Identifying the gap in the literature

The existing research mainly involves a broad analysis of the relationships between measures of earnings quality and financial reporting variables and other firm specific variables, using large samples of firms from multiple countries. In most cases, the research design is constructed to analyse the effects of the type of regulation adoption (mandatory or voluntary), type of enforcement (usually classified as strong or weak enforcement) and the legal environment (civil law or common law) in each country. However, whilst the results of these studies consider the impact of IFRS, they do not investigate the unique characteristics of the information environment in different countries. The majority of studies do not take into account changes in accounting regulations subsequent to the adoption of IFRS such as changes made in 2007 and 2008 to IFRS3 Business combinations, IFRS7 Financial Instruments and IFRS8 Operating Segments. These changes may have a material impact on companies’ financial statements and disclosure. An in-depth analysis of accounting standards and the treatment of intangibles, acquisitions and business combinations by companies is likely to demonstrate the impact of IFRS adoption. Including variables to identify those firms who were most affected by the regulation changes, such as measures of intangible assets and amortisation and to reflect the acquisition of subsidiaries as well as financial instruments and operating segments, is likely to identify the effect of these factors on earnings quality.

Existing studies of earnings quality such as Byard et al. 2011, Tan et al. 2011 tend to suffer from a significant weakness, in that the models do not take into account the narrative information that is disclosed in annual reports and others such as Cotter et al. (2012) and Glaum et al. (2013) neither consider the many other sources of information that contribute to the analysts’ information environment. Hence, a complementary analysis of corporate disclosure, in terms of the link between information quantity and information quality, is likely to yield further, interesting findings.

In summary, our study contributes to the literature in the following key ways.

We attempt to address both of the above gaps by creating a number of variables to reflect the quantity of disclosures made by firms across different categories and collect disclosure information from a range of different sources. For this purpose, we develop a new custom dictionary to quantify the information transmitted by firms to outsiders through corporate reports and announcements. We examine the properties of analysts’ forecasts on a monthly basis and we test an approach between the monthly corporate disclosure and the monthly evolution of analysts’ forecasts. Using monthly forecasts allows us to model the evolution of the relationship between the forecasts and the disclosure information throughout the financial year rather than just using on observation at each year end. Also, compared to previous studies on IFRS adoption we use an extended time frame to include the IFRS7 and IFRS8 revisions that possibly affected the quantity and quality of corporate disclosure and we assess the impact of IFRS3 on the role of goodwill, goodwill impairments and acquisitions in Europe.

Consistent with prior literature, our empirical models use four properties of analysts’ forecasts (accuracy, forecast errors, variance and number of analysts following) as measures of earnings quality. These factors are modelled using known control variables suggested by the literature (Size, age, return on assets, gearing, volatility and stock returns) plus variable representing mandatory or voluntary adoption of IFRS; variables representing the factors identified above as those for which new IFRS rules have been issued since adoption (goodwill, intangibles and acquisitions) and finally a set of variables representing the narrative disclosure of individual firms based on analysis of all publicly disclosed information about the firm.

The research covers samples of UK, French and German companies in order to identify the differences in earnings quality and disclosure practices between these countries. The reasons for these differences are likely to be due to the effects of legal system differences (civil law in France and Germany and common law in the UK), historical corporate financing differences (market orientated in the UK and bank orientated in France and Germany) as well as the differences in financial reporting

The three countries provide a useful contrast since prior UK standards (UK GAAP) were far more similar to IFRS than other standards used previously by our sample companies (French, German and US GAAP). Byard et al. 2011 construct a table based on previous studies (Kaufmann et al. 2007; Bae et al. 2008) and classify the countries according to the legal and enforcement environment and the differences between IFRS and local GAAP. Following adoption, their classification shows that the UK has strong enforcement – low differences from IFRS, whereas Germany has strong enforcement – high differences from IFRS and France has weak enforcement – high differences from IFRS. These distinct country-level characteristics have implications for the analysts’ information environment since weak enforcement is likely to make forecasting more difficult and increase variability. Since the largest companies from each country were selected for our study, they jointly constitute a considerable part of the European Economy, which increases our confidence in the generalisability of our findings. Furthermore, the German sample contains both voluntary and mandatory adopters of IFRS, which provides the opportunity to assess whether there are any important differences between the two.