Knowledge that Transforms

We find that nonlinear estimation of profitability decomposition frameworks yields more accurate out-of-sample profitability forecasts than forecasts from both a random walk and linear estimation. The improvements derive from nonlinear estimation and synergies between nonlinear estimation and profitability decomposition frameworks. We analyze three essential financial statement analysis design choices to provide insights for the practice of fundamental analysis and find robust evidence that higher levels of profitability decomposition, focusing on core items, and using up to three years of historical information improve forecast accuracy. We find that our forecasts predict returns and profitability changes before and after controlling for analyst forecasts and common asset pricing factors.

Taxation is a central economic policy tool, with governments increasingly using tax policy to stimulate local economic growth and also regulate multinational firms. We review the empirical literature that studies the effect of tax policies on firms’ investment, employment, and other real outcomes. Building on the neoclassical theory of corporate taxes and tangible investment, we propose an organizing framework for our review that captures the wide set of tax policies and firm responses examined in accounting research. This framework highlights four dimensions along which accounting scholars contribute to the literature: (i) documenting the role of financial reporting incentives as a moderating factor in firms’ real responses, (ii) studying firms’ reporting versus real responses, (iii) quantifying real effects of tax disclosure regulations, and (iv) improving measurement of firms’ tax status and proxies for investment and employment. We identify open questions for future research and suggest new international, federal, and local settings that may help uncover underlying mechanisms driving observed economic phenomena. Specifically, we encourage scholars to further distinguish firms’ reported and real responses to tax changes and improve measurement of these outcomes, especially in settings related to environmental taxation or settings in which tax avoidance and real outcomes are closely linked.