Associate Professor of Accounting
James and Doris McNamara Faculty Scholar for 2019-2020
Stanford Graduate School of Business
Knight Management Center
655 Knight Way
Stanford, CA 94305
To construct a parsimonious measure useful to researchers, we apply the parameter estimates from our ordered logit to firm-year characteristics (Outbound Score).
Outbound Score = 0.6933*RD - 1.8854*AD + 0.4377*SGA + 0.2634*Intangibles + 0.0197*Tobin’s Q + 0.4057*CapEx - 0.1447*Soft Assets - 2.2314*GP% + 0.6527*High Tech - 1.3845*Foreign Sales% - 0.5382*DROS + 1.4334*FROS + 0.0772*FSales Growth + 0.2470*DSales Growth + 0.3329*FTR - 0.2477*Leverage + 1.5965*Interest - 0.0414*Size + 0.0451*Big5 + 0.1615*Non-Crisis + 0.0968*Non-Durables - 0.1232*Durables - 0.2811*Manufacturing - 0.2629*Oil & Gas - 0.5852*Chemicals + 0.0975*Bus. Equip. - 0.1633*Telecom - 0.3829*Shops + 0.2095*Healthcare
where all inputs are from Compustat and
This approach is similar to that used by Hadlock and Pierce (2010). For parsimony and consistent with Hadlock and Pierce (2010), we calculate a score instead of a probability. Given that we rank our dependent variable into deciles, calculating a probability as in Wilson (2009) or Lisowsky (2010) would require identifying the maximum of ten probability calculations per firm-year observation.
We believe Outbound Score will be useful for researchers examining outbound income shifting by U.S. MNEs. For researchers wishing to compute the score on their own, we recommend restricting the sample to firms meeting the above sample selection criteria. The measure is not appropriate for foreign-incorporated MNEs.
We find the model has similar explanatory power for firms in both high tech and non-high tech industries. We therefore believe it appropriate to use the score in samples that include all industries. We also find, however, that the explanatory power of the model is greatest when estimated using firms with greater than $1B in total assets. Therefore, researchers should consider gauging the sensitivity of results to restricting the sample to the largest firms.
To assist researchers in identifying situations in which our measure might be better suited for their research question than the measure from Collins et al. (1998) and its variants (e.g., Klassen and Laplante 2012), we next compare observations where the measures generate inferences about outbound shifting. Specifically, we examine observations for which our score predicts the greatest amount of net outbound payments but which the Collins et al. (1998) measure does not classify as shifting income, and vice versa. We find that the observations our measure uniquely identifies as engaging in outbound income shifting: (i) are younger and have a smaller foreign footprint evidenced by lower foreign profitability, lower levels of worldwide profitability, and lower gross profit margins, (ii) are more likely to be in high tech industries, (iii) have higher sales growth, and (iv) have higher R&D spending. The observations we uniquely identify as engaging in outbound income shifting have more outbound payments for services, borrowing, and other non-IP-related transactions. These differences could suggest our measure better detects firms in the earlier stages of global expansion; these firms report lower foreign profits than worldwide profits, but these low foreign profits are nonetheless likely inflated because of significant net outbound payments to their foreign affiliates. Indeed, untabulated descriptive tests reveal these firms are younger and have reported foreign income for fewer years. In contrast, although Collins et al. (1998) intend their measure to detect tax-motivated pricing of intercompany transfers, it also identifies firms with large and profitable foreign footprints, which could also stem from (tax and non-tax motivated) investment and location decisions. We conclude that our measure performs well at isolating the portion of outbound income shifting attributable to intercompany payments. In contrast, the Collins et al. (1998) measure performs well at identifying firms that report a larger-than-expected amount of profitability in lower-tax jurisdictions – regardless of whether that profitability stems from intercompany payments. Researchers can use both measures to develop a more comprehensive understanding of how firms achieve greater profitability abroad.