Information Content and Earnings Management Implication of Changes in the Valuation Allowance for Deferred Tax Assets

Jung, Do-Jin; Bae, Kheesu

doi:10.2139/ssrn.618421

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“…Using UK GAAP data, Gordon and Joos ( 2004 ) find a significant and negative association between the sum of unrecognized deferred tax assets and pre-tax performance indicators. Legoria and Sellers ( 2005 ) and Jung and Pulliam ( 2006 ) use US GAAP data and find a significant association between future cash flows, respectively, cash flows and earnings, and changes in the valuation allowance on deferred tax assets. Christensen et al ( 2008 ) find that observations with abnormally high valuation allowances in US GAAP annual reports have lower operating performance in future periods.…”

Section: Related Literature and Hypothesesmentioning

confidence: 99%

Does IFRS information on tax loss carryforwards and negative performance improve predictions of earnings and cash flows?

2023

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We analyze the usefulness of accounting information on tax loss carryforwards and negative performance to predict earnings and cash flows. We use hand-collected information on tax loss carryforwards and corresponding deferred taxes from the International Financial Reporting Standards tax footnotes for listed firms from Germany. Our out-of-sample tests show that considering accounting information on tax loss carryforwards does not enhance performance forecasts and typically even worsens predictions. The most likely explanation is model overfitting. Besides, common forecasting approaches that deal with negative performance are prone to prediction errors. We provide a simple empirical specification to account for that problem.

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