The mandatory application of International Financial Reporting Standards (IFRS) may help to level the playing field as far as accounting practices are concerned, but the transition to them also offers managers an opportunity to time equity issuance.

This was the conclusion of research by Shiheng Wang and Michael Welker that looked at firms in 15 countries which had a three-year transition period to IFRS. They found that when IFRS adoption was likely to have a negative impact on net income, firms were much more likely to issue equity during the three-year transition period leading to the IFRS adoption.

The reason for this was information asymmetry between managers and investors created by a requirement that firms disclose two sets of financial statements at the end of the first year of IFRS adoption - one prepared according to local standards and one according to IFRS standards.

The difference between the two may cause investors to revalue the equity of the firm. However, managers are well informed of the difference during the transition period while investors have to wait until the public disclosure by the end of the first IFRS adoption year. This offers managers a window when they have more information than investors and can use that to advantage to time financing decisions.

The authors found evidence of this in their study of 2,916 firms in Australia and 14 countries in Europe. The greater the decline in net income under IFRS relative to local accounting standards, the more likely a firm was to issue equity in advance of disclosing the reconciliation between IFRS and local standards.

When a firm's industry-adjusted rank of changes in net income decreased from the 75th percentile in their listing country to the 25th percentile, the probability that they issued equity greater than 15 per cent of assets increased from 5.9 per cent to 8.2 per cent. The probability of issuing equity above the 90th percentile of firms increased from 5.2 per cent to 7.4 per cent. And the probability of issuing equity greater than 5 per cent of total assets grew from 17.5 per cent to 22.3 per cent.

When it came to issue size, a decrease in net income from the 75th percentile to the 25th percentile was associated with an increase in issuance proceedings from 8.1 per cent of total assets to 10.2 per cent.

The authors note that the percentage of firms issuing equity that have pressing cash needs is 10 times higher than those without such needs.

"However, while pressing cash needs is without question the primary motivation for equity issuance, information asymmetry related to the effects of IFRS adoption has a noticeable influence on the timing of financing decisions," they say.

"The finding that an external shock to security prices induced by an accounting standards change can affect equity issuance lends support to the premise that timing and information asymmetry play important roles in corporate financing decisions."

The results offer important insights for regulators and investors. While regulators in Australia and Europe were urging listed companies to provide timely information about the likely impact of IFRS adoption, this apparently was not reaching investors according to anecdotal evidence.

"Regulators may wish to consider mandating more comprehensive disclosures during the transition period," the authors say. "Our findings also caution investors to be attentive to firms' financing activities during the transition period in countries that choose to mandate IFRS use."