Tax uncertainty and real investment decisions : evidence from mergers and acquisitions

This study uses corporate takeovers as a setting to examine how tax uncertainty affects managers' real investment decisions. Specifically, I investigate whether uncertainty about target firms' income taxes influences takeover premiums. Drawing on theories from finance, I predict that tax uncertainty leads to increased divergence of opinion among target shareholders about target value, which in turn leads to higher takeover premiums. I also predict a positive direct association between measures of target tax uncertainty and takeover premiums because investments with tax uncertainty provide flexibility in reporting book income that bidding managers value. Consistent with both predictions, I find a positive association between divergence of target shareholder opinion about taxes and takeover premiums as well as a positive association between target tax uncertainty and takeover premiums. The association between tax uncertainty and premiums is more positive when the acquiring firm faces greater capital market pressures. Finally, all positive associations persist in recent years despite newly required financial statement disclosures of tax uncertainty.