An Empirical Assessment Of Reported Intangible Assets Under IAS No.38

Abstract

Since the European Union (EU) adopted the New Accounting Strategy in 1995, several European countries have passed laws allowing their companies to publish consolidated financial statements in accordance with International Accounting Standards (IAS). As IAS is accepted by more and more countries and stock exchanges, SEC is under increasing pressure to accept IAS-based financial statements from foreign registrants. Recently, SEC indicated its intention to allow the utilization of IAS by foreign issuers on the condition that IAS is comprehensive and of high quality, and calls for the study of the quality of IAS. This study attempts to address the intangible assets controversy surrounding IAS No.38. Under IAS No.38 “Intangible Assets,” research and development (R&D) costs are separated. Companies are required to expense the research costs, but capitalize development costs, which must be expensed when incurred under U.S. GAAP. Furthermore, IAS No.38 allows the capitalized intangible assets (including development costs) to be revalued in subsequent periods, which is not allowed under U.S. GAAP. Critics of IAS No.38 argue that separation of R&D and the capitalization of development costs will likely be applied inconsistently across companies and provide an opportunity for management to manipulate the reported accounting numbers. Based on the financial and stock pricing information of 57 companies from eight countries whose consolidated financial statements were prepared using IAS, this study documented significant empirical evidence on investors’ assessment of IAS No.38’s intangible assets reporting policy. Specifically, using a cross-sectional equity valuation model, evidence is obtained suggesting that intangible assets reported by sample firms under IAS No. 38 reflects the economic value of the underlying intangible assets as perceived by investors. The findings seem to support the use of IAS in preparation of financial statements for cross-border offerings.