Cross-Jurisdictional Income Shifting and Earnings Valuation
Posted: 9 Dec 1996
Date Written: Undated
This research investigates the extent to which U.S. multinational enterprises engage in tax-motivated income shifting between U.S. and foreign jurisdictions and whether investors recognize tax-motivated earnings management in valuing the firm. We examine a sample of 577 manufacturing companies from 1984 to 1992 and provide evidence that U.S. multinationals facing average foreign tax rates in excess of the U.S. rate shift approximately $30 million of income per company to the U.S. each year. Aggregated over all sample observations from 1984 to 1992, this translates to a total transfer of approximately $41 billion of income to the U.S. Results are robust to a variety of sensitivity tests, and there is significant evidence of income shifting into the U.S. for all sample years and for 10 of the 16 industries within the manufacturing sector with at least 15 observations.Next, we evaluate the valuation effects of income shifting. We use our income shifting tests to identify companies which shift income into the U.S. We predict that if unshifted domestic and foreign income are priced differently and if investors recognize that a portion of foreign income is being reported as domestic income, the multiple assigned to reported domestic income will reflect that these earnings are a mix of foreign and domestic source income. Results from the valuation tests are consistent with this prediction, suggesting investors recognize the effects of income shifting in their valuations. The findings are robust to a wide range of sensitivity tests and are consistent across years and industries.
JEL Classification: K34, H26, G12, G14, M41
Suggested Citation: Suggested Citation