Targets' Tax Shelter Participation and Takeover Premiums

Travis CHOW, Singapore Management University
Ken Klassen
Yanju Liu

This paper was also presented at the 2012 CAAA Annual Conference held in Charlottetown, PEI, Canada, 2012 Trans-Atlantic Doctoral Conference held in London, UK, at the University of Waterloo and the 2014 Contemporary Accounting Research Conference.


This paper takes a new approach to examine the economic consequences of tax sheltering. Specifically, it investigates whether and how the target’s non-sheltering status affects acquisition price and shareholders’ wealth in the context of mergers and acquisitions. Using a novel dataset which identifies targets’ non-participation in tax shelters, I find that the target’s non-sheltering status is associated with a higher takeover premium, indicating that acquirers reward targets for not engaging in tax sheltering. Cross-sectional analysis further reveals that this positive association is stronger for acquirers that are less tax aggressive. Moreover, I find no significant association between the target’s non-sheltering status and the acquirer’s abnormal return, suggesting that the valuation effect of the target’s non-participation in tax shelters is accrued to the target’s own shareholders but not to those of the acquirer. These results are robust to alternative specifications that control for the potential endogeneity of the disclosure decision. This paper answers the call for research on the effects of tax avoidance on mergers and acquisitions (Hanlon and Heitzman 2010) and contributes to the literature by developing a more comprehensive understanding of the consequences of tax sheltering.