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Emerald Group Publishing Limited
Copyright © 2008, Emerald Group Publishing Limited
Article Type: Guest editorial From: Accounting Research Journal, Volume 21, Issue 3
The papers published in this issue of Accounting Research Journal were presented in the Accounting stream of the 16th Annual Conference on Pacific Basin Finance, Economics, Accounting and Management (PBFEAM). This conference was hosted by the Queensland University of Technology and held on July 3-4, 2008, with the theme “Innovation for a sustainable future: visions for 2020.”
The first paper is Elizabeth Gordon’s keynote address to the plenary session in the accounting stream of the conference. In keeping with the conference theme, Gordon discusses issues around the sustainability of global accounting standards and innovations that are needed in institutions to sustain those global standards. An overview is given of the adoption of International Financial Reporting Standards (IFRS) by countries around the world and progress towards IFRS convergence in the USA. Gordon suggests that once the US has adopted IFRS, standards and standard setting will have moved from competition to a monopoly, and questions the desirability of the International Accounting Standards Board (IASB) having monopoly power over global accounting standard setting.
Gordon argues that inherent problems with monopolistic powers need to be checked by establishing adequate infrastructure to support investor protection globally, but of course, a major challenge is how to converge investor (and creditor) protection and rights. The needed innovation in institutions and laws represent a much greater challenge for business and governments than convergence of accounting standards, which has been just the first, very small step.
Since the PBFEAM Conference, the Securities and Exchange Commission (SEC) announced (on August 27, 2008) that it will “publish for public comment a proposed Roadmap that could lead to the use of IFRS by US issuers beginning in 2014” (www.sec.gov/news/press/2008/2008-184.htm). But it will not be until 2011 that the SEC will decide whether the adoption of IFRS is in the public interest and would benefit investors. It is interesting to contrast the SEC’s “cautious and careful plan” in moving towards convergence with IFRS over at least six more years, with the relatively rapid adoption of international standards in Australia. The Financial Reporting Council (FRC) announced in mid-2001 that Australia would adopt IFRS from January 2005, and despite much criticism from industry and the profession that this timetable was too hasty, that target was achieved.
A significant point of difference between the two approaches is, in the US there will be considerable opportunity for constituent input to the decision, whereas in Australia the FRC took the decision to adopt IFRS without public consultation. It will be some time before we know whether the US regulator’s desired objective of converging with IFRS is achieved. One could take the cynical view that the planned process has been deliberately extended over a long period of time to provide the IASB with an opportunity to address objections to particular aspects of the IFRS as they emerge, and accordingly, neutralize those arguments.
The other two PBFEAM conference papers are empirical studies examining distinct aspects of governance and accountability prescribed by the Australian Securities Exchange (ASX) for companies listed on the exchange. The paper presented by Marion Hutchinson (co-authored with Majella Percy and Leyal Erkurtuglu) focuses on the effects of the corporate governance reforms that were introduced by the ASX in 2003, encouraging all listed companies to adopt its Principles of Good Corporate Governance and Best Practice Recommendations, of which a limited few require mandatory compliance by the top-500 listed companies (by market capitalisation). In contrast to this generally non-mandatory approach to enforcement of good corporate governance principles that are mainly aimed at larger ASX-listed companies, the paper presented by Jodie Nelson (co-authored with Gerry Gallery) focuses on the ASX’s mandatory requirements for mining exploration companies to disclose cash expenditure forecasts; those companies are generally smaller. The findings of these two studies provide important insights to the effectiveness of the ASX voluntary governance practices and mandatory disclosures for companies falling at opposite ends of the size spectrum.
Corporate scandals in the USA, Australia and other countries in the early 2000s led to regulators introducing rules to strengthen corporate governance practices. Various effects and consequences of the Sarbanes-Oxley Act (SOX) on US companies have been the subject of considerable academic research in attempting to assess whether the stringent rules relating to board composition, directors, auditors and other governance practices have been effective. The empirical evidence is mixed and, as such, the jury is still out on whether SOX has achieved its objectives.
Australian regulators took a less prescriptive approach to governance reforms with requirements for many of the specific structural aspects of governance (e.g. board independence, audit committee independence) taking the form of the ASX principles and recommendations. Nevertheless, as stated by Hutchinson et al., the ASX reports that 74 percent of the top-500 companies complied with its corporate governance guidelines in 2005. The question is whether improved governance practices have led to improved financial reporting quality.
In comparing governance practices in 2000 with 2005, Hutchinson et al. find significant increases in board and audit committee independence, but only improvements to board independence are associated with lower levels of earnings management. Their finding that higher levels of director share ownership is associated with higher levels of earnings management after the introduction of the ASX reforms (in 2005), but not before (in 2000), suggests this aspect of corporate governance (which is not part of the ASX good corporate governance principles) warrants some attention by the regulators. This study shows that improved corporate governance practices have had only limited success in improving financial reporting quality and highlights the need examine the effects of the reforms on various aspects of firms’ activities, and not just simply assume that if governance practices have improved, these will automatically translate into better management and accounting practices. As one of the first studies to examine effects of governance reforms in the Australian context, this paper provides evidence that could assist and inform the ongoing debate about what rules are best and how they should be enforced to achieve effective corporate governance.
From the largely discretionary environment of the ASX’s corporate governance rules, the Gallery and Nelson paper takes us to the unique context of mandatory ASX rules that require mining exploration companies to produce quarterly cash flow reports and include in those reports cash expenditure forecasts for the next quarter. Given that this requirement for cash flow forecasts has been in place since 1996, it is somewhat surprising that no other studies have examined this issue. Prior research on management forecasts principally relates to earnings forecasts where such disclosures are voluntary. The unique Australian context provides the opportunity for this study to examine management forecasts of cash expenditure in a mandatory environment.
Given the mandatory nature of the cash flow forecasts, it is not surprising that Gallery and Nelson find high levels of compliance with this disclosure requirement among the population of mining exploration companies. But surprisingly, they find that those forecasts are significantly inaccurate with some bias, raising the question of the usefulness of such forecasts. The findings of this study give rise to the important question of why these companies are unable to accurately predict one-quarter-ahead cash flows. Is it because the nature of the business – mining exploration activities – is so inherently uncertain that management is unable to predict one-quarter-ahead expenditures on such activities? Is it that the companies simply comply with the requirement to disclose forecasts of cash expenditure and are not concerned about how accurate the forecasts are because any inaccuracies are not questioned by regulators? Is the bias of predicting higher expenditures on exploration and evaluation expenditures than is actually expended indicative of management optimism in achieving expenditure targets, or is it an attempt to influence users’ perceptions about the level of productive activities? Whether it is for one of these or some other reason that cash flows forecasts are inaccurate, the ASX needs to revisit its requirement for such forecasts and consider requiring companies to explain significant differences between forecasted and actual expenditures.
Overall, the three papers presented in this issue examine quite disparate issues, but in addressing institutional arrangements for accounting standard setting, and corporate governance and management forecasting practices in discretionary and mandatory disclosure environments, all three provide important insights and evidence on issues that are of significance to the future of accounting practice and research.