Public Pressure and Corporate Tax Behavior by SSRN

Scott Dyreng

Duke University

Jeffrey L. Hoopes

Ohio State University (OSU) – Department of Accounting & Management Information Systems

Jaron H. Wilde

University of Iowa – Henry B. Tippie College of Business

July 29, 2014

Fisher College of Business Working Paper No. 2014-02-003


We examine whether public pressure related to compliance with subsidiary disclosure rules influences corporate tax behavior. ActionAid International, a non-profit activist group, levied public pressure on non-compliant U.K. firms in the FTSE 100 to comply with a rule requiring U.K. firms to disclose the location of all of their subsidiaries. We use this natural experiment to examine whether the public pressure led scrutinized firms to decrease tax avoidance and reduce the use of subsidiaries in tax haven countries relative to other firms in the FTSE 100 not affected by the public pressure. The evidence suggests that the public scrutiny sufficiently changed the costs and benefits of tax avoidance such that tax expense increased for scrutinized firms. The results suggest that public pressure from outside activist groups can exert a significant influence on the behavior of large publicly-traded firms. Our findings extend prior research that has had little success documenting an empirical relation between public scrutiny of tax avoidance and firm behavior.

Public Pressure and Corporate Tax Behavior – Introduction

Research examining the determinants and consequences of tax avoidance in publicly traded firms has grown dramatically in the past decade [Hanlon and Heitzman 2010]. Despite the substantial research on tax avoidance, little is known about how firms respond to public scrutiny of their corporate tax avoidance behavior. Decision makers within the firm potentially view public scrutiny of tax avoidance activities negatively because of fears that the public pressure could result in backlash against the firm or its products from investors, regulators, and customers [Ernst & Young 2014; Graham et al. 2013]. On the other hand, investors potentially view public scrutiny positively as it could signal that fewer of the firm’s resources will be lost to the government because the firm has strategically arranged its affairs to reduce tax payments. Moreover, if the firm is compliant with tax rules and regulations, the risks associated with tax avoidance could be small [Dyreng et al. 2014]. In this study, we use a natural experiment to investigate whether increased public scrutiny of the location of firm subsidiaries leads to changes in firms’ corporate tax avoidance activities.

As with other financial disclosures [Lisowsky et al. 2013], disclosure about the location and identity of specific subsidiaries can reveal information about corporate tax behavior given the significant operating implications and tax consequences associated with the jurisdictions in which firms locate their operations [Creal et al. 2014; Dyreng and Lindsey 2009; Lewellen and Robinson 2013; Robinson and Stocken 2013]. In particular, subsidiary disclosure is important because it provides external parties with information about firms’ use of tax havens and geographic exposure.

In contrast to U.S. regulations that only require disclosure of significant subsidiaries, the U.K.’s Companies Act of 2006 (“Companies Act”) requires firms to disclose the name and location of all subsidiaries, regardless of size or materiality. Although the U.K. law went into effect in 2006, in 2010, ActionAid International, a global non-profit dedicated to ending poverty worldwide, discovered that approximately half of the firms in the FTSE 100 were not disclosing the name and location of all subsidiaries. ActionAid’s finding was prima facie evidence that the Companies House was not enforcing the subsidiaries disclosure requirement. More importantly, the fact that some firms chose not to comply with the law suggests that the cost of disclosing detailed information on subsidiaries was greater than the benefit of a more complete information environment for the non-compliant firms.

Corporate Tax Avoidance

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