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Firm Valuation and the Uncertainty of Future Tax Avoidance

FAccT Center Working Paper Nr. 13/2013

48 Pages Posted: 30 Oct 2013 Last revised: 21 Jan 2015

Martin Jacob

WHU - Otto Beisheim School of Management

Harm H. Schütt

Ludwig Maximilian University of Munich - Faculty of Business Administration (Munich School of Management)

Date Written: January 19, 2015

Abstract

The paper studies the effect of uncertainty in firm-specific tax avoidance on firm value. We first show in a clean surplus valuation model that expectations about future profitability interact with corporate tax avoidance. Two dimensions of corporate tax avoidance strategies matter for valuation: uncertainty and level of expected future tax rates. We confirm the importance of level and uncertainty of tax avoidance for forecasts of future tax rates using a small sample of analyst tax rate forecasts. Consistent with the model and the implications from analyst forecasts, we derive a tax signal-to-noise ratio based on historical tax information. In our sample of 2,820 firms, we show empirically that this tax signal-to-noise ratio amplifies the effect of pre-tax earnings on firm value. Pre-tax earnings have a stronger effect on firm value for firms with effective and persistent tax avoidance. Firms with volatile effective tax rates receive a discount on their earnings.

Keywords: firm valuation, tax avoidance, tax uncertainty

JEL Classification: M41, G12, H25

Suggested Citation

Jacob, Martin and Schütt, Harm H., Firm Valuation and the Uncertainty of Future Tax Avoidance (January 19, 2015). FAccT Center Working Paper Nr. 13/2013. Available at SSRN: https://ssrn.com/abstract=2347330 or http://dx.doi.org/10.2139/ssrn.2347330

Martin Jacob (Contact Author)

WHU - Otto Beisheim School of Management ( email )

Burgplatz 2
D-56179 Vallendar, 56179
Germany

HOME PAGE: http://www.whu.edu/steuer

Harm H. Schütt

Ludwig Maximilian University of Munich - Faculty of Business Administration (Munich School of Management) ( email )

Kaulbachstr. 45
Munich, 80539
Germany

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