Impact of controlled foreign corporation rules on post-acquisition investment and profit shifting in target firms

Hagen, Dominik von ; Harendt, Christoph

Document Type: Conference presentation
Year of publication: 2017
Conference title: 2017 ZEW Public Finance Conference: Public Finance and Development
Location of the conference venue: Mannheim, Germany
Date of the conference: 8.-9. May 2017
Publication language: English
Institution: Business School > ABWL u. Betriebswirtschaftliche Steuerlehre (Schreiber 1999-2019)
Subject: 330 Economics
Classification: JEL: F23 , G34 , H25 , H26 , H32 , H73,
Keywords (English): International taxation , CFC rules , Profit shifting , Multinational entities , Cross-border mergers and acquisition , Foreign direct investment
Abstract: We investigate investment in formerly domestic target firms once they enter a multinational entity (MNE). We argue that following the acquisition, those targets are tax-optimized in a profit shifting context if they are acquired by MNEs with no CFC rule in their headquarters’ countries. In this case, we hypothesize that MNE-wide profit shifting opportunities decrease high-tax targets’ cost of capital, which may have a positive effect on real investment of these targets. In addition, we hypothesize that financial revenues respectively profits of low-tax targets increase after the acquisition, since they may become destinations of profit shifting themselves. We find evidence for the effects on real investment and financial revenues but not for the profit measure. Further, these effects can no longer be observed in case of existing CFC rules in the acquirer’s headquarters’ country. This finding may suggest that CFC rules effectively mitigate MNE-wide profit shifting which in turn has detrimental investment effects.

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