Earnings Conservatism and Repatriation Tax Costs

Despite the significant increase in US multinationals’ overseas expansion, and the growing share of foreign earnings among the total reported earnings, empirical literature on earnings conservatism has mostly focused on firms’ total earnings. This paper focuses on the segmental earnings conservatism of foreign and domestic operations of US multinationals for the period from 1985 to 2015. We examine how differently US multinationals exhibit earnings conservatism of foreign and domestic operations, and investigate whether the differential earnings conservatism between foreign and domestic operations can be explained by repatriation tax cost, a tax-based explanation for earnings conservatism. Our empirical results show that the degrees of earnings conservatism are significantly less pronounced for foreign operations than domestic operations, suggesting that the presence of earnings conservatism is primarily driven by domestic earnings. More importantly, this study reveals that the tax cost of repatriation can partially explain the lower degree of foreign earnings.