Corporate Tax Avoidance and Stock Price Crash Risk: Firm-Level Analysis
University of Waterloo
Arizona State University (ASU) - School of Accountancy
City University of Hong Kong
July 27, 2010
Journal of Financial Economics, Vol. 100, pp. 639-662, 2011.
Using a large sample of U.S. firms for the period 1995-2008, we provide strong and robust evidence that corporate tax avoidance is positively associated with firm-specific stock price crash risk. This finding is consistent with the following view: Tax avoidance facilitates managerial rent extraction and bad news hoarding activities for extended periods by providing tools, masks, and justifications for these opportunistic behaviors. The hoarding and accumulation of bad news for extended periods lead to stock price crashes when the accumulated hidden bad news crosses a tipping point, and thus comes out all at once. Moreover, we show that the positive relation between tax avoidance and crash risk is attenuated when firms have strong external monitoring mechanisms such as high institutional ownership, high analyst coverage, and greater takeover threat from corporate control markets.
Number of Pages in PDF File: 67
Keywords: Tax avoidance, crash risk, agency theory, governance, extreme outcome
JEL Classification: G12, G14, H26, M41
Date posted: July 28, 2010 ; Last revised: April 19, 2011