The current regulation of disclosure under IAS 40 and IFRS contains significant loopholes. Due to the flexibility inherent in accounting standards, firms may exploit this flexibility to present a misleading picture of their financial position.

This bachelor’s thesis aims to examine whether companies applying IAS 40 comply with disclosure requirements, and how this affects the quality of financial reporting. The study focuses on two countries within the European Union, Sweden and Hungary, in order to compare reporting quality across different institutional contexts.

Furthermore, the study investigates whether any observed differences can be explained by institutional factors, specifically the rule of law index. Sweden ranks among the highest in the index, whereas Hungary ranks among the lowest within the EU. Previous research suggests that such institutional differences may influence financial reporting quality.

To address the research objective, a quantitative approach is employed. A disclosure index is used to measure reporting quality in both countries, followed by Welch’s t-test to assess differences between them. Finally, Pearson’s correlation coefficient (r) is applied to examine the relationship between financial reporting quality and institutional differences, specifically the rule of law. This study concludes that there is a marginal difference in perceived financial reporting quality between the Swedish and Hungarian firms, which also leads to the conclusion that there is no statistical significance between financial reporting quality and the rule of law. The conclusion should be interpreted cautiously, given the limited sample, the polar opposites in the rule of law index within the EU, and the deviations identified that the disclosure index fails to capture.