Predictive Ability of Unverifiable Fair Value Accounting: Evidence from Asset Impairment

This study investigates whether asset impairment disclosure better enables investors to incorporate future earnings using a future earnings response coefficient (FERC) model. Using Korean firm-year data from 2006 to 2011, we find that impairment disclosure and impairment charges are negatively associated with the FERC. This negative relationship is stronger for firms with income smoothing or big bath incentives and those with impairment of non-financial assets. However, external monitoring as reflected by majority shareholder ownership or industry specialist auditors mitigates this negative relationship. No significant impact of strengthened accounting rules through IFRS adoption on the FERC of asset-impaired firms is evident. These results are robust after controlling for firm characteristics and self-selection bias. These findings imply that disclosure of asset impairment does not provide useful forward-looking information, as the regulatory boards intended, and may even decrease the predictive ability of firms with opportunistic earnings management incentives. The findings also suggest that effective monitoring systems enhance information value, although reinforced regulation through IFRS adoption does not. These findings have valuable implications for regulators, academics, and investors.