Electronic copy available at: http://ssrn.com/abstract=1269515

Working Paper No. 09-12

Who uses fair value accounting for non-financial assets after IFRS adoption?

Hans B. Christensen

University of Chicago Booth School of Business

Valeri Nikolaev University of Chicago Booth School of Business

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Electronic copy available at: http://ssrn.com/abstract=1269515Electronic copy available at: http://ssrn.com/abstract=1269515

Who uses fair value accounting for non-financial assets

after IFRS adoption?

Hans B. Christensen and Valeri Nikolaev

The University of Chicago

Booth School of Business

5807 South Woodlawn Avenue

Chicago, IL 60637

Abstract: We examine whether and why companies prefer fair value to historical cost when they

can choose between the two valuation methods. With the exception of investment property

owned by real estate companies, historical cost by far dominates fair value in practice. Indeed,

fair value accounting is not used for plant, equipment, and intangible assets. We find that

companies using fair value accounting rely more on debt financing than companies that use

historical cost. This evidence is consistent with companies using fair value to signal asset

liquidation values to their creditors, and is not consistent with equity investors demanding fair

value accounting for non-financial assets. Our evidence broadly speaks to the importance of

accounting for contracting.

Keywords: Fair value accounting, IFRS, international accounting.

JEL Classification: M4, M42, M48

First draft: August 2008

This version: February 2009

This research was funded in part by the Initiative on Global Markets at the University of Chicago Booth School of

Business. We thank Ray Ball, Phil Berger, Alexander Bleck, Christof Beuselinck, Johan van Helleman, S.P.

Kothari, Laurence van Lent, Christian Leuz, Doug Skinner, and workshop participants at the University of Chicago

and Tilburg University for helpful comments. Michelle Grise, SaeHanSol Kim, Shannon Kirwin, Ilona Ori, Russell

Ruch, and Onur Surgit provided excellent research assistance.

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1

1. Introduction

Academics and practitioners alike are actively debating the movement toward fair value

accounting, both in the United States and around the world. The Securities and Exchange

Commission (SEC) recently proposed a roadmap that could require mandatory adoption of

International Financial Reporting Standards (IFRS) in the United States by 2014. If adopted,

IFRS will allow a much wider application of fair value accounting to non-financial assets in the

United States. The documented correlation between market value of equity and fair value

estimates, however, offers little information regarding the reliability of such estimates. Indeed,

the judgment required to establish fair value estimates, absent liquid markets, undermines their

use (Watts 2006). In this paper, we examine whether and why in practice companies use fair

value accounting for three major asset groups: (i) property, plant, and equipment; (ii) investment

property; and (iii) intangible assets.1 Specifically, we exploit changes in accounting practices

around the adoption of IFRS in the UK and Germany. We focus on the UK and Germany for two

reasons: they have the largest financial markets in the European Union (EU) and, historically,

they are at the opposite ends of the spectrum in terms of applying fair value accounting.

Moreover, under IFRS, companies in the UK and Germany are permitted to choose between fair

value and historical cost accounting for each of the three asset groups we examine.2,3

Throughout this paper, we adopt a positive accounting theory view of accounting practice

(Watts and Zimmerman 1986). This view maintains that accounting choices are shaped by

incentives to improve the costly contracting process between a company and its claimholders.

1In this paper, we use the term asset group to describe the three types of assets we examine. Intangible assets,

investment property, and property, plant, and equipment each constitute one asset group. We use the term asset class to describe a subsection of an asset group. For instance, property constitutes an asset class under the asset group

property, plant, and equipment. Our definition of an asset class is consistent with IAS 16.37. 2We use the term historical cost to describe accounting treatment under which assets are recognized at historical cost

less subsequent depreciation (amortization), and/or impairments. 3Appling fair value to intangible assets requires the existence of a liquid market (see Section 2.3).

Electronic copy available at: http://ssrn.com/abstract=1269515

2

Agency-related conflicts induce suboptimal behavior on the side of management and thus impose

substantial costs on companies in the form of price protection on the side of market participants

(Jensen and Meckling 1976). The price protection, in turn, encourages companies to select

accounting methods that pre-commit against value-destroying actions by management and

therefore reduce agency costs. In our setting, for example, choosing historical cost over fair

value can be viewed as a commitment against upward asset revaluations, which can be desirable

from a contracting perspective, particularly when no objective way exists to measure fair value.

Such pre-commitment can be a powerful way for creditors to curb shareholders’ incentives to

overstate assets and thereby expropriate wealth from other claimholders.

Since January 1, 2005, all listed companies domiciled in the UK and Germany have been

required to prepare their consolidated statements according to IFRS. The new standards provide

companies in either country with the same set of valuation alternatives. Yet the companies

domiciled in Germany and the UK are departing from very different local GAAP regimes. Under

German GAAP, for example, upward revaluations are not allowed for any of the asset groups

examined in this study. On the contrary, under UK-GAAP, companies are required to recognize

investment property at fair value and are allowed to choose between fair value and historical cost

for property, plant, and equipment and intangible assets. Under IFRS, companies domiciled in

either country can choose to continue with the same valuation method as under local GAAP or

they can switch to the other method.4

Our sample consists of the 1,539 companies available in the Worldscope database for

which we were able to obtain an annual report prepared according to IFRS. We identify each

company's valuation practice by reading the accounting policy section of its annual report. For

4 IFRS allow the choice between fair value and historical cost for the three asset classes examined in this paper.

Thus IFRS broadens the valuation choices compared to local GAAP in both the UK and Germany.

3

German companies, we review the first annual report prepared under mandatory IFRS. For UK

companies, on the other hand, to identify companies that changed their valuation practices upon

IFRS adoption, we review both the last annual report prepared under UK-GAAP and the first

annual report prepared under IFRS.

Ultimately, no companies in our sample use fair value accounting for intangible assets.

We find that only 3% of companies use fair value accounting for at least one asset class under

property, plant, and equipment. With very few exceptions, these companies use fair value

accounting only for the property asset class; members of the plant and equipment asset classes

are valued, in almost all cases, at historical cost. Examination of balance sheet amounts reveals

that total assets and shareholders’ equity are, respectively, 31% and 88% higher on average for

those companies that apply fair value than for a matched sample of companies that use only

historical cost accounting.5 These large economic differences highlight the importance of the

choice between the valuation methods.

An even more striking observation emerges when we examine the post-IFRS choices of

companies that recognized at least one property-plant-and-equipment asset class at fair value

under local GAAP (i.e., pre-IFRS). We find that 44% of these companies switched to historical

cost accounting upon IFRS adoption. In contrast, among companies that recognized all property-

plant-and-equipment asset classes at historical cost under local GAAP, only 1% switched to fair

value for at least one asset class. This finding does not support the expectation that IFRS will

promote the use of fair value accounting for property, plant, and equipment. Rather, the joint

evidence suggests that the average company prefers historical cost to fair value, perhaps, we

conjecture, because fair value estimates are considered less reliable.

5 This result cannot be interpreted as causal because incentives to use fair value depend on how different the

outcome of using fair value accounting is compared to using historical cost accounting.

4

Regarding investment property held to earn rental income or for capital appreciation, or

both, we find that companies are equally likely to use historical cost and fair value accounting.

For investment property, the strongest determinant of fair value use is whether real estate

constitutes one of the company's primary business activities. In particular, we find that German

companies, all of which applied historical cost before IFRS adoption, are more likely to switch to

fair value accounting for investment property when real estate is among their primary activities.

At the same time, in the UK, where all companies had to use fair value prior to IFRS, we observe

that the switch toward historical cost is uncommon when real estate is a primary activity. We

expect real estate companies to use fair value for investment property more often because the

real estate industry is more likely to exhibit fairly liquid markets for comparable property. In

addition, when a company is in the business of holding and selling property, changes in the value

of investment property are closely linked to the performance of that company's core activities.

Since many contracts require performance measurement, companies may be willing to trade off

some reliability for greater relevance in cases where fair value can provide better information

about the success of a company’s operations over a given period.

We also analyze companies’ decisions to use fair value after IFRS adoption for both the

investment property and property, plant, and equipment asset groups. We find that companies

with higher leverage are more likely to choose fair value over historical cost. This finding is

noteworthy because the average debt contract excludes the revaluation reserve from definitions

of financial ratios and is, in effect, written in terms of historical cost even when the company

employs fair value (Citron 1992). When we decompose leverage into its short-term and long-

term components, we find that short-term debt is at least as important a determinant of fair value

use as long-term debt, which suggests that any slack in accounting-based covenants is unlikely to

5

influence a company's choice of the valuation method. Notice, however, that a company's

commitment to fair value accounting for property, plant, and equipment can be viewed as an

increase in information disclosure. Such disclosure is likely to be in demand by creditors, who

are naturally interested in knowing a company's liquidation value. Since the recognition of fair

value estimates, which are by nature less reliable than historical cost, subjects a company and its

auditors to litigation risk, recognizing the fair value of assets in the body of financial statements

can signal the reliability of the fair value estimates. Consistent with this argument, we find that

companies that apply fair value to investment property are more likely to access debt (but not

equity) markets in the future.

Overall, the fact that fair value accounting is, in practice, used so rarely suggests that

historical cost is a more effective mechanism for reducing agency costs. However, the minority

of companies that do choose to recognize assets at fair value appear to derive contracting

benefits from this choice. The results, therefore, can be broadly interpreted in support of

contracting, rather than valuation, role of accounting.

Section 2 describes the valuation methods available to companies under German GAAP,

UK-GAAP, and IFRS. Section 3 establishes the relation between our study and prior literature.

Section 4 describes the sample selection procedure and presents our results. Section 5 discusses

our main findings and section 6 concludes our study.

2. Valuation methods under German GAAP, UK-GAAP, and IFRS

This section describes the valuation methods allowed for long-term, non-financial assets

in Germany and the UK before and after IFRS adoption. The long-term, non-financial assets

comprise three major asset groups: investment property, property, plant, and equipment, and

6

intangible assets. We define fair value accounting as the commitment to revalue assets every

time their book value materially differs from their market value.6 We now consider the

accounting treatment of each of these three asset groups.

2.1 Accounting for investment property

IAS 40 defines investment property as land or buildings held to generate rental income or

capital appreciation that are not currently occupied by the owner. Under German GAAP,

companies must value investment property at historical cost, while under UK-GAAP companies

are required to use fair value. Upward revaluations under UK-GAAP are credited to the

revaluation reserve in equity and therefore do not directly affect net income. IFRS offers

companies the choice between recognizing investment property at historical cost or fair value. If

a company chooses to recognize investment property at historical cost, it must systematically

depreciate the acquisition costs and disclose the investment property's fair value in the notes

accompanying the financial statements. In contrast, if a company chooses to apply fair value,

changes in the investment property's value become part of operating income and the assets are

not subject to depreciation. Under IFRS, German companies can either switch to fair value

accounting or continue to value investment property at historical cost. UK companies, on the

other hand, can either switch to historical cost or continue to recognize investment property at

fair value (provided valuation changes are recognized in the income statement).

2.2 Accounting for property, plant, and equipment

The only valuation method for property, plant, and equipment permitted under German

GAAP is historical cost. Under both IFRS and UK-GAAP, the asset group property, plant, and

equipment is initially recognized at cost, but at each subsequent balance sheet date is valued at

6 While this definition is consistent with IAS 16, it departs from the revaluations studied by most prior literature

(e.g., Brown et al., 1992). In the settings of prior literature, for example, companies can revalue whenever they

choose and do not have to commit to regular revaluations.

7

either historical cost or fair value. In either case, these assets are subject to depreciation. When

fair value is applied, positive changes in an asset's value are credited to the revaluation reserve,

which constitutes part of shareholders’ equity (i.e., the revaluation model). Revaluations,

therefore, only affect income through future depreciation charges. Finally, under IFRS, the

choice of valuation method must be consistent for all assets in the same asset class (IAS16.29).

2.3 Accounting for intangible assets

Under German GAAP, historical cost is the only valuation method permitted for

intangible assets. Under both UK-GAAP and IFRS, however, intangible assets are to be carried

at either historical cost or fair value less any amortization and impairment charges. Under fair

value, the accounting treatment is similar to that of property, plant, and equipment; that said, a

company may only apply fair value to an intangible asset if an active market exists for that asset

(IAS38.75). The definition of an active market is very narrow and for most intangible assets,

such as brands, patents, and trademarks, it is, due to their uniqueness and the specificity of their

application, nonexistent (IAS38.78).

3. Background and relation to prior literature

We begin this section by summarizing opposing views among academics, standard

setters, and practitioners regarding the benefits of fair value accounting. We then review prior

empirical research that examines whether asset revaluations convey new information to the stock

market. Finally, we discuss contracting issues that pertain to fair value accounting.

In recent years, both the Financial Accounting Standards Board (FASB) and the

International Accounting Standards Board (IASB) have moved toward more extensive use of fair

value accounting. While, currently, fair value accounting in the United States is generally limited

8

to use for financial instruments, it can be applied, under IFRS, to a much broader set of assets

(see Section 2). A range of opinions exists about the appropriate use of fair value accounting.

Proponents of fair value justify its use on the grounds that it is more relevant to users of financial

statements and offers greater transparency (Schipper 2005).7 Indeed, 79% of respondents who

participated in a survey conducted by the CFA Institute indicated that they believe fair value

information improves both the transparency and investor understanding of financial institutions.

This belief, however, raises an important concern: namely, is fair value measurement sufficiently

reliable and, what's more, invulnerable to manipulations by management (Watts 2006)? Lack of

reliability is closely linked to the absence of liquid markets, which could otherwise be used as an

independent source of verification for subjective fair value estimates. Schipper (2005) argues,

however, that fair value measurement does not require an extant market to be representationally

faithful (and thus reliable). Nevertheless, concern over the reliability of fair value accounting

persists among practitioners (e.g., Ernst&Young 2005).

3.1 Conveying information to equity investors

Most of the existing evidence regarding non-financial asset revaluations is based on data

from Australia or the UK.8 Several studies examine the information content of upward asset

revaluations and document a positive stock market reaction to asset revaluations (Sharpe and

Walker 1975; Standish and Ung 1982).9 Others examine whether longer period returns, future

cash flows, and the market value of equity are correlated with asset revaluations (e.g., Easton et

al. 1993; Aboody et al. 1999; Danbolt and Rees 2008). These studies generally conclude that fair

7 For example, the official position of the CFA Institute’s Center for Financial Markets Integrity states that “all

assets and liabilities should be reported at fair values based upon market values for identical or similar assets or

liabilities” and that “fair value information is the only information useful for investment decision-making” (CFA Institute Centre, 2008). 8 In both the UK and Australia, upward asset revaluations were common before 1999/2000 when both countries

adopted national standards similar to IAS 16. 9 Interestingly, Sharpe and Walker find that half of the market reaction takes place before the revaluation becomes

public, and Standish and Ung find no association between the magnitude of the revaluation and the price change.

9

value estimates are value relevant. The studies, perhaps, most related to our setting are Muller et

al. (2008) and Cairns et al. (2008). Muller et al. examine the valuation methods for investment

property applied by the European real estate sector after IFRS adoption. They find that most

companies in their sample use fair value accounting and argue that measurement at fair value is

associated with reduced information asymmetry. Cairns et al. study valuation methods used by

228 companies in the UK and Australia after IFRS adoption. They find that IFRS adoption

increased comparability among companies.

Notwithstanding the above, virtually no research has been conducted on the reliability of

fair value estimates. Schipper (2005) points out that such empirical analysis is hampered by the

absence of an objective measure of reliability in the literature. Our approach, however, does not

require construction of a reliability proxy; rather, we focus on a company’s choice of fair value

accounting over historical cost accounting. We assume this choice reflects market participant

demand for fair value information and thus represents empirical evidence regarding the tradeoff

between relevance and reliability when it comes to use of fair value accounting.

3.2 Contracting explanations for revaluations

Contracts constitute another major application of accounting information. Agency-related

conflicts induce suboptimal managerial actions and impose costs on companies when they

contract with outside parties (Jensen and Meckling 1976). This gives companies economic

incentives to choose accounting methods and procedures that reduce outside-party contracting

costs (Watts and Zimmerman 1986). A company's choice of historical cost over fair value can be

viewed, for example, as a commitment against upward asset revaluations, which can be desirable

from a contracting viewpoint (particularly when no objective way of measuring the asset's fair

10

value exists). Such pre-commitment curbs a company’s ability to overstate the value of its assets,

an action often associated with claim-holder value expropriation.

Brown and Finn (1980) point out the necessity of understanding the economic incentives

behind revaluations in order to understand their impact on stock prices. Brown, Izan, and Loh

(1992), Whittred and Chan (1992), and Cotter and Zimmer (1995) use Australian data and find

that revaluations are related to contracting motives; indeed, leveraged companies in danger of

violating covenants are more likely to revalue assets.10

In a survey of chief financial officers

conducted by Easton et al. (1993), 40% of respondents explicitly indicated that revaluations,

being independently obtained and thus credible to lenders, are aimed at decreasing a company’s

leverage.

Unlike prior literature, we do not study voluntary asset revaluations, where separating the

effect of revaluating from the decision to revalue is complicated. That is, we study a company's

commitment to revalue assets every time an asset's book value is materially different from its

market value, rather than the revaluations themselves. Given that companies determine their

accounting policy prior to the realization of their accounting numbers, it is, a priori, unlikely that

such a commitment is made for the purpose of instantaneous opportunistic gain.

3.3 Theoretical considerations of mark-to-market accounting

While contracting efficiency is the common explanation for a company's decision to

revalue assets, there is little in the theory that demonstrates the efficiency of revaluations to fair

value, particularly for non-financial assets. Several recent studies focus on financial assets and

highlight important tradeoffs between mark-to-market and historical cost accounting. Plantin,

10 Whittred and Chan argue that asset revaluations reduce underinvestment problems that arise from contractual

restrictions, while Cotter and Zimmer argue that upward revaluations increase borrowing capacity. While debt

contracting is the main explanation for asset revaluations, Brown et al. also find that bonus contracts, as well as

signaling and political cost explanations, play an important role.

11

Sapra, and Shin (2008) show that, while historical cost disregards important new information,

mark-to-market induces endogenous price volatility and is inefficient when applied to long-lived,

illiquid, and senior claims. In a similar vein, Allen and Carletti (2008) show that in illiquid

markets, marking financial assets to market value distorts banks’ portfolios and increases the risk

of insolvency and inefficient liquidation when contagion in banking and insurance sectors is

present. Taken together, while fair value is a powerful and appealing concept actively promoted

by accounting standard setters, its practical benefits have yet to be established.

4. Results

4.1 Sample selection and descriptive statistics

Our sample selection process begins with all UK and German companies (active and

inactive) available in the Worldscope database. We restrict our sample to those companies

domiciled in the UK and Germany that Worldscope classifies as complying with IFRS in either

2005 or 2006. For inclusion in the German and UK cross-sectional samples, we further require

that a company has available in Thomson One Banker an annual report according to IFRS. For

inclusion in the UK switch sample, we additionally require that a company has the annual report

(prepared according to UK-GAAP) before IFRS adoption. We use the UK cross-sectional

sample to document accounting practices after mandatory IFRS adoption and the UK switch

sample to examine whether companies use mandatory IFRS adoption to switch their accounting

practices. Since, under German GAAP, companies are not permitted to value the assets examined

in this study at fair value, the application of fair value accounting after IFRS adoption always

indicates a switch and two samples are not necessary. Both for companies in Germany and the

UK, we obtain their first annual report under mandatory IFRS, which is typically for fiscal year

12

2005. In addition, for companies in the UK, we look for their last UK-GAAP annual report,

which is typically for fiscal year 2004. If we cannot find these annual reports we take the next

annual report available in Thomson One Banker (e.g., for fiscal year 2006). We verify the

accounting standards that a given company follows by looking at either the accounting policy

section or the auditor’s opinion section of its annual report(s). To identify the asset valuation

practice a company follows, we read the accounting policy section of its annual report(s).

[Insert Table 1 here]

Table 1, Panels A and B present the distribution by industry of companies in Worldscope

as well as in the German sample, the UK cross-sectional sample, and the UK switch sample. The

industry distribution in each of the three sub-samples approximates the industry distribution in

Worldscope.

4.2 Valuation practices

In this section, we document how extensively and to which asset groups companies in the

UK and Germany apply fair value. A company is classified as applying fair value accounting if it

recognizes at least one asset class within an asset group at fair value. Similarly, a company is

classified as applying historical cost if it recognizes at least one asset class within an asset group

at historical cost. Appendix A presents examples of fair value accounting and historical cost

accounting for the property, plant, and equipment asset group.11

4.2.1 Valuation practices in the UK

Table 2 documents the valuation practices in the UK cross-sectional sample. We identify

no use of fair value accounting for intangible assets; instead, all the companies in our sample rely

on historical cost for this asset group. For property, plant, and equipment, 5% of companies use

11 Panel A of Appendix A provides an example of a company that switched from fair value to historical cost, Panel

B provides an example of a company that used fair value under both UK-GAAP and IFRS, and Panel C provides an

example of a German company that uses fair value.

13

fair value accounting while all companies use historical cost for at least one class of assets within

this asset group. Fair value accounting is applied evenly across different industries with some

concentration within financial companies.

[Insert Table 2 here]

Table 3 presents the results from the UK switch sample. For property, plant, and

equipment, we find that 6% of companies use fair value under UK-GAAP and 5% use fair value

under IFRS. A material number of switches occur for this asset group. Specifically, 44% of

companies that use fair value for at least one asset class in the property, plant, and equipment

asset group under UK-GAAP switch to historical cost for all asset classes upon IFRS adoption.

In contrast, only 1% of companies that use historical cost for all asset classes under UK-GAAP

switch to fair value for at least one asset class upon IFRS adoption. These findings suggest that

many companies in our sample used the adoption of IFRS as a convenient opportunity to switch

to historical cost accounting. The question that naturally arises, then, is why these companies did

not switch to historical cost under local GAAP. Since UK-GAAP allows historical cost

accounting for these assets, we have to assume that the switch that occurred upon mandatory

IFRS adoption is voluntary in nature. We attribute this finding to the costs associated with

changes in accounting practice. For example, accounting changes involve the renegotiation of

debt and compensation contracts and must be communicated to shareholders and justified to

auditors. The incremental cost of voluntary changes is substantially lower when combined with a

mandatory change due to a fixed cost component (i.e., the renegotiation has to take place

anyway). While historical cost presumably became desirable for these companies before IFRS

adoption, the associated costs could have made switching unattractive.

14

For investment property, on the other hand, fair value accounting is much more common

after the mandatory adoption of IFRS. That said, 23% of companies using fair value pre-IFRS

still switched to historical cost upon IFRS adoption. Significant industry variation is present:

only 2% of financial companies that used fair value switched to historical cost, whereas 45% of

non-financial companies made the switch.

[Insert Table 3 here]

4.2.2 Valuation practices in Germany

Table 4 documents the valuation practices in the German sample. Under German GAAP,

companies are not allowed to value any of the three asset groups at fair value, and thus we do not

distinguish between cross-sectional and switch samples. We also find no use of fair value

accounting for intangible assets in Germany. For property, plant, and equipment, 1% of

companies switch to fair value for at least one asset class upon IFRS adoption. Only one

company applies fair value to all asset classes in the property, plant, and equipment asset group,

while all other companies use historical cost for at least one asset class. These findings

approximate those we observed in the UK.

[Insert Table 4 here]

For investment property, we find that 23% of German companies switch to fair value

upon IFRS adoption. However, we also observe substantial industry variation. Among financial

companies, 49% switch to fair value, while only 6% of non-financial companies make the

switch.

In summary, we find that a small number of companies use fair value accounting for at

least one asset class under property, plant, and equipment after IFRS adoption. The absence of

fair value accounting for intangibles and its limited use for property, plant, and equipment in

15

both the UK and Germany suggests that only a small subset of companies perceive net benefits

to using fair value accounting. In fact, in the UK, where fair value accounting for property, plant,

and equipment was common under UK-GAAP, we observe a fairly high frequency of switches

away from fair value upon IFRS adoption.

4.2.3 Assets recognized at fair value

In this section, we examine those asset classes under property, plant, and equipment that

are recognized at fair value. Table 5 presents the distribution of fair value use across the three

asset classes within the asset group. Sixty-nine companies in the sample use fair value

accounting either before mandatory IFRS adoption, after mandatory IFRS adoption, or both. Of

these companies, 93% use fair value accounting for property. Only 3% use fair value for plant,

and only 4% use fair value for several asset classes under property, plant, and equipment. The

distributions of fair value use in the UK and Germany are similar.

This evidence suggests that the application of fair value accounting is, in practice, not

only limited in terms of the number of companies using it, but also in terms of the assets to

which it is applied, namely, property. For most companies, property is the only asset class for

which a reliable market valuation is available. This observation, which is supported by Plantin,

Sapra, and Shin (2008), can potentially explain why property dominates among those assets

recognized using fair value accounting.

[Insert Table 5 here]

4.3 Fair value accounting and the book value of assets

Companies that follow historical cost accounting must periodically test their assets for

impairment. An asset is considered impaired when its carrying amount is higher than (i) its fair

value less costs to sell and (ii) the present value of future cash flows it is expected to generate

16

(IAS36.18). Thus, under historical cost accounting, companies will, in practice, value assets

close to fair value if depreciated historical cost exceeds fair value. In contrast, under fair value

accounting, companies revalue assets either upward or downward depending on the change in the

fair value estimate. This implies that book values of assets (equity) are likely to be higher for

companies that use fair value accounting. To provide evidence on the differences in balance

sheet amounts of fair value vs. historical cost companies, we carry out the following analysis.12

Table 6 compares the book value of total assets (book value of equity) divided by the

market value of total assets (market value of equity) for companies that use fair value with that

of companies that use only historical cost.13

Panel A of Table 6 presents the evidence for

investment property, and Panel B of Table 6 presents the evidence for property, plant, and

equipment. Each company that recognizes property, plant, and equipment at fair value is

matched, on industry and market capitalization, with a company that recognizes all assets at

historical cost. For investment property, we include all companies that hold investment property

as there is no pronounced disbalance between fair value and historical cost subgroups. We find

that, on average, the ratio of book value of total assets to market value of total assets is 16%

higher for companies that recognize investment property at fair value; the ratio of book value of

equity to market value of equity is 27% higher. Among companies that apply fair value to

property, plant, and equipment, we find that the ratio of book value of total assets to market

value of total assets and the ratio of book value of equity to market value of equity are,

respectively, 31% and 87% higher than those of matched companies that use only historical cost.

The differences in the book values of assets and equity in both the investment property and

12 We emphasise that one should not be interpreting these results as causal because they are conditional on the

company’s choice to use fair value. 13 We proxy the market value of total assets by the sum of the market value of equity and the book value of

liabilities.

17

property, plant, and equipment samples are all significant at the 1% level. We also examine how

return on assets (ROA) differs between fair value vs. historical cost companies. We find a lower

ROA in the property, plant, and equipment sample among companies that recognize assets at fair

value. In the investment property sample, we also find a lower ROA among companies that use

fair value accounting; this difference, however, is statistically insignificant.14

[Insert Table 6 here]

The evidence in Table 6 indicates that fair value accounting can be associated with,

economically, a significant effect on companies’ balance sheets. Moreover, fair value often

makes a company appear less conservative in terms of their book-to-market ratios. This, coupled

with management's ability to estimate fair value discretionarily, may be one reason few

companies adopt fair value accounting.

4.4 Analysis of the choice to use fair value

In this section, we examine companies’ incentives to choose fair value over historical

cost by analysing cross-sectional variation in valuation practices after IFRS adoption. We use a

logistic regression to model the probability that a given company will apply fair value as a

function of company-specific characteristics. Our analysis draws on two different subsamples.

First, we analyse the sample of companies that hold investment property. Second, we restrict our

analysis to the sample of companies that use fair value for property, plant, and equipment

matched with a historical cost control group. The summary statistics for variables used in this

analysis are reported in Table 7. All variables are defined in Appendix B. Because the number of

observations and the set of explanatory variables vary across the two subsamples, we report two

separate sets of summary statistics in Panels A and B. To avoid mechanical associations, we

14 It is not surprising that fair value accounting for property decreases ROA because while, on average, fair value

accounting increase the book value of assets, upward revaluations do not affect the net income. For investment

property this effect is smaller because upward revaluations increase both net income and total assets.

18

refrain from using explanatory variables directly affected by fair value revaluations (e.g., book-

to-market, book leverage, total assets). Except for investment property for which data is not

available, we are able to overcome this issue by subtracting the (hand-collected) revaluation

reserve from the book values of equity and total assets.15

[Insert Table 7 here]

4.4.1 Investment property

While IFRS provides UK companies with the first opportunity to switch to historical cost

for investment property, in Germany the opposite is the case. Our sample comprises the 275

companies (124 UK companies; 151 German companies) that hold investment property.

Depending on the specification, additional data requirements limit the sample further. We begin

with the simple logistic regression,

, (1)

where Fair (Cost) is an indicator variable that takes the value of one when a company applies

fair value (historical cost) to investment property and zero otherwise, and Sic65 is an indicator

that takes the value of one when a company has SIC code 65 (real estate) among the first five

SIC codes and zero otherwise. Equation 1 examines the persistence of valuation practices and

how this persistence varies with primary business activity. Specifically, the coefficients β1 and β3

capture the persistence of reporting method for non-real estate companies, while β2 and β4 show

the increment in persistence when real estate is among a company's primary industries of

operation. We further augment Equation 1 with several regressors of interest, including size,

leverage, and dividend payout dummy.

15As explained in Section 2, value changes for investment property at fair value are not recognized in the revaluation

reserve. The lack of a revaluation reserve complicates the collection of the pre-revaluation book value.

1 2 3 4* 65 * 65post IFRS pre IFRS pre IFRS pre IFRS pre IFRSFair Fair Fair Sic Cost Cost Sic

19

Table 8 (Models 1 through 8) presents our results. The pseudo R-squared from Model 1

suggests that Equation 1 explains a substantial portion (i.e., 34%) of the variance in the decision

to use fair value. The estimates indicate that companies that value investment property at

historical cost under local GAAP (i.e., companies domiciled in Germany) are significantly more

likely to use cost accounting (i.e., are less likely to use fair value) after IFRS adoption (β3). This

effect, however, is significantly smaller for companies whose primary industries include real

estate (β3 + β4). Companies that apply fair value to investment property under local GAAP (i.e.,

companies domiciled in the UK) are generally more likely to use fair value under IFRS, although

the effect is small. This effect, however, is much stronger (and more significant) for companies

in the real estate business (β1 + β2). The evidence in Table 8 indicates that valuation practices

largely persist over IFRS adoption. This finding is not unexpected because consistency in

application of GAAP is a fundamental accounting principle and is required in contracts.16

As we

argue below, real estate businesses' greater propensity to either switch to fair value or continue

its use is consistent with our understanding of fair value as a superior measure of economic

performance in the real estate industry.

[Insert Table 8 here]

To entertain several potential explanations for fair value use, Models 2 through 8 of

Table 8 present Equation 1 augmented by log of market capitalization, leverage, IFRS early

adoption dummy, dividend payouts dummy, and retained earnings. Our key finding in Model 2 is

that companies that rely more heavily on debt financing are more likely to apply fair value

16 Persistence in accounting policies across time is highly regarded by the accounting profession. Comparability is a

qualitative characteristic expressed in IASB’s Framework (paragraph 39): “. . . the measurement and display of the financial effect of like transactions and other events must be carried out in a consistent way throughout an entity and

over time for that entity.” In U.S. literature, consistency is expressed in several places including the Accounting

Research Study No. 1 of the American Institute of Certified Public Accountants (postulate C-3). See Ball (1972) for

an extensive discussion of the accounting profession’s reliance on consistency.

20

accounting to investment property. This finding, however, seems at odds with the argument that,

from a debt contracting perspective, historical cost is more desirable than fair value; were this the

case, one would expect to observe a negative association between reliance on debt and (more

subjective, less conservative) fair value estimates.

To shed more light on this issue, in Model 3 we decompose leverage into its long- and

short-term components, as well as proxy for reliance on convertible debt. We find that short-term

leverage is at least as important as long-term debt in predicting fair value use. Also, the

coefficient on convertible debt is significantly positive. As accounting-based covenants are less

common for short-term and convertible-debt contracts, the results are inconsistent with the

conclusion that companies use fair value opportunistically to manage earnings around covenants.

Models 4 through 6 of Table 8 replace leverage with other variables frequently used in debt

contracts.17

We find that the ratio of total debt to operating income is positively related to the use

of fair value, while the coverage of interest and the current ratios are negatively related to fair

value use. These results confirm the effect of leverage and show that companies with tighter

covenants are more likely to use fair value. We interpret these results as being consistent with

companies more heavily dependent on debt markets using fair value to both signal the quality of

their fair value estimates and convey information about their underlying fundamentals (see

discussion below).

Models 7 and 8 of Table 8 examine whether dividends are related to fair value use. We

find that dividend-paying companies and companies with positive retained earnings are less

likely to use fair value for investment property. In particular, the coefficient on the dividend

dummy is significantly negative as is the coefficient on retained earnings when retained earnings

17 We exclude leverage because these variables are highly correlated with leverage and therefore capture aspects of

the same construct.

21

are a positive. One can interpret this result as follows: changes in the fair value of investment

property go via the income statement and therefore amplify earnings volatility, which, in turn,

can lead to interruptions in dividend payouts, for example, in the case of negative earnings. Since

the market interprets dividend interruptions negatively, we would expect fair value to be less

common among dividend-paying companies.18

4.4.2 Property, plant, and equipment

We conduct a similar analysis of a company's decision, post-IFRS, to apply fair value to

property, plant, and equipment. A few distinctions, however, bear mentioning. First, we hand

collect the fair value revaluation reserve data from companies’ annual reports. This enables us to

compute book values of equity and total assets as if companies used historical cost and thus to

include book-to-market and book leverage as explanatory variables. Second, the percentage of

fair value companies in the population is low for this asset group; therefore, to improve the

credibility of our inferences, we match each fair value company to a historical cost company. We

perform this match according to country of domicile, two-digit industry code, and the log of

market value of equity and use the closest match. This procedure, which requires non-missing

market value of equity, yields 90 observations. Data availability restrictions further reduce the

sample to 87 (86) observations.

Table 9 presents the results from our logistic regression analysis. Because we match

according to country, industry, and size, we omit these as explanatory variables. The coefficient

on book-to-market is positive and statistically significant in most specifications, which suggests

that, after IFRS adoption, high growth companies are less likely to use fair value. In line with

prior evidence, we find a positive and significant association between market leverage (book

18 Alternatively, the level of retained earnings is likely to increase upon fair value adoption and thus may induce

pressure from shareholders to start paying out dividends. This, in turn, creates incentives not to adopt fair value.

22

leverage) and the use of fair value accounting. Further analysis in column (3) reveals that short-

term debt, once again, accounts for this association. The portion of convertible debt is now

significantly negatively related to the use of fair value, a finding for which we currently have no

explanation. We further find, as a positive coefficient on FairInvPr suggests, that companies that

apply fair value to investment property are more likely to apply fair value to property, plant, and

equipment as well. Controlling for this effect, however, does not alter our findings with respect

to leverage or book-to-market. Finally, neither dividends nor retained earnings exhibit

significance in this setting.19

[Insert Table 9 here]

4.4.3 Future financing choices and use of fair value for investment property

We attempt to further understand the role of fair value accounting and examine whether

companies that use fair value accounting are more likely to access debt or equity markets in the

years following IFRS adoption. Our analysis will potentially clarify whether fair value

accounting plays an information role in debt markets and, in addition, help to distinguish

between the contracting and valuation roles played by fair value information.

Here, we focus on investment property for two reasons. First, investment property

exhibits substantial variation in the use of fair value. Second, we expect that markets for

investment property are more liquid. Based on Worldscope data for 2006 and 2007, we construct

several proxies for debt and equity financing. Specifically, we proxy for future debt financing

with the following variables: DebtIss1 (DebtIss2) indicates whether by 2007 total debt (long

term debt) had increased by more than 10% of the current market value of assets; FtrLev1

(FtrLev2) proxies for the level of future total debt (long-term debt) in 2007 while controlling for

19 The insignificance of dividends and retained earnings does not necessarily indicate the lack of power of the test

because applying fair value should have no effect on a company’s ability to pay out dividends (i.e., the revaluation

reserve cannot be distributed as dividends).

23

the level of current debt in the regression; and DbtGrow1 (DbtGrow2) indicates growth in total

debt (long-term debt). Proxies for equity issuance over 2006 and 2007 are as follows: EqIss1

indicates whether combined net proceeds of equity issuance less proceeds from stock options

exceed 10% of market value of current assets; and EqIss2 is the ratio of net proceeds to current

market value of assets. We regress these proxies on both the fair value indicator variable and

controls for company characteristics that include country, size, and leverage.

We present our findings in Table 10. Columns (1) through (6) present regressions with 6

proxies for debt issuance used as the dependent variables, while columns (7) and (8) are based on

equity issuance. All proxies for debt issuance are statistically significant and indicate a relation

between fair value use and future debt financing. Proxies for equity financing are insignificant at

the conventional levels. While we have no strong prior for why equity markets should prefer fair

value, the relationship between fair value use and future debt issuance supports the explanation

that fair value can convey information to debt markets.

[Insert Table 10 here]

5. Discussion

While we find rare application of fair value accounting in practice, the instances where

fair value is used are likely to have a contracting explanation. First, in case of investment

property, the use of fair value is concentrated among real estate companies, where fair value

estimates are more likely to facilitate the measurement of the underlying economic performance

required, for example, by compensation contracts.

Second, companies with higher leverage are more likely to use fair value accounting; a

finding consistent with these companies conveying information about the current realizable (or

liquidation) value of the assets. More specifically, one can argue that debtholders, in fact,

24

demand fair value information if the company can credibly communicate it. The application of

fair value accounting increases the likelihood of overstating the book value of assets, which, in

turn, increases a company's (and its auditor's) risk of litigation and losing reputation. Litigation

costs and the risk of losing reputation, however, are expected to decrease as the quality of fair

value estimates increases. A commitment to fair value, then, can be viewed as a costly way for

companies that are confident in the quality of their estimates to distinguish themselves from

companies with less reliable fair value estimates. Our finding that companies that value

investment property at fair value are more likely to issue debt in the future further supports this

explanation.

Finally, our finding that companies that use fair value accounting for property, plant, and

equipment possess fewer growth opportunities (as measured by book-to-market net of the

revaluation reserve) is consistent with the use of fair value accounting as a means of avoiding

overinvestment in fixed assets when few growth opportunities are present. Companies with few

growth opportunities are more likely to make suboptimal investments in negative NPV projects

and retain assets for which the opportunity cost exceeds the present value of future cash flows.

Common accounting metrics, for example, return on assets or return on investment, are less

likely to reflect this information under historical cost accounting because the depreciated cost is

usually lower than the market value, that is, the value in alternative use (see Section 4.3). A

commitment to fair value accounting dilutes the return on assets, makes it more costly for

management to hold unproductive assets, and, when fair value estimates are reliable, improves

the performance measurement. In other words, a commitment to fair value effectively forces

managers to incur rents on their investments' current values, regardless of the time of purchase

and their historical cost.

25

6. Summary

We investigate the use, in practice, of fair value accounting for non-financial assets.

Because companies can choose between historical cost and fair value accounting for these assets,

and because the amount of information demanded by equity investors is often the same, we

expect that the observed practice serves a contracting role and minimizes agency costs. We

examined the accounting policies for intangible assets, investment property, and property, plant,

and equipment of 1,539 companies domiciled in the UK and Germany. With very few

exceptions, we find that fair value is used exclusively for property. We find that 3% of

companies use fair value for owner-occupied property, compared with 47% for investment

property. The lack of companies that use fair value for all other non-financial assets is

inconsistent with net benefits of fair value accounting. We can explain the use of fair value for

property alone by that fact that reliable fair values are more likely to exist for this type of asset.

The main determinant of fair value use for investment property is whether real estate is among a

company’s primary activities. This is consistent with historical cost being a less informative

measure of economic performance in real estate companies.

We find that leverage is an important determinant of fair value use, for both investment

property and property, plant, and equipment. We argue that managerial opportunism is an

unlikely explanation for this finding, which is, rather, more consistent with a contractual

explanation. In particular, fair value can supply lenders with the up-to-date liquidation value of a

company’s assets. We also find that companies with fewer growth opportunities are more likely

to commit to fair value, a finding consistent with the use of fair value as a means of curbing

overinvestment in fixed assets.

Overall, our evidence is broadly consistent with the observation that companies do not

26

perceive the net benefits of fair value accounting to exceed those of historical cost accounting.

We find, however, that where fair value is used, the evidence points to contracting, rather than

valuation, needs as the main determinant of a company's decision to use fair value over historical

cost.

27

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28

Appendix A: Examples of accounting practice

This appendix presents examples of fair value and historical cost accounting from the accounting policy

section of annual reports of companies in our samples. Panel A presents an example of a switch from fair

value under UK-GAAP to historical cost under IFRS. Panel B presents an example of fair value

accounting under both UK-GAAP and IFRS. Panel C presents an example of a German company that uses fair value accounting under IFRS.

Panel A: Switch from fair value to historical cost

Annual report according to UK-GAAP for 2004

AMEC plc annual report and accounts 2004 (page 67)

12 Tangible assets (continued)

All significant freehold and long leasehold properties were externally valued as at 31 December 2004 by

CB Richard Ellis Limited in accordance with the Appraisal and Valuation Manual of the Royal Institute

of Chartered Surveyors.

For the United Kingdom, the basis of revaluation was the existing use value for properties occupied by group companies and the market value for those properties without group occupancy. For properties

outside the United Kingdom, the appropriate country valuation standards were adopted which generally

reflect market value.

No provision has been made for the tax liability that may arise in the event that certain properties are

disposed of at their revalued amounts.

The amount of land and buildings included at valuation, determined according to the historical cost convention, was as follows:

Group Group Company Company

2004 2003 2004 2003

£ million £ million £ million £ million Cost 39.2 46.4 9.3 8.6

Depreciation (10.61) (13.9) (2.5) (1.7)

Net book value 26.6 32.5 6.8 6.9

Annual report according to IFRS for 2005

AMEC plc annual report and accounts 2005 (page 102)

IAS 16 Property, plant and equipment

Under UK-GAAP, AMEC’s policy was to revalue freehold and long leasehold property on a regular

basis. Under IAS 16, AMEC has opted to carry property, plant and equipment at cost less accumulated

depreciation and impairment losses. As permitted by IFRS 1, AMEC has frozen the UK-GAAP land and buildings revaluations as at 1 January 2004 by ascribing the carrying value as deemed cost. The impact of

this change in policy is as follows:

The revaluation reserve is reclassified into retained earnings as at the date of transition; the results of the external revaluation as at 31 December 2004 are reversed, reducing the value of

property, plant and equipment as at 31 December 2004 by £9.6 million; and

as part of the 2004 external revaluation, certain properties were revalued downwards. Under UK-

GAAP, these deficits were charged against previous revaluations held in the revaluation reserve. Under IFRS, these downward revaluations have been taken as indicators that the value of the

relevant properties is impaired and as such, they have been charged to the income statement as

29

impairment charges in 2004. This reduces the profit for the year ended 31 December 2004 and the

value of property, plant and equipment as at 31 December 2004 by £1.8 million.

Panel B: Fair value under both UK-GAAP and IFRS

Annual report according to UK-GAAP for 2004

The Wolverhampton & Dudley Breweries, PLC Annual report 2005 (page 44).

(e) Tangible fixed assets

Freehold and leasehold properties are stated at valuation or at cost. Plant, furnishings, equipment

and other similar items are stated at cost. Freehold buildings are depreciated to their residual value on a straight line basis over 50 years.

Other tangible fixed assets are depreciated to their residual value on a straight line basis at rates

calculated to provide for the cost of the assets over their anticipated useful lives. Leasehold properties are depreciated over the lower of the lease period and 50 years and other tangible

assets over periods ranging from three to 15 years.

Own labour directly attributable to capital projects is capitalised.

Valuation of properties: Trading properties are revalued professionally by independent valuers on a five-year rolling basis. When a valuation or expected proceeds are below current carrying value the asset

concerned is reviewed for impairment. Impairment losses are charged directly to the revaluation reserve

until the carrying amount reaches historical cost. Deficits below historical cost are charged to the profit and loss account except to the extent that the value in use exceeds the valuation in which case this is taken

to the revaluation reserve. Surpluses on revaluation are recognised in the revaluation reserve, except to

the extent that they reverse previously charged impairment losses, in which case they are recorded in the profit and loss account. Any negative valuations are accounted for as onerous leases and included within

provisions (see note 20).

Annual report according to IFRS for 2005

The Wolverhampton & Dudley Breweries, PLC Annual report 2006 (page 46).

Property, plant and equipment

Freehold and leasehold properties are stated at valuation or at cost. Plant, furnishings, equipment and other similar items are stated at cost.

Depreciation is charged to the income statement on a straight-line basis to provide for the cost of

the assets less residual value over their useful lives.

Freehold and long leasehold buildings are depreciated to residual value over 50 years. Short leasehold properties are depreciated over the life of the lease.

Other plant and equipment is depreciated over periods ranging from 3 to 15 years.

Own labour directly attributable to capital projects is capitalised. Land is not depreciated.

Valuation of properties - Properties are revalued by qualified valuers on a regular basis using open market

value so that the carrying value of an asset does not differ significantly from its fair value at the balance sheet date. When a valuation is below current carrying value, the asset concerned is reviewed for

impairment. Impairment losses are charged to the revaluation reserve to the extent that a previous gain

has been recorded, and thereafter to the income statement. Surpluses on revaluation are recognised in the

revaluation reserve, except where they reverse previously charged impairment losses, in which case they are recorded in the income statement.

30

Panel C: Fair value accounting by German company

Annual report according to IFRS for 2005

Hypo Real Estate Group, Annual report 2006 (page 96)

12 Property, plant and equipment

Property, plant and equipment is normally shown at cost of purchase or cost of production. As an

exception to this rule, land and buildings are shown with their fair value in accordance with IAS 16. The carrying amounts – if the assets are subject to wear and tear – are diminished by depreciation in

accordance with the expected service life of the assets. In the case of fittings in rented buildings, the

contract duration taking account of extension options is used as the basis of this contract duration is shorter than the economic life.

Appendix B: Variable definitions

Fair_IFRS = one if the company uses fair value after adoption of IFRS, and zero otherwise.

UK = one if a company is domiciled in the UK, and zero otherwise.

UkSic65 = one if a company has SIC 65 (real estate) among the first five SIC codes and is domiciled in

the UK, and zero otherwise.

Germany = one if a company is domiciled in Germany, and zero otherwise.

GermanySic65 = one if a company has SIC 65 (real estate) among the first five SIC codes and is

domiciled in Germany, and zero otherwise.

Early = one if the company adopted IFRS before 2005, and zero otherwise.

Size = log of market value of equity.

MktLev = total liabilities divided by market value of assets (defined as book value of liabilities plus

market value of equity) as of December 2005.

MktLevLong = long-term debt divided by market value of assets (liabilities plus market value of equity)

as of December 2005.

MktLevShort = short-term liabilities defined as total liabilities less long-term debt divided by market value of assets (liabilities plus market value of equity) as of December 2005.

LevBook = book leverage defined as total liabilities divided by total assets net of fair value revaluation

reserve.

LevBookLong = long-term debt divided by total assets net of fair value revaluation reserve.

LevBookShort = ratio of total liabilities minus long-term debt to total assets net of fair value revaluation

reserve.

Convertible = ratio of convertible debt to long-term debt.

DebtToOi = total liabilities divided by operating income.

Coverage = operating income divided by interest expense.

Current = current assets divided by current liabilities.

Dividend = one if company pays dividends, and zero otherwise.

RE = retained earnings scaled by the market value of equity plus total liabilities.

D(RE<0) = one if retained earnings are negative, and zero otherwise.

31

FairInvPr = one if company holds investment property recorded at fair value , and zero otherwise.

DbtIss1 = change in total liabilities that took place from 2005 to 2007 scaled by beginning-of-period market value of assets (liabilities plus market value of equity).

DbtIss2 = change in long-term debt that took place from 2005 to 2007 scaled by beginning-of-period

market value of assets (liabilities plus market value of equity).

FtrLev1 = total liabilities as of 2007 scaled by beginning-of-period market value of assets (liabilities plus market value of equity).

FtrLev2 = long-term debt as of 2007 scaled by beginning-of-period market value of assets (liabilities plus

market value of equity).

DbtGrow1 = logarithmic growth in total liabilities from 2005 to 2007.

DbtGrow2 = logarithmic growth in long-term debt from 2005 to 2007.

EqIss1 = dummy variable; one if total net proceeds from issuance of common and preferred stock less proceeds from stock options over 2006 and 2007 exceeded 10% of 2005 market value of assets

(liabilities plus market value of equity), and zero otherwise.

EqIss2 = net proceeds from issuance of common and preferred stock less proceeds from stock options

combined over 2006 and 2007 and scaled by 2005 market value of assets (liabilities plus market value of equity).

Note: Unless otherwise stated, variables are measured as of December 2005 using the Worldscope

database.

32

Table 1: Sample selection process Table 1 presents the sample selection process and industry distribution. Panel A presents the selection process for

the UK samples. The cross-sectional sample consists of companies for which we can identify an annual report

according to IFRS. Our switch sample further requires that an annual report (according to UK-GAAP) be available

prior to mandatory IFRS adoption. Panel B presents the selection process for the German sample. To be included in

the German sample, companies must have available an annual report according to IFRS. Percentages are rounded

and thus may not exactly sum to 100%.

Panel A: UK samples

Active companies (FBRIT, March 2008) 2,312

Inactive companies (DEADUK, March 2008) + 5,597

UK listed companies in Worldscope 7,909

Companies that Worldscope does not classify as complying with

IFRS in 2005 or 2006 (mainly inactive companies) – 6,464

IFRS companies 1,445

Companies not domiciled in the UK – 270

UK companies subject to mandatory IFRS 1,175

Companies for which we cannot identify an IFRS annual report

or companies with more than one security listed on LSE – 241

UK Cross-Sectional Sample 934

Companies for which we cannot identify a UK-GAAP annual report – 231

UK Switch Sample 703

Industry distribution in the UK samples

UK UK UK UK

Worldscope IFRS Cross-sectional Switch

No. Industry name All All Excl. N/A

obs. % % Obs. % Obs. % Obs. %

N/A No industry classification 3,139 40%

13 Aerospace 19 0% 0% 11 1% 5 1% 5 1%

16 Apparel 42 1% 1% 7 1% 7 1% 6 1%

19 Automotive 44 1% 1% 6 1% 6 1% 5 1%

22 Beverages 50 1% 1% 11 1% 7 1% 5 1%

25 Chemicals 106 1% 2% 24 2% 20 2% 18 3%

28 Construction 234 3% 5% 65 5% 54 6% 49 7%

31 Diversified 48 1% 1% 8 1% 6 1% 6 1%

34 Drugs, Cosmetics, & Health care 178 2% 4% 52 4% 44 5% 31 4%

37 Electrical 55 1% 1% 13 1% 10 1% 6 1%

40 Electronics 539 7% 11% 136 11% 109 12% 90 13%

43 Financial 674 9% 14% 187 16% 140 15% 105 16%

46 Food 107 1% 2% 27 2% 23 2% 21 3%

49 Machinery & equipment 141 2% 3% 22 2% 22 2% 16 2%

52 Metal producers 213 3% 4% 59 6% 49 5% 23 3%

55 Metal product manufacturers 63 1% 1% 15 1% 12 1% 11 2%

58 Oil, gas, coal, & related services 251 3% 5% 64 6% 52 6% 29 4%

61 Paper 44 1% 1% 9 1% 6 1% 5 1%

64 Printing & publishing 92 1% 2% 25 2% 19 2% 16 2%

67 Recreation 294 4% 6% 51 4% 41 4% 32 5%

70 Retail 211 3% 4% 56 4% 51 5% 43 6%

73 Textile 53 1% 1% 10 1% 8 1% 6 1%

76 Tobacco 10 0% 0% 6 0% 3 0% 3 0%

79 Transportation 73 1% 2% 19 2% 17 2% 14 2%

82 Utilities 232 3% 5% 62 6% 31 3% 23 3%

85 Other industries 997 13% 21% 230 18% 192 21% 135 19%

Total 7,909 100% 100% 1,175 100% 934 100% 703 100%

33

(Table 1 continued)

Panel B: The German sample

Active companies (March 2008) 1,437

Inactive companies (March 2008) + 10,126

German listed companies in Worldscope 11,563

Companies that Worldscope does not classify as complying with

IFRS in 2005 or 2006 (mainly inactive companies) – 10,117

IFRS companies 1,446

Companies not domiciled in Germany – 635

German companies subject to mandatory IFRS 811

Companies for which we cannot identify an IFRS annual report – 206

German sample 605

Industry distribution in the German sample

German German German

Worldscope IFRS Sample

No. Industry name All All Excl. N/A

obs. % % Obs. % Obs. %

N/A No industry classification 2,192 19% N/A N/A N/A N/A N/A

13 Aerospace 25 0% 0% 2 0% 1 0%

16 Apparel 72 1% 1% 19 2% 11 2%

19 Automotive 99 1% 1% 18 2% 10 2%

22 Beverages 93 1% 1% 11 1% 9 1%

25 Chemicals 207 2% 2% 34 4% 16 3%

28 Construction 235 2% 3% 34 4% 22 4%

31 Diversified 74 1% 1% 12 1% 8 1%

34 Drugs, Cosmetics, & Health care 610 5% 7% 36 4% 25 4%

37 Electrical 143 1% 2% 21 3% 13 2%

40 Electronics 1,832 16% 20% 95 12% 78 13%

43 Financial 1,430 12% 15% 131 16% 96 16%

46 Food 154 1% 2% 11 1% 8 1%

49 Machinery & equipment 324 3% 3% 69 9% 54 9%

52 Metal producers 251 2% 3% 1 0% 1 0%

55 Metal product manufacturers 108 1% 1% 10 1% 6 1%

58 Oil, gas, coal, & related services 323 3% 3% 9 1% 5 1%

61 Paper 69 1% 1% 9 1% 6 1%

64 Printing & publishing 78 1% 1% 6 1% 6 1%

67 Recreation 371 3% 4% 30 4% 25 4%

70 Retail 350 3% 4% 23 3% 17 3%

73 Textile 46 0% 0% 8 1% 5 1%

76 Tobacco 16 0% 0% 0 0% 0 0%

79 Transportation 148 1% 2% 10 1% 7 1%

82 Utilities 497 4% 5% 25 3% 20 3%

85 Other industries 1,816 16% 19% 187 23% 156 26%

Total 11,563 100% 100% 811 100% 605 100%

34

Table 2: UK companies' valuation practices after IFRS adoption Table 2 presents valuation practices among companies in the UK cross-sectional sample (defined in Table 1). The

industry classification is based on Worldscope's major industry groups. The "With PPE" ("With intan.") column presents

for each industry how many companies have property, plant, and equipment (intangible assets). The historical cost (fair

value) columns present how many companies use historical cost (fair value) for at least one asset class within property,

plant, and equipment and intangible assets.

No.

Industry name

Cross- Property, Plant, and Equipment Intangible assets

sectional With Historical Fair With Historical Fair

sample PPE cost value intan. cost value

No. No. % No. % No. No. % No. %

13 Aerospace 5 5 5 100% 0 0% 5 5 100% 0 0%

16 Apparel 7 7 7 100% 1 14% 7 7 100% 0 0%

19 Automotive 6 6 6 100% 0 0% 6 6 100% 0 0%

22 Beverages 7 7 7 100% 1 14% 7 7 100% 0 0%

25 Chemicals 20 20 20 100% 1 5% 20 20 100% 0 0%

28 Construction 54 54 54 100% 4 7% 39 39 100% 0 0%

31 Diversified 6 6 6 100% 0 0% 6 6 100% 0 0%

34 Drugs, Cosmetics, & Health care 44 44 44 100% 0 0% 44 44 100% 0 0%

37 Electrical 10 10 10 100% 0 0% 10 10 100% 0 0%

40 Electronics 109 107 107 100% 1 1% 100 100 100% 0 0%

43 Financial 140 118 118 100% 16 14% 68 68 100% 0 0%

46 Food 23 23 23 100% 2 9% 23 23 100% 0 0%

49 Machinery & equipment 22 22 22 100% 1 5% 22 22 100% 0 0%

52 Metal producers 49 44 44 100% 1 2% 44 44 100% 0 0%

55 Metal product manufacturers 12 12 12 100% 1 8% 12 12 100% 0 0%

58 Oil, gas, coal, & related services 52 52 52 100% 1 2% 50 50 100% 0 0%

61 Paper 6 6 6 100% 0 0% 6 6 100% 0 0%

64 Printing & publishing 19 19 19 100% 0 0% 16 16 100% 0 0%

67 Recreation 41 41 41 100% 1 2% 36 36 100% 0 0%

70 Retail 51 50 50 100% 3 6% 40 40 100% 0 0%

73 Textile 8 8 8 100% 1 13% 8 8 100% 0 0%

76 Tobacco 3 3 3 100% 0 0% 3 3 100% 0 0%

79 Transportation 17 17 17 100% 1 6% 17 17 100% 0 0%

82 Utilities 31 31 31 100% 0 0% 31 31 100% 0 0%

85 Other industries 192 191 191 100% 6 3% 185 185 100% 0 0%

Total Sample 934 903 903 100% 42 5% 805 805 100% 0 0%

35

Table 3: UK companies’ valuation practices before and after IFRS adoption Table 3 presents valuation practices among companies in the UK switch sample (defined in Table 1). The industry

classification is based on Worldscope's major industry groups. The "With PPE" ("With inv. prop.") column presents for

each industry how many companies have property, plant, and equipment (investment property). The historical cost (fair

value) columns present how many companies use historical cost (fair value) for at least one asset class within property,

plant, and equipment and intangible assets. 1As a percentage of companies that use fair value accounting under UK-GAAP. 2As a percentage of companies that use only historical cost under UK-GAAP. 3Given that UK-GAAP requires that investment property be recognized at fair value, the application of historical cost always constitutes a switch. Therefore, in Table 3, we use the UK cross-sectional sample for investment property.

Property, plant, and equipment Investment property

No. Industry name Switch With Fair value Switch to Switch to Cross- With Keep Move to

sample PPE UK IFRS historical cost fair value sectional inv. fair value historical cost

No. % No. % No. % 1 No. % 2 sample 3 prop. No. % No. %

13 Aerospace 5 5 0 0% 0 0% 0 N/A 0 0% 5 2 1 50% 1 50%

16 Apparel 6 6 1 17% 1 17% 0 0% 0 0% 7 0 0 N/A 0 N/A

19 Automotive 5 5 1 20% 0 0% 1 100% 0 0% 6 1 1 100% 0 0%

22 Beverages 5 5 1 20% 1 20% 0 0% 0 0% 7 1 0 0% 1 100%

25 Chemicals 18 18 1 6% 1 6% 0 0% 0 0% 20 0 0 N/A 0 N/A

28 Construction 49 49 6 12% 4 8% 3 50% 1 2% 54 10 7 70% 3 30%

31 Diversified 6 6 0 0% 0 0% 0 N/A 0 0% 6 1 1 100% 0 0%

34 Drugs, Cosmetics, & Health care 31 31 1 3% 0 0% 1 100% 0 0% 44 0 0 N/A 0 N/A

37 Electrical 6 6 0 0% 0 0% 0 N/A 0 0% 10 1 1 100% 0 0%

40 Electronics 90 89 1 1% 1 1% 0 0% 0 0% 109 3 1 33% 2 67%

43 Financial 105 90 13 14% 10 11% 6 46% 3 4% 140 66 65 98% 1 2%

46 Food 21 21 2 10% 1 5% 1 50% 0 0% 23 2 1 50% 1 50%

49 Machinery & equipment 16 16 0 0% 1 6% 0 N/A 1 6% 22 1 0 0% 1 100%

52 Metal producers 23 22 0 0% 0 0% 0 N/A 0 0% 49 1 0 0% 1 100%

55 Metal product manufacturers 11 11 0 0% 1 9% 0 N/A 1 9% 12 0 0 N/A 0 N/A

58 Oil, gas, coal, & related services 29 29 1 3% 1 3% 0 0% 0 0% 52 3 3 100% 0 0%

61 Paper 5 5 0 0% 0 0% 0 N/A 0 0% 6 1 0 0% 1 100%

64 Printing & publishing 16 16 0 0% 0 0% 0 N/A 0 0% 19 0 0 N/A 0 N/A

67 Recreation 32 32 2 6% 1 3% 1 50% 0 0% 41 1 0 0% 1 100%

70 Retail 43 42 4 10% 2 5% 2 50% 0 0% 51 9 1 11% 8 89%

73 Textile 6 6 1 17% 1 17% 0 0% 0 0% 8 2 1 50% 1 50%

76 Tobacco 3 3 0 0% 0 0% 0 N/A 0 0% 3 0 0 N/A 0 N/A

79 Transportation 14 14 0 0% 1 7% 0 N/A 1 7% 17 2 2 100% 0 0%

82 Utilities 23 23 1 4% 0 0% 1 100% 0 0% 31 3 1 33% 2 67%

85 Other industries 135 135 8 6% 4 3% 4 50% 0 0% 192 14 10 71% 4 29%

Total Sample 703 685 44 6% 31 5% 20 44% 7 1% 934 124 96 77% 28 23%

36

Table 4: German companies’ valuation practices after IFRS adoption Table 4 presents valuation practices among companies in the German sample (defined in Table 1). The industry

classification is based on Worldscope's major industry groups. The "With PPE" ("With inv. prop.") {"With intan."} column

presents for each industry how many companies have property, plant, and equipment (investment property) {intangible

assets}. The historical cost (fair value) columns present how many companies use historical cost (fair value) for at least one

asset class within property, plant, and equipment and intangible assets.

Property, plant and equipment Investment property Intangibles

No. Industry name Sample With Fair Historical With Fair Historical With Fair Historical

PPE value cost inv. value cost intan. value cost

No. % No. % prop. No. % No. % No. % No. %

13 Aerospace 1 1 0 0% 1 100% 0 0 N/A 0 N/A 1 0 0% 1 100%

16 Apparel 11 11 0 0% 11 100% 0 0 N/A 0 N/A 11 0 0% 11 100%

19 Automotive 10 10 0 0% 10 100% 4 0 0% 4 100% 10 0 0% 10 100%

22 Beverages 9 9 0 0% 9 100% 3 1 33% 2 67% 9 0 0% 9 100%

25 Chemicals 16 16 0 0% 16 100% 2 0 0% 2 100% 16 0 0% 16 100%

28 Construction 22 22 0 0% 22 100% 8 1 13% 7 88% 22 0 0% 22 100%

31 Diversified 8 8 0 0% 8 100% 7 0 0% 7 100% 8 0 0% 8 100%

34 Drugs, Cosmetics, & Health care 25 25 0 0% 25 100% 4 0 0% 4 100% 25 0 0% 25 100%

37 Electrical 13 13 0 0% 13 100% 3 0 0% 3 100% 13 0 0% 13 100%

40 Electronics 78 78 0 0% 78 100% 6 1 17% 5 83% 77 0 0% 77 100%

43 Financial 96 96 3 3% 96 100% 57 28 49% 29 51% 87 0 0% 87 100%

46 Food 8 8 0 0% 8 100% 1 0 0% 1 100% 8 0 0% 8 100%

49 Machinery & equipment 54 54 1 2% 54 100% 11 2 18% 9 82% 54 0 0% 54 100%

52 Metal producers 1 1 0 0% 1 100% 0 0 N/A 0 N/A 1 0 0% 1 100%

55 Metal product manufacturers 6 6 1 17% 6 100% 1 0 0% 1 100% 6 0 0% 6 100%

58 Oil, gas, coal, & related services 5 5 0 0% 5 100% 1 0 0% 1 100% 4 0 0% 4 100%

61 Paper 6 6 0 0% 6 100% 1 0 0% 1 100% 6 0 0% 6 100%

64 Printing & publishing 6 6 0 0% 6 100% 3 0 0% 3 100% 6 0 0% 6 100%

67 Recreation 25 25 0 0% 25 100% 0 0 N/A 0 N/A 25 0 0% 25 100%

70 Retail 17 17 1 6% 17 100% 8 0 0% 8 100% 17 0 0% 17 100%

73 Textile 5 5 0 0% 5 100% 3 0 0% 3 100% 5 0 0% 5 100%

76 Tobacco 0 0 0 N/A 0 N/A 0 0 N/A 0 N/A 0 0 N/A 0 N/A

79 Transportation 7 7 0 0% 7 100% 3 0 0% 3 100% 7 0 0% 7 100%

82 Utilities 20 20 0 0% 20 100% 6 0 0% 6 100% 20 0 0% 20 100%

85 Other industries 156 156 1 1% 155 99% 19 1 5% 18 95% 154 0 0% 154 100%

Total Sample 605 605 7 1% 604 100% 151 34 23% 117 77% 592 0 0% 592 100%

37

Table 5: Asset classes and the application of fair value accounting Table 5 presents evidence regarding which asset classes under property, plant, and equipment are recognized at fair value.

The No. columns present the number of companies that recognize assets at fair value within the respective asset classes.

The % columns present the values in the No. columns as a percentage of those companies in the UK, Germany, and the full

sample that use fair value for any class of assets under property, plant, and equipment. 1Includes companies that use fair value under UK-GAAP or IFRS, or both.

United Kingdom Germany Full sample

No.1 % No. % No. %

Companies that use fair value for PPE 62 100% 7 100% 69 100%

Divided according to asset classes:

Property 58 94% 6 86% 64 93%

Plant 2 3% 0 0% 2 3%

Equipment 0 0% 0 0% 0 0%

PPE in general 2 3% 1 14% 3 4%

38

Table 6: The effect of fair value accounting on asset values Table 6 illustrates the differences in the book value of assets for fair value vs. historical cost companies. Information

regarding the use of fair value is hand-collected from companies’ annual reports in Thompson One Banker. The data is

taken from the Worldscope database as of December 2005. Panel A presents a sample of 275 companies (124 UK

companies; 151 German companies) that hold investment property. Panel B is based on a matched sample of

companies that began using fair value after IFRS adoption. We match each fair value company with historical cost

companies on country, two-digit industry group, and the log of market value of equity and take the closest match. This

procedure, which requires non-missing market value of equity, yields 90 observations. BTM is book value of equity

divided by the market value of equity, TA is total value of assets, MKT(TA) is market value of assets plus book value of

liabilities, ROA is return on assets, and PPE/MKT(EQUITY) is book value of property, plant, and equipment divided by

the market value of equity.

Statistics BTM TA/MKT(TA) ROA PPE/MKT(EQUITY)

Panel A: Investment property

Mean:

Historical cost mean 0.68 0.80 5.75

Fair value mean 0.87 0.93 4.98

Difference –0.18 –0.13 0.77

% –26.78 –16.11 13.46

t-stat –3.24 –4.20 0.56

p-value 0.001 0.000 0.574

Median:

Historical cost median 0.64 0.83 4.81

Fair value median 0.88 0.97 3.79

Difference –0.25 –0.14 1.02

% –38.55 –16.45 21.12

z-stat –3.74 –4.56 1.12

p-value 0.00 0.00 0.26

Panel B: Property, plant, and equipment

Mean:

Historical cost mean 0.50 0.71 7.47 0.40

Fair value mean 0.94 0.93 4.33 0.94

Difference –0.43 –0.22 3.14 –0.55

% –86.60 –31.20 42.00 –136.86

t-stat –4.40 –4.06 2.24 –2.81

p-value 0.00 0.00 0.14 0.01

Median:

Historical cost median 0.44 0.73 5.97 0.11

Fair value median 0.83 0.93 3.33 0.46

Difference –0.40 –0.20 2.64 –0.35

% –90.89 –26.65 44.22 –309.86

z-stat –3.91 –3.60 1.83 –3.12

p-value 0.00 0.00 0.07 0.00

39

Table 7: Summary statistics for logistic regression analysis Table 7 presents summary statistics for three subsamples used in the logistic regression analysis presented in Tables 8

through 10. All variables are defined in Appendix B. Information regarding the use of fair value is hand-collected from

companies’ annual reports in Thompson One Banker. The data is taken from the Worldscope database as of December

2005. Panel A presents a sample of 275 companies (124 companies in the UK and 151 companies in Germany) that hold

investment property. Panel B presents a matched sample of companies that began using fair value after IFRS adoption.

We match each fair value company with historical cost companies on country, two-digit industry group, and the log of

market value of equity and take the closest match. This procedure, which requires non-missing market value of equity,

yields 90 observations. In Panel C, we match companies that use fair value for property, plant, and equipment during at

least one of the periods (i.e., either before IFRS adoption, after IFRS adoption, or both) with an equal sample of

companies that use historical cost both before and after IFRS adoption. Matches based on industry and log of market

valuation yields 102 observations. Note that requiring non-missing values for a particular variable often further limits the

sample.

Variable Mean Std. Dev. Q25 Median Q75 Obs.

Panel A: Investment Property subsample

Fair_IFRS 0.473 0.500 0 0 1 275

UkSic65 0.225 0.419 0 0 0 275

Germany 0.549 0.498 0 1 1 275

GermanySic65 0.189 0.392 0 0 0 275

Early 0.229 0.421 0 0 0 275

Size 12.550 2.257 10.908 12.502 14.119 245

MktLev 0.524 0.250 0.330 0.521 0.708 244

MktLevShort 0.356 0.245 0.164 0.301 0.514 244

MktLevLong 0.168 0.168 0.028 0.120 0.268 244

Convertible 0.055 0.387 0 0 0 180

DebtToOI 1.119 2.147 –0.074 1.349 2.512 199

Coverage 1.330 1.725 0.259 1.200 2.183 210

Current 0.307 0.574 0.029 0.254 0.604 152

DivDum 0.761 0.427 1 1 1 276

RE 0.056 0.634 0.015 0.079 0.195 243

D(RE<0) 0.156 0.363 0 0 0 276

DbtIss1 0.562 0.497 0 1 1 276

DbtIss2 0.380 0.486 0 0 1 276

FtrLev1 0.924 1.639 0.376 0.613 0.928 230

FtrLev2 0.494 1.143 0.062 0.240 0.557 229

DbtGrow1 0.413 1.119 –0.031 0.195 0.582 253

DbtGrow2 0.257 1.229 –0.205 0.155 0.705 215

EqIss1 0.093 0.292 0 0 0 182

EqIss2 0.052 0.255 0 0.000 0.008 182

Panel B: Property Plant and Equipment subsample

FAIR_IFRS 0.517 0.503 0 1 1 87

Size 12.037 2.114 10.2709 11.9925 13.6682 87

Btm 0.576 0.351 0.3541 0.4747 0.8596 87

MktLev 0.498 0.235 0.3319 0.4748 0.6262 87

MktLevShort 0.365 0.239 0.1550 0.3227 0.5045 87

MktLevLong 0.132 0.165 0.011 0.067 0.170 87

BookLev 0.633 0.227 0.436 0.656 0.807 87

BookLevShort 0.469 0.254 0.267 0.463 0.649 87

40

BookLevLong 0.164 0.194 0.015 0.092 0.237 87

Convertible 0.019 0.108 0 0 0 87

FairInvPr 0.253 0.437 0.000 0.000 1.000 87

DiviDum 0.828 0.380 1.000 1.000 1.000 87

RE 0.082 0.394 0.023 0.095 0.215 86

D(RE<0) 0.149 0.359 0 0 0 87

41

Table 8: Choice of fair value for investment property group Table 8 presents estimates from the logistic regression of the IFRS fair value indicator on a set of company-specific

variables. All variables are defined in Appendix B. Information on the use of fair value is hand-collected from companies’

annual reports in Thompson One Banker. The data is taken from Worldscope database as of December 2005. The sample

consists of 275 companies (124 UK companies; 151 German companies) that hold investment property. Requiring non-

missing values for explanatory variables further limits the sample in some specifications. ***, **, * indicate statistical

significance at less than 1, 5, and 10%, respectively.

Variables (1) (2) (3) (4) (5) (6) (7) (8)

UK (constant) 0.460* 1.24 1.37 3.084** 4.153*** 4.456** 1.438 4.371***

[1.759] [0.949] [0.857] [2.011] [2.595] [2.120] [1.089] [3.050]

[0.079] [0.343] [0.391] [0.044] [0.009] [0.034] [0.276] [0.002]

UkSic65 2.215*** 2.115*** 2.792*** 1.873** 1.425** 2.090** 2.167*** 2.776***

[3.818] [3.436] [3.231] [2.140] [1.996] [2.432] [3.495] [3.415]

[0.000] [0.001] [0.001] [0.032] [0.046] [0.015] [0.000] [0.001]

Germany –2.539*** –3.822*** –4.735*** –4.242*** –4.437*** –3.471*** –4.362*** –4.133***

[–6.142] [–6.133] [–4.808] [–5.374] [–5.707] [–3.743] [–5.886] [–6.321]

[0.000] [0.000] [0.000] [0.000] [0.000] [0.000] [0.000] [0.000]

GermanySic65 1.848*** 1.893*** 1.776** 1.672*** 1.632*** 0.298 2.009*** 1.721***

[4.344] [3.586] [2.284] [2.714] [2.675] [0.302] [3.664] [3.291]

[0.000] [0.000] [0.022] [0.007] [0.007] [0.763] [0.000] [0.001]

Early 1.320** 1.866** 1.543*** 1.462** 1.151 1.414** 1.316**

[2.551] [2.174] [2.625] [2.486] [1.154] [2.537] [2.547]

[0.011] [0.030] [0.009] [0.013] [0.249] [0.011] [0.011]

Size –0.158* –0.214* –0.202* –0.204** –0.370** –0.0767 –0.304***

[–1.680] [–1.789] [–1.914] [–1.991] [–2.210] [–0.794] [–3.553]

[0.093] [0.074] [0.056] [0.046] [0.027] [0.427] [0.000]

MktLev 2.681*** 2.557*** 2.137**

[3.400] [3.229] [2.438]

[0.001] [0.001] [0.015]

MktLevShort 3.381***

[3.020]

[0.003]

MktLevLong 4.090**

[1.966]

[0.049]

Convertible 3.841**

[2.366]

[0.018]

DebtToOi 0.337**

[2.197]

[0.028]

Coverage –0.380***

[–2.585]

[0.010]

Current –0.820*

[–1.789]

[0.074]

Dividends –1.313**

[–2.377]

[0.017]

D(RE<0) –1.089*

[–1.682]

[0.093]

RE –5.306**

[–2.145]

42

[0.032]

RE*D(RE<0) 6.199**

[2.403]

[0.016]

Observations 275 244 172 182 192 140 244 243

Pseudo R-squared 0.335 0.409 0.508 0.437 0.426 0.434 0.43 0.456

43

Table 9: Use of fair value for property, plant, and equipment Table 9 presents estimates from the logistic regression of the IFRS fair value indicator on a set of company specific

variables. All variables are defined in Appendix B. Information on the use of fair value is hand-collected from companies’

annual reports in Thompson One Banker. The data is taken from the Worldscope database as of December 2005. The

results are based on a matched sample of companies that began using fair value after IFRS adoption. We matcheach fair

value company to historical cost companies company on country, two-digit industry group, and the log of market value of

equity and take the closest match. This procedure, which requires non-missing market value of equity, yields 90

observations. Requiring non-missing values for other explanatory variables further limits the sample. ***, **, * indicate

statistical significance at less than 1, 5, and 10%, respectively.

Variable (1) (2) (3) (4) (5) (6) (7)

UK (constant) –1.643** –1.806*** –2.501** –2.827*** –1.423** –1.597** –1.854**

[–2.567] [–2.738] [–2.542] [–2.761] [–2.168] [–2.185] [–2.413]

[0.010] [0.006] [0.011] [0.006] [0.030] [0.029] [0.016]

Btm 2.032** 1.677* 2.046** 0.875

[2.041] [1.662] [2.052] [1.094]

[0.041] [0.096] [0.040] [0.274]

MktLev 2.032** 1.677* 2.046** 2.571**

[2.041] [1.662] [2.052] [2.282]

[0.041] [0.096] [0.040] [0.022]

MktLevShort 2.492**

[2.234]

[0.025]

MktLevLong 2.104

[1.335]

[0.182]

Convertible –6.045*** –5.886***

[–2.610] [–2.585]

[0.009] [0.010]

LevBook 2.276**

[2.087]

[0.037]

LevBookShort 2.692**

[2.315]

[0.021]

LevBookLong 2.647*

[1.795]

[0.073]

FairInvPr 1.057*

[1.714]

[0.086]

DivDum –0.0705

[–0.125]

[0.900]

D(RE<0) –0.629

[–0.878]

[0.380]

RE 1.128

[0.521]

[0.602]

RE*D(RE<0) –2.383

[–0.997]

[0.319]

Observations 87 87 87 87 87 87 86

Pseudo R-squared 0.0734 0.106 0.0737 0.106 0.0982 0.0735 0.098

44

Table 10: Future financing and the use of fair value accounting Table 10 presents estimates from OLS regression of future financing choices on the IFRS fair value indicator and a set of

company-specific controls. All variables are defined in Appendix B. Information on the use of fair value is hand-collected

from companies’ annual reports in Thompson One Banker. All other data is taken from the Worldscope database between

December 2005 and 2007. The sample consists of 275 companies (124 UK companies; 151 German companies) that hold

investment property. Requiring non-missing values for explanatory variables further limits the sample in some

specifications. ***, **, * indicate statistical significance at less than 1, 5, and 10%, respectively.

(1) (2) (3) (4) (5) (6) (7) (8)

Variable DbdIss1 DbtIss2 FtrLev1 FtrLev2 DbtGrow1 DbtGrow2 EqIss1 EqIss2

Fair 0.218*** 0.216*** 0.714* 0.506*** 0.457*** 0.519*** 0.0544 0.0506

[2.674] [2.904] [1.813] [2.665] [2.814] [2.636] [1.235] [1.286]

[0.008] [0.004] [0.071] [0.008] [0.005] [0.009] [0.219] [0.200]

UK –0.0655 –0.12 –0.604 –0.278 –0.365** –0.339 –0.0327 –0.0212

[–0.783] [–1.598] [–1.583] [–1.538] [–2.275] [–1.554] [–0.738] [–0.893]

[0.434] [0.111] [0.115] [0.126] [0.024] [0.122] [0.462] [0.373]

Size 0.0360** –0.0163 –0.0846 –0.0555 0.0148 0.0155 –0.0219** –0.0173*

[2.500] [–1.330] [–1.541] [–1.380] [0.623] [0.342] [–2.142] [–1.660]

[0.013] [0.185] [0.125] [0.169] [0.534] [0.733] [0.034] [0.099]

MktLev 0.0645 0.545*** 2.037* 1.088 0.586 0.639 0.399*** 0.317*

[0.349] [3.479] [1.921] [1.516] [1.413] [1.163] [2.948] [1.713]

[0.727] [0.001] [0.056] [0.131] [0.159] [0.246] [0.004] [0.089]

Constant –0.0655 –0.12 –0.604 –0.278 –0.365** –0.339 –0.0327 –0.0212

[–0.783] [–1.598] [–1.583] [–1.538] [–2.275] [–1.554] [–0.738] [–0.893]

[0.434] [0.111] [0.115] [0.126] [0.024] [0.122] [0.462] [0.373]

Observations 229 229 229 228 229 196 181 181

R-squared 0.121 0.092 0.144 0.147 0.213 0.081 0.108 0.177