confirmed an earlier event
were eliminated. Table 1 lists the resulting 16 events and our assessment as to whether
each event increased or decreased adoption likelihood. We assess 13 events as increasing
the likelihood of IFRS adoption and three events as decreasing it. Our assessment of each
events directional effect on adoption likelihood reflects our assessment of how the event
likely affected investors expectations conditional on prior events and discussions, and enables us to aggregate the market reaction across events.
The first event is March 12, 2002, when the European Parliament passed the resolution
requiring all firms listed on stock exchanges in the EU to apply IFRS by 2005. The resolution passed by a vote of 429 for, 5 against, and 29 abstentions, indicating broad support
for adoption of IFRS. Even though convergence toward international standards had been
under consideration in Europe prior to 2002, we use the March 12, 2002 resolution as our
first event because passage of the resolution was the first clear commitment to IFRS

Earlier events that we identify generally relate to broad adoption of IFRS in Europe. Later events generally
focus on whether Europe might adopt particular standards as written by the IASB. Even though the focus was
on particular standards for the later events, the uncertainty remaining to be resolved as the later events unfolded
was more general. In particular, a key dimension of uncertainty was whether Europe would adopt IFRS as
written by the IASB or would modify some standards, which could have global convergence implications.

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TABLE 1
Events and Predicted Effects on Likelihood of European Adoption of IFRS

Event Date
March 12, 2002
May 14, 2002
June 19, 2002
July 4, 2003
July 9, 2003
July 16, 2003
September 29, 2003
February 3, 2004

July 8, 2004
October 1, 2004

January 2010

November 19, 2004

June 16, 2005
July 8, 2005
November 15, 2005

European Parliament passes resolution requiring all EU-listed

companies to use IFRS by 2005
EFRAG issues draft recommendation to endorse all extant IFRS
EFRAG issues final recommendation to endorse all extant IFRS
Chirac sends letter to Prodi expressing concerns about IAS 39
and its potential negative effect on Europe
Bolkestein sends letter to Tweedie supporting goal of adoption
ECOFIN and ARC support adoption of IFRS
EC endorses all extant IFRS, except IAS 32 and IAS 39
Bolkestein pledges to postpone endorsement of IAS 32 and
IAS 39 until issues are resolved; sets up consultative group
to facilitate resolution
HSBC announces intentions to implement IAS 39 in full
EFRAG issues draft recommendation to endorse IAS 32 and
IAS 39
EFRAG issues final recommendation to endorse IAS 32 and
IAS 39
ARC recommends endorsement of IAS 39, but recommends
provisions relating to the fair value option and portfolio
hedging of demand deposits be carved out
EC endorses IAS 39 with both carve-out provisions
IASB issues revised IAS 39 with new fair value option
ARC recommends endorsement of revised fair value option,
thereby eliminating one of the carve-outs
EC endorses revised fair value option, thereby eliminating one
of the carve-outs

Predicted Market
Reaction if
IFRSbenefits IFRScosts
(IFRSbenefits IFRScosts)

Increase

()

Increase
Increase
Decrease

()
()
()

Increase
Increase
Increase
Increase

Increase
Increase

()
()

Increase

()

Decrease

()

Decrease
Increase
Increase

()
()
()

Increase

()

()
()
()
()

(continued on next page)

Armstrong, Barth, Jagolinzer, and Riedl

March 30, 2004

June 4, 2004

Description

Assessed Effect on
Likelihood of
IFRS Adoption

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This table presents the 16 events, our assessment of their effect on the likelihood of the European adoption of IFRS as issued by the IASB, and the predicted market
reaction to each event. In the last column, IFRSbenefits IFRScosts refers to the predicted market reaction if expected benefits associated with IFRS adoption exceed
expected costs. IFRSbenefits IFRScosts refers to the predicted market reaction if expected benefits associated with IFRS adoption are lower than expected costs.
Key persons / organizations referred to in the event descriptions are defined as follows:
ARC (Accounting Regulatory Committee) is a public-sector body that opines on EC proposals regarding international accounting standards, and is comprised
of representatives from each member state of the European Union (EU), chaired by the EC.
Bolkestein (Frits Bolkestein), a commissioner of the EC, is responsible for internal markets, taxation, and customs union.
Chirac (Jacques Chirac) is the President of France.
EC (European Commission) was created to represent the European interest common to all Member States of the EU, and has the right of initiative in the
legislative process, i.e., it proposes the legislation on which the European Parliament and the Council decide to enact.
ECOFIN (European and Financial Affairs Council) is comprised of the Economics and Finance ministers of the member states, and covers EU policy in
several areas, including financial markets.
EFRAG (European Financial Reporting Advisory Group) is a private-sector body created by the accounting profession within Europe, and advises the EC on
the technical assessment of IASB-issued financial reporting standards.
IASB (International Accounting Standards Board) is an independent, privately funded financial reporting standard-setter charged with creating International
Financial Reporting Standards.
Prodi (Romano Prodi) is the President of the EC.
Tweedie (Sir David Tweedie) is the Chairman of the IASB.

Market Reaction to the Adoption of IFRS in Europe

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adoption.9 On May 14, 2002 and June 19, 2002, EFRAG issued its draft and final recommendations that extant IFRS be endorsed en bloc. The endorsement recommendation letters
stated EFRAGs view that the regulation requiring European firms to adopt IFRS by 2005
is a major achievement in that the common basis for financial reporting based on highquality global standards provides a platform for efficient cross-border investment both
within and beyond the EU. EFRAG further noted that the IASB was reviewing several
standards with the objective of making some improvements to them; EFRAG would consider those changes and make its recommendation on them after the IASB issues them.
These three events reflected clear support for the broad adoption of IFRS. Therefore, we
assess these events as increasing the likelihood of IFRS adoption in Europe.
During the remainder of 2002 and into 2003 the EC considered whether to accept
EFRAGs recommendation to endorse extant IFRS. On July 4, 2003, Jacques Chirac, President of France, wrote a letter to Romano Prodi, President of the EC, to express concern
that adopting IFRS, particularly IAS 39, would not be in the best interest of Europe.
Chiracs interest in the debate arose at least in part because French banks were among the
most critical of IAS 39. Chiracs involvement showed IFRS-related concern at the highest
level of government. Therefore, we assess this event as decreasing the likelihood of IFRS
adoption.
On July 9, 2003, Frits Bolkestein, the EC commissioner responsible for internal markets, expressed to Sir David Tweedie, Chairman of the IASB, similar concern about IAS
39, but expressed support for the broader goal of convergence using IFRS. On July 16,
2003, the ARC and the EUs Economic and Financial Affairs Council (ECOFIN), which is
comprised of the Economics and Finance ministers of the EU member states, echoed
Bolkesteins support for adoption of IFRS, despite also echoing his concern about IAS 39.
On September 29, 2003, the EC endorsed all extant IFRS, except IAS 32 and IAS 39. Even
though all of these events reflect concern about IAS 39, they all expressed clear support
for IFRS adoption and the desire to work to resolve in the near term the remaining issues
relating to IAS 39. Therefore, we assess these three events as increasing the likelihood of
IFRS adoption.
After the ECs endorsement of most extant IFRS, the debate seemingly focused on IAS
32 and IAS 39, although the debate also reflected the possibility that the EU would amend
IASB-issued standardsand the implications this might have for the adoption of future
standards by the EU. Although the IASB revised IAS 39 in December 2003, the revisions
did not resolve the controversial issues relating to the fair value option and hedge accounting
requirements. Thus, the endorsement of IAS 32 and IAS 39 remained uncertain.
On February 3, 2004, Bolkestein indicated his intention to continue postponing endorsement of IAS 32 and IAS 39 until the issues could be resolved. To facilitate resolution,
he announced establishment of a high-level consultative group. On March 30, 2004, HSBC,
the largest European bank, expressed its support for adoption by announcing its plans to
implement IAS 39 in full, regardless of whether the EC endorsed it. On June 4, 2004,
EFRAG issued draft recommendations to endorse IAS 32 and IAS 39. Although the IAS
32 recommendation was unanimous, 6 of 11 EFRAG members voted against the IAS 39
9

Prior research finds little (Comprix et al. 2003) or limited (Pae et al. 2007) evidence of a market reaction to
IFRS adoption events before March 12, 2002. These findings suggest that investors IFRS adoption expectations
were not affected by events prior to the March 12, 2002 resolution, the studied events were not those that
affected investors expectations, or the event windows were too narrow to capture the market reaction to the
events. Nonetheless, our findings may only partially capture the market reaction to EU IFRS adoption to
the extent that events prior to March 12, 2002 affected investors expectations about the European Parliaments
resolution. The direction of any bias arising from the omission of such events is unclear.

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recommendation. A majority negative vote is insufficient for EFRAG to recommend nonendorsement of a standardthe EFRAG constitution requires a two-thirds negative vote.
On July 8, 2004, EFRAG issued its final recommendations to endorse IAS 32 and IAS 39,
both based on the same votes as the draft recommendations. Although each of these events
continued to reflect concern regarding IAS 39, the actions taken by Bolkestein to resolve
the conflicts, the support of IAS 39 by a major European bank, and EFRAGs recommended
endorsement of IAS 39 all reflected events that we assess as having increased the likelihood
of IFRS adoption.
On October 1, 2004, the ARC added its endorsement recommendation to that of
EFRAG. However, the ARC did not recommend endorsement of IAS 39 as issued by the
IASB. Rather, the ARC recommended that the EC carve out of IAS 39 the two parts of
the standard that were the focus of the controversy. Endorsing IAS 39 with this carve-out
would mean that IFRS as applied in Europe would differ from IFRS applied elsewhere in
the world, thereby thwarting the goal of global convergence described in the 2002 EFRAG
endorsement recommendation letters. On November 19, 2004, the EC followed the ARC
recommendation and endorsed a carve-out version of IAS 39. Because these two events
indicated that the EC was willing to alter IFRS, we assess these events as decreasing the
likelihood of IFRS adoption.
The EC indicated its intention that the carve-outs be temporary, only in place until the
technical controversies were resolved. On June 16, 2005, the IASB revised the fair value
option in IAS 39, and on July 8, 2005 ARC recommended endorsement of it. The EC
endorsed the revised fair value option on November 15, 2005, thereby eliminating one of
the two carve-outs of IAS 39.10 Because these three events supported the ECs intention to
eliminate the carve-outs and made IFRS as endorsed in the EU closer to IFRS as issued
by the IASB, we assess these events as increasing the likelihood of IFRS adoption.
III. PRIOR RESEARCH AND EXPECTED MARKET REACTION
Little is known about how investors perceived the possibility of IFRS adoption in
Europe. This study infers investor perceptions by examining the equity market reaction to
events leading to the adoption. Prior research uses this approach to assess the perceptions
of investors in U.S. firms regarding individual standards (e.g., fair value accounting in
Statement of Financial Accounting Standards [SFAS] No. 115 by Beatty et al. [1996] and
Cornett et al. [1996]; and stock-based compensation accounting in SFAS No. 123 by
Dechow et al. [1996]). However, the setting in our study, which investigates investor perceptions regarding an entire set of accounting standards, is perhaps more analogous to prior
research that examines investor perceptions to broad legislation (e.g., the Sarbanes-Oxley
Act by Jain and Rezaee [2006], Zhang [2007], and Li et al. [2008]).
It is unclear how investors in European firms would react to movement toward IFRS
adoption. It is possible that investors would react positively to movement toward
IFRS adoption if, for example, they expected application of IFRS to result in higher quality
financial reporting relative to application of domestic standards, thereby enhancing financial
reporting transparency, and reducing information asymmetry and information risk and, thus,
lowering cost of capital. This prediction is supported by prior research. For example, Barth
et al. (2008) finds that application of International Accounting Standards (IAS), which
comprise a large portion of extant IFRS, is associated with higher quality accounting
amounts than application of non-U.S. domestic standards. Similarly, Karamanou and
10

As of the writing of this manuscript, the second carve-out relating to hedge accounting remains in place.

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Nishiotis (2005) finds positive abnormal returns for a small set of non-U.S. firms announcing voluntary adoption of IAS between 1989 and 1999. Diamond and Verrecchia (1991),
Baiman and Verrecchia (1996), Leuz and Verrecchia (2000), and Barth et al. (2009), among
others, find that higher financial reporting quality is associated with lower cost of capital.
These studies are consistent with Aboody et al. (2004) and Easley and OHara (2004),
which provide evidence that information risk is priced and, thus, its perceived reduction
could result in an empirically detectable market reaction.
Investors might also react positively to movement toward IFRS adoption if they expect
application of IFRS to have positive cash flow effects. These effects could include reduced
contracting costs (e.g., Beatty et al. 1996) or reduced scope for managerial rent extraction
associated with greater financial reporting transparency (e.g., Hope et al. 2006). It also is
possible that investors in European firms would react positively to movement toward IFRS
if they believed IFRS would provide convergence benefits. For example, Barth et al. (1999)
finds that there can be positive market effects associated with convergence.11 Similarly,
Ashbaugh and Pincus (2001) finds that previous convergence efforts relating to IAS resulted
in reductions in analyst forecasts errors. Pae et al. (2007) finds that firm value reflected in
Tobins Q, increased after the passage of EU regulations intended to converge financial
reporting, particularly for firms with higher agency costs.
Alternatively, it is possible that investors in European firms would react negatively to
movement toward IFRS if, for example, they believed IFRS would decrease financial reporting quality. This could occur if investors believed IFRS would fail to either adequately
reflect regional differences in economies or accommodate countries differing political and
economic features that led to existing differences in domestic accounting standards.12 Investors might also believe that variation in the implementation and enforcement of IFRS
could lead to an increase in opportunistic managerial discretion when applying IFRS. Ball
(1995, 2006) and Daske et al. (2007), among others, point out that effective financial
reporting convergence requires consistent implementation and enforcement of standards.
Unlike the SEC in the U.S., there was no regulatory counterpart with enforcement authority
that spanned the European member states to ensure consistent application of IFRS. Consistent with factors other than standards themselves affecting financial reporting quality,
Ball et al. (2003) reports no detectable information quality difference between East Asian
firms with high-quality, i.e., common law-based, accounting standards and those with lowquality, i.e., code law-based, accounting standards. There also is evidence that substantial
information quality differences within Europe remain even after convergence efforts that
preceded the 2005 IFRS adoption EU mandate (e.g., Tay and Parker 1990; Joos and Lang
1994). Investors also might have believed that any convergence benefits arising from adoption of IFRS would be less than the costs to implement and transition to the new set of
standards.
IV. DATA AND RESEARCH DESIGN
We infer investor perceptions relating to IFRS adoption by examining European firms
equity return reactions to our 16 adoption events. We first provide descriptive evidence on
11

12

Barth et al. (1999) shows that the net market effect of convergence is a function of two effects. The first is the
direct informational effect, i.e., whether convergence increases or decreases accounting quality. The second is
the expertise acquisition effect, i.e., whether investors become experts in foreign accounting, which depends on
how costly it is to develop the expertise. Therefore, ex ante the net market effect of convergence is uncertain.
For example, relative to domestic standards, IFRS generally specify a greater use of fair values, which some
believe is more susceptible to opportunistic managerial discretion than are modified historical cost-based
amounts.

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January 2010

41

Market Reaction to the Adoption of IFRS in Europe

the overall European market reaction to these events. We then focus our tests on determining
whether particular firm characteristics explain cross-sectional variation in firms return reactions in a manner consistent with our predictions. Because the adoption of IFRS resulted
from a process that evolved over several years, we draw our inferences from analyses of
the market reactions associated with all 16 events taken together, rather than with each
event separately.
Our initial sample comprises all European firms for which event returns are available
for all 16 events in Table 1, which yields an initial sample of 3,265 firms. Our crosssectional tests require additional data, which results in a smaller sample size of 1,956 firms.
We base our tests on three-day value-weighted market-adjusted returns for these firms
centered on each of the 16 event dates, CMARj,e, where j denotes firm and e denotes event.13
We obtain daily price data between 2002 and 2005 from Datastream through Thomson One
Banker Analytic. Table 2 provides a breakdown of the sample by country.

TABLE 2
Sample Composition by Country
Country

Firms

Total Obs.

Austria
Belgium
Czech Republic
Denmark
Finland
France
Germany
Greece
Ireland
Italy
The Netherlands
Norway
Poland
Portugal
Spain
Sweden
Switzerland
U.K.
Total

39
65
5
80
84
424
518
150
32
202
109
74
45
38
94
187
149
970
3,265

624
1,040
80
1,280
1,344
6,784
8,288
2,400
512
3,232
1,744
1,184
720
608
1,504
2,992
2,384
15,520
52,240

This table presents the sample composition by country. The sample includes all European firms with returns
available for all 16 events in 20022005 listed in Table 1.

13

We obtain the same inferences if we require sample firms to have a three-day return for only one event. In
addition, untabulated statistics provide additional assurance that our sample firms are representative of European
firms. In particular, the Pearson correlations between daily non-event date returns for the initial sample portfolio
and daily non-event returns for the MSCI European Index, which is a broad-based market index, and the 600
European firms included in the DJ STOXX Global 1800 Index are 0.993 and 0.985, respectively. The correlation
between the portfolio returns on event and non-event dates for our initial sample and the sample on which we
base our cross-sectional analyses is 0.995.

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Armstrong, Barth, Jagolinzer, and Riedl

Following the vast event-study literature (e.g., Campbell et al. 1997), we market-adjust
raw event returns to mitigate potentially confounding effects of global news occurring
concurrently with our event dates. Because our events affect a large subset of the global
equity marketall of Europethe appropriate market index is not obvious. We market
adjust the returns by subtracting the corresponding three-day return to the Dow Jones
STOXX Global 1800 Index excluding the 600 European firms in the index (DJ STOXX
1800 ex Europe, hereafter).14 We base our inferences on the DJ STOXX 1800 ex Europe
index because including returns of European firms in the market adjustment return would
remove some of the effect we seek to document. However, untabulated findings reveal that
our inferences are unchanged if we use the full DJ STOXX 1800 Index. Consistent with
the existence of global news that affects returns of European firms and firms in other parts
of the world, untabulated statistics reveal a significantly positive Pearson correlation of
0.551 between daily non-event returns for our initial sample of European firms and daily
non-event returns for the DJ STOXX 1800 ex Europe.15,16
Our event-study research design relies on a degree of equity market efficiency in the
sample countries that is sufficient to ensure the information related to each event is reflected
in equity prices during the event window in an unbiased manner. In particular, the maintained hypothesis throughout our analysis is that equity prices reflect unbiased expectations
of the costs and benefits of IFRS adoption conditional on available information. Although
the size and liquidity of the European equity market suggests this is a tenable assumption,
there is likely variation across markets within Europe during our sample period. If a sample
countrys equity market is not sufficiently efficient to reflect event information within the
event window, our tests can lack power or be biased (e.g., Hirshleifer 2001).
Our tests also rely on both the correct identification of information events and there
being no confounding news during the event windows.17 Including non-events likely introduces noise and excluding relevant events likely reduces power; both of which can introduce
bias. Our event selection procedures, described in Section II, are intended to minimize the

14

15

16

17

The stated objective of the Dow Jones STOXX Global 1800 Index (hereafter, DJ STOXX 1800) is to provide
a broad yet investable representation of the worlds developed markets. The index comprises the largest 600
firms, based on free float market capitalization, from each of Europe, North and South America, and the Asia /
Pacific region.
Our sample comprises all European firms that meet our data requirements, including, but not limited to, the 600
largest European firms that are in the DJ STOXX 1800 Index. We do not limit our analyses to the European
firms in the index for three reasons. First, IFRS adoption would affect all firms in the European market, not
only the largest firms. Thus, limiting our analyses to the largest firms limits the generalizability of our inferences.
Second, we predict and find evidence that investors reaction to European IFRS adoption events is smaller for
larger firms. Thus, limiting our analyses to the largest firms could bias against us finding a significant market
reaction across our event dates. Third, limiting the analyses to the largest firms would reduce cross-sectional
variation in our sample on dimensions relevant to our cross-sectional predictions, thereby reducing the power
of our tests.
It is possible that on our event dates investors in non-European firms revised their expectations of IFRS adoption
outside of Europe, which would affect returns that comprise the DJ STOXX 1800 ex Europe index. If so, then
using the DJ STOXX 1800 ex Europe index to market-adjust our event returns could remove some of the effect
we seek to document, i.e., bias our market-adjusted returns toward zero. Nonetheless, we use the index to market
adjust our returns because, as for European firms, we expect that any IFRS adoption effect is relatively small
for the largest non-European firms, whose returns comprise the index, which mitigates against such bias.
See Campbell et al. (1997, Chapter 4) for a detailed discussion of the assumptions and limitations of an eventstudy research design.

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Market Reaction to the Adoption of IFRS in Europe

43

likelihood of including non-events and excluding relevant events.18 Regarding potentially

confounding news, we search the U.S. and European editions of the Wall Street Journal,
including World Markets articles, and the European edition of the Financial Times for
non-IFRS related news during each event window. We observe other news within nearly
all event windows. However, as Table 1 indicates, our predictions are based on one of two
patterns of market reactions across event dates, depending on whether investors perceive
that the benefits of IFRS adoption exceed the costs, or vice versa. Our search for confounding news revealed no discernible pattern of good (bad) news during event windows for
events that we assess as increasing (decreasing) the likelihood of IFRS adoption, or vice
versa. That is, we do not observe a systematic alternative news pattern that would bias our
inferences.
Overall European Market Reaction
Our descriptive evidence on the overall European market reaction to IFRS adoption in
Europe focuses on market-adjusted event returns for a value-weighted portfolio of the initial
sample of firms. We view this evidence as descriptive because of the challenge in identifying
the appropriate market index with which to adjust the returns. We construct portfolio event
returns by value weighting each firms return based on the firms equity market value at
the end of the most recent quarter prior to the event to obtain a portfolio CMARe for each
event. We base our test statistics on portfolio returns because each portfolio return is unaffected by potential cross-sectional correlation (Sefcik and Thompson 1986), and portfolio
returns for different events should be uncorrelated. Because we assess some events as
increasing and some as decreasing the likelihood of IFRS adoption, when calculating our
test statistics we multiply the event returns for the latter by 1 to enhance interpretation
of investors response to the aggregated events.
We provide three statistics to test the significance of the portfolio event returns. The
first is a t-test of whether the mean of the 16 event portfolio CMARes differs from zero.
This statistic assumes normality of the return distribution and that our market adjustment
is the proper benchmark for the expected market return and, thus, the expected marketadjusted return equals zero. The standard deviation used to calculate the statistic is derived
from the distribution of the 16 event portfolio returns. Consistent with Fama and MacBeth
(1973), this assumes portfolio returns associated with different events are uncorrelated.
The second statistic is a t-test for whether the mean of the 16 event portfolio CMARes
differs from the mean of a distribution of similarly constructed non-event portfolio returns.
This statistic assumes unequal variances for the event and non-event return distributions.
We present this statistic because it admits the possibility that returns of European firms
differ systematically from returns of firms in other regions. That is, the statistic does not
assume that our market adjustment fully adjusts for the market return. To the extent returns
of European firms do not differ systematically from other firms, this statistic will display
diminished power because of estimation noise. To form the distribution of non-event returns,
we use returns for European firms for all days in our event years, 2002 to 2005, that do
18

It is possible that the June 19, 2002 and July 8, 2004 events, which finalized EFRAG endorsements, only
confirmed investors prior expectations and did not provide new information. This possibility requires assuming
EFRAGs final endorsement is perfunctory. If this is the case, they would be non-events and, thus, including
them in our tests likely would add noise. Regardless, untabulated findings reveal that our inferences are unaffected by excluding firms returns associated with these two events. Also, some might interpret the February 3,
2004 event as signaling a decreased likelihood of IFRS adoption because Bolkestein delayed endorsement of
two standards. Untabulated findings also reveal that our inferences are unchanged if we adopt this alternative
interpretation of this event.

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Armstrong, Barth, Jagolinzer, and Riedl

not overlap with our event windows. We calculate the 300 three-day portfolio returns,
ensuring non-overlapping windows, and subtract the corresponding three-day return to the
DJ STOXX 1800 ex Europe Index.19
The third statistic reflects the probability that the mean of the 16 event portfolio
CMARes exceeds the mean of 16 similarly constructed randomly selected non-event portfolio returns. This statistic assumes the distribution of these non-event returns is the same
as the distribution of event returns, but does not rely on any other distributional assumptions.
However, to the extent the randomly selected non-event portfolio returns do not reflect the
population of portfolio returns, there could be noise or bias in this statistic. To construct
this statistic, we randomly select 16 non-event portfolio returns from non-event dates that
mimic the year-by-year distribution of our sample events. That is, we select three, four, six,
and three non-event portfolio returns from 2002, 2003, 2004, and 2005, respectively. We
then designate one of the non-event portfolio returns from 2003 and two from 2004 as
being associated with events that decrease the likelihood of IFRS adoption. We then compare the standardized mean of the non-event portfolio returns to the standardized mean of
the 16 event portfolio CMARes.20 We repeat this procedure 500 times to construct a simulated p-value for the probability that the standardized mean non-event portfolio return is
greater than the standardized mean portfolio CMARe.21
Cross-Sectional Analysis
We base our main inferences on tests of whether firm characteristics explain crosssectional variation in the market reaction to IFRS adoption events. This analysis assumes
that investors assess the expected costs and benefits of IFRS adoption, including those
related to accounting information quality, and implementation and transition. To obtain our
inferences, we estimate the following equation:
CMARj,e 0 1InfoQualFactorj,e 2Bankj,e
3InfoQualFactorj,e * Bankj,e 4Turnoverj,e
5CloselyHeldj,e 6Herfj,e 7Codej,e 8Big4j,e j,e.

(1)

As in our portfolio return statistics, when estimating Equation (1) we multiply by 1 returns
associated with events we assess as decreasing the likelihood of IFRS adoption.
Our proxy for the firms pre-adoption information quality is InfoQualFactor, which is
the first principal component derived from four variables selected to capture information
quality.22 The four variables are ADR, an indicator variable that equals 1 if a firm crosslists in the U.S. using American Depository Receipts (ADR) during the event year, and 0
otherwise; Standards Applied, an indicator variable that equals 1 if the firm applies U.S.
standards or International Accounting Standards (IAS) during the event year, and 0 if the
19

20
21

22

There are approximately 75 non-event three-day windows in each of the four sample years, which results in
300 non-event return windows. To ensure that our non-event returns do not overlap with each other, we select
every fourth trading day as the beginning of the three-day return window. Our inferences are unaffected by
altering the starting point for this trading day selection.
We standardize means by dividing the mean return by the standard error of the 16 event return distribution.
This procedure effectively calculates how often our event distribution t-statistic is larger than a t-statistic estimated from a similarly constructed distribution of non-event dates. Bootstrap p-values indicate the likelihood of
obtaining a similar magnitude statistical rejection of the null hypothesis on non-event dates. See, for example,
Hein and Westfall (2004).
InfoQualFactor is estimated using varimax orthogonal rotation. The first and second principal component eigenvalues are 1.75 and 0.99, respectively.

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Market Reaction to the Adoption of IFRS in Europe

45

firm applied domestic standards;23 Exchanges, the number of exchanges on which the firm
is listed during the event year; and Size, the natural logarithm of the firms prior end of
year market value of equity. We expect ADR firms to have higher quality pre-adoption
information because these firms are subject to U.S. securities regulation and enforcement,
are required during our sample period to reconcile domestic standards-based net income
and equity book value to those based on U.S. standards, and are typically larger and more
widely followed by analysts.24 We expect that firms applying U.S. standards or IAS, firms
listed on multiple exchanges, and firms that have larger equity market values to have higher
quality pre-adoption information. To ease interpretation, we multiply factor scores by 1
so that higher values of InfoQualFactor correspond to lower quality information. If investors
perceive the benefits to IFRS adoption are higher for firms with lower quality pre-adoption
information, then we expect 1 is positive.
To provide insight into whether the event market reactions reflect perceptions regarding
IFRS generally or IAS 39 in particular, we include in Equation (1) Bank, which is an
indicator variable equal to 1 if the firms primary two-digit SIC code is 60 or 61, i.e.,
depository institutions and non-depository credit institutions, and 0 otherwise. We include
Bank because IAS 39 figured prominently in banks resistance to EU IFRS adoption. Investors in banks might react more positively than investors in other firms if they perceive
informational benefits associated with IAS 39, such as those associated with financial statement recognition of previously unrecognized derivative financial instruments, leading to a
positive predicted sign for 2. However, investors in banks might react more negatively if
they perceive that banks would incur more IFRS-related transition costs, such as those
associated with extensive systems changes to account for large portfolios of financial instruments and hedging activities or raising the attention of banking regulators if they report
more volatile earnings based on IFRS than based on their domestic standards. This would
lead to a negative predicted sign for 2. Thus, we do not predict the sign of 2. Equation
(1) also includes the interaction variable InfoQualFactor * Bank, which is intended to
capture any incremental market reaction for those banks with lower quality pre-adoption
information as reflected in InfoQualFactor. For reasons discussed above, we do not predict
the sign of 3.
Equation (1) also includes three proxies for pre-adoption information asymmetry among
investors or between the firm and investors. The first is Turnover, which is an indicator
variable that equals 1 if the firms ratio of average number of daily shares traded to average
total number of shares outstanding for the year is greater than the sample median, and 0
otherwise. The second is CloselyHeld, which is the percentage of shares held by insiders,
as provided by Worldscope. The third is Herf, which is the Herfindahl index, measured as
the sum of squared market shares, i.e., percentage of total industry sales, for all firms in the
firms primary two-digit SIC code. Thus, Herf ranges from 0 to 1, with higher values
indicating that within-industry sales are concentrated among fewer firms. We expect that
firms with lower turnover, with greater insider ownership, and that have less industry competition have more information asymmetry. If investors expect IFRS adoption to reduce
information asymmetry, then they will react more positively to increases in the likelihood
23

24

Belgium, the Czech Republic, Denmark, Finland, Germany, the Netherlands, and Switzerland permitted firms a
choice of accounting standards prior to mandatory IFRS adoption.
We identify ADR firm years from the Bank of New York Complete Depository Receipt record (http: / /
160.254.123.37 / dr directory.jsp), which indicates both the type and date of the ADR listing. We use only Level
II or Level III ADRs, not Level I. This is because during our sample period firms with Level II and Level III
ADRs were required to provide domestic-to-U.S. standards-based reconciliations and were subject to more
stringent requirements than firms with Level I ADRs.

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Armstrong, Barth, Jagolinzer, and Riedl

of IFRS adoption for firms with greater pre-adoption information asymmetry. This would
be consistent with investors perceiving a reduction in the firms future cost of capital. Thus,
we expect 4 is negative, and 5 and 6 are positive. However, if investors perceive that
IFRS adoption will require firms with dominant industry market share to disclose proprietary information, then we expect 6 is negative.
Finally, Equation (1) includes two proxies for enforcement and implementation of accounting standards. The first is Code, which is an indicator variable that equals 1 if a firm
is domiciled in a code law country, and 0 otherwise.25 Investors may expect that financial
reporting standards are less stringently enforced in code law countries (Ball et al. 2000,
2003). Therefore, firms in code law countries may retain greater flexibility in the application
of IFRS. If this is the case, we expect 7 is negative. The second proxy is Big4, which is
an indicator variable that equals 1 if the firms auditor during the fiscal year is one of the
four largest, as reported by Worldscope, and 0 otherwise. Prior research finds that larger
audit firms provide higher quality audits (DeAngelo 1981), and that investors perceive and
price quality differences associated with stronger monitors (e.g., Hogan 1997; Muller
and Riedl 2002). Thus, investors may expect larger audit firms to provide more stringent
enforcement and have more resources available to facilitate IFRS transition. If this is the
case, we expect 8 is positive.
To account for potential cross-sectional correlation among the residuals from Equation
(1), we calculate two-way clustered standard errors based on two-digit industry and country
(Rogers 1993; Gow et al. 2010; Petersen 2009).26 We cluster along these two dimensions
because it is reasonable to assume that financial reporting practices and changes therein
are more homogeneous within industries and countries than across industries and countries.
V. RESULTS
Overall European Market Reaction
Table 3 presents the portfolio event returns statistics. For each of our 16 events, we
present the raw return to the portfolio of 3,265 European firms (column labeled Raw
Return Europe); the DJ STOXX 1800 ex Europe index (column labeled DJ STOXX
1800 ex Europe Index Return); and the difference between them, which is the marketadjusted European return (column labeled Market-Adjusted Return Europe). Table 3
presents the individual event portfolio returns with their predicted and actual signs; none
of the individual event portfolio returns is significantly different from zero.
To compute the mean of the 16 event returns, which we present at the bottom of the
table, we multiply by 1 returns associated with events we assess as decreasing the likelihood of IFRS adoption. Thus, we predict that the mean of the event portfolio returns is
positive if the benefits to IFRS adoption outweigh the costs. We find that the mean raw
return associated with the 16 events for the European portfolio is 0.0052, versus 0.0086
for the DJ STOXX 1800 ex Europe index. The difference of 0.0034 is positive and significantly different from zero (t-statisticvs0 2.627) and significantly different from the mean
difference for the non-event returns (t-statisticvs300 1.980). Further, bootstrap estimation
reveals there is less than a 1 percent chance of randomly drawing 16 non-event returns
with a standardized mean larger than the mean for our 16 events (p-valuebootstrap 0.008).27
25
26
27

All of our sample countries except the U.K. and Ireland are classified as code law countries.
All of our inferences are unaffected by clustering on either two-digit industry or country.
Our inferences are the same when we use equal-weighted portfolio returns. Our inferences also are the same if
we market adjust the portfolio returns by subtracting * DJ STOXX 1800 Index ex Europe, where ,
are coefficient estimates from a regression of raw portfolio returns on the index returns for non-event days during
the year preceding each event (Brown and Warner 1980, 1985).

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January 2010

Event Date
March 12, 2002
May 14, 2002
June 19, 2002
July 4, 2003
July 9, 2003
July 16, 2003
September 29, 2003

March 30, 2004

June 4, 2004
July 8, 2004

European Parliament passes resolution requiring

all EU-listed companies to use IFRS by
2005
EFRAG issues draft recommendation to
endorse all extant IFRS
EFRAG issues final recommendation to endorse
all extant IFRS
Chirac sends letter to Prodi expressing
concerns about IAS 39 and its potential
negative effect on Europe
Bolkestein sends letter to Tweedie supporting
adoption
ECOFIN and ARC support adoption of IFRS
EC endorses all extant IFRS, except IAS 32
and IAS 39
Bolkestein pledges to postpone endorsement of
IAS 32 and IAS 39 until issues are resolved;
sets up consultative group to facilitate
resolution
HSBC announces intentions to implement IAS
39 in full
EFRAG issues draft recommendation to
endorse IAS 32 and IAS 39
EFRAG issues final recommendation to endorse
IAS 32 and IAS 39

Raw Return
Europe

DJ STOXX 1800 ex
Europe Index
Return

0.0116

0.0136

0.0020

0.0199

0.0307

0.0108

0.0403

0.0441

0.0038

0.0249

0.0317

0.0068

0.0110

0.0163

0.0053

0.0132
0.0210

0.0163
0.0191

0.0019

0.0026

0.0123

0.0097

0.0090

0.0012

0.0078

0.0181

0.0112

0.0069

0.0006

0.0098

0.0092

Market-Adjusted
Return Europe

0.0031

(continued on next page)

47

January 2010
American Accounting Association

February 3, 2004

Description

Predicted
Sign

Market Reaction to the Adoption of IFRS in Europe

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TABLE 3
Overall European Market Reaction to Events Affecting the Likelihood of IFRS Adoption in Europe

48

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TABLE 3 (continued)

Event Date
October 1, 2004

November 19, 2004

June 16, 2005
July 8, 2005
November 15, 2005

Description

Raw Return
Europe

DJ STOXX 1800 ex
Europe Index
Return

Market-Adjusted
Return Europe

0.0213

0.0272

0.0059

0.0096

0.0063

0.0033

0.0048

0.0008

0.0056

0.0067

0.0050

0.0017

0.0040

0.0005

0.0035

0.0052

0.0086

0.0034
2.627
1.980
0.008

January 2010

This table presents three-day portfolio returns centered on the 16 events identified as affecting the likelihood of IFRS adoption in Europe. Raw Return Europe is the
three-day value-weighted return to the 3,265 European firm portfolio, centered on the event date. DJ STOXX ex Europe Index Return is the three-day value-weighted
return to the DJ STOXX 1800 ex Europe Index, centered on the event date. Market-Adjusted Return Europe is the difference between Raw Return Europe and DJ
STOXX 1800 ex Europe Index Return. Predicted sign relates to predictions for the sign of Market-Adjusted Return Europe. Mean Return across Events is computed as
the mean of the individual event returns, after multiplying by 1 returns from events with a negative predicted sign. t-statisticvs0 assesses whether the mean return
differs from 0. t-statisticvs300 assesses whether the mean return differs from the mean return for 300 non-overlapping non-events, chosen across the sample period
20022005. p-valuebootstrap is the proportion of 500 draws for which the standardized mean return across 16 randomly selected non-events exceeds the standardized
mean event return. Each draw of randomly selected non-events reflects the year-by-year distribution of events.

Armstrong, Barth, Jagolinzer, and Riedl

ARC recommends endorsement of IAS 39, but

recommends provisions relating to the fair
value option and portfolio hedging of
demand deposits be carved out
EC endorses IAS 39 with both carve-out
provisions
IASB issues revised IAS 39 with new fair
value option
ARC recommends endorsement of revised fair
value option, thereby eliminating one of the
carve-outs
EC endorses revised fair value option, thereby
eliminating one of the carve-outs
Mean Return across Events
t-statisticvs0
t-statisticvs300
p-valuebootstrap

Predicted
Sign

Market Reaction to the Adoption of IFRS in Europe

49

We also conduct these tests separately on the 13 events that we assess as increasing
the likelihood of IFRS adoption, and the three events that we assess as decreasing this
likelihood. Disaggregating events in this fashion reduces the chance that our event returns
reflect spurious market reactions to non-IFRS news because such non-IFRS news not only
would have to coincide with our event dates, but also would have to be of the same sign
that we predict for our event. Untabulated results tend to support the inference of a general
positive (negative) investor reaction to events that increased (decreased) the likelihood of
IFRS adoption. In particular, for the 13 events increasing adoption likelihood, untabulated
results reveal a mean positive market-adjusted reaction of 0.0030. t-statisticvs0 (1.896) and
p-valuebootstrap (0.054) at least marginally support the inference of a positive reaction to these
13 events. t-statisticvs300 (1.450), however, does not support this inference. For the three
events decreasing adoption likelihood, untabulated results reveal a mean market-adjusted
reaction of 0.0053 that is negative, and significantly different from zero based on all three
statistics (t-statisticvs0 4.988; t-statisticvs300 3.760; p-valuebootstrap 0.008).
Collectively, the tabulated market-adjusted mean reactions are consistent with investors
perceiving that the benefits to IFRS adoption outweigh the costs. However, the negative
mean raw portfolio return indicates that inferences regarding investors overall reaction to
European IFRS adoption events are sensitive to whether the raw portfolio returns are
market-adjusted, and potentially to the choice of index for market-adjustment. For this
reason, we base our inferences regarding investors reaction to IFRS adoption events on
the cross-sectional estimation.
Cross-Sectional Analysis
Table 4, Panel A, presents descriptive statistics for the variables used in Equation (1).
We estimate Equation (1) using observations for which data are available for all 16 events
and for all 300 non-events (n 31,296 firm-event observations for 1,956 firms).28 Panel A
reveals that 5.27 percent of the sample firms are banks and an average of 41.43 percent of
firms outstanding shares are held by insiders. Panel A also reveals that within-industry
sales are relatively dispersed across firms (Herf 0.034), 61.25 percent of sample firms
are domiciled in code law countries, and 74.18 percent of firms are audited by one of the
four largest auditing firms. The panel also reveals that almost 11 percent of firms have
ADR listings, 24.76 percent previously applied international or U.S. GAAP, and most firms
list shares on only one exchange. Table 4, Panel B, presents Pearson correlations between
the variables. Consistent with our expectations, Panel B reveals that CMAR is significantly
positively correlated with InfoQualFactor, InfoQualFactor * Bank, and CloselyHeld, and
significantly negatively correlated with Turnover, Code, and Size. The correlations between
CMAR and Bank, Herf, and Big4 are not significantly different from zero.
Table 5 presents regression summary statistics from Equation (1), both excluding and
including Size as a control variable. The table also presents two test statistics for each
coefficient estimate. The first (in parentheses) is a t-statistic calculated using two-way clustered standard errors based on industry and country. The second (in brackets) is a t-statistic
associated with a test of whether event date coefficient estimates differ from non-event date
coefficient estimates.29
28

29

Our inferences are the same if we estimate Equation (1) using observations for which data are available for only
all 16 events (n 32,848 firm-event observations for 2,053 firms).
Specifically, coefficient difference t-statistics (in brackets) are estimated for the same set of 1,956 firms using a
stacked estimation of Equation (1) for the 16 event dates and for the 300 non-event dates.

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50

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TABLE 4
Descriptive Statistics
Panel A: Distributions
Variable

25%

50%

75%

Std.

0.0065
0.0002
0.0527
0.0090
0.5009
0.4143
0.0344
0.6125
0.7418
5.3352

0.0117

0.3704
0.0000
0.0000
0.0000
0.2009
0.0114
0.0000
0.0000
3.8271

0.0059
0.5020
0.0000
0.0000
1.0000
0.4122
0.0210
1.0000
1.0000
5.1880

0.0249
0.5613
0.0000
0.0000
1.0000
0.6116
0.0422
1.0000
1.0000
6.7497

0.0389
1.0001
0.2234
0.2216
0.5000
0.2572
0.0381
0.4872
0.4376
2.1347

0.1074
0.2476
1.3405

0.0000
0.0000
1.0000

0.0000
0.0000
1.0000

0.0000
0.0000
1.0000

0.3096
0.4316
0.7973

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Armstrong, Barth, Jagolinzer, and Riedl

Experimental Variables
CMAR
InfoQualFactor
Bank
InfoQualFactor * Bank
Turnover
CloselyHeld
Herf
Code
Big4
Size
Descriptive Variables
ADR
Standards Applied
Exchanges

Mean

Panel B: Pearson Correlations

InfoQualFactor
Bank
InfoQualFactor * Bank
Turnover
CloselyHeld
Herf
Code
Big4
Size

CMAR

InfoQualFactor

0.050
0.003
0.020
0.028
0.026
0.006
0.021
0.001
0.036

0.040
0.222
0.089
0.042
0.013
0.296
0.013
0.071

Bank

InfoQualFactor * Bank

Turnover

0.034
0.019
0.087

0.020
0.019
0.026

0.494

0.070
0.103
0.200

0.003
0.162
0.023

CloselyHeld

Herf

Code

Big4

0.012
0.308
0.169
0.199

0.102
0.034
0.023

0.061
0.213

0.400

0.173

0.014
0.317

0.162
0.203

Market Reaction to the Adoption of IFRS in Europe

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TABLE 4 (continued)

51

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American Accounting Association

This table presents descriptive statistics for the variables used in the cross-sectional analyses. Panel A presents distributions, and Panel B presents Pearson correlations.
In both panels, n 31,296. CMAR is the firms cumulative market-adjusted return, measured as the three-day return centered on the event date minus the three-day
return to the DJ STOXX 1800 ex Europe Index. InfoQualFactor is the quality of the firms pre-adoption information environment, measured as the highest eigenvalue
factor derived from principal components analysis of the variables ADR, Standards Applied, Exchanges, and Size. InfoQualFactor is multiplied by 1 to ease
interpretation, where higher values of InfoQualFactor indicate lower quality pre-adoption information. ADR is an indicator variable that equals 1 if a firm cross-lists in
the U.S. using American Depository Receipts during the event year, and 0 otherwise. Standards Applied is an indicator variable equal to 1 if the firm applies U.S.
standards or International Accounting Standards during the event year, and 0 if the firm applies domestic standards. Exchanges is the number of exchanges in which
the firm lists during the event year. Size is the log of the firms prior end of year market value of equity. Bank is an indicator variable equal to 1 if the firms primary
two-digit SIC code is 60 or 61, and 0 otherwise. Turnover is an indicator variable equal to 1 if the firms mean daily percentage shares traded during the year is above
the median for all firms, and 0 otherwise. CloselyHeld is the percentage of the firms shares outstanding held by insiders at the end of the fiscal year. Herf is the
Herfindahl Index, measured as the sum of each firms squared percentage market-share, calculated at the two-digit industry level. Code is an indicator variable equal to
1 if the firm is domiciled in a country with a code-based legal system (all countries except the U.K. and Ireland), and 0 otherwise. Big4 is an indicator variable equal
to 1 if the firm was audited by one of the four largest accounting firms, and 0 otherwise. In Panel B, bolded values indicate significance at the 5 percent level for
two-tailed tests.

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TABLE 5
Cross-Sectional Analysis

Variable

Predicted
Sign

Intercept

InfoQualFactor

Bank

InfoQualFactor * Bank

Turnover

CloselyHeld

Herf

Code

Big4

Size

Firm Events
Firms
R2

Coefficient
(t-statistic)
[t-statisticvs300]

Coefficient
(t-statistic)
[t-statisticvs300]

0.0073
(7.64)
[8.33]
0.0017
(5.81)
[4.37]
0.0002
(0.25)
[0.20]
0.0017
(2.24)
[2.15]
0.0023
(3.29)
[4.92]
0.0031
(2.57)
[1.78]
0.0051
(0.65)
[0.57]
0.0019
(4.11)
[5.32]
0.0000
(0.08)
[0.00]

0.0088
(8.56)
[6.15]
0.0017
(5.92)
[5.86]
0.0008
(1.16)
[0.37]
0.0017
(2.28)
[2.17]
0.0020
(2.86)
[4.52]
0.0025
(2.10)
[1.72]
0.0058
(0.66)
[0.56]
0.0013
(2.43)
[4.46]
0.0007
(1.62)
[0.24]
0.0005
(3.15)
[0.05]
31,296
1,956
3.15%

31,296
1,956
3.11%

This table presents results from cross-sectional analyses examining the market reaction for 16 events affecting
the likelihood of IFRS adoption in Europe. The estimation is an OLS regression of the following form:
CMARj,e 0 1InfoQualFactorj,e 2Bankj,e 3InfoQualFactorj,e * Bankj,e 4Turnoverj,e
5CloselyHeldj,e 6Herfj,e 7Codej,e 8Big4j,e j,e.

CMAR is the firms cumulative market-adjusted return, measured as the three-day return centered on the event
date minus the three-day return to the DJ STOXX 1800 ex Europe Index. InfoQualFactor is the quality of the
firms pre-adoption information, measured as the highest eigenvalue factor derived from principal components
analysis of the variables ADR, Standards Applied, Exchanges, and Size. InfoQualFactor is multiplied by 1 to
ease interpretation, where higher values of InfoQualFactor indicate lower quality pre-adoption information. ADR
is an indicator variable that equals 1 if a firm cross-lists in the U.S. using American Depository Receipts during
the event year, and 0 otherwise. Standards Applied is an indicator variable equal to 1 if the firm applies U.S.
standards or International Accounting Standards during the event year, and 0 if the firm applies domestic

(continued on next page)

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Market Reaction to the Adoption of IFRS in Europe

53

TABLE 5 (continued)
standards. Exchanges is the number of exchanges in which the firm lists during the event year. Size is the log of
the firms prior end of year market value of equity. Bank is an indicator variable equal to 1 if the firms primary
two-digit SIC code is 60 or 61, and 0 otherwise. Turnover is an indicator variable equal to 1 if the firms mean
daily percentage shares traded during the year is above the median for all firms, and 0 otherwise. CloselyHeld is
the percentage of the firms shares outstanding held by insiders at the end of the fiscal year. Herf is the
Herfindahl Index, measured as the sum of each firms squared percentage market-share, calculated at the twodigit industry level. Code is an indicator variable equal to 1 if the firm is domiciled in a country with a codebased legal system (all countries except the U.K. and Ireland), and 0 otherwise. Big4 is an indicator variable
equal to 1 if the firm was audited by one of the four largest accounting firms, and 0 otherwise.
t-statistic is in parentheses and is the regression coefficient scaled by the coefficient standard error corrected with
two-digit SIC code and country double-clustering (Petersen 2009). t-statisticvs300 is in brackets and is derived
from comparing the coefficient estimated in a regression of 1,956 firms across the 16 event dates to the
coefficient estimated in a regression of 1,956 firms 300 non-overlapping non-event dates.

Table 5 reveals that the coefficient on InfoQualFactor, 1, is positive and significantly

different from zero, as predicted (coefficient 0.0017, t-statistic 5.81). This indicates
that market participants reacted more positively to IFRS adoption for firms with lower
quality pre-adoption information, consistent with investors in these firms expecting greater
improvements in information quality. Although the coefficient on Bank, 2, is not significantly different from zero (coefficient 0.0002, t-statistic 0.25), the coefficient on
InfoQualFactor * Bank, 3, is positive and significantly different from zero (coefficient
0.0017, t-statistic 2.24).30 This is consistent with investors in banks with lower preadoption information quality expecting net benefits associated with IFRS adoption.
Table 5 also reveals that the coefficient on Turnover, 4, is negative and significantly
different from zero (coefficient 0.0023, t-statistic 3.29) and the coefficient on
CloselyHeld, 5, is positive and significantly different from zero (coefficient 0.0031,
t-statistic 2.57). These findings are consistent with predictions that investors in firms
with higher pre-adoption information asymmetry expected a reduction in information asymmetry from adoption of IFRS. Table 5 also reveals that the coefficient on Code, 7, is
negative and significantly different from zero (coefficient 0.0019, t-statistic 4.11).31
This finding is consistent with predictions that investors in firms domiciled in code law
countries expected lower IFRS adoption benefits because of enforcement concerns.32 The
coefficients on Herf, 6, and Big4, 8, are not significantly different from zero (coefficients
0.0051 and 0.0000, t-statistics 0.65 and 0.08).
We obtain identical inferences when we compare event coefficient estimates with nonevent coefficient estimates (t-statisticvs300). This indicates that our inferences are unlikely to
reflect systematic associations between the firm characteristics and market returns that might
be observed on non-event dates. The second column of Table 5 also reveals that our inferences are not affected when Size is included as a control variable.
30

31

32

Untabulated findings from an analysis in which we replaced InfoQualFactor * Bank with Size * Bank reveal a
significantly negative coefficient on the latter interaction variable of 0.0013 (t-statistic 7.51), which is
consistent with larger banks having an attenuated reaction to IFRS adoption. That is, smaller banks, which are
more likely to have lower quality pre-adoption information, have a more positive reaction to IFRS adoption.
Inferences relating to the other variables are the same as those obtained from Table 5.
Even though code law firms comprise 61.25 percent of the sample and the coefficient on Code is significantly
negative, untabulated statistics reveal that the mean market-adjusted return across the 16 events for code law
firms is significantly positive.
This inference may be confounded by other factors associated with code law country domicile, such as differences in institutional structure, e.g., firm governance. In Section VI, we report results of analyses aimed at
assessing the sensitivity of our inference regarding enforcement concerns to alternative enforcement proxies.

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Armstrong, Barth, Jagolinzer, and Riedl

Market Expectations Regarding Convergence Benefits

Evidence thus far indicates that investors reacted positively to IFRS adoption events
related to expectations of both improved information quality and reduced information asymmetry. We now provide evidence on whether investor reactions also relate to expectations
of convergence benefits.
To implement this analysis, we estimate Equation (1), but using dichotomous explanatory variables as follows. We define LowInfoQualFactor as an indicator variable equal to
1 if the firms InfoQualFactor is above the sample median (that is, the firm has lower
quality pre-adoption information); LowTurnover as an indicator variable equal to 1 if the
firm has below median share turnover; HighCloselyHeld as an indicator variable equal to
1 if the firm has above median insider share ownership; HighHerf as an indicator variable equal to 1 if the firm has above median industry sales concentration distribution;
Code as an indicator variable equal to 1 if the firm is domiciled in a code law country;
NonBig4 as an indicator variable equal to 1 if the firm does not have a Big 4 auditor; and
SmallFirm as an indicator variable equal to 1 if the firm has below median firm size. Each
variable equals 0 otherwise.
We define the variables in this way so that the intercept reflects the mean reaction for
firms with high-quality information and low information asymmetry prior to IFRS adoption.
That is, the intercept reflects the mean reaction for those firms with higher quality information, higher turnover, lower percentage of closely held shares, lower industry sales concentration, domiciled in common law countries, using a Big 4 auditor, and that are larger.
If investors in these firms expect IFRS adoption to provide little improvement in the information quality of these firms, then any observed reaction to IFRS adoption events more
likely reflects expected convergence benefits. We do not include bank variables in this
estimation because we do not have predictions for industry-specific variation in expected
convergence benefits.
Table 6 presents the findings. Consistent with investors expecting convergence benefits,
Table 6 reveals a positive and significant market reaction for firms with higher quality
information prior to the adoption of IFRS (intercept 0.0048, t-statistic 7.57). That is,
investors appear to have anticipated benefits associated with convergence from financial
reporting based on several sets of domestic accounting standards to financial reporting based
on a single set of standards, i.e., IFRS, beyond any benefits associated with increased
information quality. Inferences relating to the other variables in Table 6 are consistent with
those we obtain from Table 5, and are not affected by including size (i.e., SmallFirm) as a
control variable.
VI. SENSITIVITY ANALYSES
Alternative Pre-Adoption Information Quality Proxies
To assess the robustness of our inferences with respect to InfoQualFactor, we estimate
Equation (1) separately for each variable used to derive the factor. Columns 1 through 4
of Table 7 present the results using ADR, Standards Applied, Exchanges, and Size, respectively. Consistent with Table 5, we multiply each proxy by 1 to allow us to interpret
higher values as indicating lower quality pre-adoption information. For two of the variables,
Standards Applied and Size, Table 7 reveals findings consistent with those in Table 5 (Standards Applied coefficient 0.0041, t-statistic 6.09; Size coefficient 0.0004, t-statistic
2.72). However, for the other two variables, the coefficients are not significantly different
from zero (ADR coefficient 0.0013, t-statistic 1.50; Exchanges coefficient 0.0005,
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Market Reaction to the Adoption of IFRS in Europe

TABLE 6
Market Expectations Regarding Convergence Benefits
Variable

Predicted
Sign

Coefficient
(t-statistic)

Coefficient
(t-statistic)

Intercept

LowInfoQualFactor

LowTurnover

HighCloselyHeld

HighHerf

Code

NonBig4

0.0048
(7.57)
0.0019
(2.22)
0.0026
(3.70)
0.0017
(2.91)
0.0006
(0.64)
0.0030
(5.61)
0.0003
(0.69)

SmallFirm

0.0037
(5.30)
0.0025
(3.51)
0.0024
(3.29)
0.0015
(2.68)
0.0006
(0.61)
0.0026
(4.18)
0.0002
(0.34)
0.0019
(2.65)
31,296
1,956
3.01%

Firm Events
Firms
R2

31,296
1,956
2.97%

This table presents results from cross-sectional analyses examining the market reaction for 16 events affecting
the likelihood of IFRS adoption in Europe. The estimation is an OLS regression of the following form:
CMARj,e 0 1LowInfoQualFactorj,e 2LowTurnoverj,e 3HighCloselyHeldj,e
4HighHerfj,e 5Codej,e 6NonBig4j,e j,e.

CMAR is the firms cumulative market-adjusted return, measured as the three-day return centered on the event
date minus the three-day return to the DJ STOXX 1800 ex Europe Index. LowInfoQualFactor is a dichotomous
variable that equals 1 if InfoQualFactor is at or above the distribution median (indicating low pre-adoption
information quality), and equals 0 otherwise. InfoQualFactor is the quality of the firms pre-adoption
information, measured as the highest eigenvalue factor derived from principal components analysis of the
variables ADR, Standards Applied, Exchanges, and Size. InfoQualFactor is multiplied by 1 to ease
interpretation, where higher values of InfoQualFactor indicate lower quality pre-adoption information. ADR is an
indicator variable that equals 1 if a firm cross-lists in the U.S. using American Depository Receipts (ADR)
during the event year, and 0 otherwise. Standards Applied is an indicator variable equal to 1 if the firm applies
U.S. standards or International Accounting Standards during the event year, and 0 if the firm applies domestic
standards. Exchanges is the number of exchanges in which the firm lists during the event year. Size is the log of
the firms prior end of year market value of equity. LowTurnover is an indicator variable equal to 1 if the firms
mean daily percentage shares traded during the year is below the median for all firms, and 0 otherwise.
HighCloselyHeld is a dichotomous variable that equals 1 if the percentage of the firms shares outstanding held
by insiders at the end of the fiscal year is at or above the distribution median, and 0 otherwise. HighHerf is a
dichotomous variable that equals 1 if the sum the firms squared percentage market-share is at or above the
distribution median of the Herfindahl index, calculated at the two-digit industry level, and 0 otherwise. Code is
an indicator variable equal to 1 if the firm is domiciled in a country with a code-based legal system (all
countries except the U.K. and Ireland), and 0 otherwise. NonBig4 is an indicator variable equal to 1 if the firm
was not audited by one of the four largest accounting firms, and 0 otherwise. SmallFirm is a dichotomous
variable that equals 1 if Size is below the distribution median, and 0 otherwise.
t-statistic is in parentheses and is the regression coefficient scaled by the coefficient standard error corrected with
two-digit SIC code and country double-clustering (Petersen 2009).

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Armstrong, Barth, Jagolinzer, and Riedl

TABLE 7
Alternative Information Quality Proxies

Variable

Predicted
Sign

Intercept

InfoQualProxy

Bank

InfoQualProxy * Bank

Turnover

CloselyHeld

Herf

Code

Big4

Firm Days
Firms
R2

Proxy for Pre-Adoption Information Quality

(InfoQualProxy)
Standards
ADR
Exchanges
Size
Applied
0.0079
(7.27)
0.0013
(1.50)
0.0009
(1.26)
0.0001
(0.02)
0.0022
(3.19)
0.0033
(2.43)
0.0032
(0.38)
0.0029
(5.05)
0.0001
(0.27)
31,296
1,956
2.92%

0.0081
(8.22)
0.0041
(6.09)
0.0015
(2.07)
0.0047
(2.65)
0.0023
(3.30)
0.0029
(2.48)
0.0049
(0.62)
0.0017
(3.46)
0.0001
(0.32)
31,296
1,956
3.13%

0.0083
(7.75)
0.0005
(1.61)
0.0029
(3.34)
0.0014
(3.12)
0.0023
(3.37)
0.0034
(2.62)
0.0027
(0.33)
0.0028
(5.21)
0.0001
(0.20)
31,296
1,956
2.93%

0.0092
(6.49)
0.0004
(2.72)
0.0081
(4.82)
0.0009
(3.84)
0.0019
(2.88)
0.0029
(1.98)
0.0034
(0.36)
0.0024
(3.41)
0.0007
(1.44)
31,296
1,956
2.97%

This table presents results from cross-sectional analyses examining the market reaction for 16 events affecting
the likelihood of IFRS adoption in Europe. The estimation is an OLS regression of the following form:
CMARj,e 0 1InfoQualProxyj,e 2Bankj,e 3InfoQualProxyj,e * Bankj,e 4Turnoverj,e
5CloselyHeldj,e 6Herfj,e 7Codej,e 8Big4j,e vj,e.

CMAR is the firms cumulative market-adjusted return, measured as the three-day return centered on the event
date minus the three-day return to the DJ STOXX 1800 ex Europe Index. InfoQualProxy is the proxy for the
quality of the firms pre-adoption information, alternatively measured as ADR, Standards Applied, Exchanges,
and Size. Each proxy is multiplied by 1 to ease interpretation (implying higher values indicate lower quality
pre-adoption information). ADR is an indicator variable that equals 1 if a firm cross-lists in the U.S. using
American Depository Receipts during the event year, and 0 otherwise. Standards Applied is an indicator variable
equal to 1 if the firm applies U.S. standards or International Accounting Standards during the event year, and 0
if the firm applies domestic standards. Exchanges is the number of exchanges in which the firm lists during the
event year. Size is the log of the firms prior end of year market value of equity. Bank is an indicator variable
equal to 1 if the firms primary two-digit SIC code is 60 or 61, and 0 otherwise. Turnover is an indicator
variable equal to 1 if the firms mean daily percentage shares traded during the year is above the median for all
firms, and 0 otherwise. CloselyHeld is the percentage of the firms shares outstanding held by insiders at the end
of the fiscal year. Herf is the Herfindahl Index, measured as the sum of each firms squared percentage marketshare, calculated at the two-digit industry level. Code is an indicator variable equal to 1 if the firm is domiciled
in a country with a code-based legal system (all countries except the U.K. and Ireland), and 0 otherwise. Big4 is
an indicator variable equal to 1 if the firm was audited by one of the four largest accounting firms, and 0
otherwise.
t-statistic is in parentheses and is the regression coefficient scaled by the coefficient standard error corrected with
two-digit SIC code and country double-clustering (Petersen 2009).

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Market Reaction to the Adoption of IFRS in Europe

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t-statistic 1.61). Table 7 also reveals that the coefficients on Bank and InfoQualProxy *
Bank are positive and significantly different from zero for Standards Applied, Exchanges,
and Size, but not for ADR.33 Inferences relating to the other variables are the same as those
obtained from Table 5.
Evidence in Table 7 highlights the difficulty in isolating a single underlying variable
that sufficiently captures pre-adoption information quality. Creating a factor by using the
four variables together to characterize a firms information quality, as in the estimation
presented in Table 5, appears to improve our ability to capture this construct and, thus,
increase the power of our test.
Alternative Enforcement Environment Proxies
Our primary cross-sectional analyses rely on the variable Code to assess whether the
reaction to IFRS adoption differs for firms domiciled in code law and common law countries. We interpret Code as capturing the effect of weaker enforcement on expected benefits
associated with IFRS adoption because the estimation equation includes controls for other
firm characteristics, including the quality of pre-adoption information. Nonetheless, it is
possible that Code also captures other firm characteristics, including some related to the
firms pre-adoption information quality. Thus, to assess the robustness of our inferences
related to enforcement, we re-estimate Equation (1) using three alternative enforcement
proxies.
The alternative proxies are Rule of Law, Control of Corruption, which we obtain from
Kaufmann et al. (2007), and the average of these two variables, Average Enforcement.34
Rule of Law is an annual country-specific measure of contract enforcement quality, and
police and court system quality. Control of Corruption is an annual country-specific measure
of the extent to which public power is exercised for private gain and the degree of capture of the state by private interests. We multiply the Kaufmann et al. (2007) variables by
1 so that larger values indicate weaker enforcement environments, analogous to the way
we define Code. Consistent with enforcement being weaker in code law countries, untabulated findings reveal that the correlation between Average Enforcement and Code is positive, 0.333, and significantly different from zero.
Table 8 presents the findings and reveals results consistent with those in Table 5. Specifically, the coefficients on all three enforcement variables are negative and marginally
significantly different from zero: Rule of Law (coefficient 0.0017, t-statistic 1.84),
Control of Corruption (coefficient 0.0013, t-statistic 1.70), and Average Enforcement (coefficient 0.0015, t-statistic 1.76). Inferences relating to the other variables
are similar to those obtained from Table 5. Collectively, the findings in Table 8 support the
inference that the market reaction is less positive for firms domiciled in jurisdictions likely
to have weaker enforcement.
VII. CONCLUSION
This study investigates the European equity market reaction to 16 events associated
with the adoption of IFRS in Europe. IFRS adoption resulted in a broad cross-section of
firms domiciled in European countries with a variety of domestic accounting standards
changing to a common set of standards at the same time. The prospects of IFRS adoption
33

34

The lack of significance for the ADR * Bank coefficient could result from the small number of observations
underlying this coefficient estimation. In particular, only 12 banks in the sample have ADR listings.
We use the Kaufmann et al. (2007) variables, rather than those provided by La Porta et al. (1998), because the
Kaufmann et al. (2007) variables vary over time and align better in calendar time with our study than do
the non-time-varying La Porta et al. (1998) measures.

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Armstrong, Barth, Jagolinzer, and Riedl

TABLE 8
Alternative Enforcement Environment Proxies

Variable

Predicted
Sign

Intercept

InfoQualFactor

Bank

InfoQualFactor * Bank

Turnover

CloselyHeld

Herf

Enf Environ

Big4

Firm Days
Firms
R2

Proxy for Enforcement Environment

(Enf Environ)
Rule of
Control of
Average
Law
Corruption
Enforcement
0.0034
(1.86)
0.0020
(7.31)
0.0003
(0.40)
0.0014
(1.82)
0.0019
(2.69)
0.0028
(2.38)
0.0071
(0.89)
0.0017
(1.84)
0.0001
(0.33)
31,296
1,956
3.09%

0.0038
(2.48)
0.0020
(7.17)
0.0003
(0.41)
0.0014
(1.85)
0.0019
(2.75)
0.0028
(2.47)
0.0067
(0.85)
0.0013
(1.70)
0.0002
(0.34)
31,296
1,956
3.09%

0.0036
(2.17)
0.0020
(7.23)
0.0003
(0.41)
0.0014
(1.84)
0.0019
(2.72)
0.0028
(2.44)
0.0069
(0.86)
0.0015
(1.76)
0.0001
(0.34)
31,296
1,956
3.09%

This table presents results from cross-sectional analyses examining the market reaction for 16 events affecting
the likelihood of IFRS adoption in Europe. The estimation is an OLS regression of the following form:
CMARj,e 0 1InfoQualFactorj,e 2Bankj,e 3InfoQualFactorj,e * Bankj,e 4Turnoverj,e
5CloselyHeldj,e 6Herfj,e 7Enf Environj,e 8Big4j,e j,e.

CMAR is the firms cumulative market-adjusted return, measured as the three-day return centered on the event
date minus the three-day return to the DJ STOXX 1800 ex Europe Index. InfoQualFactor is the quality of the
firms pre-adoption information, measured as the highest eigenvalue factor derived from principal components
analysis of the variables ADR, Standards Applied, Exchanges, and Size. InfoQualFactor is multiplied by 1 to
ease interpretation, where higher values of InfoQualFactor indicate lower quality pre-adoption information. ADR
is an indicator variable that equals 1 if a firm cross-lists in the U.S. using American Depository Receipts during
the event year, and 0 otherwise. Standards Applied is an indicator variable equal to 1 if the firm applies U.S.
standards or International Accounting Standards during the event year, and 0 if the firm applies domestic
standards. Exchanges is the number of exchanges in which the firm lists during the event year. Size is the log of
the firms prior end of year market value of equity. Bank is an indicator variable equal to 1 if the firms primary
two-digit SIC code is 60 or 61, and 0 otherwise. Turnover is an indicator variable equal to 1 if the firms mean
daily percentage shares traded during the year is above the median for all firms, and 0 otherwise. CloselyHeld is
the percentage of the firms shares outstanding held by insiders at the end of the fiscal year. Herf is the
Herfindahl Index, measured as the sum of each firms squared percentage market-share, calculated at the twodigit industry level. Enf Environ is one of three proxies for the firms enforcement environment, derived
annually at the country level from Kaufmann et al. (2007). To ease interpretation, the Kaufmann et al. (2007)
measures are multiplied by 1 so that larger values indicate weaker enforcement. Rule of Law measures the
quality of contract enforcement, the police, and the courts. Control of Corruption measures the extent to which
public power is exercised for private gain, including both petty and grand forms of corruption, as well as
capture of the state by elites and private interests. Average Enforcement is the average of these two variables.
fj (continued on next page)

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Market Reaction to the Adoption of IFRS in Europe

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TABLE 8 (continued)
Big4 is an indicator variable equal to 1 if the firm was audited by one of the four largest accounting firms, and
0 otherwise.
t-statistic is in parentheses and is the regression coefficient scaled by the coefficient standard error corrected with
two-digit SIC code and country double-clustering (Petersen 2009).

led investors in European firms to assess the implications of potential changes in firms
information environments and convergence associated with this change in financial reporting standards. Thus, events leading to IFRS adoption in Europe provide an opportunity to
assess investors expectations about the net benefits or net costs of IFRS adoption.
We find an incrementally positive reaction for European firms with lower pre-adoption
information quality and higher pre-adoption information asymmetry. These findings are
consistent with investors expecting IFRS to improve the information quality for these firms.
We find an even more positive reaction for banks with lower pre-adoption information
quality, which is consistent with investors expecting improvements in information quality
including any associated with adoption of the controversial IAS 39for these firms. We
find an incrementally negative reaction for firms domiciled in code law countries, which
are likely to have weaker enforcement of accounting standards. Regarding expected convergence benefits, we find a positive reaction to IFRS adoption events even for firms with
high-quality pre-adoption information. To the extent investors expect IFRS adoption to
affect only minimally the information of these firms, this finding is consistent with investors
expecting net benefits associated with convergence from IFRS adoption.
Overall, our findings suggest that investors expected net benefits to IFRS adoption in
Europe associated with increases in information quality, decreases in information asymmetry, more rigorous enforcement of the standards, and convergence. We leave it to future
research to determine whether these expectations were fulfilled.

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