The Information Content of the Deferred Tax Valuation Allowance: An Event Study of News Disclosures of Valuation Allowance Changes

Abstract

An event study demonstrates that disclosures of changes in deferred tax valuation allowances (VA) provide information beyond contemporaneous earnings reports. Prior research shows that, in setting VA, managers consider the extent that taxable income is available from various sources for the realization of deferred tax assets (DTA). Our evidence supports a characterization where investors use VA disclosures to infer management's expectations about DTA realizability and future taxable income available for their realization. These findings are potentially important evidence on the implications of financial accounting standards that allow discretion in measurement. In particular, they support the view that such discretion can serve to elicit management's expectations for the benefit of investors.

Keywords: deferred taxes, valuation allowance, information content, event study, future profits

JEL Classification: M41, G14