This paper presents evidence that the positive association between firm size and price leads of earnings is not solely a function of private search incentives for firm‐specific information. Specifically, we find that small‐firm prices also lag large‐firm prices with respect to industry‐wide information. Our empirical analysis extends Collins, Kothari, and Rayburn 1987 and Freeman 1987, who document that security‐price leads of earnings are positively associated with market capitalization. In particular, we examine the association between firm size and the timing of security returns for two components of annual earnings changes: the average change for a firm's industry and the firm's idiosyncratic change. We find that large firms' prices have a longer lead than small firms' prices with respect to both components. Large firms' early lead on industry‐wide earnings suggests that returns of large firms predict returns of same‐industry small firms. To test this implication, we construct a portfolio of long (short) positions in small firms when the prior month's returns of large firms in their industry are above (below) average for large firms in other industries. This zero investment portfolio earns 4.5 percent over 12 months.

This paper presents evidence that the positive association between firm size and price leads of earnings is not solely a function of private search incentives for firm-specific information. Specifically, we find that small-firm prices also lag large-firm prices with respect to industry-wide information. Our empirical analysis extends Collins, Kothari, and Rayburn 1987 and Freeman 1987, who document that security-price leads of earnings are positively associated with market capitalization. In particular, we examine the association between firm size and the timing of security returns for two components of annual earnings changes: the average change for a firm's industry and the firm's idiosyncratic change. We find that large firms' prices have a longer lead than small firms' prices with respect to both components. Large firms' early lead on industry-wide earnings suggests that returns of large firms predict returns of same-industry small firms. To test this implication, we construct a portfolio of long (short) positions in small firms when the prior month's returns of large firms in their industry are above (below) average for large firms in other industries. This zero investment portfolio earns 4.5 percent over 12 months.

This study uses a confidential data set of firms assigned to the Internal Revenue Service's Coordinated Industry Case (CIC) program to examine the effect of audit certainty on firms' tax reporting behavior. We first model the determinants of assignment to the program. Although the ability and incentive to avoid taxes are related to CIC assignment, we find that the IRS assigns firms primarily based on size and complexity. We then test whether audit certainty has a detectable effect on tax payments. Our results show that tax payments do not change when firms enter the CIC program, suggesting the CIC program does not have higher deterrence or enforcement effects relative to the IRS's standard selection and audit process for large corporations not included in the CIC program. However, supplemental analysis suggests that audit certainty does alter managers' expectations regarding future tax payments. Our paper provides new empirical evidence on the strategic game between the taxpayer and the tax authority and has important implications for tax authorities as they consider the costs and benefits of certain audit programs.

This paper examines whether credit analysts utilize the information contained in the difference between book and taxable income in analyzing a firm’s credit risk. Increased book–tax differences may be informative for credit rating agencies as they may signal decreased earnings quality or changes in the firm’s off–balance sheet financing. Results suggest a significant negative association between positive changes in book–tax differences and ratings changes. This evidence is consistent with large positive changes in book–tax differences signaling decreased earnings quality and/or increased off–balance sheet financing. We also find that large negative changes in book–tax differences result in less favorable rating changes, consistent with these changes signaling decreased earnings quality. In additional analyses, we find that the association between changes in book–tax differences and rating changes is attenuated for high–tax‐planning firms (e.g., where book–tax differences more likely reflect tax planning than decreased earnings quality).

Les auteurs se demandent si les analystes de crédit utilisent l’information que livrent les écarts entre résultat comptable et résultat fiscal dans l’analyse du risque de crédit que présentent les entreprises. L’augmentation de l’écart entre résultat comptable et résultat fiscal peut être révélatrice pour les agences d’évaluation du crédit, car elle peut signaler une détérioration de la qualité des résultats ou des modifications dans le financement hors bilan de l’entreprise. Les résultats de l’étude semblent indiquer l’existence d’un lien négatif significatif entre les changements positifs dans les écarts entre résultat comptable et résultat fiscal et la variation des notations. Cette observation confirme l’hypothèse selon laquelle les changements positifs importants dans les écarts entre résultat comptable et résultat fiscal signalent une détérioration de la qualité des résultats et (ou) une augmentation du financement hors bilan. Les auteurs constatent également que les changements négatifs importants dans les écarts entre résultat comptable et résultat fiscal donnent lieu à des variations des notations moins favorables, ce qui corroborerait la thèse selon laquelle ces changements signalent une détérioration de la qualité des résultats. En procédant à des analyses complémentaires, les auteurs observent que le lien entre les changements dans les écarts entre résultat comptable et résultat fiscal et la variation des notations est moins marqué dans le cas des entreprises qui se livrent activement à la planification fiscale (les écarts entre résultat comptable et résultat fiscal étant, par exemple, plus susceptibles d’indiquer des activités de planification fiscale qu’une détérioration de la qualité des résultats).

The lock-in effect proposes that capital gains taxes represent transaction costs that increase the reservation price for security owners and, ceteris paribus, reduce trading volume. Consistent with the lock-in effect, previous empirical research documents price and reactions to enacted changes in the capital gains tax rate. We investigate whether the volume hypothesis predicted by the lock-in effect extends to corporate acquisition activity. In particular, we analyze whether aggregate corporate acquisition activity is inversely associated with shareholder capital gains tax rates. We measure quarterly corporate acquisition activity from 1973 through 2001 using (1) the percentage of traded firms acquired in a calendar quarter and (2) the percentage of market value of traded firms acquired in a calendar quarter. In supplemental analysis, we measure acquisition activity at the industry level (i.e., as the percentage of firms and percentage of market value acquired by industry annually). In each analysis we model acquisition activity as a function of the maximum long-term capital gains tax rate for individuals and other macroeconomic factors previously hypothesized to be associated with acquisition activity. Consistent with a lock-in effect for corporate acquisitions, we find a significant negative association between corporate acquisition activity and the capital gains tax rate whether we measure acquisition activity in the aggregate or at the industry level. In addition, we find that this negative association is attributable to increased (decreased) taxable acquisition activity during periods of low (high) capital gains tax rates. These results suggest that, ceteris paribus, capital gains taxes represent significant transaction costs that influence the level of corporate acquisition activity.

Recent research finds that analysts' cash flow forecasts have meaningful financial reporting ramifications, but, to date, the identified effects are unlikely to yield meaningful cash flow benefits. This study examines whether analysts' cash flow forecasts encourage managers to enhance the firm's cash flow position through tax avoidance activities. We evaluate the change in cash tax avoidance after analysts begin issuing cash flow forecasts relative to a propensity score matched control sample of firms without cash flow forecasts. Consistent with analysts' cash flow forecasts encouraging tax avoidance that enhances the firm's cash flow health, we find a negative association between cash tax payments and analysts' cash flow coverage. Additional analysis suggests this association is driven primarily by strategies to permanently avoid rather than to temporarily defer tax payments and that increased cash tax avoidance activity represents a nontrivial component of the overall increase in reported operating cash flows after the initiation of analysts' cash flow coverage.

Extant research suggests that book-tax differences are useful measures in evaluating firm performance. There is little evidence, however, regarding taxable income as an alternative performance measure to book income. We examine firm characteristics that mitigate or enhance the ability of taxable income to inform investors regarding firm performance. We find that the relative and incremental information content of estimated taxable income to book income is lower for high tax planning firms and higher for low earnings quality firms. Our results suggest that tax planning and low earnings quality have contrasting effects on the information content of estimated taxable income. These findings are pertinent to recent research examining book-tax differences as a measure of earnings quality and taxable income as an alternative performance measure.