DISCUSSION Is there a growing business case to take a long-term approach to corporate tax?

by Alex Maitland _______18th April 2016
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In the wake of the Panama Papers the European Commission has stepped up pressure on the tax affairs of multinationals, with proposals that companies will have to increase levels of disclosure, in particular by reporting how much tax they pay in the EU and provide detailed country-by-county reporting of finances.[i]

This proposal is part of a growing momentum towards a demand for greater transparency regarding tax. While the business case for minimising corporate tax receipts within the law currently exists, there are signs that this is shifting and there are many companies that are already getting ahead of the game in terms of strategy and reporting.

With a shift in public mood, amplified by the Panama Papers, growing pressure from investors and upcoming changes to regulation, there is growing reason to believe that companies who take a long-term approach to tax can create a competitive advantage and increased profitability by not engaging in tax avoidance.

The short-term business case for avoiding tax

There is clearly an economic rationale for multi-nationals aggressively avoiding tax and, even when balanced against mitigating factors, studies have repeatedly shown that on balance avoiding tax makes significant savings.

For example a study by Gallemore et al. examining the reputational damage to firms who become newsworthy as a result of tax avoidance found that while there is a negative reaction to share price when the story breaks, it is short lived with the price usually recovering within a month[ii]. Another study by Brookes et al. found that there is also “no change in the likelihood that the firm will be present in the Fortune ‘World’s Most Admired Companies’”[iii]. A recent survey from Allen & Overy also showed that two-thirds of companies said that they’d had increased pressure from investors to maximise returns through their tax strategy[iv], thus implying a belief that lower tax is linked to its share price.

This evidence points to the short-term outcomes of tax avoidance but ignores the potential long-term opportunities from being innovative and responsive to a changing external environment. Some companies are already realising this and are marking themselves as leaders in a responsible approach to tax affairs.

The growing long-term case for not engaging in tax avoidance

Pressure from SRI investors

Traditionally socially responsible investing (SRI) investors have not taken into account tax avoidance strategies when screening investments but in recent years this has begun to change. In 2014, the DJSI, who screen companies for their sustainability performance, introduced a criteria for tax to “address the growing risks relating to aggressive taxation policies”[v] using three questions based on policy, risk and transparency.  DJSI also regularly monitors media and stakeholder commentary meaning publicity from tax avoidance may affect its standing.[vi]

KLD includes ‘tax-disputes’ within their metrics and the FTSE4Good index was quoted as saying “it was looking into excluding companies with what it called overly aggressive tax reduction policies”[vii], the Principles of Responsible Investments also includes tax avoidance within their engagement and screening guidance[viii].

While SRI is a small but growing part of the market, this should act as a forewarning to companies that are or hope to be listed on SRI indexes that they will likely have to shift their approach to tax reporting, regardless of legislative demands.

Admittedly mainstream asset managers are more silent on the issue but the risks of business deals based on tax planning rather than genuine economic activity were articulated last week when the Pfizer-Allergan merger collapsed due to a new legislation in the US on tax inversion, killing a $160 bn deal.[ix]

Growing demand from consumers

In addition to the development of SRI, there is a potential shift in consumer demand. For example one-third of Britons surveyed said they are boycotting a company because it does not pay a fair share of tax[x]  and other surveys show that the issue is a major driver of the low level of trust in business[xi]. Over the years Vodafone, Boots, Barclays and Starbucks have all felt the pain of UK Uncut protests in their stores.

In response to the Panama Papers Lord Hill, the UK’s European commissioner described a shift in public mood which have been reflected in the EU’s latest proposals for greater transparency. While consumer action is arguably limited, with each scandal pressure on companies and governments will increase.

Changing legislations

New legislation has also been introduced such as the UK’s ‘diverted profits tax’ and global legislative changes can also be expected from forthcoming OECD’s BEPS project. The UK, Germany, France, Italy and Spain also last week agreed to exchange information on the beneficial ownership of companies with the UK committed to making their register public.

Without a global approach to tax, of the kind that Oxfam is advocating for[xii], new legislation is unlikely to lead to the ‘clampdown’ currently being touted by global leaders. However for companies who are seeking to create long-term value for both their shareholders and society it adds weight to the argument that boardrooms should re-think their approach and strategy in relation to tax.

A competitive advantage for companies that are ahead of the game

Some companies are recognising that this isn’t an issue that will go away and are becoming more transparent, working with regulators, and submitting themselves to NGO scrutiny, suggesting a growing recognition of the long-term economic advantage from adopting a new tax approach.

In 2013 Vodafone began to include tax as a key element of their voluntary reporting following media coverage and protests. While they continue to pay very little UK corporation tax they have curbed criticism by voluntarily committing to increased transparency about their affairs. They now publish country-by-country data, offer explanation for low corporation tax in the UK and describe the extent of their activity in Luxembourg.[xiii]

On legislation, it has been suggested that the recent increase in Irish corporate tax receipts is linked to corporate restructuring ahead of proposed changes from the BEPS project. Vodafone, who have been involved in the project, are now ahead of the curve in reporting terms, which may give a competitive advantage when changes come in.

One of the most interesting developments has been the introduction of the ‘Fair Tax Mark’, a kitemark which is given to companies who are “open and transparent about their tax affairs and seek to pay the right amount of corporation tax”[xiv]. Tax compliance is now being used for marketing purposes, for example SSE, the first FTSE 100 awarded the mark ran an advertising campaign that “trumpets that it pays the tax it owes ‘down to the last penny.’”[xv]

While accepting the profit-maximising motivations of companies, the external environment for tax avoidance is changing – with a climate of consumer demand, pressure from responsible investors and the introduction of new legislation. Through responsiveness and innovation companies may now find that tax offers an opportunity to both fulfill a key social responsibility and gain a competitive advantage and we look forward to seeing more examples.

 

[i] Rankin, J. and Farrell, S. (2016). EU regulators demand greater tax transparency from multinationals. [online] the Guardian. Available at: http://www.theguardian.com/business/2016/apr/12/eu-regulators-demand-greater-tax-transparency-companies [Accessed 13 Apr. 2016].

[ii] Gallemore, J., Maydew, E. and Thornock, J. (2014). The Reputational Costs of Tax Avoidance. Contemporary Accounting Research, 31(4), pp.1103-1133.

[iii] Brooks, C., Hillenbrand, C. and Money, K. (2015). What Stakeholders Expect from Corporations When it Comes to Paying Tax: Corporate Reputation and Optimal Tax Planning. SSRN Electronic Journal.

[iv] Allen & Overy, (2015). Negotiating the minefield: challenges facing the corporate tax function. Global Tax practice. [online] Available at: http://www.allenovery.com/SiteCollectionDocuments/Global_Tax_Challenges%20facing%20the%20corporate%20tax%20function.pdf [Accessed 13 Apr 2016].

[v] RobecoSAM, (2014). DJSI 2014 Review Results. [online] Available at: http://www.sustainability-indices.com/images/DJSI_Review_Presentation_09_2014_final.pdf [Accessed 7 Dec. 2015].

[vi] RobecoSAM, (2015). CSA Guide – RobecoSAM’s Corporate Sustainability Assessment Methodology. [online] Available at: http://www.sustainability-indices.com/images/corporate-sustainability-assessment-methodology-guidebook.pdf [Accessed 7 Dec. 2015].

[vii] Bergin, T. and Cruise, S. (2013). Ethical investors step up focus on tax avoidance. Reuters. [online] Available at: http://www.reuters.com/article/us-ethicalfunds-tax-idUSBRE90J05Y20130120 [Accessed 7 Dec. 2015].

[viii] UNPRI, (2015). Engagement Guidance On Corporate Tax Responsibility Why And How To Engage With Your Investee Companies. [online] Available at: http://2xjmlj8428u1a2k5o34l1m71.wpengine.netdna-cdn.com/wp-content/uploads/PRI_Tax-Guidance-20151.pdf [Accessed 7 Dec. 2015].

[ix] USA TODAY. (2016). Pfizer-Allergan deal clouded by new inversion rules. [online] Available at: http://www.usatoday.com/story/money/2016/04/05/pfizer-allergan-deal-clouded-new-inversion-rules/82659770/ [Accessed 13 Apr. 2016].

[x] ComRes, (2013). Christian Aid Tax Avoidance Poll. [online] Available at: http://www.comres.co.uk/wp-content/themes/comres/poll/Christian_Aid_Tax_Avoidance_Feb_2013.pdf [Accessed 7 Dec. 2015].

[xi] Tomorrow’s Company: UK Business: What’s Wrong? What Next? (to be published 12th May 2016).

[xii] http://www.oxfam.org.uk/get-involved/campaign-with-us/latest-campaign-news/2015/07/un-tax-body-is-good-for-everyone

[xiii] Vodafone, (2015). Tax and our total contribution to public finances. [online] Available at: http://Tax and our total contribution to public finances [Accessed 7 Dec. 2015].

[xiv] Fair Tax Mark, (2013). What’s the Fair Tax Mark? – Fair Tax Mark. [online] Available at: http://www.fairtaxmark.net/what-is-it/ [Accessed 7 Dec. 2015].

[xv] Houlder, V. (2015). Companies debate merits of a fair tax™ kitemark – FT.com. [online] Financial Times. Available at: http://www.ft.com/cms/s/0/5960de76-a9f7-11e4-9fa7-00144feab7de.html#axzz3tZOVN1VQ [Accessed 7 Dec. 2015].

 

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