For the question at hand, endogeneity can stem from two potential sources (Larcker and Rusticus 2007). First, an unobservable factor that jointly determines the dependent and independent variables (omitted variable bias), and second, another relation between the dependent and independent variables than is suggested by the regression model (reverse causality). We further elaborate both causes and point out how we address possible issues.
It is possible that the spending on accounting-related services and the degree of benefits, regardless of which measure (|DAcc|, |abCFO|, TaxDiff) in use, are jointly determined by an unobservable common factor. Prior literature documents such relations between earnings management and country-level governance mechanisms (Leuz et al. 2003).
However, since the correlations (Panel C of Table 20) between benefits and country-level governane (Gov) are rather small (i.e., all below 0.3), we have no reason to believe that such a relationship exists here. Tax and accounting regulation, the supervision of the pro-fessional groups, and legal environment, which covers accountants and their clients alike, are naturally intertwined. Therefore, it is difficult to think of a proper variable which would satisfy the conditions for more sophisticated econometric approaches, like a two-stage least squares estimation with an instrumental variable (Larcker and Rusticus 2010).
The second issue, reversed causality, would be severe if we had reasonable doubt regard-ing the direction of the cause-effect relationship. In light of recent regulatory discussion regarding tax aggressiveness and avoidance, it could be plausible to assume that compa-nies would willingly relocate and accept higher accounting- and tax-related fees in coun-tries with better earnings (tax) management opportunities. However, setting up interna-tional tax avoidance schemes or even relocating corporate headquarters to a tax haven is costly and presumes an international presence. Considering the threshold of group reve-nues above US $750m, which the OECD (2016) proposed for some their action against
“Base Erosion and Profit Shifting” (BEPS), most of the companies in our sample are much too small to engage in serious international tax avoidance schemes. In a recent
their pan-European sample have no subsidiaries in any country which could be considered a tax haven. Assuming that our SME-dominated sample mainly consists of firms without any group affiliation, we find little reason to acknowledge a serious threat of reversed causality. However, to address this issue empirically, we conduct two tests. First, we re-estimate our standard model using one-year lagged independent variables:
𝐵𝐵𝐹𝐹𝑑𝑑𝐹𝐹𝐵𝐵𝑖𝑖𝑑𝑑𝑖𝑖𝑑𝑑 = 𝛽𝛽0+ 𝛽𝛽1∙𝐹𝐹𝑒𝑒𝑇𝑇𝑑𝑑𝑇𝑇𝑖𝑖𝑑𝑑−1+ 𝛽𝛽2∙𝑜𝑜𝑒𝑒𝑅𝑅𝑖𝑖𝑑𝑑−1+ 𝛽𝛽3∙𝐹𝐹𝑒𝑒𝑇𝑇𝑑𝑑𝑇𝑇𝑖𝑖𝑑𝑑−1×𝑜𝑜𝑒𝑒𝑅𝑅𝑖𝑖𝑑𝑑−1 + �𝛽𝛽𝑗𝑗 ∙𝐹𝐹𝑖𝑖𝑒𝑒𝐹𝐹𝐹𝐹𝑒𝑒𝑑𝑑𝑑𝑑𝑒𝑒𝑒𝑒𝐹𝐹𝑗𝑗𝑑𝑑−1+ 𝛽𝛽4∙𝑜𝑜𝐺𝐺𝑃𝑃𝑃𝑃𝑒𝑒𝑒𝑒𝐺𝐺𝑑𝑑ℎ𝑖𝑖𝑑𝑑−1 + 𝛽𝛽5∙𝑃𝑃𝑒𝑒𝑃𝑃𝑑𝑑𝐹𝐹𝐵𝐵𝑑𝑑𝑖𝑖𝑒𝑒𝑑𝑑𝑖𝑖𝑑𝑑−1+ �𝛽𝛽𝑘𝑘∙𝑌𝑌𝐹𝐹𝐵𝐵𝑒𝑒𝑑𝑑+ 𝜀𝜀
(13)
All variables are defined as outlined before. Second, we perform another re-estimation of the standard model as a difference equation (Cohen et al., 2008), where Δ denotes the year-to-year change in the respective variable:
∆𝐵𝐵𝐹𝐹𝑑𝑑𝐹𝐹𝐵𝐵𝑖𝑖𝑑𝑑𝑖𝑖𝑑𝑑/𝑑𝑑−1 = 𝛽𝛽0+ 𝛽𝛽1∙ ∆𝐹𝐹𝑒𝑒𝑇𝑇𝑑𝑑𝑇𝑇𝑖𝑖𝑑𝑑,𝑑𝑑−1+ 𝛽𝛽2∙ ∆𝑜𝑜𝑒𝑒𝑅𝑅𝑖𝑖𝑑𝑑,𝑑𝑑−1 + 𝛽𝛽3∙ ∆�𝐹𝐹𝑒𝑒𝑇𝑇𝑑𝑑𝑇𝑇𝑖𝑖𝑑𝑑,𝑑𝑑−1×𝑜𝑜𝑒𝑒𝑅𝑅𝑖𝑖𝑑𝑑,𝑑𝑑−1� + �𝛽𝛽𝑗𝑗𝑑𝑑∙ ∆𝐹𝐹𝑖𝑖𝑒𝑒𝐹𝐹𝐹𝐹𝑒𝑒𝑑𝑑𝑑𝑑𝑒𝑒𝑒𝑒𝐹𝐹𝑗𝑗𝑑𝑑,𝑑𝑑−1 + 𝛽𝛽4∙ ∆𝑜𝑜𝐺𝐺𝑃𝑃𝑃𝑃𝑒𝑒𝑒𝑒𝐺𝐺𝑑𝑑ℎ𝑖𝑖𝑑𝑑,𝑑𝑑−1+ 𝛽𝛽5∙ ∆𝑃𝑃𝑒𝑒𝑃𝑃𝑑𝑑𝐹𝐹𝐵𝐵𝑑𝑑𝑖𝑖𝑒𝑒𝑑𝑑𝑖𝑖𝑑𝑑,𝑑𝑑−1+ �𝛽𝛽𝑘𝑘∙𝑌𝑌𝐹𝐹𝐵𝐵𝑒𝑒𝑑𝑑 + 𝜀𝜀
(14)
5 Results
5.1 Descriptive Statistics
Costs of accounting regulation, as measured by RevShare, range from US $5.39 (Estonia) to US $12.76 per US $1m of GDP in the Netherlands, with a mean value of US $7.79 (Table 19, Panel A of Table 20). The mean and median values for RevUnexp are difficult to interpret since regressions similar to those for discretionary accruals have a median and mean value of zero by design. Figure 1 provides a breakdown of the temporal variation of RevShare (solid line) and RevUnexp (dashed line) for each of the 18 sample countries.
Most countries experienced a slight decrease in RevShare in 2009. Since then, the trend goes slightly upwards. However, in most countries, RevShare remains comparably stable over time. RevUnexp shows less year-specific patterns and has a higher variation between countries.
Table 19 contains summary statistics. A country-breakdown of the three benefits measures and the governance indicators is provided in Panel A of Table 20 as well as for the firm- and macro-level controls in Panel B of Table 20. Our sample is heavily domi-nated by French and Italian companies. For a firm-level analysis, this skewness could possess problems. Since we use the country-year level median for our firm controls, the distribution of firms does not introduce bias. Panel C of Table 20 reports correlations.
Some of our variables display correlations above 0.5. However, variance inflation factors in our empirical are mostly below 5. Hence, multi-collinearity likely is not an issue.
Table 19:
Descriptive Statistics
This table shows descriptive statistics for variables used in the main analysis for 126 country-year obser-vations. RevShare is the share of revenues from accounting-related services to GDP. RevUnexp is the discretionary measure for unexpected revenues. |DAcc| are absolute discretionary accruals estimated on an industry-year basis. |abCFO| are absolute abnormal cash flows calculated on an industry-year basis.
TaxDiff is the difference between the statutory corporate tax-rate and companies’ effective tax rates. Gov is the z-transformed average value of the six World Bank governance indicators. FinRep is the z-trans-formed value of the Financial Reporting Quality Indicator from the World Economic Forum. Tax is the sum of z-transformed yearly values of World Bank’s Doing Business Tax Indicators (time to prepare tax returns, number of tax payments, total tax rate as percentage of commercial profits). Size is the country-year level median value for the natural logarithm of total assets. RoA is operating income divided by lagged total assets. Lev is the relation of long-term liabilities to long-term long-term liabilities and equity.
Cycle is the length of the operating cycle in days. Growth is the year-to-year change in revenues scaled by lagged revenues. GDPgrowth is defined as year-to-year change in GDP and Population is the natural logarithm of a country’s total population.
N Mean SD Q1 Median Q3
Temporal and Cross-Country Variation of RevShare and RevUnexp
-.00015 0.00015 .0003-.00015 0.00015 .0003-.00015 0.00015 .0003-.00015 0.00015 .0003-.00015 0.00015 .0003-.00015 0.00015 .0003
051015051015051015051015051015051015
2008 2010 2012 2014 2008 2010 2012 2014 2008 2010 2012 2014
AUSTRIA BELGIUM BULGARIA
ESTONIA FINLAND FRANCE
GERMANY HUNGARY ITALY
LATVIA NETHERLANDS NORWAY
POLAND PORTUGAL SLOVENIA
SPAIN SWEDEN UNITED KINGDOM
RevShare (left axis) RevUnexp (right axis)
80
Table 20: Descriptive Statistics and Correlations is table shows the mean or median values for the main variables for each of the 18 countries in the sample.RevShare is the share of revenues from accounting-related vices on GDP. RevUnexpis the discretionary measure for unexpected revenues. |DAcc| are absolute discretionary accruals estimated on an industry-year basis. |abCFO solute abnormal cash flows calculated on an industry-year basis. TaxDiff is the difference between the statutory corporate tax-rate and companies’ effective tax rates v is the z-transformed average value of the World Bank’s six governance indicators. FinRepis the z-transformed value of the Financial Reporting Quality Indicator from orld Economic Forum. Tax is the sum of z-transformed yearly values of World Bank’s Doing Business Tax Indicators (time to prepare tax returns, number of ta ments, total tax rate as percentage of commercial profits). Sizeis the country-year level median value for the natural logarithm of total assets. RoA isthe operating incom ed by lagged total assets. Lev isthe relation of long-term liabilities to long-term liabilities and equity. Cycle is thelength of the operating cycle in days. Growth is th -to-year change in revenues scaled by lagged revenues. GDPgrowth is defined as year-to-year change in GDP and Population is natural logarithm of a country’s tota lation. nel A: Measures for costs and benefits of accounting-related services / Governance indicators RevShare RevUnexp|DAcc| |abCFO| TaxDiffGov FinRep Tax MeanMeanMeanMeanMeanMedianMedianMedian tria7.650 -0.00002 0.127 0.168 0.062 0.825 1.3620.328 ium8.425 -0.00001 0.119 0.155 0.119 0.377 1.0370.168 nia5.390 0.00000 0.139 0.189 0.182 -0.156 0.2841.782 and5.675 -0.00012 0.117 0.194 0.000 1.441 1.348-0.882 ce6.681 -0.00010 0.130 0.164 0.165 0.180 1.183-1.252 many 7.733 -0.00004 0.140 0.200 0.107 0.660 1.5420.386 ry11.159 0.00004 0.129 0.157 0.110 -0.788 -0.342-1.377 9.127 -0.00001 0.165 0.165 -0.065 -1.173 -1.341-2.982 herlands 12.756 0.00027 0.138 0.164 0.017 1.069 1.0511.348 way 6.673 0.00003 0.145 0.199 0.001 1.202 1.1012.608 nd6.882 -0.00003 0.139 0.176 -0.008 -0.623 -1.475-3.692 l 6.049 -0.00008 0.138 0.148 0.046 -0.310 0.2160.246 nia 7.663 -0.00001 0.110 0.150 0.002 -0.374 -0.438-0.311 n 8.380 -0.00003 0.121 0.128 0.052 -0.507 -0.138-0.837 eden7.816 -0.00001 0.127 0.181 0.045 1.265 1.5001.191 ted Kingdom11.223 0.00006 0.146 0.199 0.023 0.542 1.457 2.563
81
Table 20: continued Panel B: Firm-level and macroeconomic controls Firm-years SizeRoALev CycleGrowth Population GDPgrowth NMedianMedianMedianMedianMedianMeanMedian Austria22,707 16.737 0.0440.22353.291 0.02315.941 0.019 Belgium76,025 16.035 0.0470.10387.042 0.02616.211 0.019 Estonia13,568 14.027 0.0990.02152.663 0.05914.100 0.049 Finland101,65914.138 0.1100.08852.675 0.04815.497 0.009 France1,298,356 14.202 0.0640.09777.677 0.03217.993 0.007 Germany 169,24016.112 0.0630.45455.073 0.03118.220 0.033 Hungary42,894 20.751 0.0610.04274.832 0.04216.117 0.029 Italy1,367,705 14.849 0.0390.379139.4510.02017.899 0.004 Netherlands 4,24616.821 0.0580.03399.205 0.02716.628 0.018 Norway 288,32516.489 0.0770.25847.875 0.04615.409 0.026 Poland120,63516.312 0.0760.05977.233 0.05617.455 0.048 Portugal 228,28514.459 0.0410.176156.8940.01816.172 0.018 Slovenia 26,058 14.653 0.0560.177107.5550.04314.534 0.031 Spain 775,29314.804 0.0380.154117.1380.01017.656 0.009 Sweden234,66916.372 0.0980.07652.820.04516.058 0.054 United Kingdom173,60115.694 0.0730.02860.053 0.04317.959 0.031
82
Table 20: continued nel C: Correlations (1) (2) (3) (4) (5) (6) (7) (8) (9) (10)(11)(12)(13)(14)(15) ) RevShare 1.000 ) RevUnexp0.6141.000 ) |DAcc| -0.0100.2061.000 ) |abCFO| -0.1380.1120.6301.000 ) TaxDiff-0.057-0.175-0.162-0.0761.000 ) Gov 0.1610.018-0.2680.0890.0951.000 ) FinRep 0.1200.074-0.1970.1620.2590.8971.000 ) Tax0.0760.215-0.1790.1020.1960.6600.6711.000 ) Size0.5700.356-0.079-0.0770.0600.1150.208-0.0881.000 RoA-0.209-0.0500.1360.569-0.0370.2650.3650.214-0.1041.000 Lev-0.134-0.2580.1760.094-0.186-0.036-0.186-0.151-0.105-0.2801.000 Cycle0.049-0.010-0.047-0.503-0.316-0.510-0.608-0.394-0.208-0.5250.1671.000 Growth 0.105-0.0180.2640.422-0.090-0.0160.029-0.011-0.0210.5880.015-0.1791.000 Population 0.366-0.0620.144-0.061-0.1020.006-0.069-0.2950.114-0.3120.2290.173-0.1201.000 GDPgrowth0.178-0.0030.1610.239-0.0570.0230.061-0.0280.0110.4210.015-0.1440.686-0.0481.000
related services and potential benefits. RevShare is weakly but positively correlated with all three benefit measures. RevUnexp shows a weak positive correlation with |DAcc| and
|abCFO| but a modest negative correlation with TaxDiff. Additionally, the correlation between RevShare and RevUnexep is only 0.61. Taken together with slightly diverging relations to the benefit measures, RevShare and RevUnexp seem to indeed cover different aspects of accounting and tax regulation.