Are Book-Tax Differences Mispriced?
53 Pages Posted: 5 May 2018 Last revised: 20 Apr 2020
Date Written: March 2020
I examine whether book-tax differences (BTDs) are mispriced. Using time-series asset pricing tests, I provide evidence of hedge returns to trading on BTDs consistent with prior evidence from security-level return predictability tests. BTDs are a function of accruals and growth, so I consider whether BTD mispricing is accrual and growth mispricing, two economically significant asset pricing anomalies. Using operating cash flows-to-price (CFO/P), which jointly captures accrual and growth mispricing, I provide consistent evidence that the returns to trading on BTDs are subsumed by the returns to trading on CFO/P. My findings suggest that BTD mispricing is the accrual and growth anomalies in disguise, rather than a distinct anomaly. Overall, the evidence casts doubt on the ability of BTDs to provide unique, unpriced information for future earnings and their usefulness as a mispricing signal. This study provides useful evidence to investors and informs calls for additional tax-related disclosures.
Keywords: book-tax differences; operating cash flows-to-price; mispricing; accrual anomaly; growth anomaly
JEL Classification: G12, G14, M41
Suggested Citation: Suggested Citation