An Examination of SFAS No.35: Adoption Timing Motives, Write-Off Characteristics, and Market Reaction

This paper adds to the growing body of literature on managers' discretionary accounting choices in general by specifically studying several issues related to Statement of Financial Accounting Standards (SFAS) No. 35, 'Accounting Treatment of Asset Impairment.' The empirical investigation starts by examining whether the managers' adoption timing choice is associated with various managerial motives. The results show that early adopters are more likely to be in industries with favorable performance in the pre-adoption period, larger in firm size and in the magnitude of asset write-offs, and acting in a manner consistent with 'big bath' behavior. Additionally, this paper provides evidence that reporting incentives determine the amount of asset write-offs reported by firms upon the adoption of SFAS No. 35, after the actual asset impairment is controlled. Specifically, both early and late adopting firms with extremely low earnings tend to take a 'big bath' by reporting a larger magnitude of asset write-offs. The empirical analyses also reveal that the amount of asset write-offs is significantly greater for firms with a management change relative to the firms with no such change, and that late adopters tend to apply the reporting flexibility in the determination of write-off amounts to report a smoother stream of earnings. Finally, this study investigates stock price responses to write-off announcements by partitioning write-offs into expected and unexpected portions. The results reveal that all of the asset write-offs announced by early adopters and the unanticipated portion of the impairment losses for late adopters both convey information of a reduction in future performance to market participants. The above implications are robust to a number of alternative specifications and variables definitions.