Accounting choices under ifrs and their effect on over-investment in capital expenditures

relative to pre-adoption levels.
UK GAAP allowed firms the option of using fair-value accounting (revaluation) 
for 
PPE
and fair-value accounting was much more commonly used under UK GAAP 
16
My first hypothesis is consistent with Ball’s (2006, p.12) argument that “the increased transparency and 
loss recognition timeliness promised by 
IFRS
therefore could increase the efficiency of contracting between 
firms and their managers…”

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17 
than under most other EU countries’ domestic GAAP. Also, UK GAAP, like 
IFRS
, 
required the increases in fair value of 
PPE
to be recognized in a revaluation reserve in 
equity (i.e., similar to the accounting treatment under IAS 16 previously described). Fair-
value estimates of long-lived assets such as 
PPE
are likely to be less reliable than 
historical cost (Ball 2006; Holthausen and Watts 2001; Kothari et al. 2010; Watts 2006). 
Hence, upward revaluations of 
PPE
previously recognized in a revaluation reserve in 
shareholders’ equity create slack that self-interested managers can opportunistically use 
to offset impairment losses among assets and delay the recognition of impairment losses 
in earnings.
17
Furthermore, prior literature (e.g., Brown 1997; Hirst and Hopkins 1998; 
Mains and McDaniel 2000) suggests that investors regard changes in equity (e.g., 
changes in a revaluation reserve) among the least useful components of the annual report 
and that changes in equity are less effective than earnings in communicating corporate 
and management performance. On the other hand, when historical cost accounting with 
impairment testing is used, self-interested managers will have no ability to use previous 
upward revaluations in the revaluation reserve in equity to absorb or conceal impairment 
losses. Hence, I expect the disciplinary implications of recognizing asset impairments in 
earnings will be greater when historical cost accounting with impairment testing is used 
than when fair-value accounting is used. Therefore, I test the following hypothesis (stated 
in alternative form):