Transparency in financial statements has few, if any, public detractors. For their part, though, investors appear to like some things more than transparency — like difficult-to-read tax footnotes.

Investors are, of course, in the game to make money. According to new research, they think they’ll make more of it if companies they invest in practice high levels of tax avoidance — in other words, engage in aggressive tax planning. And opaque tax footnotes are a signal of aggressive tax planning.

“IRS downloading of company annual reports becomes more likely as tax avoidance increases,” says Auburn University professor Kerry Inger, co-author of a paper in the spring issue of The Journal of the American Taxation Association. “Presumably that reflects a heightened interest in the tax footnotes of those reports, so it is not surprising that managers who are adept at tax avoidance would be reluctant to make those notes models of clarity.”

Inger adds, “While it is widely assumed that investors favor clarity, we find that they’re even more appreciative of management efforts to minimize taxes, even if this means footnotes that are hard to decipher.”

Researchers quantified their findings using Tobin’s q, a common measure of companies’ appeal to investors based on the ratio of market value to book value. A group of companies identified as the most aggressive tax avoiders enjoyed a 12.4% boost in Tobin’s q compared with firms near the avoidance median — provided, that is, that tax footnotes scored low in readability.

In contrast, where top tax avoiders’ footnotes were relatively clear and straightforward, Tobin’s q was actually 3.4% below the avoidance minimum.

“These results are consistent with investors preferring firms with relatively high tax avoidance to have less straightforward tax footnotes,” explain the authors, who in addition to Inger include the University of Missouri’s Michele Meckfessel, Mi Zhou of Virginia Commonwealth University, and Virginia Polytechnic Institute’s Weiguo Fan.

Investors reacted oppositely with respect to companies that were below-average tax avoiders. In those cases, Tobin’s q got a boost from increased avoidance if tax-footnote readability was high.

Among such companies, “Since there is not a lot of tax avoidance to conceal from the tax authority and the avoidance that is occurring is likely on the benign end of the spectrum.… Investors will prefer straightforward disclosures when tax avoidance is low.”

The study analyzed tax footnotes from annual reports of multinational firms included in the S&P 1500 from 2000 through 2014. The sample comprised about 11,700 firm-years.

To assess the readability of tax footnotes, the researchers used a standard linguistic index that, they wrote, “captures readability or syntactic complexity as a function of syllables per word and words per sentence.”

Asked for an example of low readability, the authors pointed to this verbiage from a company ranking particularly high in tax avoidance:

“The change in the valuation allowance reflects the recording by the Company in 2010 and 2009 of an income tax expense credit of approximately $30 million and $36 million, respectively, resulting from the Company’s elections under applicable sections of the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 and the Housing and Economic Recovery Act of 2008 (as extended by the American Recovery and Reinvestment Act of 2009), allowing corporations to accelerate utilization of certain research and alternative minimum tax (AMT) credit carryforwards in lieu of applicable bonus depreciation on certain qualifying capital investment.”

Observes Inger, “Despite the frustration an investor feels in trying to make sense of virtually indecipherable tax footnotes, this may not be a totally wasteful exercise. More likely than not, it’s providing a quick read of a company’s tax avoidance.”

The Journal of the American Taxation Association, in which the study appears, is a publication of the American Accounting Association.

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