Corporate ownership and tax avoidance: International Evidence
Master’s Thesis
International Financial Management
June 2019
Author: Lars Ammerlaan
1Supervisor: Dr. H. Gonenc
Co-Assessor: Dr. J. de Ridder
This thesis examines the impact of the degree of family, government- and foreign owned firms on tax avoidance by using a sample of 4,921 firms for the period 2002-2018. These relationships are examined by considering the principal-agent problems that can occur when the CEO also holds the role as chairman of the board. Also, this study examines the influence of the economic development of a country on the relationship between the forms of ownership and tax avoidance. This study expects to find that the higher the degree of family- and government ownership, the less firms engage in tax avoidance. And, the higher the degree of foreign owned firms, the more firms engage in tax avoidance. However, this study does not find support for the notion that family-controlled firms engage more in tax avoidance than non-family controlled firms. Also, the results show insignificant results for the influence of CEO duality on the relationships between the three forms of ownership and tax avoidance. The effect of the country’s economic development on the relationship between the forms of ownership and tax avoidance is supported which implies that the higher (lower) the economic development of a country the weaker (stronger) the relationship between the three forms of ownerships and tax avoidance, and vice versa.
Keywords: Corporate ownership, corporate governance, corporate tax avoidance JEL codes: G32, G34, H26
1 Corresponding author: Lars Elias Ammerlaan (s2543699), Master Student International Financial Management. University
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1. Introduction
During the last two decades practices surrounding the implementation of tax strategies to circumvent taxes have grown rapidly. Corporate tax avoidance is an immature research domain and is increasingly receiving considerable attention from policymakers and regulators (Steijvers and Niskanen, 2014). This thesis describes tax avoidance as any strategy on tax planning that reduces explicit tax payments and is measured with the Effective Tax Rate (ETR) (Armstrong et al., 2012; Chen et al., 2010; Dyreng et al., 2010; Huseynov and Klamn, 2012; Wu et al., 2013). Tax avoidance is used as a strategic mechanism to increase profitability by diminishing corporate tax expenses and affects us all at an increasing magnitude. Nevertheless, not all companies make use of this strategy since it might come with several costs. Even though many countries make use of specific anti-tax-avoidance laws, corporations around the world employ managers and accountants to seek ways to decrease their tax liabilities (Jones et al., 2018). It can be held accountable for a loss of government revenue of many developing and developed economies (Hundal, 2011). For this reason, research focuses on the determinants of tax avoidance on corporate taxpayers and indicates various factors that influence tax avoidance, such as size, multinationalism (Rego, 2003), leverage, capital intensity (Richard and Lanis, 2007), compensation of executives and their roles (Mahenthiran and Kasipillai, 2012) to obtain a more valuable understanding of tax avoidance.
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of tax avoidance for shareholders. They find that tax is positively associated with increased profit for shareholders. Namely, a result of tax avoidance is the increase in cash flow and the wealth of investors since it facilitates to take a deduction for expenses that are non-deductible. However, when tax authorities take notice of the tax avoidance practices, then they can force companies to pay additional taxes or impose penalties which leads to a decrease in cash outflows, and in turn to a decrease in shareholders' wealth (Chen et al., 2010; Hanlon and Heitzman, 2010). Thus, shareholders will constantly make a cost and benefit analysis whether to participate in or refrain from tax avoidance activities.
Prior literature calls for evidence on the role of corporate ownership on corporate tax avoidance. On the one hand, Shackelford and Shevlin (2011) view this role as an important determinant in the literature. On the other hand, the authors state that this is an understudied topic (Shackelford and Shevlin, 2011; Chen et al., 2010). Several authors find a negative relationship between family ownership and tax avoidance (Landry et al., 2013; Cheng and Shevlin, 2010). Similarly, Chen et al., (2013) and Kim et al., (2013) document about the relationship between government ownership and tax avoidance in varying directions. Egger et al. (2010) and Demirguc-Kunt and Huizinga (2001) discover that foreign ownership is positively related to tax avoidance. Given the public nature of the contemporary corporations, it is a known fact that the current corporate environment facilitates an overlap regarding shareholdings (Cheng et al., 2013). However, the impact of the degree of the strategic shareholdings on tax avoidance combined in one study has not been examined yet. This thesis ignores who the strategic shareholders are and creates more common understanding on how the degree of strategic shareholdings influences tax avoiding practices around the world. It also facilitates the comparability between the forms of ownership and tax avoidance between countries. In both parent and host countries, regulatory authorities can use these findings in their oversight role.
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Adding to this, this study examines the potential intervening role of the CEO in tax avoiding practices. Accordingly, the CEO duality can have an impact on the level of tax avoidance since CEOs can act in their own self-interest by abusing their extensive power to maximize their incentives with tax planning activities (Tosi et al., 2003). Moreover, it might be more complicated for other board members to challenge the tax proposals and co-services of the chairman might hinder candid evaluation and impair effective monitoring of firm performance (Dalton and Kesner, 1997).
In addition, Freire-Serén and Martí (2013) argue that the economic development of a country influences the strength of third party enforcements and in turn might have an effect on practices surrounding tax avoiding. Therefore, this study aims to find if the country's (economic development and thereby the third party enforcement) will make it less appealing for firms to involve in tax avoidance practices, and vice versa.
The findings indicate that the more a firm is government owned, the lower the level of tax avoidance. And, the more a firm is foreign owned, the higher the level of tax avoidance. The effect of a country's economic development on the relationship between the three forms of ownership and tax avoidance is supported and implies that the higher (lower) the economic development of a country the weaker (stronger) the relationship between the ownership structures and tax avoidance, and vice versa.
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2. Literature Review and Hypothesis Development
A commonly supported fact is that taxes are deductions from a firm’s cash flows. The distributable shareholders dividends imply that firm owners strive to generate the maximum amount of wealth by arranging tax planning activities in the most profitable way. However, the benefits of increased cash flows come with certain non-tax costs. This puts costs and benefits analysis upfront when determining a firm's tax strategy. Below we discuss the benefits and associated costs of tax avoidance. Prior to this, we elaborate on important definitions and theories in order to provide a decent ground for the discussion on the different forms of ownership and tax avoidance. Hence, first an overview of the recent literature will be given and then we shift our attention to the formulation of the hypotheses.
2.1 Tax avoidance - Definition
As stated earlier, there is a widespread concern and interest over the determinants, consequences and magnitude of corporate tax avoidance and aggressiveness. Moreover, the understanding of tax avoidance increases in popularity among researchers since it is still not unambiguously defined (Blouin, 2014). The most challenging part in the literature is that there are no universally accepted definitions of, or constructs for, tax aggressiveness or tax avoidance which means that both terms have different definitions to people (Hanlon and Heitzmann, 2010). Similar to the literature in the field of financial accounting about “earnings quality”, the lack of a widely accepted definition should not stop several kinds of research surrounding this field of topic. Quite the contrary; the more valuable research in this area, the more likely an accepted definition will take shape.
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Lanis and Richardson, 2012; Minnick and Noga, 2010; Tang et al., 2011), to play down the focus on the semantics we mostly discuss this concept with the generic term “tax avoidance”. All things considered, Blouin (2014) argues that this continuum of definitions about where tax planning would be classified as tax aggressive remains unclear. On the whole, Blouin (2014) questions whether researchers are able to delineate this definition in the near future.
2.2 Background: costs and benefits
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environment wherein it operates (Christensen et al., 2004). Therefore, any form of tax avoidance may menace the very existence of the company (Preuss, 2010).
In sum, benefits and/or costs of tax avoidance may alter depending on the type of ownership. This is also argued as one of the explanations for the form of ownership as potential tax avoidance determinant (Shackelford and Shevlin, 2001). Hua and Zin (2007) state that corporate ownership can be seen as a ‘corporate governance core issue’ and that it determines the art of the agency problems that arise in corporate environments.
In conclusion, while the shareholders and managers often benefit from tax avoidance in form of tax savings, they must consider the non-tax costs that can arise and may be of substantial amount depending on the form of corporate ownership and control. These non-tax costs encompass damage to organizational legitimacy, potential fines, price discounts, and agency costs.
2.3 Corporate ownership structures
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controlling shareholders are employed with activities concerning corporate management. In part, this can be due to the lack of interest in certain situations where larger shareholders (e.g. investors) are more passive and focused on reaping profits. Therefore, a major issue of corporate governance is to refrain minority shareholders from possible expropriation of the controlling (or large) shareholders as the latter might act in their own interests at the expense of the minority (or smaller) shareholders. These activities might include committing the firm into disadvantageous situations and participating in excessively risky projects such as illegitimate practices surrounding tax avoidance (Hua and Zin, 2007). In the following section, different characteristics of the three forms of corporate ownership will be explained. This part also evaluates the relevance of the specific ownership types in the context of tax avoidance and develops hypotheses to answer the research question.
2.3.1 Family ownership and tax avoidance
In this study the first corporate ownership we deal with is family ownership. Prior literature identifies that family firms (companies in which the founders or their families exert significant influence through either their presence in the board of directions and/or in a senior position and/or their equity stake) are notably prevalent (Bagnoli et al., 2009). For instance, Anderson and Reeb (2003) show that one-third of the S&P500 firms can be classified as family owned firms in the US. Also, Anderson and Reeb (2003) argue that family members have on average approximately 70 percent of their total wealth invested in their business and hold around 20 percent of the shares of the company. La Porta et al. (1999), Claessens et al. (2000) and Faccio and Lang (2002) demonstrate that family firms are at least as common as non-family firms in Asia and Europe. Chen et al. (2010) argue that family firms inexplicable have to deal with forms of agency conflicts because of the fact that it is controlled by family members. Accordingly, they build from the theory that implicates that tax avoidance comes forward from potential non-tax costs which can occur with tax avoidance and the conflict between costs that taxes induce, as discussed in section 2.2.
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in shareholder preferences might be an indicator of the level of a firm's tax avoiding practices. However, the strength of this agency problem is reduced in family firms because of several reasons. For example, family owners tend to hold under-diversified and concentrated ownership of their firms (Cheng, 2014). Also, family owners are more likely to have stronger incentives to monitor managers to reduce the free rider problem (Schleifer and Vishny, 1986). The trade-off Chen et al. (2010) find is the willingness of managers in family owned firms to forgo tax avoidance to avert the costs that come with a price discount. Desai and Dharmapala (2006) introduce this price discount and argue that it can come up because minority shareholders might infer that tax avoidance practices can be a method for managers of family owned firms to mask rent-seeking. This indicates that investors protect themselves for this form of extraction if they presume that family owned firms conduct family entrenchment. Second, Cheng et al. (2010) and Dharmapala (2006) also discuss potential litigation costs relating to tax avoidance and the harmful effect on the family firm’s reputation. In sum, prior literature indicates that family firms often consider a costs and benefits analysis whether to engage in tax avoidance.
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concerns, outweighs the benefits of the engagement in tax avoiding activities. Also, we can conclude that several studies (e.g. Chen et al., 2010; Desai and Dharmapala, 2006; Isakov and Weisskopf, 2015; Casson, 2000) on family ownership show that family firms do not have a significant segregation in ownership and control. For this reason, for family firms it is important to accurately define the threshold of the concept of ‘control'. This is outlined in the methodology section. Besides the cautiousness for reputational risk and the strong incentives to monitor managers reduces the free rider problem, the potential costs are too high compared to the benefits that tax avoidance brings to the firm. Taken together, we posit the following hypotheses:
H1: Family-controlled firms have a lower level of tax avoidance than non-family firms.
2.3.2 Government ownership and tax avoidance
The second type of ownership we deal with is government ownership. The literature identifies government ownership as present if the government is the major shareholder of the firm and can exert significant influence on policies and the board structure (Chan et al. 2013). Despite the recent trend of privatization many firms still adhere to the form of government ownership and we note a predominant presence of this type in Asian countries. Government ownership is less present in European countries but still exerts significant influence in the economic landscape (Chen et al., 2010).
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However, the lion’s share of the literature (Wu et al., 2013; Bardshaw et al., 2016) shows that government owned firms pay substantially higher taxes compared to non-government owned firms. Recent studies have investigated the role of non-government ownership on firms’ tax reporting behavior in China and found significant results (Chang et al. 2013; Mahenthiran and Kasipillai, 2012; Wu et al. 2013; Zeng, 2011). For instance, Zeng (2011) concludes in his research that non-government owned firms are more tax aggressive compared to government owned firms. Also, Chan et al. (2013) state that tax avoidance practices are less predominant in government owned firms. According to Djankov and Murell (2002) and Sun and Tong (2003) government ownership often induces less incentives to increase financial performance, and as a result to lower financial results. The authors state that managers in government owned firms are less likely to participate in tax avoidance practices since there are less incentives to generate a higher net income. And, it is not being incentivized by the companies’ owners since the companies’ tax cost are collected by the government. Adhering to this, tax avoidance would harm the strategic shareholders’ (in this case the government) income and is therefore not efficient.
Another point of view on government ownership is the possible long-term horizon approach executives take (Chan et al. 2013). Chan et al. (2013) use the findings of the study from Khurana and Moser (2009) as their basis to elaborate on. Khurana and Moser (2009) conclude in their study that companies with a high level of government ownership engage less in tax avoidance practices since their emphasis lays on the long-term horizon. They take into account that tax avoidance might come with penalties, litigations costs and additional tax payments or even more severe consequences. Thus, Chan et al. (2013) conclude that government ownership has a negative effect on tax avoidance which means that companies owned by governments usually refrain from tax avoiding behavior because of their long-term focus. In addition, managers in government owned firms contribute to this effect for the following two reasons (Chan et al. 2013). First, the managers of the firm are usually appointed by the owner of the company, namely the government. For this reason, they are likely to have political goals and therefore are open to report high taxes even at disadvantage of the overall firm value. Second, tax violations can end up in serious penalties and litigation and can jeopardize managers’ future careers in their political surrounding (Liu and Lu, 2007).
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the relationship between government ownership and tax avoidance. A reasonable assumption could be the lack of government owned firms in those countries.
In conclusion, we expect that the principal agent problem is less prevalent the more a firm is government owned since large shareholders have less incentives to act in their own self-interest and involve in tax avoiding practices. Namely, the taxes are being collected by the government, the harmful effect of tax avoidance on strategic shareholders, the political goals of the managers, government owned companies adhere to a long-term focus, and the possible penalties and litigation. Also, monitoring is easier in a firm where ownership is more concentrated (Schleifer and Vishney (1997). For these reasons, we expect that government owned firms involve less in tax avoiding practices the more they are owned by the government. Therefore, we hypothesize the following:
H2: The more a firm is government owned the lower the level of tax avoidance.
2.3.3 Foreign ownership and tax avoidance
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the presence of a significant positive relationship between foreign investors’ interests and tax avoidance in developing countries. Another similar case is the study of Langli and Saudagaran (2004) which focuses on Norwegian firms, and concludes that domestic firms score systematic lower on tax avoidance than the foreign owned Norwegian firms. However, their research dates from almost two decades ago and includes large differences in tax rates compared to now. The results in the literature about the monitoring capabilities of foreign owners are partly contradictory. Fich et al. (2015) find that foreign shareholders that hold larger strategic stakes (more concentrated ownership) in a company, are able to generate beneficial monitoring effects. However, Renneboog (2010) finds no evidence for a monitoring role of foreign shareholders for companies in Europe and state that whether large shareholders will or should provide such monitoring depends on their objectives, preferences, and the constraints to which they are subjected to. Another important notion is that foreign shareholders may come from a country with different legal institutions (e.g. shareholder protection) and/or different extralegal institutions (e.g. tax morale). Accordingly, the more companies are foreign owned the more different social norms and accustomed governance practices are (Aggarwal et al., 2011). Another point of view on foreign ownership is the short-term horizon approach executives take. Also, large shareholders might act in their own interest since they are more passive and want to reap profits abroad. Therefore shareholders care less about the notion that tax avoidance might come with non-tax costs (Chan et al. 2013). These practices affect foreign shareholders' attitudes towards their firms’ tax avoidance behaviors. Given that foreign shareholders have abilities and motivations to play an active role in influencing the decision-making process in the foreign owned firms because of their international visibility, short-term investment horizon and independent position (e.g. Gillan and Starks, 2003; Aggarwal et al., 2011), it is likely that foreign shareholders influence the firms’ tax avoidance decisions to reflect the foreign owners social norms and corporate governance practices of their home countries. This would enhance tax avoidance in the foreign owned firms.
In conclusion, there is an overall tendency that foreign ownership enhances tax avoiding practices. This is in accordance with our third hypothesis:
H3: The more a firm is foreign owned the higher the level of tax avoidance.
2.4 Discretional power of the CEO and economic development
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which has an influence on the relationship between the three forms of ownership and tax avoidance is a country’s economic development. Section 2.4.1 and 2.4.2 will further elaborate on this.
2.4.1 Moderating effect of CEO duality
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of decision control and decision management" (McWilliams and Sen, 1997). The problems that arise when the interests of the stakeholders (principal) and their management (agent) are different, can be diminished if the role of the chairman and the CEO is split. This is because a minimization of the agency costs can be achieved since the chairman can adopt a monitoring role (Tosi et al., 2003; Palanissamy, 2015). In summary, the Agency Theory discourages CEO duality since CEOs can act in their own self-interest by abusing their extensive power. In turn, this can cause opportunistic behavior (Tosi et al., 2003). Kim et al., (2009) defines opportunistic behavior as; "self-interest seeking with guile, which includes a blatant from such as tax avoidance". Moreover, CEOs have more possibilities to act opportunistic in decision-making processes because of their powerful position in the board and it is more complicated for other board members to challenge the tax proposals. It is easier for the CEO as chairman to control and conceal his or her activities (Tosi et al., 2003). For these reasons, this study expects that when the CEO also serves as the chairman of the board that the family-controlled, government owned and foreign owned firms engage more in tax avoidance practices. Therefore, we hypothesize the following:
H4a: Family-controlled firms with CEO duality have a less low level of tax avoidance. H4b: The more a firm is government owned and has CEO duality the less low the level of tax
avoidance.
H4c: The more a firm is foreign owned and has CEO duality the much higher the level of tax
avoidance.
2.4.2 Moderating effect of economic development
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Contrary to that, Tsakumis et al. (2007) find that countries with larger shadow economies (as a % of GDP) are viewed as less compliant countries (i.e. higher (lower) underreporting of income equates to more (less) tax evasion. According to Tsakumis et al. (2007) the three most compliant tax countries between are the Austria, Switzerland, and the US and the least compliant tax countries are Thailand, Peru and Panama in the period between 2000-2002. In their research, the scores of tax evasion are mean estimates of a country’s so-called shadow economy as a percentage of GDP for the years 2000-2002 and are taken from Schneider (2004). Countries with larger (smaller) shadow economies as a percentage of GDP represent higher (lower) tax evasion countries. Also, Freire-Serén and Martí (2013) find that an increase or a reduction in economic growth can have an effect on the tax avoidance.
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H5a: Family-controlled firms in a country with higher economic development have a much
lower level of tax avoidance.
H5b: The more a firm is government owned in a country with higher economic development
the much lower the level of tax avoidance.
H5c: The more a firm is foreign owned in a country with higher economic development the
less high the level of tax avoidance.
3. Methodology, Variables and Regression Models
This section describes the research methodology. The framework seeks to operationalize the variables showing how research is administered. This includes the sample selection and justification of such.
3.1 Measures of Tax Avoidance
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3.2 Sources and sample selection
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Table 1: Sample Selection
Firm-year observations in DataStream between 2002-2018 149,816
Less observations with insufficient data for calculating (variables) (75,530)
Less observations with insufficient data for CEODuality (37,418)
Subtotal 36,868
Less financial institutions (SIC 6000-6999) (7,149)
Less utility firms (SIC 4900-4999) (180)
Total number of observations used for regression 29,539
Due to the deletion of financial institutions and utility firms our sample is not subject to any form of influences which can reduce the representativeness of the sample. A final sample of 29,539 firm-year observations and 4,921 firms from all over the world is construed. Appendix B presents the distribution of the observations per year, industry and country as percentage of share of the total observations per year, industry and country. Table 2 shows the distribution of observations over countries. The three countries with the most observations are; United States (10,506), Japan (2,525) and Australia (1,896).
Table 2: Distribution of observations over countries
Country Observations Country Observations Country Observations Country Observations
ARE 27 DNK 153 KOR 581 QAT 25
ARG 124 EGY 42 KWT 31 RUS 185
AUS 1,896 ESP 231 LKA 8 SAU 40
AUT 74 FIN 177 LUX 21 SGP 251
BEL 119 FRA 602 MAR 7 SWE 404
BHR 11 GBR 1,786 MEX 227 THA 205
BRA 407 GRC 88 MYS 281 TUR 119
CAN 1,417 HKG 997 NLD 196 TWN 685
CHE 325 HUN 19 NOR 136 USA 10,506
CHL 182 IDN 205 NZL 263 ZAF 646
CHN 1,245 IND 565 OMN 18 ZWE 1
COL 79 IRL 75 PAK 14
CYM 6 ISR 80 PER 144
CYP 2 ITA 231 PHL 98
CZE 18 JPN 2,525 POL 102
DEU 569 KEN 6 PRT 60 Total 29,539
Note: this table presents the distribution of observations over the countries in the sample.
3.3 Specification of the empirical model and measurement of variables
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the p-values of the ß-coefficients are likely over- or understated. This study performed a White test in order to check for heteroscedasticity and indicated a problem of the residuals (X2 = 20.29;
p-values = 0.00001). For this reason, this study uses robust (consistent) standard errors in the
OLS regressions that cluster by both firm and year (Thompson, 2011).
Due to the fact that this thesis examines a variety of firms over a period of more than one year, this study deals with panel data. Panel data allows to use different measurements on observations and includes multiple firms for a time period during several years. This type of data administers two types of information: time-series (or within subjects) and cross-sectional. Time-series depict the information of changes over a time period and cross-sectional information reflects dissimilarities between subjects. The robust standard errors are clustered at firm-year level. The analysis also included the following control variables year, industry and firm fixed effects in the regression process. Since this field of study has to deal with endogeneity of both different types of ownership and tax avoidance. To be able to interpret the results correctly, this study employs a one-year lag (t-1) in the regression for the dependent and independent variables.
Similar to Minnick and Noga (2010) and given the dynamic nature of the panel data, this thesis maintains a standard linear relationship between corporate tax avoidance and its explanatory variables. The selected control variables are in line with prior studies (Badertscher el al., 2013; Chen et al., 2010; Dyreng et al., 2008; Minnick and Noga, 2010; Richard and Laniz, 2007; Steijvers and Niskanen, 2014) and turn out to be influencing factors to firms’ tax burdens. The subscripts i and t denote firm and year respectively. The constant term is αi and
β1 to β11 are slopes to be estimated and ԑi,t is the error term in the model. The first regression
is demonstrated below:
ETRi,t = αi + ⋎ETRi,t-1 + β1DummyFamily20%i,t-1 + β2Governmenti,t-1+ β3Foreigni,t-1 +
β4SIZEi,t-1 + β5ROAi,t-1 + β6LEVi,t-1 + β7MTBi,t-1 + β8R&Di,t-1 + β9CapInti,t-1 + β10CEODuality
+ β11GDP + Year Dummies + Industry Dummies + ԑi,t
The second regression for investigating the moderating effect of the CEO as chairman of the board is given as follows:
ETRi,t = αi + ⋎ETRi,t-1 + β1DummyFamily20%i,t-1 + β2Governmenti,t-1+ β3Foreigni,t-1 + β4
(DummyFamily20%i,t-1*CEODuality) + β5(Governmenti,t-1*CEODuality) + β6(Foreigni, t-1*CEODuality) + β7SIZEi,t-1 + β8ROAi,t-1 + β9LEVi,t-1 + β10MTBi,t-1 + β11R&Di,t-1 +
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Where CEO_Duality denotes that the CEO is chairman of the board and is dummy variable taking the value of 1 if the CEO is also the chairman of the board, and 0 otherwise. We expect that the signs of the coefficients β4 , β5 , β6 show negative and statistically significant result if
the governance effect of CEO_Duality indicates an interactive effect on the relationship between family-controlled, government owned and foreign owned firms and tax avoidance. The third regression for investigating the moderating effect of economic development is given as follows:
ETRi,t = αi + ⋎ETRi,t-1 + β1DummyFamily20%i,t-1 + β2Governmenti,t-1+ β3 Foreigni,t-1 + β4
(DummyFamily20%i,t-1*GDP) + β5(Governmenti,t-1*GDP) + β6(Foreigni,t-1*GDP) + β7SIZEi, t-1 + β8ROAi,t-1 + β9LEVi,t-1 + β10MTBi,t-1 + β11R&Di,t-1 + β12CapInti,t-1 + β13CEODuality + Year
Dummies + Industry Dummies + ԑi,t
We expect that the signs of the coefficients β4, β5 and β6 show a positive and statistically
significant result if GDP indicates an interactive effect on the relationship between family-controlled- and government owned firms and tax avoidance, and expect a negative and significant effect of the beta β6 if the GDP indicates an interactive effect for foreign owned
firms and tax avoidance.
3.3.1 Dependent Variable
This research uses Effective Tax Rate (ETR) as a common measure of corporate tax avoidance and is consistent with prior literature (Armstrong et al., 2012; Chen et al., 2010; Dyreng et al., 2010; Huseynov and Klamn, 2012; Wu et al., 2013). Our dependent variable ETR is measured as the total tax expense divided by pre-tax income and is expected to be positive (Wu et al., 2013). As stated earlier, an important note is that a higher ETR reflects less tax avoidance. For example, when the empirical results in the table show an increase in ETR, it indicates a decrease in tax avoidance, and vice versa.
3.3.2 Independent Variables
There is an ongoing debate about ownership, concentration and control, especially in family firms. Concentrated ownership simply refers to the case where the majority of the strategic shares are held by few owners. Different from the other independent variables Government and
Foreign, this study treats family ownership as ‘family-controlled firms’ since the family firm
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to the definitions of La Porta et al. (1999), Claessens et al. (2000) and Faccio and Lang (2002) and classifies family firms as “family-controlled” if more than 20% of the strategic shares are held by employees or individual investors. The main explanatory variable of Family ownership is Family_20%. However, this study sticks to prior literature (e.g. Steijvers and Niskanen, 2014) and incorporates several independent variables in order to verify whether family firms are more or less tax aggressive than their non-family counterparts. The other explanatory variables that we use in the robustness checks for family ownership are Family_10% and
Family_50% and indicate more than 10% and 50% of the strategic shares held by employees
or by individual investors respectively. Moreover, this study incorporates dummy variables that indicate whether the firm is considered as a family-controlled firm or not. The second independent variable is the degree of government ownership; Government and is measured as the percentage of strategic shareholdings of 5% or more held by a government or a government institution (Mohd Ghazali and Weetman, 2006). The third independent variable is the degree of foreign ownership; Foreign and is measured as the percentage of strategic shareholdings of 5% or more held in a country outside that of the issuer. The strategic shareholders have potential influence on other directors in decision making and is intended to be captured with these measures (Salihu et al., 2013). As stated before, the classification for government owned and foreign owned firms as ‘government-controlled’ firms and ‘foreign-controlled’ firms was not possible due to the lack of data. Therefore, this study examined the degree of strategic shareholdings.
3.3.3 Control Variables
In each of the regressions we perform, the control variables reported in prior research on corporate tax avoidance are being used (e.g. Badertscher el al., 2013; Chen et al., 2010; Dyreng et al., 2008; Minnick and Noga, 2010; Richard and Laniz, 2007; Steijvers and Niskanen, 2014). In our analysis we control for various firm-specific characteristics including; size (SIZE), growth (MTB), profitability (ROA), leverage (LEV), capital intensity (CapInt) and research and development costs (R&D).
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a firm usually appoints other executives as board members and can use the most influential position to lead or mislead others. Also, when the CEO is also the chair, he/or she impairs effective monitoring. When the CEO also holds the position of the chairman of the board (CEO_Duality), the ETR will be lower, meaning more tax avoidance in the firm. The variable
CEO_Duality is a dummy variable and equals the value of 1 if the CEO is also the chairman of
the board, and 0 otherwise. On the country level, this study controls for economic development using GDP per capita to capture the international dimension of the study (El Ghoul et al., 2016; Goss and Roberts, 2010). In this thesis, we expect that the higher a country’s economic development, the stronger the third party enforcement will be, and vice versa, which makes it less appealing for family-controlled, government owned and foreign owned firms engage in tax avoidance practices. We expect that in countries with a high GDP, the ETR will be higher which means the lower the tax avoidance, and vice versa. GDP is measured as the natural logarithm of GDP per capita in US dollars. In addition, all regressions include dummy variables to control for year and industry fixed effects (Chen et al, 2010).
4. Results
4.1 Descriptive statistics
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Table 3: Descriptive Statistics
Variable N Mean Std. Dev Min Max
(In)dependent variables ETR 29,539 0.2837 0,1408 0 1 Family_10% 29,539 0.1687 0,3745 0 1 Family_20% 29,539 0.1114 0,3146 0 1 Family_50% 29,539 0.0331 0,1790 0 1 Government 29,539 0.0124 0,0724 0 .55 Foreign 29,539 0.0507 0,1387 0 .77 Control variables 29,539
SIZE (in millions of USD) 29,539 14.7049 1.7495 9.0011 19.7327
ROA 29,539 0.0845 0.1252 -0.7059 0.4070 LEV 29,539 0.1769 0.1535 0 0.8170 MTB 29,539 3.1440 3.4628 0.2332 22.0360 RD 29,539 0.0737 0.5520 0 7.5470 CapInt 29,539 0.3200 0.2383 0.00015 0.9481 CEO Duality 29,539 0.2906 0.4540 0 1
GDP per capita (in thousands of
USD) 29,539 18.5020 15.7559 7.1648 129.4808
Note: This table contains information on the summary statistics of the main variables employed throughout the regressions analyses. The full sample consists of 4,921 firms and covers the time period of 2002-2018 and is obtained from the ASSET4 database in DataStream. The selection criteria are described in section 3.3. All variables are defined in Appendix A.
4.2 Correlation analysis
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Table 4: Correlation Matrix
ETR FAM GOV FOR SIZE ROA LEV MTB R&D CapInt GDP
ETR 1,000 FAM 0,0103 1,000 GOV 0,0801 -0,0503 1,000 FOR -0,1222 0,0313 -0,0081 1,000 SIZE -0,0855 -0,0755 0,1306 -0,0394 1,000 ROA 0,1100 0,0543 -0,0149 0,0379 -0,1242 1,000 LEV -0,0211 -0,0163 0,0158 -0,0346 0,0911 -0,0832 1,000 MTB -0,0162 0,0295 -0,0527 0,0227 -0,2601 0,3527 0,0744 1,000 R&D -0,0894 -0,0176 -0,0174 -0,0106 -0,1223 -0,2456 -0,0532 0,0858 1,000 CapInt -0,0694 -0,0314 0,0485 0,0354 -0,1030 -0,0254 0,3297 -0,0974 -0,0666 1,000 GDP 0,0425 -0,0035 -0,1794 -0,0999 -0,0591 -0,0714 0,0534 0,0025 0,0450 -0,0161 1,000
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4.3 Results Hypothesis 1 - 4
All the results are obtained through a fixed effects model with both year- and industry fixed effects. To correct for heterogeneity, we adjust for robust standard errors clustered at firm- year level. Table 5 presents the results of the regressions for hypotheses 1 – 3 (Column 1) and hypotheses 4 (Column 2-4).
Table 5: Regression results (hypotheses 1-4)
(1) (2) (3) (4)
VARIABLES ETR ETR ETR ETR
Constant 0.0518* 0.0514* 0.0524* 0.0519* (0.0308) (0.0309) (0.0308) (0.0308) Family_20% 0.00992 0.00911 0.00891 0.00888 (0.00329) (0.00361) (0.00329) (0.00330) Government (%) 0.0704*** 0.0706*** 0.0643*** 0.0704*** (0.0209) (0.0209) (0.0223) (0.0209) Foreign (%) -0.0433*** -0.0434*** -0.0433*** -0.0460*** (0.00927) (0.00928) (0.00927) (0.00993) SIZE -0.0150*** -0.0150*** -0.0150*** -0.0150*** (0.00101) (0.00101) (0.00101) (0.00101) ROA 0.1460*** 0.1460*** 0.1460*** 0.1460*** (0.00920) (0.00921) (0.00920) (0.00920) LEV -0.0187*** -0.0187*** -0.0187*** -0.0187*** (0.00145) (0.00145) (0.00145) (0.00145) MTB 0.00202*** 0.00202*** 0.00203*** 0.00202*** (0.00313) (0.00313) (0.00313) (0.00313) R&D -0.0133*** -0.0133*** -0.0133*** -0.0133*** (0.00164) (0.00163) (0.00163) (0.00164) CapInt -0.0120* -0.0120* -0.0120* -0.0120* (0.00679) (0.00679) (0.00679) (0.00679) CEO_Duality -0.00231*** -0.00328*** -0.00202*** -0.00282*** (0.00175) (0.00185) (0.00175) (0.00183) GDP 0.0144*** 0.0144*** 0.0145*** 0.0144*** (0.00187) (0.00187) (0.00187) (0.00187) (Family_20% * CEO_Duality) -0.00888 (0.00542) (Government (%) * CEO_Duality) -0.0346 (0.0359) (Foreign (%) * CEO_Duality) -0.0117 (0.0133)
Year FE YES YES YES YES
Industry FE YES YES YES YES
R2 0.1466 0.1467 0.1465 0.1465
Observations 29,539 29,539 29,539 29,539
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Note: this table reports the results from the regressing the ETR on family-controlled firms, government owned firms, foreign owned firms, controls and the interaction term (CEO_Duality). Definitions of all variables are described in appendix A. The dummy of Family_20% equals 1 if the % of strategic shares held by employees or by individual investors is more than 20%, 0 otherwise. All standard errors are presented below each coefficient estimate in the parenthesis. The asterisks ***, **, * indicate the statistical significance at the level of 1%, 5%, 10%, respectively.
Hypothesis one predicts that family-controlled have a lower level of tax avoidance than non-family firms. In turn, this would mean an increase in ETR; indicating that family-controlled firms pay more on taxes and avoid less taxes. Therefore a positive coefficient is expected for the variable Family_20%. Column 1 reports that Family_20% has a coefficient of 0.00992 on ETR but is not significant at any level. The results are consistent with hypothesis one but are not significant, therefore we reject hypothesis 1. We cannot make any conclusions based on this. These findings are consistent with Annuar et al. (2014), they expect the relationship between family ownership and tax avoidance to be positive but do not find significant results. The difference may be due to the uncertainty in the literature about family control and ownership (Chen et al., 2010; Desai and Dharmapala, 2006; Isakov and Weisskopf, 2015; Casson, 2000.
Hypothesis two predicts that the more a firm is government owned the lower the level of tax avoidance. In turn, this would mean an increase in ETR; indicating that the more a firm is government owned the lower the level of tax avoidance. Therefore a positive coefficient is expected for the variable Government (%). Column 1 reports that Government has a coefficient of 0.0704 on ETR and is significant at the level of 1%. The results are consistent with hypothesis two and support the notion that the more a firm is government owned, the lower the level of tax avoidance. More specifically, when the percentage of the strategic shares held by a government or a government institution increases with one share, then the ETR increases with 0.0704% which indicates a lower level of tax avoidance. These findings are consistent with for instance the authors Chan et al. (2013); Liu and Lu (2007) described in section 2.3.2. which theorize that government owned firms pay substantially lower taxes compared to non-government owned firms.
Hypothesis three predicts that the more a firm is foreign owned the higher the level of
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higher level of tax avoidance. These findings are consistent with the authors Dermiguc-Kunt and Huizinga (2001), Aggarwal et al. (2011), Rennenboog (2010) and Gillian and Starks (2003) described in section 2.3.3. which theorize that domestic owned firms have systematic higher ETRs than the foreign owned firms.
Lastly, the positive and significant coefficients of ROA, MTB and GDP (at 1% threshold) in Column 1 imply that an increase in these variables increase the ETR, indicating a lower level of tax avoidance. The negative and significant coefficients of SIZE, LEV, R&D, CapInt (at 10% threshold) and CEO_Duality (at 1% threshold) in Column 1 imply that an increase in these variables has a negative impact on ETR, indicating a higher level of tax avoidance.
Hypothesis four(a) predicts family-controlled firms with CEO duality have a less low
level of tax avoidance. In turn, this would mean a lower ETR; indicating that family-controlled firms pay less on taxes and avoid more taxes when the CEO holds the function of chairman of the board. Therefore a negative coefficient is expected for the interaction term (Family_20% * CEO_Duality). Column 2 reports that (Family_20% * CEO_Duality) has a coefficient of -0.00888 on ETR but is not significant at any level. Therefore, it would be inappropriate to make any inferences on this variable due to the insignificant coefficients.
Hypothesis four(b) predicts that the more a firm is government owned and has CEO
duality the less low the level of tax avoidance. In turn, this would mean a lower ETR; indicating that government owned firms pay less on taxes and avoid more taxes when the CEO holds the function of chairman of the board. Therefore a negative coefficient is expected for the interaction term (Government * CEO_Duality). Column 3 reports that (Government * CEO_Duality) has a coefficient of 0.0346 (in percentages %) on ETR and is not significant at any level. This variable shows a positive sign but we expected a negative sign. However, it would be inappropriate to make any inferences on this variable due to the insignificant coefficients.
Hypothesis four(c) predicts that the more a firm is foreign owned and has CEO Duality
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Table 6: Regression results (Hypotheses 5)
(4) (5) (6) (7)
VARIABLES ETR ETR ETR ETR
Constant 0.0518* 0.0448* 0.0453* 0.0458* (0.0308) (0.0309) (0.0310) (0.0316) Family_20% 0.00992 0.00899 0.00891 0.00846 (0.00329) (0.0459) (0.00329) (0.00329) Government (%) 0.0704*** 0.0714*** 0.0617*** 0.0678*** (0.0209) (0.0208) (0.00119) (0.0210) Foreign (%) -0.0433*** -0.0440*** -0.0420*** -0.0406*** (0.00927) (0.00927) (0.00929) (0.00942) SIZE -0.0150*** -0.0151*** -0.0151*** -0.0151*** (0.00101) (0.00101) (0.00101) (0.00101) ROA 0.1460*** 0.1460*** 0.1470*** 0.1450*** (0.00920) (0.00921) (0.00918) (0.00920) LEV -0.0187*** -0.0186*** -0.0177*** -0.0187*** (0.00145) (0.00844) (0.00844) (0.00843) MTB 0.00202*** 0.00202*** 0.00204*** 0.00209*** (0.00313) (0.00312) (0.00313) (0.00312) R&D -0.0133*** -0.0133*** -0.0133*** -0.0134*** (0.00164) (0.00163) (0.00163) (0.00164) CapInt -0.0120* -0.0118* -0.0118* -0.0114* (0.00679) (0.00679) (0.00678) (0.00677) CEO_Duality -0.00231*** -0.00235*** -0.00226*** -0.00235*** (0.00175) (0.00174) (0.00174) (0.00174) GDP 0.0144*** 0.0137*** 0.0169*** 0.0173*** (0.00187) (0.00191) (0.00190) (0.00205) (Family_20 * GDP) 0.00990** (0.00441) (Government (%) * GDP) 0.0712*** (0.0131) (Foreign (%) * GDP) -0.0421*** (0.00931)
Year FE YES YES YES YES
Industry FE YES YES YES YES
R2 0.1466 0.1470 0.1488 0.1440
Observations 29,539 29,539 29,539 29,539
Number of firms 4,921 4,921 4,921 4,921
Note: this table reports the results from the regressing the ETR on family-controlled firms, government owned firms, foreign owned firms, controls and the interaction term (GDP). Definitions of all variables are described in appendix A. The dummy of Family20% equals 1 if the % of strategic shares held by employees or by individual investors is more than 20%, 0 otherwise. All standard errors are presented below each coefficient estimate in the parenthesis. The asterisks ***, **, * indicate the statistical significance at the level of 1%, 5%, 10%, respectively.
Table 6 presents the results of the regressions for hypotheses 1 – 3 (Colum 4) discussed above and hypothesis 5 (Column 5-7) discussed below.
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Hypothesis five(b) predicts that the more a firm is government owned in a country with higher economic development the much lower the level of tax avoidance. In turn, this would indicate a higher ETR for the relationship between government owned firms and tax avoidance when the GDP of a country increases; indicating that government owned firms pay more- and avoid less taxes in countries where the GDP is higher. Therefore, a positive coefficient is expected for the interaction term (Government * GDP). Column 6 reports that (Government * GDP) has a coefficient of 0.0712 (in %) on ETR and is significant at all levels. The results are consistent with hypothesis five(b).
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4.6 Robustness analysis
This section seeks to check robustness of the discussed models by changing the percentage for “control” the independent variable Family_20% (Column 8) to Family_10% (Column 9) and Family_50% (Column 10). Moreover, this study also tests robustness by splitting the sample into two equal time periods (Column 11 and Column 12).
Table 7: Robustness checks
Family-controlled >20% (8) Family-controlled >10% (9) Family-controlled >50% (10) Sample split (2002-2010) (11) Sample split (2011-2018) (12)
VARIABLES ETR ETR ETR ETR ETR
Constant 0.0518* 0.0525* 0.0509* 0.0795* 0.0770** (0.0308) (0.0308) (0.0308) (0.0413) (0.0361) Family_20% 0.00992 0.01007 0.00977 (0.00329) (0.00398) (0.00507) Family_10% 0.00717 (0.00278) Family_50% 0.01031 (0.00588) Government 0.0704*** 0.0703*** 0.0705*** 0.0743*** 0.0441*** (0.0209) (0.0209) (0.0209) (0.0216) (0.0253) Foreign -0.0433*** -0.0433*** -0.0434*** -0.0863*** -0.0395*** (0.00927) (0.00928) (0.00928) (0.0134) (0.0113) SIZE -0.0150*** -0.0150*** -0.0150*** -0.0163*** -0.0100*** (0.00101) (0.00101) (0.00101) (0.00115) (0.00122) ROA 0.1460*** 0.146*** 0.146*** 0.173*** 0.126*** (0.00920) (0.00920) (0.00919) (0.0113) (0.0134) LEV -0.0187*** -0.0187*** -0.0187*** -0.0122** -0.0303** (0.00145) (0.00845) (0.00845) (0.0114) (0.0112) MTB 0.00202*** 0.00202*** 0.00203*** 0.00190*** 0.00224*** (0.00313) (0.00313) (0.00312) (0.00390) (0.00453) R&D -0.0133*** -0.0133*** -0.0133*** -0.0112*** -0.0169*** (0.00164) (0.00164) (0.00164) (0.00188) (0.00192) Capital Intensity -0.0120* -0.0121* -0.0120* -0.00853* -0.00720* (0.00679) (0.00680) (0.00680) (0.00828) (0.00832) CEO_Duality -0.00231*** -0.00232*** -0.00231*** -0.00258*** -0.00396*** (0.00175) (0.00175) (0.00175) (0.00232) (0.00247) GDP 0.0144*** 0.0144*** 0.0144*** 0.0179*** 0.0139*** (0.00187) (0.00187) (0.00187) (0.00231) (0.00211)
Year FE YES YES YES YES
Industry FE YES YES YES YES
R2 0.1366 0.1366 0.1366 0.1370 0.1370
Observations 29,539 29,539 29,539 15,373 14,166
Number of firms 4,921 4,921 4,921 3,807 4,299
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This section seeks to check robustness of the discussed models by changing the percentage for “control” the independent variable Family_20% (Column 8) to Family_10% (Column 9) and Family_50% (Column 10). Moreover, this study also tests robustness by splitting the sample into two equal time periods (Column 11 and Column 12).
Because of the ongoing debate in the literature about the definitions of control, we adopt different percentages for when family firms can be labeled as in ‘control’ (Colum 8 – 10). The positive and insignificant coefficient of the relationship between Family_20% and ETR in Columns 8-10 resembles previous results in table. However, it would be inappropriate to make any inferences on this variable due to the insignificant coefficients.
Since the regulatory environment has changed during the last decades, differences between time periods may be observable. I seek to test the robustness of the sample by doing a sample split in years (Column 11 and Column 12). In general, the positive and insignificant coefficients of Family_20% and ETR in Columns 11 and 12 resembles previous results. However, a remarkable finding is the almost double as high coefficient of Government between 2002-2010 (0.0743%) compared to Government between 2011-2018 (0.0441%). This indicates that there was a significant difference in the relationship between the degree of government owned firms and tax avoidance between the years of 2002-2010 and 2011-2018. Another remarkable finding is the coefficient of Foreign between 2002-2010 (-0.0863%) compared to
Foreign between 2011-2018 (-0.0395%).
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5. Conclusion and managerial implications
This thesis wanted to further embellish our understanding on the relationship between corporate tax paying behavior and the different forms of ownership. This paper provides evidence regarding the relationships between the forms of corporate ownership and tax avoidance across countries.
Firstly, this thesis does not find support for the notion that family-controlled firms have a lower level of tax avoidance than non-family firms. A possible explanation can be because of the uncertainty in the literature about the definitions of 'control' and with what degree of strategic shares a family firm is in control and/or family owned.
Secondly, this study finds that the more a firm is government owned the lower the level of tax avoidance. Possible argumentation for this could be that government owned firms emphasize the long-term horizon approach which takes into account that tax avoidance might come with non-tax costs. Also, the principal-agent problem is less prevalent the more a firm is government owned, since large shareholders have less incentives to act in their own self-interest and involve in tax avoiding practices. Therefore, they often have political goals and are open to report taxes even at disadvantage of the overall firm value since managers of a firm are usually appointed by the owner of the company, the government. Secondly, tax violations can end up in serious penalties and jeopardize managers' future careers in political surroundings. Also, monitoring of the managers is easier in a firm where ownership is more concentrated which makes it easier to detect tax avoiding practices.
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countries which makes is less appealing for family-controlled, government owned and foreign owned firms to engage in tax avoidance practices.
This study gives significant insights into the understanding of tax paying behavior of companies. The possibility of exploiting operations internationally to avoid taxes in both parent and host countries is feasible from these results. In both parent and host countries regulatory authorities can use these findings in their oversight role. Specifically in emerging economies, governments should be cautious in welcoming foreign investors since the weak enforcement environment creates opportunities for tax avoidance. This thesis helps different stakeholders of a company to understand what the effect of the degree of ownership in relation to tax avoidance is. In general, we see that stakeholders' interests differ significantly, as the public emphasizes fair tax payments of firms, the state wants to collect tax revenues, managers want to maximize their incentives with tax planning activities and the shareholders want to maximize firm value. Now, better understanding among stakeholders can be achieved. For example, the jurisdiction and the state can adapt their monitoring policies based on the degree of ownership in firms or the managerial boards can create shareholders incentives to monitor and share knowledge with the company. In conclusion, an important insight from these results for policymakers is that diligent caution should be exercised in the evaluation of investments in a company. Also, tax policy makers (often the government) may find it useful to prioritize an extensive assessment of the strategic shareholding structure in a company before determining the taxation policies in a country.
6. Limitations and Further Research
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