A couple of decades ago, the senior management of major corporations was often less than responsive to public pressures of various sorts. With a few exceptions where major media got involved, issues such as customer complaints or public outrage over corporate policy (labor exploitation, tax avoidance) could almost always be ignored with little or no significant consequences.

Public pressure in the second decade of the 21st century is a completely different kettle of fish. In today’s wired, social media-fueled world, a single customer complaint can become a firestorm of negative PR for a business. Corporate tax behavior, in particular, corporate tax evasion has become a hot button topics these days in many places worldwide. The recent huge public blow-back about large U.S. firms relocating their corporate headquarters abroad in tax inversion deals to reduce their tax burdens is an excellent example of how things have changed (of note, several planned tax inversion deals were cancelled after the brouhaha).

Corporate Tax Behavior

Public pressure changing corporate tax behavior in the UK

A recent academic study in the UK further confirms the power of public pressure on corporate tax behavior. The research looks at how the U.K.’s Companies Act of 2006 (which requires firms to disclose the name and location of all subsidiaries) has impacted corporate tax behavior among 100 of the largest public firms in the UK.

The study, authored by Scott Dyreng of the Accounting Area at Duke University, Jeffrey Hoopes of the Department of Accounting & Management Information Systems at Ohio State University, and Jaron Wilde of the Department of Accounting at the University of Iowa, was published in September of last year.

Dyreng et al used data from ActionAid International, a non-profit with a mission of ending poverty worldwide, who discovered in 2010 that close to half of the firms in the FTSE 100 were not disclosing the name and location of all their subsidiaries. ActionAid pressured these firms privately and public as necessary to convince the firms to comply with the law. Of note, the public pressure brought by the ActionAid report was sufficient to bring the vast majority of FTSE 100 firms into compliance with the disclosure rule within two years.

Corporate Tax Behavior

Details on the study

The authors of the study used the public pressure brought to bear by the ActionAid investigations as a “natural experiment.” They looked at whether the public pressure to comply with the Companies Act made tax avoidance more expensive making the public aware of a channel for tax avoidance, i.e., the use of subsidiaries located in foreign tax havens. The idea was to find out “whether the public pressure to disclose the location of all subsidiaries sufficiently changed the net costs and benefits of tax avoidance and using tax haven operations such that it altered firms’ tax avoidance behavior.”

Applying a difference in differences research design, Dyreng et al determined that the 100 firms that ActionAid noted in its report as not compliant with subsidiary disclosure rules reported higher effective tax rates after the public scrutiny. This indicates a decrease in tax avoidance compared to the firms that were not impacted by the public scrutiny.

The result of the study was a 3.7% increase in the effective tax rates of noncompliant firms compared to the effective tax rates of compliant firms after the initial public pressure to comply.