Corporate value creation and management are one of the key issues for any business enterprise. A gap exists in research into the implications of the distributed profit taxation (DPT) system in Estonia for corporate value creation. Under the Estonian system of corporate taxation, companies need not pay income tax on undistributed earnings, allowing them to postpone income tax liability indeterminately. This theoretical paper compares the relationship between a company’s equity value and taxation of profits under traditional (or classical) (TPT) and DPT systems. A TPT system is a system where the amount of corporate income tax is determined by the profit the company earned during the taxation period. We show that fundamental equity value under a DPT system should be higher vis-à-vis equity value under a TPT system (ceteris paribus). To illustrate this, we use a dividend discount model and values from a hypothetical company. The equity value under DPT is also higher when financial leverage is considered. The results suggest that conventional valuation models and their inputs should be adjusted when valuing Estonian companies. Ignoring these adjustments runs the risk of undervaluing the equity of Estonian companies, as well as the equity of companies operating under similar tax regimes.

Abstract-The topic of corporate cash holdings has gained a lot of attention in academia recently. The current paper investigates the valuation of cash holdings under distributed profit-based corporate taxation. We show that the cash-to-assets ratio has increased considerably since the introduction of distributed profit-based taxation in Estonia. Almost 1/3 of all the companies in Estonia had cash-to-assets ratios above 50% in 2011. We argue that in order to value such cash holdings, a discount at a size of tax burden associated with profit distribution should be used both in case of cash as well as cash equivalents.

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This paper analyzes the practice of the cost of capital estimation by Estonian financial analysts based on the survey conducted by authors. The cost of capital is an important input in many financial models, especially when dealing with business valuation, optimizing company's capital structure, and others. In spite of numerous studies on the issue and quite a period of cost of capital estimation, which is over ten years, Estonian analysts are faced with difficulties of finding appropriate inputs to estimate the cost of capital for Estonian companies. We find that the practice of cost of capital estimation is rather diverse albeit there are common approaches used. The primary approach to estimate the cost of equity is capital asset pricing model (CAPM), whereas there is no prevalent approach to estimate the cost of debt. Majority of analysts account for the country risk, the practice of accounting for other risks is scattered. Finally, we notice emergence of new approaches to cost of capital estimation.

This is the first empirical study related to the linkage between distributed profit taxation and company valuation. In this paper we present the results of a survey of Estonian valuation practitioners. The main purpose of this study is to clarify the valuation practices of Estonian analysts with emphasis on fundamental analysis-based valuation methods. We elucidate whether and how practitioners treat certain aspects of corporate income taxation when valuing Estonian companies, and how they adjust conventional models taking into account the peculiarities of the Estonian distributed profit taxation system. As distributed profit taxation allows Estonian companies to postpone their income tax liability, it should lead to a positive impact on the value of Estonian companies compared to non-Estonian ones. The survey also included hypothetical valuation cases seeking to determine the difference in analysts’ views on equity value in a simplified framework. Results show that free cash flow to the firm and EV/EBITDA multiples are the most popular valuation models among analysts, with the majority of analysts using these models together. Analysts adjust models primarily when calculating the cost of capital and forecasting corporate income tax liability. However, many respondents did not make any adjustments when valuing Estonian companies, but proceeded from the same grounds when valuing Estonian and non-Estonian businesses. The equity valuation of hypothetical companies revealed highly diverse estimates and an unawareness of the positive aspects of distributed profit taxation vis-à-vis traditional profit taxation on a company’s value