Value Relevance of Operating Income Self-Reported by Managers under
IFRS in Korea
Soo Young Kwon*
Korea University
Jinsuk Heo
Korea University
Yusun Hwang
Korea University
*Corresponding author
sykwon@korea.ac.kr
February 2014
Value Relevance of Operating Income Self-Reported by Managers under
IFRS in Korea
Abstract
This study examines whether the operating income self-reported by managers (adjusted
operating income) in the adoption IFRS in 2011 is more value relevant than the operating
income prepared under Korean GAAP. We also test whether adjusted operating income has
the explanatory power greater than K-GAAP operating income. We document that adjusted
operating income has incremental and relative information content over K-GAAP operating
income. In addition, it appears that the market differentially reacts to the adjusted items
depending on how they are related to operating activities. In 2012, when firms were required
to present K-GAAP operating income in the income statement and permitted to disclose
adjusted operating income on the footnote, the frequency of adjusted operating income
disclosures sharply dropped and the adjusted operating income lost value relevance and
explanatory power. Our evidence is important because it indicates that operating income
reported by managers contain value relevant information beyond that provided by operating
income prepared under K-GAAP obtained by sophisticated users from firms’ financial
statements.
2
1. INTRODUCTION
This paper examines the value relevance of operating income reported by managers in
Korea. Firms were allowed to determine by themselves whether to present operating income
and, if so, how to derive operating income in the full adoption of International Financial
Reporting Standards (IFRS) in 2011. This is different from Korean GAAP (K-GAAP) which
requires firms to present operating income in the income statement and lists up which items
to be included to obtain operating income. No disclosure requirement of operating income
and no guidelines in deriving operating income measures has generated considerable debate.
A majority of market participants expressed their concern that operating income was not
required to present in the income statement under IFRS (Lee et al., 2012). Critics argue that
companies have considerable latitude in how to calculate operating income, as there is no
authoritative guidance, even if they voluntarily disclose operating income. The concern is that
self-serving managers have the discretion to exercise in choosing items to be excluded or
included in the operating earnings they report (Turner, 2000). Critics voice that the operating
income adjusted by managers may be neither consistent to the operating income under KGAAP nor comparable across firms (Kim and Cheon, 2012). Thus, lack of exact definition of
operating income may mislead investors.
On the other hand, advocates argue that no presentation requirement of operating income
and allowance of discretion to managers in deriving operating income measures can reduce
information asymmetry and help investors better understand a firm’s operating results. This is
because managers can exploit firms-specific knowledge in determining which items to
be included or excluded to derive operating income. In fact, the rationale of IASB is that
the nature of ‘operating’ varies across firms and industries so that it is not meaningful to
uniformly define operating income and to require operating income to be disclosed (Staff
draft jointly prepared by the IASB and the FASB, 2010).1 One alleged benefit of detailed
1
This staff draft was prepared by the staff of the IASB and the FASB for the boards' joint project to develop a
standard on financial statement presentation. The draft takes the management approach, reflecting the tentative
decisions made by the boards concluding with their joint meeting in April 2010. However, work on the project
was suspended with no definite future schedule and is expected to be delayed due to other urgent agendas.
1
implementation guidance is increased comparability by reducing the effects of differences in
professional judgment. But to the extent that the guidance is inappropriately strict, the result
will be surface comparability¸ and dissimilar arrangements will be forced into the same
accounting treatment (Schipper 2003, p.7).
In response to the general concern by market participants, the Korea Accounting
Standard Board (KASB)2 revised K-IFRS 10013, titled ‘Presentation of financial statements,’
on November 2009, requiring firms to disclose operating income in the comprehensive
income statement and primary items and amounts to derive operating income on the footnote
if operating income derived differs from operating income under K-GAAP. In spite of the
requirement of disclosing operating income, some critics pointed out that no detail of how to
calculate operating income allows managers to have so much discretion.
The newspaper article released (Korea Economic Daily Newspaper, March 28, 2012)
alleged that financially distressed KOSDAQ firms shifted non-operating revenues above the
operating income line and non-operating expenses below the operating income line in order
to avoid being classified as supervised shares. This article triggered the criticisms from
various parities including regulators, analysts and investor groups. In response to these
criticisms, Korea Accounting Standards Board (KASB) revised the K-IFRS again in October
2012 by requiring firms to calculate operating income based on K-GAAP and present it in the
comprehensive income statement rather than disclose on the footnotes. KASB allowed firms
to disclose adjusted operating income on the footnote if they have operating-related items
excluded from K-GAAP in deriving operating income.
2
The Korea Accounting Institute (KAI) was established as an independent private organization on 1 September
1999, with the mission to set accounting standards that ensure consistency and objectivity for external audits of
corporations. Since July 2000, KAI has carried out the duty of setting and interpreting the accounting standards
as well as providing technical inquiry service in accordance with the Act on External Audit of Corporations.
Analogous to the standard-setters such as FASB and IASB, the Korea Accounting Standards Board (KASB)
which consists of representatives from users, preparers, auditors, and academics was also established under KAI
for the purpose of deliberation and decision making regarding accounting standards and related matters.
K-IFRS 1001 is the standard corresponding to IAS 1 (Presentation of financial statements). The prefix ‘K-’ is
added to IFRS to maintain the consistency with the structure of legal system in Korea. The KASB modified the
form of the standard to a limited extent, but the content of the standard did not change. The KASB included
additional paragraphs such as K-IFRS 2.1, 139.1, 139.2 to specify which firms and when were required to adopt
IFRS and 138.2~4 to ensure that firms disclose operating income in the comprehensive income statement.
3
2
KASB’s revision on the presentation of operating income in the comprehensive
income and voluntary disclosure of adjusted operating income on the footnote is
based on the assumption that operating income calculated under K-GAAP (hereafter
K-GAAP operating income) provides more useful information to financial statement
users than operating income self-reported by managers (hereafter adjusted
operating income). To assess this presumption, we employ the Ohlson model to
examine the value relevance of two operating income measures- K-GAAP operating
income and adjusted operating income. We examine whether adjusted operating
income has incremental information content over and above K-GAAP operating
income by testing the significance of coefficient on the difference between two
operating measures. We also investigate whether adjusted operating income has
greater information content than K-GAAP operating income by testing the significant
difference in explanatory power between two operating measures.
We show that the adjusted component of operating income by managers under IFRS in
2011 is value relevant, providing the incremental information content over and above KGAAP operating income. In addition, the explanatory power of adjusted operating income is
greater than that of K-GAAP operating income, implying that the relative information content
of adjusted operating income is greater than that of K-GAAP operating income. In addition,
the items adjusted due to gains and losses from disposals or valuations except gains and
losses from exchange translation did not have value relevance. In contrast, gains and losses
which appear to recur during the normal course of operations improved value relevance of
earnings. It appears that the market differentially reacts to the adjusted items depending on
how they are related to operating activities.
In 2012, firms were required to present K-GAAP operating income in the comprehensive
income statement and were allowed to disclose the adjusted operating income on the footnote.
Consistent with the prediction, only 330 companies (24%) voluntarily disclosed adjusted
operating income on the footnote to the financial statements. In addition, adjusted operating
income disclosed on the footnote had neither value relevance nor explanatory power greater
3
than K-GAAP operating income presented in the income statement. It seems that the
incremental and relative information content of operating income is determined by whether it
is presented in the income statement or disclosed on the footnote.
We also conduct additional analyses to examine whether value relevance of operating
income in 2011 varies with firm characteristics such as ROA, firm size, listing in Korea
Stock Exchange (KSE), and the magnitude of discretionary accruals. The results show that
the adjusted component of operating income remains value relevant regardless of whether
firms are unprofitable, small, listed on KOSDAQ or have large amounts of discretionary
accruals. Contrary to the concern by the investment community, the adjustments made by
managers in determining which items to be included and excluded from calculation of
operating income were not driven by the motivation that poorly performing, small, and/or
relatively unregulated firms with large amounts of discretionary accruals would inflate their
operating income to draw a better picture of their performance. No incremental value
relevance of adjusted operating income for the group with extreme adjustments and change in
operating income from negative to positive due to the adjustments indicate that the market
see through managers’ opportunistic behavior only observed for the extreme outlier groups.
This paper attempts to make five contributions to the literature. First, this study adds to
the value relevance literature of earnings prepared under local GAAP vs. IFRS. It provides
the empirical evidence that managers provide the more value-relevant operating income than
K-GAAP operating income by exercising their discretions and making adjustments which
outside investors may not be able to figure out.
Second, this study sheds light on the value relevance literature of non-GAAP earnings.
The setting of this study is unique in that we examine value relevance of GAAP earnings
under IFRS which were previously non-GAAP earnings before Korea fully adopted IFRS in
2011. In prior studies, non-GAAP earnings are voluntarily disclosed in nature on the
footnotes to the financial statements. In contrast, in this setting, previously non-GAAP
earnings became GAAP earnings presented in the income statement.
4
Third, this paper allows us to assess the benefit of the principles-based approach4 over
the rules-based approach in presentation of operating income. It identifies a case where a set
of key objectives and guidelines rather than detailed rules for financial reporting purposes
may be still effective in a variety of situations/industries. Principle-based IFRS takes the
management approach that investors view through the eyes of managers for financial
reporting purpose by allowing managers to determine how to calculate operating income. The
question is whether the management approach with no guidance on operating income enables
managers to reflect firm-specific knowledge in determining operating income, eventually
improving value relevance of earnings.
Fourth, this study provides another dimension in the classification shifting5 literature
where the downward (upward) movement of non-operating revenues (operating expenses)
does not change bottom-line earnings, but overstates operating income. This paper examines
value relevance of operating income when classification shifting is officially accepted under
IFRS whereas prior studies examined when classification shifting is viewed as discretionary
and potentially misleading.
Fifth, this study provides policy implications to regulators. Regulators and standardsetters initially allowed managers to present operating income in the income statement based
on their judgment with no guidance. But, they eliminated the option by requiring managers to
comply with K-GAAP guidelines to calculate operating income due to the news media article
along with financial statement users’ criticism. The results of this study that adjusted
operating income improved both incremental and relative value relevance of operating
income suggests that market participants lost the opportunity to share firm-specific inside
information possessed by managers that could have been revealed via operating income
disclosures in the income statement.
4
In principles-based accounting, the guidelines are set but not necessarily dictated for every situation, thus calls
for professional judgment and detailed knowledge by preparers, auditors and financial statement users. The
major benefit of principles-based accounting is that the guidelines can be applied in a variety of situations/
industries.
5
The research in the classification shifting literature lends credence to the idea that the placement and
presentation of expenses within the income statement is a valid earnings management tool for managers.
5
The remainder of this paper is organized as follows. We discuss prior literature and
develop our hypotheses in section 2. We present our research design, including the sample
characteristics, in section 3, and report empirical results in section 4. We conduct additional
tests for sensitivity analyses in section 5, and offer some concluding remarks in section 6.
2. BACKGROUND
2.1 Operating Income Definition under IFRS
IFRS defines operating activities as the principal revenue-producing activities of the
entity and other activities that are not investing and financing activities (Paragraph 6, IAS 7
Statement of Cash Flows). However, it provides no definition of operating income anywhere
and does not require firms to disclose operating income. On the other hand, SFAC No. 6 in
the US defines operating income as revenues minus expenses from main-line of business, that
is, all line items before interest revenue and interest expense. It is directly related to the
primary revenue-generating activities of the company. It describes non-operating income as
income and costs resulting from events or transactions that are related to peripheral or
incidental activities and are not expected to occur frequently or regularly (e.g., asset
expropriation, or earthquakes and other natural catastrophes).
The controversy over operating income is how to view certain activities as ‘principal’ or
‘primary’ activities. The most commonly used approach consists of excluding unusual items,
as this is understood under IAS 8, from recurrent profit. While in theory this reflects
operating performances that are more standard and useful for the analyst, non-operating
income in practice is often denatured by the inclusion of recurrent items. Similarly, net
financial income sometimes contains items that should more accurately be written down
under operations. Under SFAC No.6, operating income is the subtraction of cost of goods
sold, selling and general administrative expenses, R&D expense from sales with some items
adjusted such as restructuring costs, asset impairment costs, and in-process R&D.
These items appear to be non-operating, but were classified as operating from annual
6
reports recently published by European groups. For example, the yearly disposal of a
comparable amount of assets makes the management of a company's assets an extension of
its business and it is no longer to be considered unusual. The results of these disposals,
recurrent capital gains and losses, should thus show up under net operating income. The
impact of currencies on normal operations is the impact of fluctuating exchange rates on the
value of operating assets and liabilities resulting from the company's transactions. This occurs
when currencies have not been hedged or have been imperfectly hedged. As the impact is
directly linked to the company's daily operations, it should be reflected under its operating
performance. Another example is restructuring costs which occur every year. While these can
be considered unusual at the level of a smaller company or division, they are not unusual for
major groups, which, given the diversity of their businesses, restructure somewhere or
another every year, in which case firms can book them under operations.
Thus, whether particular items are related to activities in the course of ordinary business
or outside of the core operating activities varies by firms and/or transactions. The spirit of
principle-based IFRS is that firms are in the best position in determining whether particular
revenues and expenses are classified as core business operations, and therefore it would be
more informative to allow firms to derive operating income after consideration of their firmspecific operating circumstances. On the other hand, managers may exercise their discretion
to manage operating income and the incentive may be stronger when they poorly perform.
They may shift non-core gains into (or core losses out of) its operating income reporting, in
order to show better than actual core business performance.
2.2 Disclosure Requirements of Operating Income under IFRS
Korea was classified as a code-law country since firms are used to comply with details of
guidelines and rules specified in the accounting standards. In March 2007, Korea announced
its roadmap in order to fully adopt International Financial Reporting Standards (IFRS).
Accordingly, starting 2011 fiscal year, all companies publicly traded on Korean Stock
Exchange (KSE) and KOSDAQ were required to prepare for financial statements in
7
accordance with IFRS. Different from the rule-based K-GAAP which specified accounting
treatments and procedures for individual issues, principle-based IFRS provide fundamental
principles and guidelines in order for accountants to reasonably apply accounting treatment
for transactions based on economic substance and allow them to exercise their autonomous
judgments. This principles-based IFRS specify minimum accounts that should be presented in
the financial statements, but do not proscribe the format of financial statements in detail. KIFRS does not even require firms to report operating income separately from non-operating
income. Accordingly, after the adoption of IFRS, presentation of financial statements and
display hierarchy of accounts vary from firm to firm. In particular, firms had a lot of
discretion to change the items to be included to calculate operating income and non-operating
income.
On the other hand, K-GAAP provides specific rules to obtain operating income in the
income statement, that is, to subtract cost of goods sold (CGS) and selling and administrative
(S&A) expenses from sales revenue. It also specifies which components should be included
as revenues, CGS and S&A expenses. Thus, all companies had the same components of
operating income so that there was no concern about comparability and usefulness of
operating income. Thus, there was concern about the discretion that managers may exercise
in choosing items to be excluded or included in the operating income under IFRS since
operating income has increased in importance in recent years with its important role in
valuation. Moreover too much diversity in presentation may also create a perception of
differences where they do not actually exist, and contribute to inefficient pricing of equity by
the capital markets.
To resolve these issues, the KASB added the requirement that firms should present
operating income calculated based on their judgments which they view best way to reflect
operating activities (i.e., adjusted operating income), and disclose any major items and
amounts on the footnotes to the financial statements if adjusted operating income differs from
operating income under K-GAAP. This additional requirement under K-IFRS requires
operating income to be disclosed, but still does not provide detailed guidelines on how
8
operating income are calculated and which components should be included or not. Thus, all
the companies calculated operating income based on judgments by managers and corporate
accountants. Since individual items may or may occur from operating activities, operating
income which firms calculated in their own ways may better reflect firm-specific operating
performance.
However, as a result, composition of items included to calculate operating income varies
across firms, impairing comparability of earnings. Furthermore, a newspaper article6 printed
alleged that financially distressed KOSDAQ firms’ incentives to manage operating income
numbers by shifting non-operating revenues above the operating income line and nonoperating expenses below the operating income line in order to avoid being classified as
supervised shares, questioning the usefulness of operating income. This article triggered the
criticisms from various parities including regulators, analysts and investor groups. In
response to these criticisms, KASB revised the K-IFRS again in October 2012 by requiring
firms to calculate operating income based on K-GAAP and present it in the comprehensive
income statement rather than disclose on the footnotes.
2.3 Literature Review
The study on the disclosure and presentation of operating income under IFRS is
intertwined with three lines of research such as classification shifting, usefulness of IFRS
earnings, and usefulness of non-GAAP earnings. We briefly discuss each line of research
with discussion on how we extend our study based on the results of prior research.
2.3.1 Classification Shifting
One area of research related to our study is classification shifting which deals with the
potential misclassification of items within the income statement as one potential earnings
management tool. Classification shifting does not change net income and bears a relatively
low cost: there is no accrual that later reverses, nor are there lost revenues from forgone
Korea Economic Daily Newspaper, ‘Include income-increasing items in calculation of operating income to
make it a positive profit,’ March 28, 2012.
6
9
opportunities. However, it matters to the extent that investors appear to recognize this
distinction and weigh individual line items within the income statement differently (Lipe
1986; Elliott and Hanna 1996; Francis et al. 1996; Davis 2002; Bradshaw and Sloan 2002). In
general, the closer a line item is to sales, the more permanent this item tends to be (Lipe 1986;
Fairfield et al. 1996). Thus, it is critical to group items with similar characteristics to facilitate
financial statement analysis (FASB Accounting Concept No. 5).
Prior research supports the viability of classification shifting in presenting the income
statement in order to influence perceptions of performance without actually misclassifying
expenses. That is, managers use their subjectivity over the classification of borderline
expenses to present smoother ordinary earnings (Barnea et al., 1976); they tend to break out
income-decreasing special items on the face of the income statement, wishing to highlight the
transitory nature of expenses (Kinney and Trezevant, 1997; Weiss 2001). McVay (2006)
documents that managers are likely to shift special items in order to increase unexpected core
earnings when performance is unexpectedly low. Furthermore, she finds this shifting to be
more pervasive when it allows the manager to meet the analyst forecast, as special items tend
to be excluded from this earnings benchmark.
All these studies assume that managers exercise classification shifting to make draw a
better picture of operating performance rather than reveal the true economic performance.
Furthermore, they examine in the setting where classification shifting is secretly performed
given that asymmetry exists between managers and investors. In contrast, this study deals
with the setting where IFRS encouraged managers to reflect their firm-specific information in
determining operating income. Thus, given this new disclosure environment, it is an
empirical question whether managers may be more likely to reveal a clearer picture of
operating performance rather than mislead information for investors.
2.3.2 Value Relevance of IFRS-based Earnings
The controversy over whether to disclose operating income, and if so, how to
10
determine and present operating income is an issue of the usefulness of operating
income under two different accounting systems- domestic GAAP vs. IFRS. We can
assess the usefulness of operating income by examining whether operating income
reported by managers contain value relevant information beyond that provided by KGAAP operating earnings obtained from the guidelines specified in the accounting
standard.
Several findings (some conflicting) have emerged in the value relevance studies of
IFRS-based earnings compared to domestic earnings. Domestic earnings in Finland have
significant value relevance to investors, while IFRS earnings do not (Niskanen et al., 2000);
differences between US GAAP and IFRS produce no significant difference in
information quality between the two systems (Leuz, 2003); US GAAP earnings are
more efficient in predicting future firm performance than IFRS earnings (Meulen et al.,
2007); and domestic earnings, in contrast to IFRS, are more value-relevant in the Chinese
stock market.
In contrast, there are studies in favor of the usefulness of IFRS-based earnings.
Differences between Spanish GAAP and IFRS were found to be significant for
Spanish firms (Callao et al., 2007); the value relevance of US GAAP- and IFRS-based
earnings is higher than that of German GAAP-based earnings (Bartov et al., 2005);
significant negative abnormal returns are observed for UK firms reporting negative earnings
reconciliation (Horton and Serafein, 2010); and the information content of earnings is
greater in countries that were required to adopt IFRS relative to countries that use
their own domestic accounting standards (Landsman, Maydew and Thornock, 2012).
Overall, the relative information properties contained in IFRS earnings disclosure
from a price-based perspective remains unresolved. It may be too early to evaluate the
effect of IFRS on earnings quality or value relevance. It appears that it is not easy to detect
discernible gain in terms of the usefulness of financial reporting in the short-term, improved
usefulness may be achieved in the medium to long-term. This study is different from prior
11
value relevance studies of IFRS-based earnings compared to domestic earnings since we
focus on IFRS-based operating income, not net income, the bottom-line number.
To our knowledge, there are no studies on the value relevance of operating income
except Brown and Sivakumar (2003). They examine that operating earnings reported by
managers and analysts, street earnings measured by Thompson Financial I/B/E/S data, are
more value relevant than a measure of earnings derived from firms’ financial statements,
measured by Standard & Poor’s data. They document the evidence that operating earnings
reported by managers and analysts contain value relevant information beyond that provided
by operating earnings obtained from financial statements. This result illustrates that managers
with informational advantage may be in a better position to provide more value-relevant
information of operating income. In this study, we extend their study by examining the value
relevance of operating income reported by managers and presented in the comprehensive
income statement.
2.3.3 Value Relevance of Non-GAAP Earnings
This study is also related to the value relevance research of non-GAAP earnings since
operating income reported by managers were previously non-GAAP earnings. There are two
different perspectives with conflicting results.
Critics contend that companies have considerable large latitude in how to calculate nonGAAP earnings. Companies use non-GAAP earnings primarily to focus investor attention on
earnings numbers that exclude relevant expenses (Burns 2001a; Henry 2001); the non-GAAP
reporting in the firm’s current period is not comparable and consistent to its non-GAAP
reporting in prior years (Jaffe, 2002); and some firms use non-GAAP reporting to obscure the
negative earnings surprise (Sender, 2002). In addition, non-GAAP earnings figure was
disclosed in Enron (Lougee and Marquardt, 2004); and firms tend to emphasize on nonGAAP reporting when having GAAP losses (Bowen et al., 2004).
On the other hand, advocates argue that the use of non-GAAP earnings reporting reduce
12
information asymmetry and help investors better understand a firm’s financial results,
because the non-GAAP disclosures remove the effects of non-recurring items. Reported nonGAAP earnings are more informative than GAAP earnings (Bhattacharya et al., 2003); and
analyst tracking services from other empirical studies also find the non-GAAP earnings
measures are more closely associated with the stock price and more predictive of future
earnings (Bradshaw and Sloan 2002; Brown and Sivakumar 2003). In addition, non-GAAP
disclosures providing investors with a higher quality measure of the firm’s performance than
just presenting GAAP earnings (Entwistle et al., 2010).
Evidence from prior studies in the consequence of non-GAAP reporting is mixed. We
expect that the usefulness of operating income reported by managers under IFRS may exhibit
two conflicting predictions. However, our setting has a stronger power of test if there is any
positive effect of non-GAAP earnings. This is because operating income reported are GAAP
earning required by the standard which was previously non-GAAP earnings while nonGAAP reporting in prior studies is a form of voluntary disclosure over the regulated
disclosures.
2.4 Hypotheses Development
2.4.1 Incremental and Relative Value Relevance of Operating Income Reported by Managers
in the Income Statement
Previously, firms were required to calculate operating income by subtracting cost of
goods sold and selling and administrative expense from revenues under K-GAAP. Under
IFRS, managers were allowed to determine which items to be included and excluded to
calculate operating income. Thus, those who wish to maximize reported performance might
shift non-operating revenues up (or expenses down) the income statement to present a picture
that is not consistent with economic reality. Thus, critics argue that financial information can
be inconsistent from one company to the next in the same industry damaging the ability for
comparability since managers may opportunistically shift items from non-operating revenues
13
to operating items. Analysts caution investors to the potential dangers of self-reported
operating income by managers under IFRS. Given that operating income is extensively used
among investment communities, this can mislead investors about the performance and proper
valuation of a company. Even in the absence of classification shifting, principles-based
standards could lead to situations in which professional judgments, made in good faith, result
in different interpretations for similar transactions and events, raising concerns about
comparability.
On the other hand, the principles-based perspective is to enable managers to
exploit firms-specific knowledge in determining which items to be included or
excluded to derive operating income.
There are no same treatments about gains and losses from foreign currency
translation across firms. GS Construction Co. included these gains and losses as
part of operating income. On the other hand, Samsung Trading Co. classified them
as two types- operating activities and financing activities. The company included
gains and losses from foreign currency translation only if they occurred from
operating activities. (Maekyung Economic Daily Newspaper, May 4, 2011)
This gives managers the freedom to adapt accounting principles to their
particular situation so that reported operating income based on their judgment may
better reflect firm-specific operating performance. Managers are in a better position to
know which items are operational in nature, which benefit investors. Operating income
disclosure by managers would provide additional useful information to investors. In the nonGAAP disclosure literature, non-GAAP reporting is viewed as helping investors better
understand a firm’s financial position, because companies may exclude certain expense items
that management believes are insignificant to their current operations (Bhattacharya et
al.2003; Johnson et al. 2005; Lougee and Marquardt 2004). This study is more likely to find
the positive effect of self-reported operating income, if any, because managers’ reporting in
our setting is presented in the income statement compared to non-GAAP reporting disclosed
on the footnote.
Together, it is an empirical question of whether operating income self-reported by
14
managers may be more value relevant than those calculated under K-GAAP. No evidence yet
exists regarding the comparative value relevance of operating earnings provided by managers
with K-GAAP operating income. We provide the empirical evidence in this paper. Given two
conflicting views on the usefulness of adjusted operating income over K-GAAP operating
income, we state the test hypothesis in the null form:
H1: Adjusted operating income reported by managers and presented in the income
statement in 2011 has no incremental information content over and above KGAAP operating income.
H2: Adjusted operating income reported by managers and presented in the income
statement in 2011 does not have greater information content than K-GAAP
operating income.
The first hypothesis tests the incremental information content of adjusted operating
income over and above K-GAAP operating income. The second hypothesis examines the
relative information content of adjusted operating income to that of K-GAAP operating
income. Firms were required to disclose which items were included or excluded to derive
operating income on the footnote if adjusted operating income differs from K-GAAP
operating income. Thus, we extend our hypotheses to individual adjusted items to examine
whether these items are incremental value relevance.
As discussed in section 2.2, in 2012, the KASB decided to require firms to present KGAAP operating income in the income statement and allowed them to voluntarily disclose
adjusted operating income on the footnote if they view K-GAAP operating income as a noisy
indicator of operating performance. This provides a setting where firms have an option to
disclose adjusted operating income previously presented in the income statement in 2011 on
the footnote to the financial statements in 2012. The change in disclosure requirement of
operating incomes would affect managers’ disclosure incentives in the following two ways.
First, managers have fewer incentives to disclose adjusted operating income to the extent that
the item disclosed on the footnote receives less attention from investors. Thus, managers are
less likely to supplement adjusted operating income in 2012, reducing the amount of
operating income information, so that investors lose the opportunity to see operating income
15
through the eyes of management. Second, there is a large body of research on the information
content of footnote disclosure as investors weigh less. Taken together, the frequency of
disclosures of adjusted operating income on the footnote would substantially decline, and
adjusted operating income may lose incremental value relevance.
H3: Adjusted operating income reported by managers disclosed on the footnote to
the financial statements in 2012 has no incremental information content over
and above K-GAAP operating income.
H4: Adjusted operating income reported by managers disclosed on the footnote to
the financial statements in 2012 does not have greater information content than
K-GAAP operating income.
III. MODEL SPECIFICATION AND SAMPLE
3.1 Measurement of Earnings Quality
We compare the valuation consequences of our two operating income measures by using
a book value and earnings regression (Collins et al., 1997) to determine which operating
income coefficient has the higher multiplier (Collins et al., 1997) and which regression has
the higher adjusted R-square (Biddle et al., 1997). We modify the standard valuation model,
which uses ‘‘bottom line’’ earnings, because of our focus on operating income. We
decompose net income into two components and estimate the following regression model:
Pit  0  1BVi ,t   2OIit
ADJ
Pit  0  1BVi ,t  2OIit
K  GAAP
  4 NOIit   it
 3 ADJit  4 NOIit   it
(1)
(2)
We omit the notations i and t for brevity. P is market value per share defined as the
closing share price three months after the fiscal year end; BV is common equity per share at
year end; OIK-GAAP equals operating income based on the detailed classification of K-GAAP
divided by the number of shares outstanding; ADJ is the difference between operating income
16
reported by managers (OIADJ) and K-GAAP operating income (OIK-GAAP); and NOI is the nonoperating income per share number.
We compare coefficient estimates on the ADJ variable and use a t-test to determine
whether one operating income measure has a larger coefficient in the valuation equation. We
also compare the R-square using OIADJ in equation (1) with the R-square alternatively
replacing by OIK-GAAP, and consider the operating income measure with higher explanatory
power to be the more value relevant one. We use a Vuong test to determine whether one
valuation equation has a significantly larger adjusted-R-square.
3.2 Sample Selection
We start with all firms listed on the Korean Stock Exchange (KSE) and Korea Securities
Dealers Automated Quotations (KOSDAQ) from 2007 to 2012. The sample period consists
of pre-IFRS era (2007~2010) and post-IFRS (2011~2012) era. We use the pre-period as a
benchmark and primarily focus on the post-period. We identify those included in KIS value
database 7 , a database developed by Korea Investors Service, Inc. (KIS). Firms providing
financial services (commercial banking, investment brokerage, and insurance) are excluded
from the sample. Thus, the sample includes publicly traded nonfinancial firms whose
financial data were available. The non-December year-end firms were excluded because their
audit hours and audit fees differ systematically from those of December year-end firms.8 We
also excluded IFRS early-adopters, delisted firms, and firms which operate in industries with
the number of firms less than 10.
[Table 1 about here]
10
KIS is a professional credit rating agency in Korea. The KIS value database which includes financial
statement information is provided by Korea Investors Service Inc., which is affiliated with Moody’s.
8
The non-December year-ends were composed primarily of companies in the financial and insurance industry,
which were also excluded, and many were associated with overseas parents, which were commonly exempt
from the requirement to rotate an audit firm appointed to the corporate group.
17
Table 1 presents the distribution of sample by year and industry. Panel A shows that the
number of firms slightly increases over years except 2010. It also exhibits that the total
number of observations for firms listed on KSE is 3,011, roughly two thirds of the number
listed on KOSDAQ. Panel B shows that the industry with the largest observations is
Manufacturing (71.42%) and the industry with the second largest is Telecommunication
Information Service (10.43%). The industry clustering in Manufacturing is due to the broad
categorization in manufacturing operations, which can be further classified into finer
manufacturing industries.
IV. EMPIRICAL RESULTS
4.1 Descriptive Statistics
Table 2 exhibits the difference between adjusted operating income and K-GAAP
oprating income in the post-IFRS period. In 2011, note that the frequency (percentage) of
firms with adjusted operating income greater than K-GAAP operating income is 682
(53.20%), which is higher than 470 (36.66%), the frequency of firms with adjusted operating
income less than K-GAAP operating income. On average, firms tend to report adjusted
operating income greater than K-GAAP operating income, but about 37% of firms reported
operating income which would have been larger if it is calculated based on K-GAAP. Given
that adjusted operating income can be greater or less than K-GAAP measure by equal chance,
it appears that only a subset of firms were motivated to boost operating income when they
allowed to determine how to calculate operating income.
In 2011, one hundred thirty firms (10.14%) reported no difference between adjusted
operating income and K-GAAP operating income. But, the frequency skyrocketed in 2012
with 1,045 firms (76%). It seems that this phenomena is due to the change in the disclosure
reuqirement from mandatorily presenting adjusted operating income in the income statement
to voluntarily disclosing adjsted operating income on the footnote. It is interesting to observe
the frequency of firms with adjusted operating income greater than K-GAAP is slightly lower
18
than that with adjusted operating income less than K-GAAP. It appears that presenting in the
primary financial statements or reporting on the footnote make a difference in firms’
disclosure policy.
[Table 2 about here]
Table 3 exhibits the frequency, the average of adjusted amount, and the average of ratio
of adjusted operating income to K-GAAP operating income of specific accounts which make
a difference between adjusted operating income and K-GAAP operating income. There are
368 accounts which consist of the adjusted operating income different from K-GAAP
operating income. It is hard to recognize whether each adjusted account is recurring or nonrecurring item just based on its title of account. We note that the accounts of cash flows from
investing or financing activities are more likely to be non-recurring and are related to gains
and losses from valuation and disposal of assets. So we categorize these accounts into two
types- gains and losses from valuation and/or disposals of assets and those not related to
valuation and disposals. The first category includes gains and losses from fair market value
changes in tangible, intangible assets, and financial/derivative assets, from exchange rate
changes in foreign currency-denominated assets. The second category is related to dividend
revenues, donations, commissions, and other gains and losses.
[Table 3 about here]
The results show the frequencies of gains and losses from valuation of tangible and
intangible assets, gains and losses from foreign currency transactions from the first category,
and donation revenue and petty revenues and expenses from the second category. Note that
the number of observations and the amount of adjustments substantially drop in 2012. The
percentage of frequency exhibit similar patterns, but the percentage of adjustment amounts
relative to K-GAAP operating income sharply declines in 2012. The ratio of adjusted
amounts to K-GAAP operating income for the first category (i.e., gains and losses from
19
valuation and disposal of assets) is negative, on average. This is contrary to the general
concern that managers might attempt to increase operating income by excluding operating
expenses and including non-operating revenues in deriving operating income. In 2012, the
average percentage of adjusted amounts is less than 10%, indicating that firms have less
incentives to disclose adjusted operating income and less likely to make adjustments as
disclosure of adjusted operating income changed from mandatory presentation in the income
statement to voluntary presentation on the footnote to the financial statements.
[Table 4 about here]
Table 4 reports summary statistics for variables used in empirical analyses . In 2011, the
mean and median values of OIADJ are 2,951 Korean Won (KRW) and 978 KRW, respectively,
which are greater than those of OIK-GAAP 1,008 KRW and 363 KRW. Similar differences
between OIADJ and OIK-GAAP are also observed in 2012. However, the ADJ, the difference
between OIADJ and OIK-GAAP, has a negative mean, but a positive median. In addition, the
standard deviation ADJ is 1,324, which indicates the large variation in the magnitude of
adjusted operating income across firms. It appears that adjusted operating income is smaller
than K-GAAP operating income, on average, but the positive small median implies that the
positive mean was driven by a subset of firms.
4.2 Univariate Analyses
Table 5 presents the correlation matrix among variables in the value relevance model. In
2011, the correlation coefficient of equity price with adjusted operating income (OIADJ) is
0.6527, which is smaller than 0.7552, that with K-GAAP operating income (OIK-GAAP). This is
due to the fact that ADJ was not included from OIADJ. But, the correlation coefficient of
equity price with the adjusted amount (ADJ) is positive and significant, suggesting that it has
value relevance. In 2012, the correlation coefficient with OIK-GAAP and ADJ are significantly
20
low, indicating that both K-GAAP operating income and adjusted operating income disclosed
on the footnote are less value relevant.
[Table 5 about here]
Table 6 presents univariate analyses of financial characteristics for firms with OIADJ
different from OIK-GAAP and firms with OIADJ equal to OIK-GAAP. Firms with OIADJ different
from OIK-GAAP tend to be larger than firms with OIADJ equal to OIK-GAAP. Other than this, the
two groups are not different in terms of profitability, debt ratio, and cash-generating ability
from operating activities. In 2012, there are no discernible differences between two groups.
[Table 6 about here]
4.3 Results of Value Relevance of Adjusted Operating Income under IFRS
Table 7 presents valuation results, showing regression slopes (betas) and adjusted Rsquares of the valuation equations. Panel A shows that the coefficient of operating income
reported for the pre-IFRS period, 2011 and 2012 are all positive and significant. OIdisclosure
stands for operating income disclosed in the income statement. Note that operating income
was measured by adjusted operating income prepared by managers in 2011, while it was by
K-GAAP in both pre-IFRS period and 2012. Cramer’s z statistics9 are close to 0, indicating
that the explanatory power of operating income measures across sub-periods are not
significantly different.10
Panel B exhibits the results of value relevance models with OIK-GAAP and ADJ by three
sub-periods. The coefficient estimates for OIK-GAAP and ADJ are 4.764 and 4.742, respectively,
9
We calculate z-statistic, the difference in explanatory power, based on Cramer (1987) as follows:
z
R12  R22
 2 ( R12 )   2 ( R22 )
where  = the standard deviation of each individual regression model.
Vuong’s test is designed to compare R2s of two models with the same dependent variable but different
independent variables, and thus is not applicable to value relevance studies using the same independent
variables. So we get the mean and variance of R2s. And then conduct a z-test to compare the means of two R2s
(Cramer’s z statistics). As a result, we conduct a Cramer’s z-test when we compare the different period using
same independent variables and Vuong’s z-tests when we compare the same period using different independent
variables.
10
21
both positive and significant the 1% level. This suggests that adjusted operating income has
the incremental information content to K-GAAP operating income. Furthermore, the
coefficient of ADJ is not significantly different from that of OIK-GAAP. It appears that
operating earnings reported by managers contain value relevant information beyond that
provided by operating earnings obtained by financial statements prepared under K-GAAP.
Consistent with prior studies, the coefficient of non-operating income, which has lower
earnings persistence, has smaller coefficients.
[Table 7 about here]
To test the relative information content, we run separate regressions for OIK-GAAP and
OIADJ, respectively, and conduct statistical tests to see the difference in explanatory power of
each operating measure on equity value. Based on Vuong tests, OIADJ is significantly more
value relevant than OIK-GAAP in 2011 (Vuong’s Z value = 2.96). This indicates that adjusted
operating earnings reported by managers provide greater information content than K-GAAP
operating income. In contrast, OIADJ is significantly less value relevant than OIK-GAAP in 2012
(Vuong’s Z value = 3.11). It seems that the change in requirement of operating income
disclosure from income statement to footnote reduced managers’ incentives to disclose and
convey the signal of true operating performance even if they decided to disclose on the
footnote.
[Table 8 about here]
Financial statements users voiced their concerns about managers’ incentives to inflate
operating income when they have the discretion to select which items to be included as part
of operating income. To test this presumption, we present the results by whether ADJ is
positive or not. Panel A shows that the coefficient of ADJ presented in the income statement
in 2011 is positive and significant for both sub-samples with ADJ > 0 and ADJ < 0. This
result is consistent with the explanation that the market views the adjusted portion of
22
operating income different from K-GAAP as value relevant. On the other hand, the
coefficient of ADJ disclosed on the footnote in 2012 is not significant, implying that the
market did not regard the adjusted portion as value relevant.
4.4 Value Relevance of Individual Items in Adjusted Operating Income
In this section, we examine whether managers classify a portion of non-operating income
items as part of operating income items or a portion of operating income items as part of nonoperating income items. Table 9 exhibits the results of value relevance models with
individual items of the portion of operating income adjusted by managers. In 2011, the
coefficients of items related to gains and losses from valuation and disposal of assets except
those from foreign currency transactions are either insignificant or even negative. On the
other hand, the coefficients of items not related to gains and losses from valuation and
disposal of assets are significant and positive. Thus, it appears that the result of value
relevance of ADJ stems from was driven by the items which are likely to occur from
operating related activities. In 2012, we observe similar patterns but weaker results.
Overall, the result is not consistent with the explanation that managers intended to alter
the perceptions of financial statement users. It is more consistent with the interpretation that
managers tend to provide additional useful relevant information through disclosing nonGAAP earnings, which could help investors to better evaluate the firm’s performance. By
excluding unusual items, the non-GAAP information enables managers to reveal the firm’s
true economic performance to the market. It appears that the market distinguishes operatingrelated activities from non-operating activities and put value on those operating-related
activities.
V. ADDITIONAL ANALYSES
In this section, we refine primary tests by considering additional factors to examine
whether the primary results are driven by managers’ economic motivations voiced by some
23
market participants.
5.1 Value Relevance of Adjusted Operating Income by Firm Characteristics
Critics contend that the consequence of adjusted operating income discretionally
reported by managers is to provide misleading information for investors. To test this assertion,
we split the sample with respect to whether firms are profitable or not (high ROA vs. low
ROA); whether firms are large or small measured by total assets; whether firms are listed in a
more strictly regulated exchange market or not (KSE vs. KOSDAQ), and whether firms have
larger discretionary accruals or not.
Table 10 shows the results of value relevance of adjusted operating income by firm
characteristics. The coefficient of ADJ is positive and significant regardless of whether ROA
is greater the mean of the sample firms, whether firms are large or small, whether they are
listed on KSE or KOSDAQ, and they have large amounts of discretionary accruals or not.
This indicates that managers were not motivated to obscure the current state of operation in
determining their adjusted operating income. Rather, it is more consistent with the
interpretation that they attempted to offer a clearer picture of the firms’ operating
performance.
5.2 Value Relevance of Operating Income for Firms with Extreme Adjustment in
Operating Income
The newspaper article that a subset of firms listed on KOSDAQ exercised their
discretions to avoid negative operating income four years in a row spurred the immediate
attention from the public. The question is whether the market saw through this opportunistic
behavior so that it did not put value to this adjusted portion of operating income. To address
this issue, we split the sample with two groups- firms with the ratio of ADJ to OIK-GAAP is in
the upper 5% and lower 5% (Group 2, group with extreme adjustment) and those with the
ratio is not in the upper 5% and lower 5% (Group 1, group with the normal adjustment). And
then, we split further Group 2 into another two groups- firms with operating income changed
from negative to positive due to the adjustment (Group 2-1) and those unchanged (Group 2-2).
24
The coefficient of ADJ for Group 1 is significantly positive. The coefficient of ADJ for
Group 2-2 also remains positive and significant but, that for Group 2-1 loses significance,
which is the group with the strong motivation to obscure the negative earnings surprise.
However, the market viewed the extreme adjustment made by this group as value irrelevant.
Thus, it appears that firms which exercised their discretions to overstate their operating
income were not successful in influence investors’ perceptions of operating performance.
VI. CONCLUSION
In this study, we examined the value-relevance of operating income adjusted by firms
under K-IFRS. Our findings show that the adjusted operating income disclosed by managers
has the incremental information content over and above the operating income prepared by KGAAP. Furthermore, adjusted operating income has a higher explanatory power than KGAAP operating income In addition, the items adjusted due to gains and losses from
disposals or valuations except gains and losses from exchange translation did not have value
relevance. In contrast, gains and losses which appear to recur during the normal course of
operations improved value relevance of earnings. It appears that the market differentially
reacts to the adjusted items depending on how they are related to operating activities. In 2012,
when firms were required to present K-GAAP operating income, only 24% of companies
voluntarily disclosed adjusted operating income on the footnote. In addition, the adjusted
operating income had neither value relevance nor explanatory power greater than K-GAAP
operating income. In our additional analyses, we document that the value relevance in
adjusted operating income is stable regardless of firm characteristics such as ROA, firm size,
listing in Korea Stock Exchange, and the magnitude of discretionary accruals. This result
implies that managers did not have large intention to manipulate their operating income in
order to draw a better picture of their performance.
This paper has important political implications for the accounting institution, supervisory
authority, media and investors. The controversy over operating income has been excessively
focused on the weakness of principle-based perspective in operating income such as raising
25
concerns about comparability impaired by the managerial discretion. Media has highlighted
the possibility that the companies which use shifted non-operating revenues above the
operating income line and non-operating expenses below the operating income line in order
to avoid being classified as supervised shares. Making no effort to boost public sentiment in
favor of principle-based perspective in operating income, regulators and standard setters
rushed to revise the K-IFRS again in less than a year. This has not taken into account the
market’s ability to recognize the differential value effect of the adjusted operating income
and use the operating income information effectively by distinguishing the companies' private
information from the intention of managerial discretion.
Unlike the rule-based perspective in operating income, the principle-based perspective
gives managers opportunities to exploit firms-specific knowledge in determining which items
to be included or excluded to derive operating income. In this respect, the principle-based
perspective in calculating operating income could be the better way to share firm-specific
inside information with investors. Our results of this study that adjusted operating income
improved both incremental and relative value relevance of operating income support this idea.
26
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Exhibit 1 Revisions of K-IFRS 1001 ‘Presentation of Financial Statements’
Paragraphs
added
K-IFRS
138.2 1)
November 2010
September 2012
The following content is disclosed on
the footnote:
(1) Operating income
(2) Primary items and amounts to
derive operating income
(3) Primary items and amounts if
operating income derived
differs from operating income
under Korean GAAP (This
information may not be
disclosed after the first year
adoption of IFRS)
Firms present operating income in the
comprehensive income statement,
which is derived by subtracting cost of
goods sold, selling and administrative
expenses (including logistic-related
expenses) from revenues.
In case of considering the specificity
of operations (e.g., difficult to get cost
of goods sold) or classifying expenses
by character, firms may present
operating income by subtracting
operating expenses from operating
revenues.
K-IFRS
138.3 2)
No such paragraph
Firms present primary items and
amounts included to obtain operating
income in the comprehensive income
statement or disclose them on the
footnote.
K-IFRS
138.4 3)
No such paragraph
Firms may disclose adjusted operating
income or similar titles of accounts on
the footnote if there are revenue or
expense items not included from
operating income under paragraph KIFRS 138.2 which reflect firms’
operating results. In this case, the
disclosure includes the following:
(1) Primary items included and
their amounts
(2) The fact that such adjusted
operating income are based on
firms’ self-classification
한1
1)
2)
K-IFRS 138.2 on September 2012 replaces K-IFRS138.2 revised on November 2010.
Newly added paragraphs when revised on September 2012.
30
Table 1 Sample Distribution by Year and Industry
Panel A Sample Distribution by Year
Year
Korea Stock Exchange
KOSDAQ
Total
2007
485
648
1,133
2008
494
687
1,181
2009
515
737
1,252
2010
530
784
1,314
2011
474
808
1,282
2012
513
862
1,375
Total
3011
4526
7,537
Panel B Sample Distribution by Industry
1)
Category1)
# of samples
Manufacturing
5,383
Percentage
(%)
71.42
Electricity, Gas, Steam and Air Conditioning Supply
60
0.8
Construction
302
4.01
Wholesale and Retail Trade
535
7.1
Transportation
73
0.97
Telecommunication Information Service
786
10.43
Other Services
317
4.21
Business Support Service
81
1.07
Total
7,537
100.00
Industry classification is based on one-digit Korea Standard Industry Code.
31
Table 2 The Difference between Adjusted Operating Income
and K-GAAP Operating Income
Year 20111)
Adjusted OI =
K-GAAP OI
Adjusted OI >
K-GAAP OI
Adjusted OI <
K-GAAP OI
Total
Year 20121),2)
Sample
Size
Percentage
(%)
Sample
Size
Percentage
(%)
130
10.14
1,045
76.00
682
53.20
163
11.85
470
36.66
167
12.15
1,282
100.00
1,375
100.00
1)
In 2011, adjusted operating income is required to disclose in the income statement and the
difference between adjusted operating income and K-GAAP operating income is required
to post in footnotes. But, from 2012, K-GAAP operating income should be disclosed in the
income statement and adjusted operating income can be posted in footnotes.
2)
Even though firms disclose the difference between adjusted operating income and K-GAAP
operating income in the category of the effects on accounting policy changes, not using the
title of 'adjusted operating income', the difference is treated as adjusted operating income
in the same way.
32
Table 3 The Frequency and Importance of difference in Items between
K-GAAP Operating Income and Adjusted Operating Income
Year 2011
Frequency and
percentage
Items1)
TIA
FC
RECEIVE
Assessment
and
disposal
Items
OA
FA
DERIV
PETTY
Items with
not related
to
assessment
and
disposal
DON
OTHER
COMM
DIV
1)
Year 2012
Frequency2)
(%)
Average
Adjusted
Amount3)
(%)
Frequency2)
(%)
Average
Adjusted
Amount3)
(%)
902
-16.05
286
-17.14
(78.29)
(-71.92)
(86.66)
(-1.24)
583
2.97
162
-24.22
(50.60)
(1.11)
(49.09)
(-1.89)
524
-28.32
95
0.61
(45.48)
(9.14)
(28.78)
(-4.27)
365
-10.22
170
-74.97
(31.68)
(-0.79)
(51.51)
(-2.04)
291
-29.63
93
-27.14
(25.26)
(-307.67)
(28.18)
(7.12)
122
-3.99
22
17.59
(10.59)
(-7.26)
(6.66)
(3.89)
816
32.09
270
26.52
(70.83)
(1.26)
(81.81)
(-2.70)
685
-18.10
98
-3.05
(59.46)
(-1.40)
(29.69)
(-1.57)
675
28.50
247
8.82
(58.59)
(-10.37)
(74.84)
(1.01)
201
59.28
42
29.72
(17.44)
(-5.08)
(12.72)
(-7.30)
147
82.36
34
18.86
(12.76)
(-13.44)
(10.30)
(0.03)
Variable Definitions:
TIA
= Gains and losses on tangible and intangible assets
FC
= Gains and losses on foreign currency assets and liabilities
RECEIV
= Gains and losses on receivables (accounting receivables, loans)
33
OA
= Gains and losses on other assets(investment property, membership)
FA
= Gains and losses on securities
DERIV
= Gains and losses on derivatives
PETTY
= Miscellaneous gains and losses
DON
= Donations
OTHER
= Other gains and losses
COMM
= Gains on commissions
DIV
= Dividends
2)
Frequency (%) is the number of firms (percentage) using a corresponding item out of the
total number of firms which disclose adjusted operating income each year.
3)
Average Adjusted Amount (%) is the average amount of adjustment (percentage) compared
to operating income under K-GAAP each year.
34
Table 4 Descriptive Statistics
Variable1)
P
BV
OIK-GAAP
Year 2011
12,9712)
5,473
23,501
13,129
5,136
26,644
1,008
363
2,951
978
389
3,531
-30
8
1,324
-172
-47
1,300
Year 2007∼2010
14,1702)
5,539
20,320
14,568
5,205
22,175
1,384
449
2,377
OIK-IFRS
ADJ
NOI
-97
-31
922
1)
Year 2012
13,2372)
5,300
19,628
16,574
4,799
36,050
1,018
230
2,804
874
218
4,279
-144
0
2,364
-237
-30
1,918
Variable Definitions:
P
= Stock price per a share on the end of March in year t+1
BV
= Book value of equity per a share
OIK-GAAP
= K-GAAP Operating income per a share
K-IFRS
OI
= Adjusted Operating income per a share
ADJ
= The difference between OIK-IFRS and OIK-GAAP per a share
NOI
= Non-operating gains and losses per a share
2)
Each means average, median and standard deviation respectively.
35
Table 5 Pearson Correlation among Variables Used in Regressions
Panel A Pearson Correlation for the period 2007~2010
Variables1)
P
OIK-GAAP
BV
BV
0.8643*
OIK-GAAP
0.7490*
0.7577*
NOI
0.3086*
0.3273*
0.1883*
Panel B Pearson Correlation in 2011
Variables1)
P
OIK-GAAP
BV
BV
0.7762*
OIK-GAAP
0.7552*
0.5830*
OIK-IFRS
0.6527*
0.5014*
0.9328*
ADJ
0.0524*
0.0341
0.2537*
NOI
0.0589*
-0.0827*
OIK-IFRS
ADJ
0.5851*
-0.0295
0.0382
OIK-GAAP
OIK-IFRS
0.1688*
Panel C Pearson Correlation in 2012
Variables1)
P
BV
BV
0.6716*
OIK-GAAP
0.2681*
0.2210*
OIK-IFRS
0.2652*
0.2255*
0.9607*
ADJ
0.0618*
0.0759*
0.1288*
0.3989*
NOI
-0.0524*
0.3750*
0.3438*
-0.0261
1)
Refer to Table 4 for the definitions of variables.
* denotes significance at the 10% level.
36
ADJ
-0.0108
Table 6 Univariate Analyses: Financial Characteristics between
Disclosure Company and Non-disclosure Company of Adjusted Operating Income.
Year 2011
Variables1)
ROA
ADJ=0
ADJ≠0
0.018
0.025
Year 2012
t value
(p-value)
-0.634
ADJ=0
ADJ≠0
0.016
0.007
(0.54)
SIZE
18.544
18.781
-1.998
0.397
0.419
-1.178
18.775
18.836
0.039
0.040
-0.1207
(0.90)
1)
-0.757
(0.45)
0.419
0.402
(0.24)
OCF
1.237
(0.22)
(0.05)*
LEV
t-value
(p-value)
1.297
(0.19)
0.050
0.044
1.068
(0.29)
Variable Definitions:
ADJ = The difference between OIK-IFRS and OIK-GAAP per a share
ROA = Firms' net income divided by total assets at the beginning
SIZE = Log of total assets.
LEV = Firms' total leverage divided by total assets
OCF = Firms' cash flow from operations divided by total assets at the beginning
* denotes significance at the 10% level in two-sided test.
37
Table 7 Test on the Value Relevance of Operating Income Presented in the Income
Statement before and after IFRS adoption
Panel A Value Relevance of Operating Income before and after IFRS adoption
Variables1)
Intercept
Year 2011
6860.307***
(2.96)
7.001***
(49.31)
-7.437***
(-30.40)
Included
0.690
89.905***
0.000
1,282
Year 2007∼2010
5352.375***
(9.52)
6.818***
(87.80)
-2.863***
(-5.92)
Included
0.677
308.36***
OIdisclosure
XOI
ID
Adj. R2
F-value
Cramer's Ζ9)
N
4,880
Year 2012
6694.405***
(2.89)
6.700***
(37.28)
-7.667***
(-35.10)
Included
0.543
51.945***
0.000
1,375
Panel B Value Relevance of K-GAAP Operating Income and Adjusted Operating Income
before and after IFRS adoption
Variables1)
Intercept
Year 2011
-1155.021
(-0.56)
0.406***
(26.25)
4.764***
(32.77)
4.742***
(9.66)
3.007***
(12.64)
-5.349***
(-15.49)
Included
0.690
156.853***
10.842***
Year 2007∼2010
-348.765
(-0.43)
0.452***
(39.09)
3.759***
(35.42)
BV
OIK-GAAP
ADJ
2.304***
(14.90)
-8.244***
(-6.59)
Included
0.677
496.002***

NOI
XOI
ID
Adj. R2
F-value
Vuong’s Ζ
value2)
N
1)

Year 2012
2221.220
(0.59)
0.204***
(7.40)
4.627***
(13.38)
-0.262
(-0.54)
1.147***
(3.28)
-3.748***
(-2.63)
Included
0.722
26.831***
7.207***
2.963***
4,880
1,152
Variable Definitions:
Pit
BVit
OIitdisclosure
OIitK-GAAP
=
=
=
=
Stock price per a share on the end of March in year t+1
Book value of equity per a share in year t
Disclosed Operating income per a share in year t
K-GAAP Operating income per a share in year t
38
-3.110***
330
ADJit
NOIit
=
=
The difference between OIK-IFRS and OIK-GAAP per a share in year t
Non-operating gains and losses in year t
Dummy variable, equals 1 if disclosed operating income is negative in year
XOIit
=
t, 0 otherwise.
Industry dummy variable by industry classification based on one-digit
=
∑IND
Korean standard industry code
= Error term in year t
εit
2)
Vuong’s Ζ value means the difference of explanatory power between K-IFRS operating
income model and K-GAAP operating income model
*/**/*** denote significance at the 10%, 5%, and 1% levels, respectively.
39
Table 8 Test on the Value Relevance of Adjusted Operating Income with Positive
Adjustments and Negative Adjustments
Panel A Value Relevance of Adjusted Operating Income with Positive Adjustments and
Negative Adjustments in 2011
Variables1)
ADJ>0
Intercept
-2265.704
(-0.83)
0.468***
(20.14)
4.288***
(18.46)
2.546***
(3.22)
2.680***
(6.36)
-7.598***
(-6.01)
Included
0.821
90.040***
0.4163
682
BV
OIK-GAAP
ADJ
NOI
XOI
ID
Adj. R2
F-value
Vuong’s Ζ value2)
N
ADJ<0
-1535.505
(-0.51)
0.338***
(15.17)
5.314***
(27.50)
5.868***
(8.10)
3.158***
(10.97)
-6.199***
(-13.10)
Included
0.846
76.883***
2.4011**
470
Panel B Value Relevance of Adjusted Operating Income with Positive Adjustments and
Negative Adjustments in 2012
Variables1)
ADJ>0
ADJ<0
Intercept
2823.555
(0.56)
0.160***
(4.23)
4.704***
(9.57)
1.213
(0.69)
1.568**
(2.47)
-4.350**
(-2.12)
Included
0.737
19.836***
-0.6029
163
40
1009.835
(0.17)
0.439***
(6.90)
2.900***
(4.87)
0.441
(0.64)
0.670*
(1.67)
-4.200*
(-1.95)
Included
0.730
15.007***
-1.6037*
167
BV
OIK-GAAP
ADJ
NOI
XOI
ID
Adj. R2
F-value
Vuong’s Ζ value2)
N
1)
Refer to Table 7 for the definitions of variables.
Vuong’s Ζ value means the difference of explanatory power between K-IFRS operating
income model and K-GAAP operating income model
*/**/*** denote significance at the 10%, 5%, and 1% levels, respectively.
2)
41
Table 9 Test on the Value Relevance of Individual Items in Adjusted Operating Income
Variables1)
Year 2011
Intercept
-1153.462
(-0.58)
0.423***
(27.76)
3.889***
(26.86)
-19.976***
(-5.29)
32.344***
(3.84)
6.935*
(1.81)
-6.623
(-1.43)
2.089
(0.70)
-82.100***
(-3.82)
7.135**
(2.18)
-37.477***
(-4.54)
7.174**
(2.38)
43.911***
(7.06)
25.350***
(5.08)
2.669***
(11.52)
-2.429***
(-12.90)
Included
0.840
135.684***
1,152
BV
OIK-GAAP
TIA
FC
RECEIVE
OA
FA
DERIV
PETTY
DON
OTHER
COMM
DIV
NOI
XOI
ID
Adj. R2
F-value
N
1)
Year 2012
4489.180
(1.21)
0.187***
(8.40)
4.090***
(12.11)
-15.367
(-1.22)
-11.385
(-0.77)
-101.131
(-1.29)
-8.692
(-1.50)
22.276
(1.31)
-28.770
(-0.22)
22.027**
(2.23)
-325.908
(-1.33)
-27.558***
(-2.67)
88.617**
(2.02)
221.165***
(2.74)
1.336***
(3.96)
-3.780***
(-4.72)
Included
0.746
23.529***
330
Refer to Table 3 and Table 7 for the definitions of variables.
*/**/*** denote significance at the 10%, 5%, and 1% levels, respectively.
42
Table 10 Test on the Value Relevance of Adjusted Operating Income by Financial
Characteristics
Panel A Value Relevance of Adjusted OI by ROA in 2011
Variables1)
ROA>= Average ROA
ROA<Average ROA
Intercept
-5114.188*
(-1.76)
0.475***
(14.35)
4.611***
(19.92)
1.505*
(1.72)
2.703***
(7.61)
10.809
(0.36)
Included
0.832
106.613***
749
4192.009**
(2.07)
0.400***
(31.61)
1.573***
(3.45)
2.714***
(4.09)
1.222***
(3.01)
-2.421***
(-4.03)
Included
0.82
53.421***
403
BV
OIK-GAAP
ADJ
NOI
XOI
ID
Adj. R2
F-value
N
Panel B Value Relevance of Adjusted Operating Income by Size in 2011
Variables1)
Intercept
BV
OIK-GAAP
ADJ
NOI
XOI
ID
Adj. R2
F-value
N
SIZE>= Average SIZE
1541.122
(0.44)
0.404***
(17.51)
5.026***
(23.00)
4.758***
(6.67)
3.060***
(9.03)
-5.482***
(-10.95)
Included
0.838
71.646***
479
43
SIZE<Average SIZE
-1548.342
(-0.80)
0.364***
(11.29)
2.852***
(11.34)
3.662***
(4.16)
1.910***
(2.66)
-4.111***
(-5.67)
Included
0.579
28.033***
673
Panel C Value Relevance of Adjusted Operating Income by Stock Exchange
Variables1)
Intercept
BV
OIK-GAAP
ADJ
NOI
XOI
ID
Adj. R2
F-value
N
Listed on
Korea Stock Exchange
-2467.902
(-0.67)
0.421***
(18.19)
4.622***
(20.96)
4.723***
(6.26)
2.933***
(8.49)
-5.260***
(-10.00)
Included
0.843
67.679***
434
Listed on
KOSDAQ
857.260
(0.40)
0.306***
(8.02)
5.455***
(18.39)
4.847***
(5.76)
2.001***
(2.91)
-6.132***
(-8.92)
Included
0.587
31.028***
718
Panel D Value Relevance of Operating Income by Size of Discretionary Accruals
Variables1)
Intercept
BV
OIK-GAAP
ADJ
NOI
XOI
ID
Adj. R2
F-value
N
DA<= Average DA
-840.356
(-0.32)
0.438***
(21.67)
4.793***
(27.92)
4.103***
(5.93)
2.620***
(7.89)
-5.054***
(-11.49)
Included
0.865
102.708***
557
1)
DA>Average DA
-2551.499**
(-0.77)
0.374***
(13.89)
4.626***
(15.67)
5.452***
(7.07)
3.396***
(9.28)
-5.633***
(-9.24)
Included
0.766
56.443***
595
Refer to Table 3 and Table 7 for the definitions of variables.
*/**/*** denote significance at the 10%, 5%, and 1% levels, respectively.
44
Table 11 Test on the Value Relevance of Operating Income with Extreme Adjustments
Variables
1)
Intercept
BV
OIK-GAAP
ADJ
NOI
XOI
ID
Adj. R2
F-value
N
Group22)
2)
Group1
-1785.335
(-0.95)
0.410***
(25.30)
4.761***
(31.89)
5.985***
(9.28)
2.978***
(12.43)
-6.046***
(-14.45)
Included
0.824
154.676***
1,022
Group2-12)
Group2-22)
2244.244
(0.96)
0.614***
(3.38)
7.676
(0.77)
2.751
(1.40)
0.287
(0.41)
2702.709
(0.67)
0.335***
(10.00)
-0.797
(-0.53)
2.620***
(6.18)
2.299
(1.58)
-3.363***
(-5.17)
Included
0.818
14.454***
88
Included
0.636
4.408***
42
1)
Refer to Table 3 for the definitions of variables.
The definitions of Group:
Group1
=
The Ratio of ADJ/OIK-GAAP is not in the upper 5% and the lower 5%
Group2
=
The Ratio of ADJ/OIK-GAAP is in the upper 5% and the lower 5%r
Group2-1
=
In The Group 2, OIK-GAAP is negative but OIK-IFRS is positive
Group2-2
=
Out of Group 2, excluding Group 2-1
*/**/*** denote significance at the 10%, 5%, and 1% levels, respectively.
2)
45