Tax-Related Mandatory Risk Factor Disclosures, Future Profitability, and Stock Returns

57 Pages Posted: 13 Sep 2016 Last revised: 11 Jun 2018

John L. Campbell

University of Georgia - J.M. Tull School of Accounting

Mark Cecchini

University of South Carolina

Anna Cianci

Wake Forest University

Anne Ehinger

Indiana University Purdue University Indianapolis

Edward M. Werner

Rutgers, The State University of New Jersey

Date Written: June 2, 2018

Abstract

Prior research finds that mandatory risk factor disclosures are informative in that they increase investors’ assessments of the volatility of a firm’s cash flows. However, the literature is silent as to whether these disclosures provide information about the level of future cash flows and, ultimately, their implications for firm value. We address this question by examining the association between Form 10-K risk factor disclosures and future cash flows levels and stock returns. We use the setting of taxes because it is relatively easier to identify the specific income and cash flow statement line items to which these risks relate, and offer two main results. First, we find that tax risk factor disclosures are positively associated with future cash flows. This suggests that, on average, tax risk factor disclosures relate to tax positions that are rewarded with future tax savings. Second, we find that investors incorporate this relation into stock prices. In additional analysis, we find no evidence of a drift in stock prices, suggesting that investors incorporate the implications of tax risk factor disclosures in a timely manner. Overall, our results suggest that risk factor disclosures provide information about the level of a firm’s future cash flows, that the risks discussed in these disclosures are – on average – value-increasing, and that investors incorporate this information into current stock prices.

Suggested Citation

Campbell, John L. and Cecchini, Mark and Cianci, Anna and Ehinger, Anne and Werner, Edward M., Tax-Related Mandatory Risk Factor Disclosures, Future Profitability, and Stock Returns (June 2, 2018). Available at SSRN: https://ssrn.com/abstract=2837329 or http://dx.doi.org/10.2139/ssrn.2837329

John L. Campbell (Contact Author)

University of Georgia - J.M. Tull School of Accounting ( email )

Athens, GA 30602
United States
706.542.3595 (Phone)
706.542.3630 (Fax)

Mark Cecchini

University of South Carolina ( email )

The Francis M. Hipp Building
1705 College Street
Columbia, SC 29208
United States

Anna Cianci

Wake Forest University ( email )

2601 Wake Forest Road
Winston-Salem, NC 27109
United States

Anne Ehinger

Indiana University Purdue University Indianapolis ( email )

1309 E. 10th St.
Indianapolis, IN 47405
United States

Edward M. Werner

Rutgers, The State University of New Jersey ( email )

Camden, NJ 08102
United States
(856) 225-6978 (Phone)

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