Professor Li Examines the Impact of Corporate Activity in Tax Havens on Equity Markets

The establishment of corporate subsidiaries or affiliates in diverse countries has given rise to many as-yet unanswered questions. For example, how do these international operations impact the valuation of corporate assets? Prof. TieMei Li of the Telfer School belongs to a new cadre of accounting scholars delving into this area, and she is focused on one type of international setting, in particular: Offshore Financial Centres, or OFCs.

“Understanding the effects of corporate activity in countries with uneven levels of institutional quality and investor protection is especially important in an era of continued financial distress,” says Prof. Li, who joined the faculty at the Telfer School in 2011 after completing her PhD at Concordia University. OFCs have come under increasing scrutiny by organizations like the IMF; the G20 countries have also signalled that they intend to increase global cooperation in targeting tax evasion and asset diversion by offshore companies.

In a recent study, Prof. Li and her co-researcher demonstrated that firms that are registered in OFCs and/or located in these countries are more often associated with lower information flows than firms that are not. In other words, less information tends to be capitalized into the stock prices of OFC companies. “Our findings support the view that an environment that is favourable to tax avoidance, is less institutionally sound, etc. translates into lower stock-price informativeness,” says Prof. Li.

Prof. Li, who worked in investment banking with one of China’s largest banks for nearly 10 years, says OFCs “provide a very unique research angle to investigate finance-related aspects of multinational companies.” She plans to research what happens to accounting quality in companies that operate in tax-avoidance jurisdictions. On that front, there is some evidence suggesting that profitable companies with extensive tax-haven subsidiaries manage earnings more than other firms.

Old rules, new realities

A fundamental problem for researchers in this area is that financial accounting has not fully evolved to keep pace with the growing complexity of companies’ foreign activities and ever more diffuse corporate organizations. But developments in the scholarly literature suggest that may be about to change.

Prof. Li says several prominent researchers have shown that globalization has led to profound changes in the concept of firm. Others, she notes, have proposed models for how corporate tax avoidance activity should be valued fully by the market. Says Li: “Global realities have redefined what it means to be a company, energizing debate over how (or how should) various aspects of international activity create or distort value.

“It is a tall order to explain the impact of economic activity in OFC companies, given its complex and opaque nature. But it is a necessary step in adapting accounting to 21st-century realities.