Forecasting Taxes: New Evidence from Analysts

Friday, April 8, 2016, 10:00 a.m. to 11:30 a.m.


Research Seminar Series from the CPA-Canada Accounting and Governance Research Centre

Stephannie Larocque
Assistant Professor, Accountancy
EY Faculty Fellow
Mendoza College of Business, University of Notre Dame, Indiana

Friday, April 8, 2016
10:00 a.m. to 11:30 a.m.
Telfer School of Management
Desmarais Building
DMS 4165
55 Laurier Avenue East
Ottawa, Ontario K1N 6N5
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About the presentation

We provide new evidence about how analysts incorporate and improve upon management forecasts, and how accounting standards limit the usefulness of certain management forecasts for predicting future earnings. Quarterly ETR reporting under the integral method provides mandatory point-estimate forecasts by management, but firms must record certain “discrete” tax items fully in the quarter they occur, polluting these forecasts. Using 321,225 analyst forecasts and managements’ interim ETR estimates for 62,132 firm-quarters from 2003 through 2014, we find the following: 1) discrete items and complexity impair the accuracy of management’s ETR estimates; 2) analysts are less likely to mimic management’s ETR estimate when there are discrete items and they face more complexity; 3) the accuracy of forecasts for analysts who don’t mimic management’s ETR estimate is higher when there are no discrete items and complexity is lower, but the accuracy of these forecasts relative to management is positively associated with complexity; 4) analysts achieve more accurate EPS forecasts when their ETR forecasts are relatively more accurate than management’s, and 5) analysts’ ETR and EPS forecasts are less disperse when management’s estimate excludes discrete items. Together these results indicate that analysts exert effort to try to understand complex tax settings, in contrast with prior researchers’ conclusions that analysts ignored or were confused by tax matters. Further, we suggest that standard-setters re-examine the discrete item exception to the integral method to provide more disclosure, based on our evidence that discrete item reporting impairs the predictive information in quarterly ETRs.

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