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Corporate Tax Avoidance and the Level and Valuation of Firm Cash Holdings

41 Pages Posted: 2 Apr 2011  

Dan S. Dhaliwal

University of Arizona - Department of Accounting

Shawn X. Huang

Arizona State University (ASU) - School of Accountancy

William J. Moser

Miami University

Raynolde Pereira

University of Missouri at Columbia - School of Accountancy

Multiple version iconThere are 2 versions of this paper

Date Written: March 31, 2011

Abstract

This paper examines the relation between corporate tax avoidance and firm cash holdings. Corporate tax avoidance limits payments made to the tax authorities. However, recent research notes that tax avoidance also restricts the flow of firm specific information and thereby exacerbates manager-shareholder conflict of interest. Specifically, it is argued that tax avoidance allows for greater rent extraction by managers. We examine this implication in relation to firm cash holdings. Cash is a fungible asset that can be easily diverted. To the extent that tax avoidance facilitates greater rent extraction, it will lead to a quicker dissipation of firm cash holdings. We empirically evaluate this prediction. To further evaluate the influence of tax avoidance, we also examine its impact on the valuation of firm cash holdings. If investors perceive tax avoidance as enabling diversion of firm resources, it should negatively impact their valuation of firm cash holdings. We provide three primary findings. First, we find a negative association between tax avoidance and firm cash holdings. We find this association to hold across multiple measures of tax avoidance. Second, we find this relation is attenuated for firms with stringent governance structures in place. This finding suggests stringent governance structures serve to limit the adverse effects of tax avoidance strategies. Finally, we find investor valuation of firm cash holdings is lower for firms with higher levels of tax avoidance. We again find this relation is attenuated for strong governance firms. Overall, our findings contribute to a growing stream of research which notes that tax avoidance is a double-edged sword which can cause more harm than good for shareholders.

Keywords: Tax Avoidance, Cash Balances, Cash Valuation

JEL Classification: G32, G34, H26

Suggested Citation

Dhaliwal, Dan S. and Huang, Shawn X. and Moser, William J. and Pereira, Raynolde, Corporate Tax Avoidance and the Level and Valuation of Firm Cash Holdings (March 31, 2011). Available at SSRN: https://ssrn.com/abstract=1800140 or http://dx.doi.org/10.2139/ssrn.1800140

Dan S. Dhaliwal

University of Arizona - Department of Accounting ( email )

McClelland Hall
PO Box 210108
Tucson, AZ 85721
United States

Shawn X. Huang

Arizona State University (ASU) - School of Accountancy ( email )

Tempe, AZ 85287
United States

William J. Moser

Miami University ( email )

2027 Farmer School of Business
800 East High Street
Oxford, OH 45056
United States
513-529-8284 (Phone)

Raynolde Pereira (Contact Author)

University of Missouri at Columbia - School of Accountancy ( email )

337 Cornell Hall
Columbia, MO 65211
United States
573-882-6253 (Phone)

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