Evidence of differing market responses to beating analysts’ targets through tax expense decreases

Cristi A. Gleason () and Lillian F. Mills ()
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Cristi A. Gleason: University of Iowa
Lillian F. Mills: The University of Texas at Austin

Review of Accounting Studies, 2008, vol. 13, issue 2, No 8, 295-318

Abstract: Abstract Returns are positive when firms meet or beat analysts’ consensus forecasts, but negative when firms miss. Prior research finds little substantial discount for managing earnings to beat the forecasts via accruals generally. We consider whether the market reward for beating the forecast is smaller when firms use tax expense decreases, which are visible and transparent at the earnings announcement date, unlike accruals. When firms beat analysts’ forecasts by decreasing their tax expense relative to the third-quarter rate, the market discounts the reward by an economically significant amount: approximately 86%. We document lower persistence of current-year tax changes for those firms that decrease tax expense to beat the target. The observed discount for beating the forecast only because of a third to fourth quarter tax decrease may reflect market perceptions of the lack of persistence of the decrease.

Keywords: Earnings management; Effective tax rate; Earnings surprise; M41; H25 (search for similar items in EconPapers)
Date: 2008
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DOI: 10.1007/s11142-007-9066-8

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