IFRS Adoption and Cross-Border Investment in Equity and Debt Markets

Messod D. Beneish dbeneish@indiana.edu (812) 855-2628

Brian P. Miller bpm@indiana.edu (812) 855-2606

Teri Lombardi Yohn tyohn@indiana.edu (812) 855-0430

ABSTRACT

We examine changes in foreign investment flows surrounding the adoption of International Financial Reporting Standards (IFRS) to assess whether adopting countries attract greater foreign investment. Our sample consists of countries that mandated IFRS adoption (primarily from the European Union) and non-adopting control countries with large market capitalizations. We find that adopting IFRS has no discernable effect on adopting countries ability to attract foreign equity investment. However, we find that adopting countries attract significantly more debt investment than non-adopting countries. Our results are robust to controlling for contemporaneous changes in countries investor protection mechanisms as well as various determinants of cross-border investment. Our evidence related to equity markets suggests that the IFRS adoption benefits to individual companies documented in prior research likely derive from domestic investors. In contrast, for debt markets, companies also obtain benefits through increased foreign investment. This is pertinent to regulators considering the implications of IFRS adoption. Key Words: IFRS adoption, cross-border investment, debt market, equity market

November 15, 2010

We thank Gian Maria Milesi-Ferretti for his help with interpreting the country foreign asset and liability data from the International Monetary Fund, Cam Harvey and Bjorn Jorgensen for helpful comments, workshop participants at Colorado State, The European Accounting Association Annual Meeting, The Pennsylvania State University Accounting Research Conference, the University of Alberta Accounting Research Conference, and Christy Deykes, Alex Hilt, Gina Rogers, Patrick Vo, and Brendan Yohn for research assistance.

Electronic copy available at: http://ssrn.com/abstract=1403451

IFRS Adoption and Cross-Border Investment in Equity and Debt Markets

ABSTRACT

We examine changes in foreign investment flows surrounding the adoption of International Financial Reporting Standards (IFRS) to assess whether adopting countries attract greater foreign investment. Our sample consists of countries that mandated IFRS adoption (primarily from the European Union) and non-adopting control countries with large market capitalizations. We find that adopting IFRS has no discernable effect on adopting countries ability to attract foreign equity investment. However, we find that adopting countries attract significantly more debt investment than non-adopting countries. Our results are robust to controlling for contemporaneous changes in countries investor protection mechanisms as well as various determinants of cross-border investment. Our evidence related to equity markets suggests that the IFRS adoption benefits to individual companies documented in prior research likely derive from domestic investors. In contrast, for debt markets, companies also obtain benefits through increased foreign investment. This is pertinent to regulators considering the implications of IFRS adoption. Key Words: IFRS adoption, cross-border investment, debt market, equity market

Electronic copy available at: http://ssrn.com/abstract=1403451

IFRS Adoption and Cross-Border Investment in Equity and Debt Markets

I. INTRODUCTION Proponents of International Financial Reporting Standards (IFRS) frequently argue that IFRS adoption will increase international investment flows, improve resource allocation, and enhance capital market efficiency (McCreevy 2005; SEC 2008; White 2008; KPMG 2007). The widespread 2005 adoption of IFRS provides an opportunity to examine whether this regulatory change achieves its purported benefits. This study empirically evaluates whether widespread adoption of IFRS leads to an increase in foreign investment into the adopting countries. We compare changes in foreign equity and debt investment from 2003 to 2007 across adopting countries and control countries. Our experimental sample (adopters) includes all countries that adopted IFRS in 2005 for which foreign debt and equity investment data are available. This includes 13 adopting countries that were part of the European Union (EU) as well as four non-EU countries that mandated IFRS adoption in 2005. To ensure our results are not driven by global increases in foreign investment, we also select a control sample of 12 countries based on country market capitalization. Despite representing only 15 percent of the 194 countries worldwide, our sample countries account for over 90 percent of worldwide foreign debt and equity investment. A number of country-specific and worldwide contemporaneous effects likely contribute to changes in foreign investment between 2003 and 2007 in addition to mandated IFRS adoption. Consequently, our analyses control for the change in the countrys gross domestic product, the change in the countrys currency exchange rate, the percentage of companies in the country that voluntarily adopted IFRS prior to the mandatory adoption, and the change in the countrys governance characteristics. We supplement our aggregate analyses at the country level by

examining changes in foreign investment at the country-pair level. We follow Lane and MilesiFerretti (2008) in controlling for a number of determinants of cross-border investment including bilateral trade, distance, the existence of tax treaties, whether the countries share a common language and have similar legal origin, as well as correlations in stock returns and growth between the two countries. We find that adoption of IFRS has no discernable effect on adopting countries ability to attract foreign equity investment. In contrast, we find that IFRS adoption is associated with a significant increase in foreign debt investment. By 2007 adopting countries attract on average $337 billion more debt investment than non-adopting countries, an abnormal increase of 17.7 percent relative to 2003.1 We also find that the increase in foreign debt investment is more pronounced for countries with weaker governance/investor protection environments. Finally, we find that the increase in foreign debt investment comes from adopting countries and nonadopting countries alike. This suggests that greater comparability (for investors from adopting countries only) does not attract additional foreign debt investment over that associated with improved financial reporting quality (for investors from both adopting and non-adopting countries). Our findings are robust to controlling for other determinants of investment flows and contemporaneous changes in country governance, and to whether we analyze countries or country-pairs. Our study is one of the first in the accounting literature to examine the effect of changing accounting standards on investment flows at the macroeconomic level. It contributes to a growing body of research that documents various benefits to individual companies from adopting IFRS, by providing evidence on the important macro-economic outcomes of changes to
1 IFRS adopters attract on average $970 billion more foreign debt investment in 2007 as compared to 2003 levels whereas control countries attract on average $633 billion more foreign debt investment in 2007.

mandated financial reporting rules (Leuz and Wysocki 2008, 65). In particular, our crosscountry analysis helps determine whether the benefits documented in prior work at the companylevel derive from domestic investors or from foreign investors. Our findings suggest that benefits of IFRS adoption accruing to individual companies in equity markets (Prather-Kinsey et al. 2008; Li 2010) are more likely to derive from investors within the country in which the company is domiciled. This is consistent with research suggesting that, for equity investment decisions, non-financial statement factors, such as the informational advantage associated with geographic proximity, are of greater importance than information processing costs or the quality of financial reporting (Coval and Moskowitz 1999, 2001; Malloy 2005; Bae, et al. 2008). In contrast, our findings suggest that at least part of the benefits accruing to companies in debt markets (Kim, et al. 2007; Florou and Kosi 2009) derive from increased investment from foreign investors. This is pertinent to regulators as they consider the implications of IFRS adoption. The remainder of the paper is organized as follows: Section 2 describes prior research and develops the hypotheses, Section 3 describes the data and variables, Section 4 describes the results, and Section 5 provides a summary and conclusions. II. Prior Research We examine whether countries that mandatorily adopt IFRS attract more foreign investment into their equity and debt markets. Our examination is linked to a rich literature on the effect of IFRS adoption on individual companies. This body of research suggests that IFRS is a set of high quality accounting standards (Leuz 2003; Bartov, et al. 2005; Armstrong, et al. 2010); that IFRS adoption is associated with an improved financial reporting environment, primarily for companies that had previously voluntarily adopted IFRS (Daske, et al. 2008; BACKGROUND AND THEOREOTICAL FRAMEWORK

Horton, et al. 2008; Christenson, et al. 2008); and that mandated adoption is associated with greater value relevance and information content of financial statements, a reduced cost of equity capital (Prather-Kinsey et al. 2008; Li 2010), and increased foreign institutional equity ownership (Florou and Pope 2009). These studies suggest that there are benefits to individual companies from the voluntary and mandatory adoption of IFRS. If these company-level benefits derive from foreign investors, IFRS adoption is likely to be associated with positive outcomes such as greater cross-border investment and more efficient international capital allocation. However, if the benefits derive primarily from investors within the country in which the company is domiciled, the macro-economic effects of IFRS adoption are an open question. This is the perspective of our paper and of two recent studies(Shima and Gordon 2009; Yu 2009) that investigate the effects of IFRS adoption on U.S. investor allocation choices and on foreign mutual fund holdings, respectively. Our examination of changes in crossborder investment has the potential to inform regulators who are considering or reflecting on the adoption of IFRS.2 Hypotheses Given that IFRS adoption is an informational change, it could reduce information frictions faced by investors into foreign markets. Beneish and Yohn (2008) distinguish three types of information costs faced by foreign equity investors: (1) information processing costs, (2) uncertainty about the quality of financial reporting, and (3) uncertainty about the distribution of future cash flows.

The SEC (2008, 13) states that capital formation and investor understanding would be enhanced if the worlds major capital markets all operated under a single set of high quality accounting standards. European Commissioner McCreevy (2005) suggests that widespread adoption of IFRS should lead to more efficient capital allocation and greater cross-border investment, thereby promoting growth and employment in Europe.
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Research suggests that difficulty in interpreting financial statements compiled using different accounting standards can act as an impediment to foreign investment and that widespread adoption of IFRS could lead to greater comparability of financial statements across countries (Gehrig 1993; Ball 2006). Greater comparability could decrease foreign investors processing costs or increase familiarity and potentially increase cross-border investment. Evidence consistent with this notion is provided by Covrig, et al. (2007) who show that foreign mutual fund ownership is higher among companies using IAS versus local standards, and Bradshaw, et al. (2004) who show that U.S. institutional investment is greater in foreign companies whose accounting methods conform more closely to U.S. GAAP. On the other hand, Lang, et al. (2010) find that while mandatory adoption of IFRS increases earnings co-movement among adopting companies, it decreases accounting comparability, where accounting comparability is defined as the manner in which earnings map into returns. Although the findings in prior research are mixed on whether financial statement comparability is enhanced, they suggest that global IFRS adoption has the potential to reduce information processing costs and increase investors perceived competence in investing in foreign stocks. If foreign investment is at least partially hindered by investors inability to interpret and compare financial statements of companies in other countries, adoption of IFRS could provide companies with an expanded set of potential investors, leading to greater foreign investment into the country. Information costs related to foreign investment can also result from investors facing uncertainty about the quality of foreign financial reporting. Leuz, et al. (2009) find that poor disclosure and weak governance hinder foreign investment, suggesting that information asymmetry and monitoring costs faced by foreign investors influence a countrys attractiveness

to foreign investment. Prior research has shown that adopting IFRS increases the quality of accounting standards for most countries.3 This has the potential to reduce foreign investors concerns over information asymmetries and monitoring, and result in greater foreign investment. Finally, foreign investors may also face uncertainty about the distribution of future cash flows. These information costs reflect the precision of both the financial and nonfinancial information for forecasting future cash flows. Research has shown a domestic geographic proximity investment bias where investors prefer to invest in companies that are geographically closer because they are likely to have more precise information as a result of greater access and more frequent interaction. To the extent that local investors information advantage stems from frequent access provided by geographical proximity to the companys operation (Coval and Moskowitz 1999, 2001; Malloy 2005; Bae, et al. 2008) rather than the precision of the financial statement information, then future cash flow uncertainty may not be affected by IFRS adoption. However, to the extent that the uncertainty of the distribution of cash flows is associated with the precision of the financial information, IFRS adoption may decrease the information disadvantage faced by foreign investors relative to domestic investors, and, therefore, lead to greater foreign investment. Given the potential effects of IFRS adoption on the information frictions faced by foreign investors, we propose that mandatory adoption of IFRS is associated with increased equity investment, and present our first hypothesis (in alternative form):

Research has suggested that the adoption of IFRS represents a restriction of accounting method choices and an improvement in financial reporting disclosure over most local accounting standards (Ashbaugh and Pincus 2001). U.S. GAAP has often been the benchmark by which other countrys standards are measured. Prior research finds no significant difference in information asymmetry (Leuz 2003) or value relevance (Bartov, et al. 2005) between companies using IAS and companies using U.S. GAAP within a market. In addition, research finds lower information asymmetry (Leuz and Verrecchia 2000) and higher value relevance (Bartov, et al. 2005) for companies using IAS compared to companies using local GAAP.

H1: IFRS adoption is associated with an increase in foreign equity investment into the adopting country. The effect of IFRS adoption on attracting foreign investment is also likely to affect foreign investment into the debt markets. There is evidence that financial statements are often used to enforce monitoring and bonding contracts in order to mitigate agency problems associated with debt (Jensen and Meckling 1976; Smith and Warner 1979).4 Prior work shows that IFRS earnings are timelier and less managed than earnings based on local accounting standards (Barth, et al. 2008), suggesting that IFRS earnings are more effective for contracting (Watts 2003). The notion that IFRS leads to better contracting is also consistent with the findings that the sensitivity of credit ratings to accounting default factors increases (Wu and Zhang 2009) and that earnings play a greater role in company internal performance evaluations (Wu and Zhang 2008) after the voluntary adoption of IFRS. Recent research also provides evidence suggesting that IFRS represents an improvement in disclosure and monitoring: voluntary IFRS adopters pay lower rates on private loans, obtain more favorable loan terms, and attract more foreign lenders (Kim, et al. 2007), and companies are more likely to issue public bonds after mandatory IFRS adoption (Florou and Kosi 2009). Given these arguments we propose that mandatory adoption of IFRS is associated with increased debt investment, and present our second hypothesis (in alternative form): H2: IFRS adoption is associated with an increase in foreign debt investment into adopting countries.

Jensen and Meckling (1976) argue that financial reporting is crucial in debt markets for mitigating agency problems. The authors show that in the absence of monitoring or bonding contracts, an owner-manager can increase his wealth at the expense of debt holders by first selling debt with the loose promise to invest in a project with a low return variance and by then investing in a project with the same systematic risk but a higher return variance. However, Jensen and Meckling (1976) go on to argue that the debt holders realize that the owner-manager will do so and they will price the debt accordingly.
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III.

VARIABLE DEFINITIONS AND DESCRIPTIVE STATISTICS

We start our sample selection by identifying all the countries with available data that adopted IFRS in 2005. We note that all but four of the adopting countries are from the EU. We report the results for the EU adopting countries separately from the results for the total sample of adopting countries, because including only EU countries allows us to control for a potential selfselection bias with respect to a countrys choice to mandatorily adopt IFRS and the countrys expected growth in foreign investment into its markets. Given that IFRS adoption was a long decision-making process that ultimately culminated in an EU-level (not country-level) decision, the examination of the effect of IFRS adoption on foreign investment into the EU adopting countries is not likely to be driven by a self-selection bias.5 After identifying the adopting countries, we eliminate the countries that joined the EU after 2003, because we cannot disentangle the effects of IFRS adoption from other effects associated with joining the EU. We also eliminate Ireland and Luxembourg because the amount of reported foreign investment is greater than the reported market capitalization of the country.6 After these eliminations, we are left with 13 EU adopting countries and four non-EU adopting countries in our sample. In an attempt to rule out the possibility that any effects are due to global economic impacts and not IFRS adoption, we also collect a sample of control countries based on the countries 2003 market capitalizations in U.S. dollars. The equity market capitalizations are obtained from Standard & Poors Global Stock Markets Factbook - 2008. The debt market

Consistent with the notion that self-selection bias is unlikely to be driving the results in this paper, Rammana and Sletten (2009) find no evidence that expected changes in investment and trade are associated with a countrys choice to adopt IFRS. 6 In 2003, the amount or foreign equity investment in Ireland and Luxembourg equaled 189 percent and 1,700 percent of the countrys equity market capitalization. By comparison, the corresponding figures for Germany and the U.S were 30 percent and 9 percent. These high percentages likely stem from Irelands tax strategies that are designed to attract foreign investment, and from Luxembourg being an international banking center. Dropping these two countries is consistent with prior research (Sorensen, et al. 2007).
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capitalizations are calculated as the outstanding domestic debt from the Bank for International Settlements (BIS) 2004 Quarterly Reviews plus the foreign debt investment obtained from Lane and Milesi-Ferretti (2007). We use country size to identify control countries because there is evidence that size is an important determinant of both goods trade and investment flows across countries (e.g., see Portes and Rey (2005)). Further, as EU adopters are typically large, selecting large control countries makes it more likely that countries have similarly developed institutional and governance characteristics. This is important if the effects of IFRS adoption depend on the extent of investor protection (e.g., Ball, et al.2003; Leuz, et al. 2003; Bushman and Piotroski 2006; Lang, et al. 2006). To select control countries, we begin by identifying Austria as the adopting country with the smallest market capitalization in 2003 ($55 billion). We then identify non-adopting countries with equity market capitalizations greater than $55 billion. Because we analyze both equity and debt investment flows, we eliminate seven countries that lack the necessary data for debt calculations (Chile, Indonesia, Israel, Kuwait, Russia, Saudi Arabia, and Taiwan).7 After these screens, we are left with 12 non-adopting countries that have both debt and equity data available. Despite the fact that our sample contains at most 29 countries of the 194 countries worldwide, we find that our sample captures over 90 percent of foreign investment worldwide.8 In 2003, worldwide foreign equity investment totaled $6.7 trillion. Figure 1 (A) shows that the 17 adopters represent 45 percent and the 12 control countries represent another 36.3 percent of the total foreign equity investment. These 29 countries represent over 80 percent of the worlds foreign investment total, and if we consider the nine countries we dropped as a result of missing

However, as data for their equity markets are available, we also conduct all of our equity analyses including these seven control countries and find quantitatively similar results. 8 These calculations are based on Coordinated Portfolio Investment Survey (CPIS) data from obtained from the IMF. Our calculations exclude investment flows classified by CPIS as Other Countries (Confidential Data), Other Countries (Unallocated), International Organizations, and Cayman Islands.
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data, our sample countries initially represent 95 percent of foreign equity investment worldwide with available data.9 Figure 1 (B) shows a similar pattern for worldwide foreign debt investment. In 2003, worldwide foreign debt investment totaled $10.9 trillion. Figure 1 (B) shows that the 17 adopters represent 59.5 percent and the 12 control countries another 32.7 percent of total foreign debt investment. Thus, the 29 countries represent over 90 percent of the world total, and considering the nine countries we drop as a result of missing data, our sample countries represent 96 percent of foreign debt investment worldwide with available data. Further, in Figures 2 (A) and (B) we report the percentages for the change in equity and debt inflows from 2003 and 2007. Foreign equity and debt investments increased by $9.45 and $9.02 trillion respectively: all but 7.9 percent and 6.6 percent of the increases in equity and debt flows, respectively, are captured by our sample. In summary, although relatively small in number, our sample captures approximately 95 percent of worldwide trans-national debt and equity investment in 2003, and about 93 percent of the change in investment flows worldwide with available data. Table 1 presents the countries included in the analysis along with their respective equity and debt market capitalizations as reported in 2003. With respect to equity markets, the United Kingdom (Austria) has the highest (lowest) market capitalization of $2,460 billion ($55 billion) in the adopting sample and the United States (Thailand) have the highest (lowest) market capitalization of $14,266 ($119) in the control sample. With respect to the debt markets, the United Kingdom (South Africa) has the highest (lowest) capitalization of $6,091 ($112) in the

We focus on 2005 because it is the year that countries with relatively large capitalizations adopted IFRS. We note that 33 small countries (representing 0.62 and 0.39 percent of worldwide equity and debt investment, respectively) adopted IFRS prior to 2005. However, data are not available for 25 of these countries and the impact of the remaining eight countries on worldwide equity and debt investment is immaterial from a global foreign investment perspective.

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adopting sample and the United States (Thailand) has the highest (lowest) capitalization of $23,939 ($103) in the control sample. The mean (median) capitalization for adopting countries is $551 ($489) billion for the equity market and $1,645 ($671) billion for the debt market. The mean (median) capitalization for the control countries is $1,743 ($304) billion for the equity market and $3,127 ($420) billion for the debt market. The bottom Panel of Table 1 provides similar descriptive evidence for the limited sample of EU adopters. The United States market dwarfs the other markets in the control country sample. Excluding the United States from the sample, the mean (median) capitalization for the control countries drops to $605 ($279) billion for the equity market and $1,235 ($320) billion for the debt market. Because of the large impact of the United States on the average, we also estimate all the analyses excluding the United States and find that the results (untabulated) are quantitatively similar. [PLEASE PLACE TABLE 1 HERE]

IV. RESULTS Attracting Foreign Investment: Univariate Tests We examine whether there is a significant increase in foreign investment into adopting countries from 2003 to 2007 relative to control countries. We use 2003 as the pre-period in the test for changes in cross-border investment because it occurs both after the adoption of the Euro in 2002 and prior to the adoption of IFRS in 2005. Examining the change from 2003 to 2007 allows us to isolate the market effect of IFRS adoption relative to other changes that occurred in the EU.

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Table 2 provides univariate statistics on the foreign investment for each year from 2003 to 2007.10 In Panel A, we compare foreign equity investment for all IFRS adopters, EU-only IFRS adopters, and control countries. We begin by examining the aggregate investment flows relative to country market capitalization. This analysis is akin to a value-weighted analysis is which we track foreign investment and market capitalization in aggregate for adopters and nonadopters each year. For all adopters, the mean equity held by foreigners relative to the mean total equity market capitalization increases each year from 2003 (36.0 percent) to 2007 (38.2 percent). The average increase is thus 2.2 percent, and we observe a similar this pattern of change when we consider EU-only adopters (3.0 percent), as well as control countries (3.2 percent), suggesting no apparent differential increase for adopters and non-adopters. We obtain similar results in the by-country analysis where, akin to an equally-weighted analysis, we track the percentage of each countrys market capitalization that reflects foreign investment in each year.11 We find that adopting countries experience greater foreign participation in each year relative to the control countries in equity markets. For example, in 2003, adopting country foreign participation in equity markets was an average of 35 percent

In Table 2, we use the foreign equity (debt) liabilities from the database constructed and adjusted by Lane and Milesi-Ferretti (2007) to capture the foreign investment into adopting and control countries; the stock market capitalization data are from the Standard and Poors Global Stock Markets Factbook 2008; and the domestic debt market capitalizations are from the Bank for International Settlements (BIS) plus the foreign debt investment obtained from Lane and Milesi-Ferretti (2007). Lane and Milesi-Ferretti use the International Monetary Fund (IMF) data as the original source, and make adjustments for corrections. For example, Canada submits the book value of investments instead of the market value, and Lane and Milesi-Ferretti (LMF) adjust the investment data to market values. The LMF data include foreign equity assets and foreign equity liabilities as well as foreign debt assets and foreign debt liabilities. Equity investments include shares of individual stock, mutual funds, and money market funds, while debt investments include public debt, corporate debt, and bank debt. The only investments not included are those held by central banks for foreign exchange reserves. Foreign equity (debt) assets represents a countrys foreign investment into other countries equity (debt) markets while foreign equity (debt) liabilities represents other countries investment into the country of interest. 11 For each country in Table 2, we calculate the percentage of a countrys market capitalization that reflects foreign investment. The variables for equity (MCAP_FGN_EQTY) and debt (MCAP_FGN_DEBT) are defined as follows: MCAP_FGN_EQTY= the equity market capitalization that reflects foreign investment relative to the countrys total equity market capitalization. MCAP_FGN_DEBT= the debt market capitalization that reflects foreign investment relative to the countrys total debt market capitalization.
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(EU-only 36.9 percent), which is significantly larger than the control country foreign equity market participation of 21.3 percent. By 2007, foreign participation in adopting countries equity markets increased to a mean average of 39 percent (EU-Only 40.6 percent), while control countries increased to a mean of 25.7 percent. We find no evidence that increases in foreign equity participation are different between adopting and non-adopting countries. We also examine the raw change in foreign investment on a by-country (equally weighted basis), where, for each year, we calculate the foreign investment less the foreign investment in the previous year scaled by the prior year foreign investment. Consistent with the before mentioned measures of foreign investment scaled by market capitalization, we fail to find evidence of unusual increases in foreign investment for adopters. For example, in the year after mandatory adoption (2005 to 2006), we find the average change in foreign investment for all adopters to be 39.6 percent (39.2 percent for EU adopters), while the corresponding change for the control countries is 45.9 percent. [PLEASE PLACE TABLE 2 HERE] Table 2, Panel B reports the results for foreign participation in debt markets. For all adopters, the aggregate (value weighted) mean debt held by foreigners relative to the mean debt market capitalization increases each year from 60.8 percent in 2003 (EU-Only 60.4 percent) to 67.6 percent in 2007 (EU-Only 67.3 percent) resulting in a 6.7 percent (EU-Only 6.9 percent) increase. The corresponding increase for the control countries is 4.7 percent, which is consistent with higher foreign investment flows in debt markets for adopters. We next examine the by-country (equally weighted) univariate analysis. We begin by noting that, as with equity markets, adopting countries experience greater mean foreign participation (All Adopting 58.4 percent; EU-Only 58.6 percent) in their debt markets than

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control countries (mean 42.5 percent) in 2003. We note that the greater foreign participation by adopting countries leaves less room for a notable increase therein. Nevertheless, by 2007, foreign debt market mean participation increased for adopters (All-Adopters 63.3 percent; EU-Only 63.6 percent), but it declined for control countries (mean 36.6 percent). Thus, although adopting countries debt markets already had higher foreign participation in 2003, they show larger gains in foreign participation in 2007. Tests across samples reveal that both adopting countries and EU-Only adopters attract significantly more debt investment than control countries.12 We further investigate these differences by examining the yearly changes in raw foreign investment. We find that in the year after adoption the by-country increase in foreign investment was 25.3 percent (EU-only 24.5 percent), while the corresponding change for the control countries was 15.6 percent. This evidence suggests that while both adopting and control countries have increases in foreign investment after adoption, the adopters have a larger increase. Finally, we note that both adopting and control countries experience an increase in foreign debt investment from 2003 to 2004 (20.3 and 10.4, percent respectively). The greater increase in foreign investment for adopters is likely due to either companies voluntarily adopting or residual effects from the common currency. However, these increases for both adopting and control countries converge from 2004 to 2005 (3.1 and 2.5, percent respectively). In order to rule out the possibility that the increases from 2003 to 2004 are driving the results, we recalculate all the univariate and multivariate analyses performed throughout the paper (untabulated) investigating the changes in investment flow from 2004 to 2007 and find quantitatively similar

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In untabulated analyses, we also examine the extent to which the findings of increased foreign debt investment reported in Table 2 relate to the majority of adopting countries or merely a select number of countries. We find that 15 of the 17 adopting countries experience an increase in foreign debt investment as a percent of their market capitalizations, while only 5 of the 12 control countries experience a similar increase.

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results.13 Overall, the univariate evidence is consistent with adopting countries experiencing an increase in foreign debt investment but not equity investment. Attracting Foreign Investment: Multivariate Tests In multivariate analyses, we incorporate controls for other determinants of cross-border investments, namely, the change in GDP (GDP_CHG), which measures the attractiveness of the countrys investments, and the change in the countrys exchange rate (CURR_CHG), which reflects the effect of both inflation and interest rate differentials on a countrys ability to attract foreign capital. We also control for the percentage of a countrys companies (based on market capitalization) that have voluntarily adopted IFRS on or before 2003 (PCT_IFRS). In addition, in the debt regression, we control for the change in the countrys public debt (PUBLIC_CHG) because the available data do not permit disentangling the foreign participation in government versus corporate debt.14 We predict a positive coefficient on GDP_CHG as country growth is likely to attract more foreign investment. We have no clear prediction on CURR_CHG as fluctuations in currency are likely to be offset by corresponding changes in interest rates. We predict a negative coefficient on PCT_IFRS as mandatory adoption is likely to have a smaller impact on foreign investment when more companies had already voluntarily adopted IFRS prior to the mandatory adoption. Finally, we predict a positive coefficient on PUBLIC_CHG as increased government borrowing is likely to attract more foreign investment.

In an effort to ensure that the effects in the remainder of this paper are driven by increases in foreign investment and not decreases in market capitalizations, we also re-run all the multivariate analyses performed in this paper by investigating the raw change in foreign investment and find quantitatively similar results for both equity and debt. 14 The portfolio debt investment data from the IMF includes government debt, corporate debt, and bank debt. Although it is potentially possible to use national data to parse out different types of debt investments for a small number of countries in our sample, the data is not available for most countries in our analyses.
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We estimate the following regression in which the dependent variable is the change in the percentage of the countrys capital market that reflects foreign investments for equity and debt, respectively: CHG_MCAP_FGN_EQTY = + 1 GDP_CHG + 2 CURR_CHG + 3 PCT_IFRS + 4 ADOPT + CHG_MCAP_FGN_DEBT = + 1 GDP_CHG + 2 CURR_CHG + 3 PCT_IFRS + 4 PUBLIC_CHG + 5 ADOPT + where (see Appendix 1 for detailed definitions of all variables used in the analyses): CHG_MCAP_FGN_EQTY = MCAP_FGN_EQTY in 2007 less MCAP_FGN_EQTY in 2003; CHG_MCAP_FGN_DEBT = MCAP_FGN_DEBT in 2007 less MCAP_FGN_DEBT in 2003; GDP_CHG is the change from 2003 to 2007 in the countrys GDP. The GDP data are obtained from the Central Intelligence Agency's (CIA)-- The World Factbook; CURR_CHG is the change from 2003 to 2007 in the countrys currency exchange rate relative to the U.S. dollar. The exchange rate data are obtained from the Standard and Poors Global Factbook - 2008; PCT_IFRS is the percentage (based on market values) of the companies within the country that had voluntarily adopted IFRS in 2003; the data are obtained from Global Compustat. PUBLIC_CHG is the change from 2003 to 2007 in the countrys public debt (total of all government borrowings less repayments). The public debt data are obtained from the Central Intelligence Agency's (CIA) -- The World Factbook;15 and ADOPT = 1 if the country adopted IFRS in 2005, and ADOPT = 0 otherwise. A significant positive coefficient on ADOPT would suggest increased foreign participation in the countrys capital market for countries adopting IFRS relative to the control countries. The results are reported in the first two columns of Table 3 for equity. The first column reflects the results for all IFRS adopters, while the second column reflects results for only EU adopters. We note that CHG_GDP and CURR_CHG are both positive and significant,

The CIA World Factbook reports public debt as percentage of GDP. We therefore multiply the CIAs measure of public debt as a percent of GDP times GDP (purchase power parity).
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suggesting that increases in GDP and exchange rates lead to greater equity investments. However, we find no significant relation between the change in foreign participation in the equity market and the adoption of IFRS, for all adopters and for EU-only adopters. These results do not provide support for our first hypothesis (H1) and suggest that IFRS adoption is not associated with increased foreign participation in equity markets. We report the results for debt markets in the last two columns of Table 3. Consistent with the univariate analysis and our second hypothesis (H2), we find a significant positive coefficient on ADOPT of 0.1069 (0.1378) for all adopters (EU adopters) with a t-statistic of 3.55 (3.74).16 These results suggest that IFRS adopters attract approximately 11 (14) percent more foreign debt investment relative to control countries. [PLEASE PLACE TABLE 3 HERE] Prior research shows that, for any given set of accounting standards, there can be significant differences in financial reporting outcomes depending on the quality of the investor protection and enforcement environment across countries (Ball, et al. 2000; Ball, et al. 2003; Leuz, et al. 2003; Bushman and Piotroski 2006; Lang, et al. 2006). As noted in Daske, et al. (2008, 1090), several countries around the world have substantially revised their enforcement, auditing, and governance regimes to support the introduction of IFRS reporting. It is possible, therefore, that the ADOPT variable proxies for changes in the institutional environment of the countries that adopt IFRS and that it is the institutional changes and not the adoption of IFRS that leads to greater foreign investment in the debt markets. To evaluate this possibility, we re-

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We also assess whether countries with more IFRS adopters before the mandate experience less foreign investment growth. In untabulated analyses, we replace ADOPT with a continuous variable, PCT_ADOPT, coded as the percentage of the companies within an adopting country that had not voluntarily adopted IFRS by 2003 for adopters, and zero for non-adopters. Consistent with the impact of IFRS adoption being larger when fewer companies in the country had already voluntarily adopted IFRS, we find a significant positive coefficient on PCT_ADOPT.

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examine the regressions on debt markets and control for changes in the degree of investor protection that occur contemporaneously with IFRS adoption. We examine the change from 2003 to 2007 in four indicators presented in Kaufmann, et al. (2009) that capture different dimensions of governance: rule of law, control of corruption, government effectiveness, and regulatory quality.17 To investigate the relation between IFRS adoption and foreign participation in the market after considering changes in governance, we run the regression analyses with CHG_RULE_LAW, CHG_CON_CORRUP, CHG_GOV_EFF, and CHG_REG_QUAL included as additional explanatory variables. The variables are defined as follows: CHG_RULE_LAW captures the change in perceptions from 2003 to 2007 regarding the extent to which agents have confidence in and abide by the rules of society and in particular the quality of contract enforcement, property rights, the police, and the courts, as well as the likelihood of crime and violence. CHG_CON_CORRUP captures the change in perceptions from 2003 to 2007 regarding the extent to which public power is exercised for private gain, including both petty and grand forms of corruption, as well as capture of the state by elites and private interests. CHG_GOV_EFF captures the change from 2003 to 2007 in perceptions regarding the quality of public services, the quality of civil service and the degree of its independence from political pressures, the quality of policy formulation and implementation, and the credibility of the governments commitment to such policies. CHG_REG_QUAL captures the change from 2003 to 2007 in perceptions regarding the ability of government to formulate and implement sound policies and regulations and permit and promote private sector development (Kaufmann, et al. 2009, 6). Higher values of these governance indicators indicate higher quality of governance and investor protection. Therefore, we expect positive coefficients on the change variables if

The study reports worldwide governance indicators for 212 countries between 1996 and 2008. The Kaufmann, et al. (2009) indicators are aggregates of hundreds of specific and disaggregated individual variables measuring various dimensions of governance, taken from 35 data sources provided by 33 different organizations. The data reflect the views on governance of public sector, private sector and non-government experts, as well as thousands of citizen and company survey respondents worldwide.
17

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improvements in governance quality are associated with greater foreign participation in the market. The results are reported in Table 4. Panel A reports the results for all adopting countries, while Panel B reports the results for only EU adopting countries. In the first column of Panel A, we find a significant positive coefficient (t-statistic 2.91) on CHG_RULE_LAW, suggesting that an increment in the perceptions of rule of law is associated with an increase in foreign investment into the market. We also find a significant positive coefficient on ADOPT (t-statistic 4.64), which suggests that, after controlling for improvements in the rule of law around IFRS adoption, IFRS adoption itself is associated with increased foreign investment into the adopting countrys debt market. In the second column, the coefficient on CHG_CON_CORRUP (t-statistic 1.29) is weakly suggestive that improvements in perceptions of corruption are associated with greater foreign investment. Again, the coefficient on ADOPT is positive and significant (tstatistic 3.55) even after controlling for the change in governance around IFRS adoption. In the third column, we find no evidence of an association between changes in the effectiveness of governance and increases in foreign debt investment, but the coefficient on ADOPT remains significant (t-statistic 3.49). In the fourth column, we find a significant positive coefficient on CHG_REG_QUAL (t-statistic 2.38), suggesting that increases in regulatory quality are associated with increases in foreign investment in the debt market. Again, after controlling for the change in governance, we continue to find a significant positive coefficient on ADOPT (t-statistic 3.83). In the final column, we include each of the governance change variables. We find significant positive coefficients on CHG_RULE_LAW (t-statistic 2.27) and CHG_REG_QUAL (t-statistic 1.43). We also find a positive and significant coefficient on ADOPT (t-statistic 2.73). These results suggest that the finding of increased foreign debt investment around IFRS adoption does

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not appear to be driven by potential improvements in governance that are contemporaneous with IFRS adoption. The results in Panel B are based on EU adopters only and are similar to those reported in Panel A. The coefficient on ADOPT remains positive and significant in each of the regressions reported in Panel B, but there are some slight differences in some of the control variables. For instance, the coefficient on CHG_GOV_EFF in the third column remains positive but becomes significant in the EU only adopter sample. This suggests that for the EU countries, increases in government effectiveness around IFRS adoption are positively associated with increases in foreign participation in the countrys debt market. Further, in the final column, only the coefficient on CHG_RULE_LAW is positive and significant (t-statistic 2.36). Overall, the results from the EU adopter sample provide additional support for the increase in foreign debt investment for EU adopters around IFRS adoption even after controlling for changes in country level governance. [PLEASE PLACE TABLE 4 HERE] A countrys institutional environment is likely to influence the effect of IFRS adoption on its capital markets. Research has documented significant differences in the quality of the investor protection and enforcement environment across countries (Ball, et al. 2000; Ball, et al. 2003; Leuz, et al. 2003; Bushman and Piotroski 2006; Lang, et al. 2006). Research has also documented that the quality of accounting standards and the extent of shareholder protection are positively correlated (LaPorta, et al. 1998). This suggests that IFRS is likely to provide the most improvement to financial reporting and, therefore, the largest effect on attracting foreign investors to the capital markets, for countries with weak institutional environments prior to its adoption.

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In Table 5, we test whether mandatory IFRS adoption has the greatest impact on foreign participation in the capital markets for countries with weak institutional environments prior to its adoption. As such, we include both the level of governance quality in 2003 (GOVERNANCE_2003) as well as the interaction ADOPT*GOVERNANCE_2003 for each of the four governance indicators: rule of law, control of corruption, government effectiveness, and regulatory quality. To control for the simultaneous improvement in governances, we also include the change in the governance quality from 2003 to 2007 (CHG_GOVERNANCE) for each of the corresponding governance indicators. Because all the governance indicators are by definition higher when there is better corporate governance, we expect a positive coefficient on the change in governance and a negative coefficient on the interaction variable. The results are reported in Table 5. We find a significant positive coefficient on CHG_GOVERNANCE for Rule_Law (t-statistic 1.68) and Reg_Qual (t-statistic 1.54), suggesting that improvements in governance quality are associated with increased foreign debt investment. We find a significant positive coefficient on each of the level of governance indicators (GOVERNANCE_2003), suggesting that higher quality governance is associated with greater increases in foreign debt participation. We also find a significant positive coefficient on ADOPT when governance is defined as Rule_Law (t-statistic 4.46), Con_Corrup (t-statistic 3.46), and Gov_Eff (t-statistic 3.21), suggesting that even after controlling for the level and change in the quality of governance, IFRS adoption is positively associated with foreign debt investment. Finally, we find a significant negative coefficient on the ADOPT*GOVERNANCE_2003 when governance is defined as Rule_Law (t-statistic -3.52), Con_Corrup (t-statistic -2.73), and Gov_Eff (t-statistic -2.60), suggesting that the economic impact of IFRS adoption is lower for countries with higher governance prior to adoption.

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The results for the EU-only adopters are presented in Panel B. The results are similar to those reported for all adopters, with the only exception being that the coefficient on CHG_GOVERNANCE is positive and significant when governance is defined as Gov_Eff. Overall, the results support the notion that IFRS adoption has a greater impact on attracting foreign debt investment for countries with lower quality governance prior to adoption. [PLEASE PLACE TABLE 5 HERE] Multivariate Regressions on Investment Pairs We evaluate whether the results we report at the country level are also evident at the country-pair level. Specifically, we follow Lane and Milesi-Ferretti (2008) and examine bilateral investment between countries and control for factors that might be associated with that bilateral investment in examining whether IFRS adopters attract more foreign investment.18 For each country in our sample, we calculate the foreign equity (debt) asset holdings from investor countries into investee countries in the sample relative to the countrys total equity (debt) market capitalization; we label this as MCAP_FGN_EQTY_PR (MCAP_FGN_DEBT_PR). For each investee country, we then create CHG_MCAP_FGN_EQTY_PR (CHG_MCAP_FGN_DEBT_PR), which we define as the change in the countrys capital market equity (debt) investment from each investor country in the sample. Therefore, each investee country enters into the regression for each investor country. We include the control variables that were previously included in the country-level analysis; namely, GDP_CHG, PCT_IFRS and
18 The bilateral investment data are from the Coordinated Portfolio Investment Survey (CPIS) Geographic
Breakdown Tables that are available from the IMF. The CPIS data are collected from a survey of approximately 70 countries. The countries provide foreign equity (debt) assets and liabilities. Foreign equity (debt) assets reflect the countrys investments into individual foreign countries, while foreign equity (debt) liabilities reflect other countries investments into the country of interest. Therefore, the CPIS foreign equity assets reflect the detail about the aggregate foreign investment by a country into other countries. The investment is disaggregated by the individual country recipients of that foreign investment. In our analysis, we use the foreign equity (debt) assets to capture the investment by a country into individual foreign countries.

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PUBLIC_CHG. We further include CURR_CHG_PR to control for the change in the specific currency relationship between each investee and investor country pair. In addition, as in Lane and Milesi-Ferretti (2008), we include controls for the relationship between each investor/investee pair in the regression. Specifically, we include controls for the correlation between the stock market returns of the investee and investor country and the correlation between GDP of the investee and investor country to capture potential benefits of the cross-border investment in terms of diversification. We include a control for the time difference to capture communication difficulties.19 To capture the extent that barriers to cross-country investment are diminished, we include indicator variables for the existence of a currency union, a common language, a tax treaty, and a colonial relationship. An indicator variable for common legal origin is included to capture similarities in institutional factors between the two countries. We also include bilateral trade to capture the trade relationship between the investor and investee countries. We then add ADOPT to the regression to assess whether the investee countries that adopt IFRS attract more foreign investment from the pair countries than countries that did not adopt IFRS. All regressions with investee and investor pairs are performed with two dimensional clustered robust standard errors to control for both within investee and within investor correlations (Petersen 2009). The results are reported in Table 6. The first two columns report the results for equity market paired investments, while the last two columns report the results for debt market paired

19 In untabulated results, we also control for communication difficulties using the logarithm of Great Circle distance
in miles between the capital cities of the investee and investor countries and find quantitatively similar results in all investment pair analyses.

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investments.20 The findings related to IFRS adoption corroborate our aggregate analysis at the country level. Specifically, in the first two columns of Table 6 there is no evidence that IFRS adoption leads to increased foreign equity investment. In contrast, in the third column which reports the results for debt investment, we find a significant positive coefficient on ADOPT (tstatistic 1.78) when all adopting countries are analyzed. The coefficient on ADOPT in column 4 remains significantly positive, although somewhat weaker, when only the EU adopting countries are investigated (t-statistic 1.51). As expected, the coefficient estimates are substantially smaller in the country-pair analysis relative to the aggregate estimates, since the dependent variable represents each individual investor countrys foreign investment scaled by the entire market capitalization of the investee country. Indeed, aggregating the country-pair coefficient estimates would approximate the aggregate coefficient estimate. With respect to control variables, we find that increases in GDP are generally associated with increased foreign equity investment into the country. Further, we find some weak evidence that higher correlations in stock market returns are associated with less equity investment into the investee country, suggesting that lack of diversification potential reduces cross-border investment. We find a negative relation between equity investment into a country and colonial relationship between the two countries. We also find that higher levels of IFRS adoption in 2003 result in smaller increases in debt investment. Finally, we find evidence of a positive relation between debt investment into a country and bilateral trade consistent with more trade partnerships leading to greater foreign investment. Overall, the country pair analysis confirms the results from the aggregate country analysis. The evidence suggests that adoption of IFRS attracts greater foreign investment into

20

Out of 600 potential country-pairs (25*24), there are 143 (149) country-pairs missing for the equity (debt) analysis. We also lose approximately one-quarter of the observations when we analyze all the 29 sample countries (29*28 possible country-pairs).

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debt markets even after controlling for specific relationships between the investor/investee countries. However, there is no evidence of adopting countries attracting greater investment into equity markets. [PLEASE PLACE TABLE 6 HERE] Controlling for Changes in Governance Similar to the aggregate country analysis, we control for changes in country governance to distinguish whether the observed effect of IFRS adoption on foreign investment is driven by the change in accounting standards per se or by contemporaneous changes in investor protection/ enforcement laws. Table 7 reveals that the change in investment in country-pairs is not related to any of the four indicators of changes in governance that we consider (rule of law, control of corruption, government effectiveness, and regulatory quality) when included in the regression individually. In the combined regression, we find a positive and significant association between CHG_RULE_LAW and the change in debt investment (t-statistic 2.22). Further, we continue to find significant coefficients on ADOPT (t-statistics 1.91, 1.86, 1.48, 1.81, and 2.11, respectively), suggesting that even after controlling for changes in governance around IFRS adoption, countries that adopt IFRS experience increased foreign investment into the country by paired investor countries. Panel B reports the results for the EU adopters only. Again, we find that the change in investment in country-pairs in not related to any of the four indicators of changes in governance when included in the regression individually. However, in the combined regression, we find a positive and significant coefficient on CHG_RULE_LAW ( t-statistic 3.55). We also continue to find significant coefficients on ADOPT (t-statistics 1.80, 1.47, 1.34, 1.54, and 2.42, respectively). In general the results are consistent with IFRS adoption leading to greater foreign investment in

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the debt markets even after considering contemporaneous improvements in governance within the adopting country. [PLEASE PLACE TABLE 7 HERE] Source of the Increased Investment The results from Tables 6 and 7 suggest that adopting countries experience an increase in the proportion of their debt markets that reflect foreign investment. This result is consistent with IFRS adoption reducing processing costs because of greater comparability of financial statements across more adopting countries, and/or IFRS reducing uncertainty about the quality of financial reporting. To gain insight on the importance of each effect, we examine the source of the incremental investment. We include two indicator variables for whether the investor country is an adopting or non-adopting country. ADOPT*ADOPT_INVESTOR equals one if both the investee and the investor countries are adopting countries, and zero otherwise. ADOPT*NON_ADOPT_INVESTOR equals one if the investee country is an adopting country and the investor country is a nonadopting country, and zero otherwise. A positive coefficient on ADOPT*ADOPT_INVESTOR is consistent with both lower processing costs and reduced uncertainty about financial reporting while a positive coefficient on ADOPT*NON_ADOPT_INVESTOR is consistent only with reduced uncertainty about financial reporting. Table 8 provides the results for all adopters and EU only adopters. We find that the coefficients on both ADOPT*ADOPT_INVESTOR (t-statistic 1.45 for All Adopters and 1.55 for EU Adopters) and ADOPT*NON_ADOPT_INVESTOR (t-statistic 2.08 for All Adopters and 2.50 for EU Adopters) are positive and significant. This suggests that increases in foreign investment come from both adopting and non-adopting countries. Finally, the coefficient on

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ADOPT*ADOPT_INVESTOR (.46%) is statistically indistinguishable (untabulated) from the coefficient on ADOPT*NON_ADOPT_INVESTOR (.60%). This suggests that comparability (for investors from adopting countries only) does not appear to provide an incremental effect in attracting greater foreign debt investment flows over the effect from greater reliability of financial reporting (for investors from both adopting and non-adopting countries). [PLEASE PLACE TABLE 8 HERE] Robustness Checks Some cautions are in order. For instance, it is possible that potential lingering effects from the EUs adoption of common currency impact investment flows during the period examined. That is, The Euro Bond Market Study by the European Central Bank in 2004 indicates that the adoption of a common currency aided the development of the European debt markets through 2003. Although we use 2003 as our baseline for our change analysis in an attempt to exclude the impact of the common currency from the IFRS adoption impact, as previously discussed we also perform all the analyses (untabulated) investigating the changes in investment flow from 2004 to 2007 and find quantitatively similar results. Nevertheless, it is possible that the lingering effects of the common currency contribute to the increase in investment flows into EU countries during our sample period. We cannot completely rule out this alternative, but the stronger results documented throughout this study after inclusion of the non-EU IFRS adopting countries suggest that IFRS has incremental impact beyond the lingering effects of the common currency. It is also possible that adopting countries make changes to their legal systems or implement market factors at the same time they adopt IFRS. We control for the change in several governance factors, including the countrys rule of law, corruption, government effectiveness

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and regulatory quality from 2003 to 2007. Our results should be interpreted subject to the fact that these indicators may measure changes in country governance with error. However, the fact that we find changes in debt but not equity markets is consistent with changes in governance not being solely responsible for the reported results. Finally, we caution that the absence of foreign equity investment effects may be due to the fact that the EU could provide a low power setting in which to evaluate the effects of IFRS adoption. Specifically, the EU countries are close in geographic proximity, generally engage in substantial trade, and for the most part have a common currency (excluding Denmark, Sweden and the United Kingdom). However, our paired analyses attempt to control for these factors where we continue to find increased debt investment flows (but not equity flows) for adopters. Further, the lack of results for equity markets continue to hold when the non-EU adopting countries are included in the sample, which provides some comfort that similarities between the EU countries are not solely responsible for the lack of results.

V. CONCLUSION In this study, we provide evidence on the effect of widespread adoption of IFRS on crossborder investment in equity and debt markets. We use the laboratory provided by the mandated adoption of IFRS by all EU countries and by four non-EU countries in 2005 to evaluate whether adopting countries attract more foreign investment than similar sized control countries. Our results for equity markets reveal that adopting IFRS has no discernable effect on a countrys ability to attract additional foreign investment. In contrast to equity markets, IFRS adoption has a positive impact on attracting of foreign investment into the countrys debt market. These findings are consistent with prior research that recognizes the debt monitoring role of financial statements

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and shows that that debt markets generate more demand than equity markets for financial reporting (Ball et al. 2008, 170). Our findings suggest that the benefits accruing to companies in equity markets documented in prior research are appear to derive from investors within the country in which the company is domiciled. This is consistent with research suggesting that, for foreign equity investment decisions, non-financial statement factors such as the informational advantages associated with geographic proximity are of greater importance than information processing costs or the quality of financial reporting (Coval and Moskowitz 1999, 2001; Malloy 2005; Bae, et al. 2008). Our findings also suggest that at least part of the benefits accruing to companies in debt markets (Kim, et al. 2007; Florou and Kosi 2009) derive from foreign investors. Interpreting the results of this study requires several cautions because we cannot fully specify the determinants of cross-border investment flows. Although we make design choices to increase the likelihood of isolating the effect of IFRS adoption on foreign investment flows by (i) using each country as its own control, (ii) comparing changes in adopting countries to changes in non-adopting countries, (iii) controlling for contemporaneous changes in country governance, and (iv) controlling for a number of determinants of foreign investment flows, we cannot rule out the possibility that other events account for the observed changes. Nevertheless, our results are consistent with IFRS adoption reducing the agency costs of debt and are relevant for regulators considering IFRS adoption.

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Appendix 1 Variable Definitions

Variable
ADOPT BIL_TRADE CHG_MCAP_FGN_DEBT CHG_MCAP_FGN_EQTY

Definitions (Alphabetical Order)

- 1 if the country adopted IFRS in 2005, and ADOPT=0 otherwise - the sum of imports plus exports between source and host countries (average 1997-2001). [Original source: International Monetary Fund, Direction of Trade Statistics] - MCAP_FGN_DEBT in 2007 less MCAP_FGN_DEBT in 2003 (MCAP_FGN_DEBT defined below) - MCAP_FGN_EQTY in 2007 less MCAP_FGN_EQTY in 2003 (MCAP_FGN_EQTY defined below)

CHG_MCAP_FGN_DEBT_PR - MCAP_FGN_DEBT_PR in 2007 less MCAP_FGN_DEBT_PR in 2003 (MCAP_FGN_DEBT_PR defined below) CHG_MCAP_FGN_EQTY_PR - MCAP_FGN_EQTY_PR in 2007 less MCAP_FGN_EQTY_PR in 2003 (MCAP_FGN_EQTY_PR defined below) COLONY COM_LANG COM_LEG_ORIG - a dummy variable equal to one if source and host country ever had a colonial relationship, from Lane and Milesi-Ferretti (2008) [Original source: Rose and Spiegel (2004)] - a dummy variable equal to one if source and host country share a common language, from Lane and Milesi-Ferretti (2008) [Original source: Rose and Spiegel (2004)] - a dummy variable equal to one if source and host country have a legal system with a common origin (common law, French, German, or Scandinavian), from Lane and Milesi-Ferretti (2008) [Based on elaborations from La Porta, Lopez-deSilanes, and Schleifer (2005)] - the extent to which public power is exercised for private gain, including both petty and grand forms of corruption, as well as capture of the state by elites and private interests, as defined by Kaufmann, Kraay, and Mastruzzi (2009 p. 6) - the correlation between the annual GDP growth rates in the source and host country over the period 1980-2000 (19801989 in the IV estimation), from Lane and Milesi-Ferretti (2008) [Based on calculations from the World Bank and World Development Indicators] - the correlation between the annual GDP growth rates in the source and real stock returns in the host country over the period 1980-2000 (1980-1989 in the IV estimation), from Lane and Milesi-Ferretti (2008) [Based on calculations from Datastream, Morgan Stanley Capital International, and World Development Indicators] - the change from 2003 to 2007 in the countrys currency exchange rate relative to the U.S. dollar. The exchange rate data are obtained from the Standard and Poors Global Factbook - 2008 - the change from 2003 to 2007 in the investee countrys currency exchange rate relative to the investor country's currency. The exchange rate data are obtained from the Standard and Poors Global Factbook - 2008 - a dummy variable equal to one if the source and host country are in a currency union, from Lane and Milesi-Ferretti (2008) [Original source: Rose and Spiegel (2004)] - the change from 2003 to 2007 in the countrys GDP, where GDP "is measured as the value of all final goods and services produced within a nation in a given year. A nation's GDP at purchasing power parity (PPP) exchange rates is the sum value of all goods and services produced in the country valued at prices prevailing in the United States" {Source: Central Intelligence Agency's (CIA) - The World Factbook [https://www.cia.gov/library/publications/the-world-factbook/] - the quality of public services, the quality of civil service and the degree of its independence from political pressures, the quality of policy formulation and implementation, and the credibility of the governments commitment to such policies, as defined by Kaufmann, Kraay, and Mastruzzi (2009 p. 6) - the debt market capitalization that reflects foreign investment relative to the countrys total debt market capitalization, where domestic debt held by foreigners are from Lane and Milesi-Ferretti (2006) and the domestic debt securities outstanding of a country are from the Bank for International Settlements (BIS). - the equity market capitalization that reflects foreign investment relative to the countrys total equity market capitalization, where domestic equity held by foreigners are from Lane and Milesi-Ferretti (2006) and stock market capitalization data are from the Standard and Poors Global Stock Markets Factbook-2008 - the debt market capitalization that reflects foreign investment from a specific investor country relative to an investee countrys total debt market capitalization, where the specific investor country's debt investment is obtained from the CPI Geographic Breakdown Tables and the domestic debt securities outstanding of an investee country are from the Bank for International Settlements (BIS). - the equity market capitalization that reflects foreign investment from a specific investor country relative to an investee countrys total equity market capitalization, where the specific investor country's equity investment is obtained from the CPIS - Geographic Breakdown Tables and the stock market capitalization data for the investee country are from the S & Ps Global Stock Markets Factbook-2008 - the percentage (based on market value of equity) of the companies within the country that had voluntarily adopted IFRS in 2003. The data are obtained from Global Compustat - the change from 2003 to 2007 in the countrys public debt (total of all government borrowings less repayments). The public debt data are obtained from theCentral Intelligence Agency's (CIA)The World Factbook - the ability of government to formulate and implement sound policies and regulations and permit and promote private sector development, as defined by Kaufmann, Kraay, and Mastruzzi (2009 p. 6) - "the extent to which agents have confidence in and abide by the rules of society and in particular the quality of contract enforcement, property rights, the police, and the courts, as well as the likelihood of crime and violence, as defined by Kaufmann, Kraay, and Mastruzzi (2009 p. 6) - a dummy variable equal to one if the source and host country have a tax treaty enacted prior to 1999, from Lane and Milesi-Ferretti (2008) [Based on elaborations from from tax treaty data taken from http://www.unctad.org] - absolute value of the time difference between source and host country (ranging from 1 to 12), from Lane and MilesiFerretti (2008) [Original source: http://www.timeanddate.com

CON_CORRUP COR_GROWTH

COR_STOCK_RET

CURR_CHG CURR_CHG_PR CURR_UNION GDP_CHG

GOV_EFF

MCAP_FGN_DEBT

MCAP_FGN_EQTY

MCAP_FGN_DEBT_PR

MCAP_FGN_EQTY_PR

PCT_IFRS PUBLIC_CHG REG_QUAL RULE_LAW

TAX_TREATY TIME_DIFF

Table1 DescriptiveStatisticsSizeofCapitalMarkets
Country EUAdopters Austria Belgium Denmark Finland France Germany Greece Italy Netherlands Portugal Spain Sweden UnitedKingdom OtherAdopters Australia Norway SouthAfrica Switzerland AllAdopters Mean Median #OBS EUAdopters Mean Median #OBS EQTY_CAP 55.09 173.55 121.62 170.28 1,355.93 1,079.03 106.85 614.84 488.65 58.29 726.24 289.88 2,460.06 DEBT_CAP 601.08 1,174.93 657.22 262.27 3,957.94 4,945.10 372.81 3,501.04 1,761.31 396.88 1,537.86 633.17 6,091.37 Country ControlCountries Brazil Canada China HongKong India Japan Korea Malaysia Mexico Singapore Thailand UnitedStates EQTY_CAP 234.56 893.95 681.20 551.24 279.09 3,040.67 329.62 168.38 122.53 229.33 119.05 14,266.27 DEBT_CAP 520.60 1,260.08 648.83 319.52 303.86 9,146.74 599.53 147.26 307.95 232.19 102.62 23,939.10

585.48 94.68 267.75 726.95 551.48 488.65 17

671.47 317.94 111.87 978.70 1,645.47 671.47 17 ControlCountries Mean Median n ControlCountries Mean Median n 1,742.99 304.35 12 3,127.36 420.06 12

592.33 289.88 13

1,991.77 1,174.93 13

1,742.99 3,127.36 304.35 420.06 12 12

This table provides descriptive evidence about capital market size for the IFRS adoption sample and the control sample. EQTY_CAP is the countrys equity market capitalization at the end of 2003 (in $ billions), which is obtained from Standard & Poors Global Stock Markets Factbook 2008; DEBT_CAP is the countrys debt market capitalization at the end of 2003 (in $ billions), which is obtained from the Bank for International Settlements (BIS) 2004 Quarterly Reviews (outstanding domestic debt securities) plus the foreign debt investment obtained fromLaneandMilesiFerretti.

Table2 UnivariateStatistics
PanelA:EquityMarket
2003 AllAdoptingCountries: AggregateStatistics MeanDomesticEquityHeldbyForeigners MeanEquityMarketCap MeanForeignInvestment/MeanMarketCap ByCountryStatistics MeanMCAP_FGN_EQTY MedianMCAP_FGN_EQTY ChangesinForeignInvestmentByCountryStatistics MeanChangeinForeignInvestment MedianChangeinForeignInvestment #OBS EuropeanUnionAdoptingCountries AggregateStatistics MeanDomesticEquityHeldbyForeigners MeanEquityMarketCap MeanForeignInvestment/MeanMarketCap ByCountryStatistics MeanMCAP_FGN_EQTY MedianMCAP_FGN_EQTY ChangesinForeignInvestmentByCountryStatistics MeanChangeinForeignInvestment MedianChangeinForeignInvestment #OBS ControlCountries: AggregateStatistics MeanDomesticEquityHeldbyForeigners MeanEquityMarketCap MeanForeignInvestment/MeanMarketCap ByCountryStatistics MeanMCAP_FGN_EQTY MedianMCAP_FGN_EQTY ChangesinForeignInvestmentByCountryStatistics MeanChangeinForeignInvestment MedianChangeinForeignInvestment #OBS 13 35.21% 34.60% 13 14.66% 13.84% 13 39.16% 38.98% 13 20.65% 15.66% 13 165.61% 127.39% 36.89% 33.59% 39.23% 33.46% 41.49% 36.45% 41.36% 38.19% 40.60% 36.17% 3.71% ** 2.58% ## 213.91 259.14 291.17 397.38 446.00 232.09 592.33 700.42 754.28 996.91 1,141.24 548.91 36.11% 37.00% 38.60% 39.86% 39.08% 2.97% 2004 2005 2006 2007 Change 20032007 Change 20032007

198.67 238.81 272.006 369.415 417.73 219.06 551.48 664.98 723.81 956.72 1,094.12 542.64 36.02% 35.91% 37.58% 38.61% 38.18% 2.15% 34.97% 30.96% 36.66% 32.94% 35.44% 34.60% 17 38.89% 34.97% 18.55% 16.49% 17 39.07% 36.48% 39.56% 38.54% 17 38.90% 36.17% 22.03% 26.19% 17 182.98% 131.10% 3.93% ** 5.21% ##

17

257.61 314.40 388.66 486.75 594.27 336.66 1,742.99 2,032.14 2,272.42 2,711.60 3,297.37 1,554.38 14.78% 15.47% 17.10% 17.95% 18.02% 3.24% 21.28% 19.44% 22.07% 20.88% 29.61% 31.68% 12 23.60% 23.37% 35.52% 33.83% 12 25.83% 27.07% 45.83% 45.99% 12 25.74% 27.94% 41.72% 41.16% 12 285.87% 198.27% 4.46% 8.50%

12

ByCountryDifferencesBetweenAllAdoptingandControlCountries: ttestofmeandifferences Wilcoxinsignedranktestonmedian ByCountryDifferencesBetweenEuropeanUnionAdoptingandControlCountries: ttestofmeandifferences Wilcoxinsignedranktestonmedian

0.53% 3.29% 0.75% 5.92%

Thispanelprovidesbyyearunivariateunivariatestatisticsonthepercentageofacountrysequitymarketcapitalizationthatreflectsforeignequityinvestmentforall(EU only)IFRSadoptersandcontrolcountries.Allaggregateinvestmentdataisreportedin$Billions.AggregateforeigninvestmentdataareobtainedfromLaneandMilesi Ferretti,whilethestockmarketcapitalizationdataarefromtheStandardandPoorsGlobalStockMarketsFactbook2008.Themean(median)ChangeinForeign Investmentiscalculatedasthethecurrentyearbycountryforeigninvestementlessthepreviousyearbycountryforeigninvestmentscaledbythepreviousyearbycountry foreigninvestment.MCAP_FGN_EQTYistheequitymarketcapitalizationthatreflectsforeigninvestmentrelativetothecountrystotalequitymarketcapitalization.***, **,and*(###,##,and#)indicatetwotailedsignificantdifferencesinmeans(medians)atthe1%,5%,and10%levels,respectively.

Table2 UnivariateStatistics
PanelB:DebtMarket
2003 AllAdoptingCountries: MeanDomesticDebtHeldbyForeigners MeanDebtMarketCap MeanForeignInvestment/MeanMarketCap ByCountryStatistics MeanMCAP_FGN_DEBT MedianMCAP_FGN_DEBT ChangesinForeignInvestmentByCountryStatistics MeanChangeinForeignInvestment MedianChangeinForeignInvestment #OBS EuropeanUnionAdoptingCountries AggregateStatistics MeanDomesticDebtHeldbyForeigners MeanDebtMarketCap MeanForeignInvestment/MeanMarketCap ByCountryStatistics MeanMCAP_FGN_DEBT MedianMCAP_FGN_DEBT ChangesinForeignInvestmentByCountryStatistics MeanChangeinForeignInvestment MedianChangeinForeignInvestment #OBS ControlCountries: AggregateStatistics MeanDomesticDebtHeldbyForeigners MeanDebtMarketCap MeanForeignInvestment/MeanMarketCap ByCountryStatistics MeanMCAP_FGN_DEBT MedianMCAP_FGN_DEBT ChangesinForeignInvestmentByCountryStatistics MeanChangeinForeignInvestment MedianChangeinForeignInvestment #OBS 13 2004 2005 2006 2007 Change 20032007 Change 20032007

1,000.33 1,215.55 1,268.64 1,570.77 1,970.31 969.98 1,645.47 1,929.64 1,925.77 2,354.92 2,920.77 1,275.30 60.79% 62.99% 65.88% 66.70% 67.46% 6.67% 58.41% 57.71% 59.17% 59.67% 20.03% 21.13% 17 61.27% 62.24% 3.08% 4.02% 17 62.65% 62.38% 25.31% 24.09% 17 63.25% 63.50% 25.73% 23.81% 17 95.26% 90.40% 4.84% *** 5.79% ###

17

1,202.18 1,468.25 1,529.35 1,894.14 2,364.33 1,162.15 1,991.77 2,338.30 2,328.42 2,849.32 3,514.19 1,522.42 60.36% 62.79% 65.68% 66.48% 67.28% 6.92% 58.60% 57.71% 59.81% 59.67% 21.33% 22.16% 13 61.82% 62.24% 1.99% 1.50% 13 62.95% 62.38% 24.47% 24.09% 13 63.58% 63.50% 24.62% 23.81% 13 92.62% 90.40% 4.98% *** 5.79% ###

797.99 947.35 1,018.78 1,208.47 1,430.82 632.83 3,127.36 3,533.25 3,745.45 4,220.08 4,742.69 1,615.33 25.52% 26.81% 27.20% 28.64% 30.17% 4.65% 42.52% 38.81% 40.53% 34.38% 10.41% 11.27% 12 38.09% 30.17% 2.53% 2.45% 12 36.88% 31.49% 15.55% 13.06% 12 36.63% 29.00% 21.19% 16.76% 12 61.75% 58.55% 5.89% * 9.81%

12

ByCountryDifferencesBetweenAllAdoptingandControlCountries: ttestofmeandifferences Wilcoxinsignedranktestonmedian ByCountryDifferencesBetweenEuropeanUnionAdoptingandControlCountries: ttestofmeandifferences Wilcoxinsignedranktestonmedian

10.73% *** 15.60% ### 10.87% *** 15.60% ###

Thispanelprovidesbyyearunivariateunivariatestatisticsonthepercentageofacountrysdebtmarketcapitalizationthatreflectsforeigndebtinvestmentforall(EU only)IFRSadoptersandcontrolcountries.Allaggregateinvestmentdataisreportedin$Billions.AggregateforeigninvestmentdataareobtainedfromLaneandMilesi Ferretti,whilethedomesticdebtsecuritiesoutstandingofacountryarefromtheBankforInternationalSettlements(BIS).Themean(median)ChangeinForeign Investmentiscalculatedasthethecurrentyearbycountryforeigninvestementlessthepreviousyearbycountryforeigninvestmentscaledbythepreviousyearby countryforeigninvestment.MCAP_FGN_DEBTisthedebtmarketcapitalizationthatreflectsforeigninvestmentrelativetothecountrystotaldebtmarketcapitalization. ***,**,and*(###,##,and#)indicatetwotailedsignificantdifferencesinmeans(medians)atthe1%,5%,and10%levels,respectively.

Table3 AggregateDataMultivariateRegressions
CHG_MCAP_FGN_EQTY AllAdopters EUAdopters
Variable Intercept Coefficient (tstatistic) 0.0002 (0.01) + 0.1970 ** (2.31) 0.0005 * (1.98) 0.0334 (0.51) Coefficient (tstatistic) 0.0005 (0.01) 0.1990 ** (2.11) 0.0005 * (1.88) 0.0283 (0.29)

CHG_MCAP_FGN_DEBT AllAdopters EUAdopters

Coefficient (tstatistic) 0.0719 ** (2.29) 0.0611 (0.63) 0.0000 (0.09) 0.0590 (0.91) 0.0959 ** (2.31) Coefficient (tstatistic) 0.0704 ** (2.12) 0.0919 (0.86) 0.0001 (0.43) 0.0163 (0.17) 0.1323 ** (2.48) 0.1378 *** (3.74) 25 0.3198 4.68

GDP_CHG

CURR_CHG

+/

PCT_IFRS

PUBLIC_CHG

ADOPT

0.0043 (0.14) 29 0.1625 2.36

0.0105 (0.28) 25 0.1308 1.90

0.1069 *** (3.55) 29 0.4242 5.13

#OBS ADJUSTEDRSquare FValue

This table reports coefficients and, in parentheses, tstatistics for OLS regression models that explain the change in foreign investment between 2003 and 2007 for equity (debt) in columns 1 & 2 (columns 3 & 4). Columns 1 & 3 (2 & 4) include all IFRS (only EU) adopters. All variables are defined in Appendix A. ***, ** and * indicate statistical significance at the 1%, 5%, and 10% levels,respectively,inonetailtestswherethesignispredictedandintwotailtestswherethesignisnotpredicted.

Table4 AggregateDataMultivariateRegressionsGovernanceChanges
PanelA:AllAdopters CHG_MCAP_FGN_DEBT Rule_Law
Variable Intercept Coefficient (tstatistic) 0.0709 ** (2.60) + 0.0490 (0.58) 0.0002 (0.65) 0.0131 (0.22) 0.0775 ** (2.12) 0.2610 *** (2.91) 0.1055 * (1.29) 0.0527 (0.90) 0.2058 ** (2.38) 0.1250 *** (4.64) 29 0.5656 7.08 0.1055 *** (3.55) 29 0.4390 4.61 0.1230 *** (3.49) 29 0.4192 4.37 0.1053 *** (3.83) 29 0.5213 6.08

Con_Corrup
Coefficient (tstatistic) 0.0597 * (1.85) 0.0480 (0.50) 0.0001 (0.19) 0.0359 (0.54) 0.0813 ** (1.92)

Gov_Eff
Coefficient (tstatistic) 0.0751 ** (2.37) 0.0461 (0.47) 0.0000 (0.15) 0.0390 (0.57) 0.0817 ** (1.83)

Reg_Qual
Coefficient (tstatistic) 0.0799 ** (2.77) 0.0209 (0.23) 0.0002 (0.58) 0.0838 (1.40) 0.0824 ** (2.16)

AllGovernance
Coefficient (tstatistic) 0.0710 ** (2.42) 0.0526 (0.62) 0.0002 (0.96) 0.0709 (1.08) 0.0981 *** (2.54) 0.3153 ** (2.27) 0.0155 (0.17) 0.1199 (1.65) 0.1531 * (1.43) 0.0911 *** (2.73) 29 0.5806 5.31

GDP_CHG

CURR_CHG

+/

PCT_IFRS

PUBLIC_CHG

CHG_RULE_LAW

CHG_CON_CORRUP

CHG_GOV_EFF

CHG_REG_QUAL

ADOPT

#OBS ADJUSTEDRSquare FValue

Thispanelreportscoefficientsand,inparentheses,tstatisticsforOLSregressionmodelsthatexplainthechangeinforeigninvestmentbetween 2003and2007fordebtafterincludingchangesincountrylevelgovernanceforallIFRSadopters.AllvariablesaredefinedinAppendixA.***,** and*indicatestatisticalsignificanceatthe1%,5%,and10%levels,respectively,inonetailtestswherethesignispredictedandintwotailtests wherethesignisnotpredicted.

Table4Cont'd AggregateDataMultivariateRegressionsGovernanceChanges
PanelB:EuropeanUnionAdopters CHG_MCAP_FGN_DEBT Rule_Law
Variable Intercept Coefficient (tstatistic) 0.0645 ** (2.51) + 0.1057 (1.27) 0.0004 (1.40) 0.0921 (1.20) 0.1255 *** (3.03) 0.3160 *** (3.70) 0.1236 * (1.44) 0.0914 * (1.46) 0.2452 *** (2.80) 0.1713 *** (5.73) 25 0.6604 8.78 0.1372 *** (3.83) 25 0.4646 4.47 0.1724 *** (4.02) 25 0.4656 4.49 0.1397 *** (4.43) 25 0.5842 6.62

Con_Corrup
Coefficient (tstatistic) 0.0557 (1.65) 0.0776 (0.74) 0.0002 (0.54) 0.0386 (0.41) 0.1141 ** (2.13)

Gov_Eff
Coefficient (tstatistic) 0.0750 ** (2.31) 0.0767 (0.73) 0.0002 (0.63) 0.0561 (0.58) 0.1161 ** (2.19)

Reg_Qual
Coefficient (tstatistic) 0.0840 *** (2.91) 0.0285 (0.30) 0.0003 (1.08) 0.0022 (0.03) 0.1164 ** (2.52)

AllGovernance
Coefficient (tstatistic) 0.0711 ** (2.45) 0.0934 (1.02) 0.0004 (1.53) 0.0491 (0.58) 0.1375 *** (3.05) 0.3527 *** (2.36) 0.0386 (0.43) 0.0862 (1.17) 0.1264 (1.08) 0.1437 *** (3.64) 25 0.6461 5.87

GDP_CHG

CURR_CHG

+/

PCT_IFRS

PUBLIC_CHG

CHG_RULE_LAW

CHG_CON_CORRUP

CHG_GOV_EFF

CHG_REG_QUAL

ADOPT

#OBS ADJUSTEDRSquare FValue

Thispanelreportscoefficientsand,inparentheses,tstatisticsforOLSregressionmodelsthatexplainthechangeinforeigninvestmentbetween 2003and2007fordebtafterincludingchangesincountrylevelgovernanceforEUonlyadopters.AllvariablesaredefinedinAppendixA.***,** and*indicatestatisticalsignificanceatthe1%,5%,and10%levels,respectively,inonetailtestswherethesignispredictedandintwotailtests wherethesignisnotpredicted.

Table5 AggregateDataMultivariateRegressionsGovernanceInteractions
PanelA:AllAdopters CHG_MCAP_FGN_DEBT Rule_Law
Variable Intercept Coefficient (tstatistic) 0.1016 *** (5.23) + 0.1147 (1.91) 0.0000 (0.17) 0.0298 (0.75) 0.0474 ** (1.87) 0.1193 ** (1.68) 0.1586 *** (4.46) 0.0888 *** (5.22) 0.0818 *** (3.52) 29 0.8017 15.15

Con_Corrup
Coefficient (tstatistic) 0.0851 *** (3.65) 0.1914 (2.52) 0.0002 (0.99) 0.0379 (0.81) 0.0609 ** (1.98) 0.0148 (0.21) 0.1371 *** (3.46) 0.0841 *** (4.93) 0.0664 *** (2.73) 29 0.7362 10.11

Gov_Eff
Coefficient (tstatistic) 0.1163 *** (5.13) 0.1974 (2.74) 0.0001 (0.36) 0.0244 (0.54) 0.0546 ** (1.78) 0.0471 (1.13) 0.1705 *** (3.21) 0.0996 *** (5.54) 0.0760 *** (2.60) 29 0.7500 11.50

Reg_Qual
Coefficient (tstatistic) 0.0949 *** (3.87) 0.1585 (1.86) 0.0000 (0.20) 0.0646 (1.21) 0.0592 ** (1.82) 0.1179 * (1.54) 0.0326 (0.51) 0.0779 *** (3.42) 0.0070 (0.39) 29 0.6675 8.03

GDP_CHG

CURR_CHG

+/

PCT_IFRS

PUBLIC_CHG

CHG_GOVERNANCE

ADOPT

GOVERNANCE_2003

ADOPT*GOVERNANCE_2003

#OBS ADJUSTEDRSquare FValue

Thispanelreportscoefficientsand,inparentheses,tstatisticsforOLSregressionmodelsthatexplainthechangeinforeign investmentforalladoptersinoursamplebetween2003and2007fordebtwithinteractionsbetween2003governancelevelsand ADOPT.AllvariablesaredefinedinAppendixA.***,**and*indicatestatisticalsignificanceatthe1%,5%,and10%levels, respectively,inonetailtestswherethesignispredictedandintwotailtestswherethesignisnotpredicted.

Table5Cont'd AggregateDataMultivariateRegressionsGovernanceInteractions
PanelB:EuropeanUnionAdopters CHG_MCAP_FGN_DEBT Rule_Law
Variable Intercept Coefficient (tstatistic) 0.0921 *** (4.94) + 0.1314 ** (2.30) 0.0001 (0.45) 0.0295 (0.55) 0.0628 ** (2.00) 0.2109 ** (2.30) 0.2217 *** (3.56) 0.0767 *** (4.44) 0.0975 ** (2.52) 25 0.8433 17.14

Con_Corrup
Coefficient (tstatistic) 0.0796 *** (3.18) 0.2014 ** (2.54) 0.0002 (0.65) 0.0108 (0.16) 0.0740 ** (1.70) 0.0333 (0.40) 0.1523 *** (2.86) 0.0802 *** (4.51) 0.0612 ** (1.72) 25 0.7362 9.37

Gov_Eff
Coefficient (tstatistic) 0.1128 *** (5.31) 0.2139 *** (3.11) 0.0000 (0.07) 0.0356 (0.60) 0.0706 ** (1.87) 0.0793 ** (1.86) 0.1990 *** (3.15) 0.0961 *** (5.43) 0.0698 ** (1.91) 25 0.8005 13.04

Reg_Qual
Coefficient (tstatistic) 0.1002 *** (4.16) 0.1369 * (1.63) 0.0000 (0.09) 0.0081 (0.12) 0.0658 * (1.62) 0.1635 ** (2.16) 0.0371 (0.52) 0.0765 *** (3.31) 0.0135 (0.63) 25 0.7229 8.83

GDP_CHG

CURR_CHG

+/

PCT_IFRS

PUBLIC_CHG

CHG_GOVERNANCE

ADOPT

GOVERNANCE_2003

ADOPT*GOVERNANCE_2003

#OBS ADJUSTEDRSquare FValue

Thispanelreportscoefficientsand,inparentheses,tstatisticsforOLSregressionmodelsthatexplainthechangeinforeigninvestment forEuropeanUnionadoptersinoursamplebetween2003and2007fordebtwithinteractionsbetween2003governancelevelsand ADOPT.AllvariablesaredefinedinAppendixA.***,**and*indicatestatisticalsignificanceatthe1%,5%,and10%levels,respectively, inonetailtestswherethesignispredictedandintwotailtestswherethesignisnotpredicted.

Table6 InvestmentPairsMultivariateRegressions
CHG_MCAP_FGN_EQTY AllAdopters
Variable Intercept Coefficient (tstatistic) 0.0020 (0.15) + 0.0102 ** (1.97) 0.0000 (0.06) 0.0053 (0.84)

CHG_MCAP_FGN_DEBT AllAdopters
Coefficient (tstatistic) 0.0220 ** (2.07) 0.0035 (0.66) 0.0000 *** (7.21) 0.0129 *** (3.04) 0.0034 (1.90)

EUAdopters
Coefficient (tstatistic) 0.0039 (0.42) 0.0075 * (1.55) 0.0000 (0.12) 0.0216 (2.00)

EUAdopters
Coefficient (tstatistic) 0.0215 ** (1.76) 0.0059 (0.81) 0.0000 (0.86) 0.0168 *** (2.07) 0.0014 (0.46) 0.0062 (1.05) 0.0005 (0.14) 0.0002 (0.56) 0.0025 (1.27) 0.0015 ** (1.96) 0.0014 (0.63) 0.0004 (0.20) 0.0029 (1.51) 0.0002 (0.12) 0.0063 * (1.51) 451 0.2051 7.89

GDP_CHG

CURR_CHG_PR

+/

PCT_IFRS

PUBLIC_CHG

COR_STOCK_RET

+/

0.0103 * (1.70) 0.0002 (0.11) 0.0003 (1.02) 0.0022 (0.72) 0.0001 (0.10) 0.0033 (1.28) 0.0003 (0.10) 0.0174 *** (2.64) 0.0025 (1.42) 0.0053 (1.73) 540 0.0763 2.65

0.0128 * (1.95) 0.0029 (1.42) 0.0004 (1.15) 0.0032 (0.97) 0.0002 (0.26) 0.0025 (1.00) 0.0012 (0.34) 0.0156 *** (2.95) 0.0012 (0.82) 0.0105 (2.70) 457 0.1243 2.84

0.0061 (1.12) 0.0001 (0.03) 0.0003 (0.83) 0.0027 (1.29) 0.0016 ** (2.31) 0.0015 (0.89) 0.0010 (0.64) 0.0016 (1.24) 0.0008 (0.53) 0.0047 ** (1.78) 532 0.2019 7.68

COR_GROWTH

+/

TIME_DIFF

+/

CURR_UNION

+/

BIL_TRADE

+/

COM_LANG

+/

TAX_TREATY

+/

COLONY

+/

COM_LEG_ORIG

+/

ADOPT

#OBS RSquare FValue

This table reports coefficients and, in parentheses, tstatistics for OLS regression models that explain the change in foreign investment between 2003 and 2007 for equity (debt) investee/investor pairs in columns 1 and 2 (3 and 4) for IFRS adopters. Where columns 1 and 3 (2and4)reflectthesampleofAll(EU)adoptersinoursample.AllvariablesaredefinedinAppendixA.InthisTable,GDP_CHG,PCT_IFRS, PUBLIC_CHG, and ADOPT are based on the investee country. All regressions are performed with two dimensional clustered robust standard errors to control for both within investee and within investor correlations (Petersen 2009). ***, ** and * indicate statistical significance at the 1%, 5%, and 10% levels, respectively, in onetail tests where the sign is predicted and in twotail tests where the sign isnotpredicted.

Table7 PairDataMultivariateRegressionsGovernanceChanges
PanelA:AllAdopters CHG_MCAP_FGN_DEBT Rule_Law
Variable Intercept Coefficient (tstatistic) 0.0211 ** (1.91) + 0.0035 (0.66) 0.0000 *** (2.70) 0.0140 *** (3.31) 0.0038 (1.88) 0.0057 (1.07) 0.0001 (0.04) 0.0003 (0.81) 0.0031 (1.41) 0.0015 ** (2.17) 0.0012 (0.78) 0.0010 (0.63) 0.0015 (1.32) 0.0010 (0.75) 0.0056 (0.88) 0.0102 (1.87) 0.0005 (0.10) 0.0058 (0.81) 0.0051 ** (1.91) #OBS RSquare FValue 532 0.2051 7.89 0.0048 ** (1.86) 532 0.2188 7.43 0.0048 * (1.48) 532 0.2020 7.16 0.0045 ** (1.81) 532 0.2057 7.75

Con_Corrup
Coefficient (tstatistic) 0.0208 ** (2.14) 0.0024 (0.41) 0.0000 *** (8.01) 0.0108 *** (2.85) 0.0022 (1.38) 0.0086 (1.44) 0.0000 (0.00) 0.0003 (0.90) 0.0019 (0.85) 0.0014 ** (2.28) 0.0019 (1.14) 0.0013 (0.79) 0.0013 (0.88) 0.0004 (0.31)

Gov_Eff
Coefficient (tstatistic) 0.0219 ** (2.01) 0.0035 (0.62) 0.0000 *** (5.70) 0.0131 *** (2.79) 0.0036 (1.40) 0.0060 (1.08) 0.0001 (0.03) 0.0003 (0.84) 0.0028 (1.23) 0.0016 ** (2.26) 0.0015 (1.00) 0.0010 (0.64) 0.0016 (1.21) 0.0008 (0.55)

Reg_Qual
Coefficient (tstatistic) 0.0212 ** (1.98) 0.0042 (0.75) 0.0000 *** (2.46) 0.0122 *** (3.02) 0.0040 (1.87) 0.0056 (1.05) 0.0001 (0.05) 0.0003 (0.84) 0.0029 (1.39) 0.0015 ** (2.26) 0.0012 (0.83) 0.0010 (0.63) 0.0014 (1.21) 0.0010 (0.73)

AllGovernance
Coefficient (tstatistic) 0.0164 ** (1.71) 0.0020 (0.34) 0.0000 * (1.75) 0.0108 ** (2.02) 0.0028 (1.17) 0.0092 (1.69) 0.0001 (0.05) 0.0003 (0.93) 0.0024 (1.13) 0.0011 * (1.74) 0.0010 (0.69) 0.0015 (0.88) 0.0008 (0.50) 0.0013 (0.96) 0.0167 ** (2.22) 0.0197 (3.42) 0.0008 (0.13) 0.0064 (0.71) 0.0055 ** (2.11) 532 0.2481 8.31

GDP_CHG

CURR_CHG_PR

+/

PCT_IFRS

PUBLIC_CHG

COR_STOCK_RET

+/

COR_GROWTH

+/

TIME_DIFF

+/

CURR_UNION

+/

BIL_TRADE

+/

COM_LANG

+/

TAX_TREATY

+/

COLONY

+/

COM_LEG_ORIG

+/

CHG_RULE_LAW

CHG_CON_CORRUP

CHG_GOV_EFF

CHG_REG_QUAL

ADOPT

Thispanelreportscoefficientsand,inparentheses,tstatisticsforOLSregressionmodelsthatexplainthechangeinforeigninvestmentbetween2003and2007for debtinvestee/investorpairsforallIFRSadoptersafterincludingchangesincountrylevelgovernance.AllvariablesaredefinedinAppendixA.Inthispanel,GDP_CHG, PCT_IFRS,PUBLIC_CHG,CHG_GOVERNANCE,andADOPTarebasedontheinvesteecountry.Allregressionsareperformedwithtwodimensionalclusteredrobust standarderrorstocontrolforbothwithininvesteeandwithininvestorcorrelations(Petersen2009).***,**and*indicatestatisticalsignificanceatthe1%,5%,and 10%levels,respectively,inonetailtestswherethesignispredictedandintwotailtestswherethesignisnotpredicted.

Table7Cont'd PairDataMultivariateRegressionsGovernanceChanges
PanelB:EuropeanUnionAdopters Rule_Law
Variable Intercept Coefficient (tstatistic) 0.0190 (1.40) + 0.0006 (0.12) 0.0000 (0.44) 0.0195 *** (2.60) 0.0016 (0.51) 0.0058 (1.02) 0.0004 (0.11) 0.0002 (0.53) 0.0031 (1.49) 0.0014 * (1.59) 0.0009 (0.44) 0.0003 (0.15) 0.0027 (1.48) 0.0007 (0.47) 0.0082 (1.08) 0.0105 (1.90) 0.0009 (0.15) 0.0047 (0.60) 0.0073 ** (1.80) 451 0.2054 7.02 0.0061 * (1.47) 451 0.2171 6.68 0.0065 * (1.34) 451 0.1990 6.30 0.0061 * (1.54) 451 0.2012 6.70

Con_Corrup
Coefficient (tstatistic) 0.0202 * (1.83) 0.0001 (0.02) 0.0000 (1.19) 0.0146 ** (1.81) 0.0000 (0.00) 0.0089 (1.41) 0.0006 (0.19) 0.0002 (0.68) 0.0018 (0.86) 0.0013 * (1.93) 0.0017 (0.82) 0.0008 (0.36) 0.0027 (1.24) 0.0002 (0.14)

CHG_MCAP_FGN_DEBT Gov_Eff
Coefficient (tstatistic) 0.0213 * (1.62) 0.0015 (0.24) 0.0000 (0.86) 0.0172 ** (2.03) 0.0016 (0.47) 0.0061 (1.04) 0.0005 (0.15) 0.0002 (0.56) 0.0027 (1.23) 0.0015 * (1.79) 0.0013 (0.66) 0.0004 (0.20) 0.0028 (1.38) 0.0002 (0.16)

Reg_Qual
Coefficient (tstatistic) 0.0213 * (1.72) 0.0025 (0.37) 0.0000 (0.70) 0.0164 ** (2.10) 0.0021 (0.61) 0.0057 (1.00) 0.0004 (0.12) 0.0002 (0.55) 0.0028 (1.38) 0.0015 * (1.95) 0.0010 (0.56) 0.0005 (0.23) 0.0027 (1.36) 0.0004 (0.26)

AllGovernance
Coefficient (tstatistic) 0.0093 (0.86) 0.0058 (0.98) 0.0000 (0.00) 0.0218 *** (2.56) 0.0022 (0.71) 0.0112 ** (1.94) 0.0004 (0.12) 0.0026 (0.74) 0.0024 (1.12) 0.0005 (0.79) 0.0006 (0.32) 0.0007 (0.33) 0.0021 (0.86) 0.0011 (0.69) 0.0331 *** (3.35) 0.0234 (4.09) 0.0024 (0.42) 0.0041 (0.40) 0.0094 *** (2.42) 532 0.2637 8.54

GDP_CHG

CURR_CHG_PR

+/

PCT_IFRS

PUBLIC_CHG

COR_STOCK_RET

+/

COR_GROWTH

+/

TIME_DIFF

+/

CURR_UNION

+/

BIL_TRADE

+/

COM_LANG

+/

TAX_TREATY

+/

COLONY

+/

COM_LEG_ORIG

+/

CHG_RULE_LAW

CHG_CON_CORRUP

CHG_GOV_EFF

CHG_REG_QUAL

ADOPT

#OBS RSquare FValue

Thispanelreportscoefficientsand,inparentheses,tstatisticsforOLSregressionmodelsthatexplainthechangeinforeigninvestmentbetween2003and2007fordebt investee/investorpairsforEUonlyIFRSadoptersafterincludingchangesincountrylevelgovernance.AllvariablesaredefinedinAppendixA.Inthispanel,GDP_CHG, PCT_IFRS,PUBLIC_CHG,CHG_GOVERNANCE,andADOPTarebasedontheinvesteecountry.Allregressionsareperformedwithtwodimensionalclusteredrobuststandard errorstocontrolforbothwithininvesteeandwithininvestorcorrelations(Petersen2009).***,**and*indicatestatisticalsignificanceatthe1%,5%,and10%levels, respectively,inonetailtestswherethesignispredictedandintwotailtestswherethesignisnotpredicted.

Table8 PairDataMultivariateRegressionsInvestorAdoption
CHG_MCAP_FGN_DEBT_PR AllAdopters
Variable Intercept Coefficient (tstatistic) 0.0151 (1.49) + 0.0018 (0.30) 0.0000 (1.51) 0.0111 ** (2.01) 0.0029 (1.16) 0.0101 * (1.78) 0.0000 (0.00) 0.0003 (1.27) 0.0027 (1.12) 0.0010 (1.52) 0.0009 (0.65) 0.0013 (0.72) 0.0008 (0.48) 0.0013 (0.95) 0.0166 ** (2.19) 0.0198 (3.42) 0.0005 (0.07) 0.0064 (0.72) 0.0046 * (1.45) 0.0060 ** (2.08) 532 0.2493 7.96

EUAdopters
Coefficient (tstatistic) 0.0101 (0.96) 0.0036 (0.64) 0.0000 (0.04) 0.0225 *** (2.50) 0.0012 (0.39) 0.0078 (1.54) 0.0030 (1.26) 0.0001 (0.45) 0.0040 (1.43) 0.0006 (0.83) 0.0007 (0.30) 0.0012 (0.56) 0.0037 ** (2.15) 0.0008 (0.46) 0.0304 *** (3.86) 0.0216 (3.92) 0.0005 (0.08) 0.0028 (0.29) 0.0086 * (1.55) 0.0100 *** (2.50) 404 0.2760 7.66

GDP_CHG

CURR_CHG_PR

+/

PCT_IFRS

PUBLIC_CHG

COR_STOCK_RET

+/

COR_GROWTH

+/

TIME_DIFF

+/

CURR_UNION

+/

BIL_TRADE

+/

COM_LANG

+/

TAX_TREATY

+/

COLONY

+/

COM_LEG_ORIG

+/

CHG_RULE_LAW

CHG_CON_CORRUP

CHG_GOV_EFF

CHG_REG_QUAL

ADOPT*ADOPT_INVESTOR

ADOPT*NON_ADOPT_INVESTOR

#OBS RSquare FValue

Thispanelreportscoefficientsand,inparentheses,tstatisticsforOLSregressionmodelsthatexplainthechangeinthesourceof foreigninvestmentbetween2003and2007fordebtinvestee/investorpairsafterincludingchangesincountrylevelgovernance. Column1(2)includesAll(onlyEU)IFRSadopters.ADOPT_INVESTOR(NON_ADOPT_INVESTOR)equalsoneiftheinvestingcountryis alsoanadopting(nonadopting)countryandzerootherwise.AllvariablesaredefinedinAppendixA.Inthispanel,GDP_CHG, CURR_CHG,PCT_IFRS,PUBLIC_CHG,CHG_GOVERNANCE,andADOPTarebasedontheinvesteecountry.Allregressionsareperformed withtwodimensionalclusteredrobuststandarderrorstocontrolforbothwithininvesteeandwithininvestorcorrelations(Petersen 2009).***,**and*indicatestatisticalsignificanceatthe1%,5%,and10%levels,respectively,inonetailtestswherethesignis predictedandintwotailtestswherethesignisnotpredicted.

Figure1 WorldwideForeignInvestment
PanelAWorldwideForeignEquityInvestment

PanelBWorldwideForeignDebtInvestment

This Figure reports the 2003 annual total foreign investment flows. Panel A (B) reports the foreign Equity (Debt) investement attracted by each country group. The data are the bilateral investment data from the Coordinated Portfolio Investment Survey (CPIS). Country groupings are based on the country groups presented in the paper as detailed in Table 1, where the number in parentheses after the country group represents the total number of countries in the group. Specifically, "EU Adopting Countries" includes the 13 European Union countries in our sample countries that adopted IFRS in 2005. "Control Countries" includes the 12 control countries used in our sample. "Other Adopting Countries" includes the 4 nonEuropean Union adopting countries in our sample. The group "Dropped From Sample" includes the 9 countries that were dropped from our sample primarily because of missing data. The group "Other Small Countries" includes the 154 remaining countries in the world, the vast majority of these countries are missing the data necessary to be included in our sample. Our calculations excludes investment flows classified by CPIS as Other Countries (Confidential Data), Other Countries(Unallocated),InternationalOrganizations,andCaymanIslands.

Figure2 ChangesinWorldwideForeignInvestment2003to2007
PanelAChangesinWorldwideForeignEquityInvestment

PanelBChangesinWorldwideForeignDebtInvestment

This Figure reports the changes in total annual foreign investment flows between 2003 and 2007. Panel A (B) reports the foreign Equity (Debt) additional investement attracted by each country group. The data are the bilateral investment data from the Coordinated Portfolio Investment Survey (CPIS). Country groupings are based on the country groups presented in the paper as detailed in Table 1, where the number in parentheses after the country group represents the total number of countries in the group. Specifically, "EU Adopting Countries" includes the 13 European Union countries in our sample countries that adopted IFRS in 2005. "Control Countries" includes the 12 control countries used in our sample. "Other Adopting Countries" includes the 4 nonEuropean Union adopting countries in our sample. The group "Dropped From Sample" includes the 9 countries that were dropped from our sample primarily because of missing data. The group "Other Small Countries" includes the 154 remaining countries in the world, the vast majority of these countries are missing the data necessary to be included in our sample. Our calculations excludes investment flows classified by CPIS as Other Countries (Confidential Data), Other Countries (Unallocated), InternationalOrganizations,andCaymanIslands.