1. Introduction
Corporate taxation contributes to social welfare and is a corporate social responsibility (CSR). According to CSR, companies may use resources for socially responsible activities that do not necessarily benefit them. Many scholars have recognized the complementary relationship between CSR and taxation behavior [
1,
2,
3,
4,
5]. They believed that a company’s goal is not only to maximize profits, but also to consider the interests of all stakeholders [
1,
2], which encourages companies to engage in socially responsibility activities. Paying taxes is the most basic way for private and corporate citizens to participate in a socially responsible activity [
3].
Corporate tax avoidance refers to the reasonable and legal use of tax law imperfections and tax incentives to evade or reduce tax liabilities [
4]. Recent research has found that tax avoidance moderated the effect of institutional ownership, and that firm size affected firm value [
5]. Klepper [
6] stated that "three things in life are certain: death, taxation, and the unremitting efforts of human beings to escape these two things." Taxation, as one of the most important sources of fiscal revenue, has an essential role in regulating the allocation of economic and social resources. Tax avoidance behavior leads to a large reduction in the state’s fiscal revenue that adversely affects the country’s welfare policy, making the government unable to provide good social public services, disrupting the normal social and economic order, and destroying market resources. Tax avoidance is a common tax planning strategy in companies, although there are vast differences in degree across companies. For these reasons, exploring tax avoidance has become a hot topic in academic circles.
Scholars have studied the factors that influence tax avoidance from different angles. Studies have found that corporate size, profitability, debt levels, and political connections [
7,
8], as well as tax administration, external audits, external professional investors, and environmental factors [
9] all affect corporate tax avoidance. Similarly, many scholars also believe that senior management, as corporate tax policy decision makers, have a large impact on corporate tax avoidance, but scholars disagree about their precise impact. For example, Phillips [
10] believed that when companies use performance as the basis for executive incentives, executives are more inclined to conduct corporate tax avoidance to improve the company’s earnings and meet their own interests. However, Desai [
11] disagreed with those scholars. He thought that in companies with relatively poor governance mechanisms, rent seeking due to managerial power means that management incentives reduce corporate tax avoidance behavior.
These inconsistent scholarly views became the direct reason for this paper. As far as the Chinese market is concerned, its special corporate governance environment is also in urgent need of special study. In general, there is a widespread lack of investor protection in Chinese companies, which leads corporate executives to use their authority for self-interest. In addition, China’s enterprise system has major defects, such as unclear management levels, especially in state-owned enterprises. The special circumstances of the Chinese market mean that foreign research is not relevant in China; this is especially true because the existing research holds different, and even contrary, views on corporate executives’ tax avoidance behavior.
This paper combines managerial power with corporate tax avoidance using data from companies listed in the China market from 2000 to 2016, constructing managerial power through principal component analysis (PCA) and entropy weight methods. It then explores the role and path of managerial power on corporate tax avoidance through ordinary least square (OLS) regression, quantile regression, propensity score matching (PSM), instrumental variable regression, and other methods to provide a reference for Chinese companies.
Overall, this study does some contributions to theoretical research and practice. In terms of theoretical research, it enriches the study of managerial power and corporate tax avoidance, and may provide a new possible research perspective for corporate tax avoidance. The practical finding of this study is that managerial power inhibits corporate tax avoidance. Therefore, when conducting business guidance, government departments should implement more tax incentives by increasing managerial power, thus improving national taxation and economic growth.
The rest of the paper is organized as follows:
Section 2 presents a literature review and research hypotheses.
Section 3 explains the data and methodology.
Section 4 provides the empirical results and performs some robustness tests. Finally,
Section 5 delivers the conclusion.
2. Literature Review and Hypotheses
2.1. The Literature on Corporate Tax Avoidance
As a means of saving on taxes and retaining profits, corporate tax avoidance is highly correlated with corporate value [
11]. Therefore, exploring which factors affect companies’ tax avoidance behavior has great practical value. In recent years, many scholars have studied the factors that influence tax avoidance. In the following, we divided scholars’ views into two categories: impeding or promoting tax avoidance.
From the impediment viewpoint, Chen et al. [
12] thought that a higher equity concentration led to stronger risk aversion by the controlling shareholder and a greater inclination to adopt a positive tax avoidance policy, especially in family-owned businesses. Gaertner [
13] believed that shareholders and investors needed to change the tax policies of risk-averse executives through appropriate incentives. If executives received fewer monetary gains from explicit pay contracts, they would undertake more self-interested transactions, such as rent seeking.
Austin and Wilson [
14] believed that social awareness would increase tax avoidance costs, thus impeding tax avoidance. Similarly, Dowling [
15] reasoned that media attention would impede corporate tax avoidance by increasing the probability of exposing tax incentives, bringing higher costs, and strengthening the shareholders’ supervision of management. Even a low level of corporate governance could reduce firm tax avoidance.
In addition, improving the financial development environment [
16] and creating a more reasonable board system [
17] could also effectively impede the emergence of corporate tax avoidance.
As for the promotion viewpoint, this research has focused mostly on executives. As Slemrod [
18] pointed out, since tax avoidance was a valuable act that could bring economic benefits to shareholders, then shareholders should create incentives to ensure that managers make decisions that avoid taxes. Moreover, according to principal-agent theory, corporate tax avoidance could become a tool for managers’ self-interested behavior. Zhou and Li [
19] discovered a clear positive correlation between relational transactions and corporate tax avoidance, and that female managers weakened the positive correlation and promoted relational transactions, triggering more aggressive tax avoidance activities. Dong and Hu [
20] found a positive correlation between the amount of executive incentives and the level of tax avoidance. Hsieh et al. [
21] observed that firms with overconfident CEOs and CFOs were more likely to participate in tax avoidance activities. Reputation was another motivation for executives to use power to avoid tax, consistent with Bornemann’s [
22] research.
Executive compensation was one of the most important factors that promoted corporate tax avoidance. In China, in-service consumption was an important part of managers’ implicit remuneration, and tax avoidance provided a convenient way for them to hide it. Therefore, Luo and Zeng [
23] pointed out that the greater the salary competition for managers, the greater the likelihood that managers would use tax avoidance to obtain hidden benefits. Zhang Xinmei [
24] believed that executives with a CPA background would be more capable at corporate taxation strategies than non-CPA executives.
We saw that scholars had varying opinions on the factors affecting corporate tax avoidance. At the same time, we realized that scholars have not yet studied the effect of managerial power on tax avoidance. It is clear that the managerial power of its senior executives, the ones who make the decisions on tax avoidance, directly affects a company’s degree of tax avoidance, but how it does so, and the extent of the impact, is a topic worth studying.
2.2. The Literature on Managerial Power
The senior executives of a company possess the actual managerial power, and thus they effectively control the decision-making of the company. Part of senior executives’ managerial power comes from their shareholding ratio. La Porta et al. [
25] studied the relationship between corporate financial fraud and shareholding structure, and discovered that higher equity concentration led to poorer financial reporting. They also found that, when director equity reached a certain level, it granted managers control over their positions, at which point the managers used that power for their own interests. Fan et al. [
26] discovered that there was no single linear relationship between executive shareholding ratio and the degree of enterprise tax avoidance. When the executive shareholding ratio of was low, managers were subject to equity incentives, their interests were in line with ownership’s interests, and the value of the company increased. However, when the executive shareholding ratio was too high, the effect of equity incentives declined, and managers increased their rent-seeking behavior to maximize their own interests. At the same time, they pointed out that the higher the concentration of the listed company’s equity, the more serious the agency problem became, and the more likely the company was to commit violations. Erickson et al. [
27] learned that the greater the executive shareholding ratio, the higher the level of corporate financial fraud and the greater the degree of tax avoidance.
Aggarwal et al. [
28] observed that executives’ pay sensitivity was closely related to their responsibilities and power. As their responsibilities grew, executives’ compensation performance became more sensitive. In China, however, this sensitivity had different consequences. Firth et al. [
29] found a positive relationship between salary performance and pay sensitivity in China, but the relationship was not statistically significant.
In addition, managerial power greatly affected companies’ operating atmosphere. The American Association of Fraud Examiners pointed out that employees were very sensitive to the behavioral tendencies of executives, and based their actions on executive attitudes. By pursuing gains at the cost of skirting the edge of the law, employees used any available means to increase the company’s wealth.
At the same time, managerial power had a large impact on the financial management of enterprises. Dechow et al. [
30] investigated the SEC Enforcement Actions for violations of General Accounting Standards, and found that if the CEO was the founder of the company or on the board, earnings manipulation was more common. D’Aquila [
31] confirmed that high-level voices had a big impact on the authenticity of a company’s financial reports, and were a manifestation of managerial power. Hunton et al. [
32] conducted a two-stage regression study of the impact of high-level voices on a company’s earnings quality, confirming that high-level voices were directly proportional to a company’s earnings quality. They also found that factors such as board quality, executive age, and executive incentives affected the establishment of high-level voices. The board of directors also indirectly influenced high-level voices, generally via the CEO. Dyreng et al. [
33] believed that high-level voices affected corporate tax avoidance behavior in two ways: on the one hand, executives used their knowledge of the industry and the company’s characteristics to adjust the distribution of company resources. On the other hand, company executives provided incentives to tax executives to make decisions on taxes that were consistent with the executives’ preferences.
Bertrand and Schoar [
34] explicitly introduced the power of individual managers into the study of corporate behavior for the first time, confirming that, after controlling for other variables, the power of individual managers affected a company’s decision-making behavior and performance. Following in Bertrand and Schoar’s footsteps, some scholars have found that executives have a big impact on financial disclosures [
35]. Dyreng et al. [
33] controlled for other variables that influenced corporate tax avoidance and found that changes in corporate leadership led to significant changes in corporate effective tax rates.
In summary, we can see that, although the research on the operation and financial quality of companies by executives is adequate, research focused on the role of managerial power in corporate tax avoidance behavior is lacking. In addition, most of the studies above examined capital markets outside China; research on the Chinese market is even weaker. Therefore, our research on managerial power and corporate tax avoidance has great theoretical and practical importance.
2.3. Hypothesis Development
The literature review shows that different researchers have different views on the relationship between managerial power and tax avoidance. Some scholars thought that rent-seeking behavior [
11], high society awareness [
14], and media attention [
15] impeded tax avoidance. However, other scholars believed that high incentives [
8], executives’ self-interested behavior [
18], invisible in-service consumption [
23], and distinguished professional backgrounds [
24] promoted corporate tax avoidance. This disagreement in scholars’ views prompted the writing of this paper.
The authors believe that all people are profitable. When managerial power reaches a certain level, executives are likely to choose personal interests over corporate values. At that time, rent-seeking behavior is very likely, and executives are likely to abandon corporate tax avoidance in order to maximize personal interests. Management controls corporate power and sets the company’s tax policy. If management wants to create a better corporate governance environment and a more reasonable shareholder structure, senior management must inhibit corporate tax avoidance behavior to achieve their goals. The realization of those goals grants the management more shareholder trust, thus granting them more managerial power and creating a virtuous cycle. Based on this, this paper proposes Hypothesis 1:
Hypothesis 1. Managerial power inhibits corporate tax avoidance.
Managerial power stems in part from their equity holdings, and more managerial power reflects a more concentrated equity system. A company with concentrated equity tends to be risk-averse and curbs its tax avoidance to reduce financial risk; this phenomenon is especially pronounced in family businesses. In addition, the public and shareholders often become very concerned when managerial power is high. The resulting supervision pressure and tax avoidance costs reduce the tendency of companies to avoid taxation. Based on this, we propose Hypothesis 2:
Hypothesis 2. Firms with greater managerial power have fewer incentives to avoid tax.
5. Conclusions and Discussion
This paper studied managerial power and corporate tax avoidance. In order to examine this relationship in detail, we used PCA to construct managerial power, and OLS regression to explore the relationship. Then we used quantile regression, PSM, instrumental variable regression, and simultaneous regression to check the model’s robustness. In the end, we came to the following two conclusions:
(1) Managerial power reduces corporate tax avoidance, and firms with greater managerial power have lesser incentive to avoid taxes. From our models, the correlation coefficient between managerial power and corporate tax avoidance was −0.369 before adding any control variables, and −0.322 after adding control variables, which indicated a significant and inhibitory effect of managerial power on corporate tax avoidance. We utilized PSM to divide the sample into two parts according to average managerial power. Logit and probit regressions showed that managerial power reduced METR significantly, while METR had no significant effect on power, indicating that managerial power had a negative casual effect on tax avoidance. In addition, the correlation coefficient between ROA and METR was −0.046, indicating that the ROA of a company was significant and negatively correlated with METR, so a company’s ROA was significant and positively correlated with its degree of corporate tax avoidance. We can assume that management gave up the maximization of corporate value for the sake of self-interest, thereby suppressing the tax avoidance behavior of the company through self-interested behaviors such as rent seeking [
11]; that is, the reduction of corporate ROA and the promotion of personal interests. The authors believe that management that had more power was inclined towards better corporate governance [
16] and shareholding structure reform [
17], and that it is necessary to curb corporate tax avoidance behavior to achieve these goals. The authors’ future research will be on the relationship between equity governance and corporate tax avoidance.
(2) Companies need to improve managerial power through appropriate means to achieve full taxation, but also strengthen supervision and restraint on the executive’s self-interested behaviors. From the data argumentation, the managerial power is conducive to restraining corporate tax avoidance behaviors, so improving the managerial power can achieve full taxation, thus improving the financial system environment and the public image of companies. However, we can also see the negative correlation between ROA and METR. Therefore, behind the full taxation, the self-interest behaviors of the management may be hidden, they may fully utilize their greater power to maximize the personal interests [
11]. Therefore, in order to maximize the value of the shareholders, they should increase the supervision while improving the managerial power, so as to better achieve the balance between corporate taxation and shareholder value maximization.
The research conclusions above provide some contributions to the theoretical and empirical aspects of this study. In the past, most scholars had discussed the issue of corporate tax avoidance and the relationship between executive behavior and financial quality [
11,
12,
13,
14,
15,
16,
17,
33] only in theory. This paper opens up new possibilities for research on enriching tax avoidance behavior and managerial power. In practice, taxation is an integral part of public policy. Tax revenues affect a country’s fiscal revenues and expenditures, as well as its economic cycles and national defense security. Therefore, managing the taxation behavior of enterprises has great benefits. We can see that, in order to prompt companies to fulfill their tax obligations and reduce the practice of corporate tax avoidance, corporate shareholders need to increase senior managerial power in corporate governance. This leads to increased tax payments, thereby improving the company’s image among consumers and achieving sustainable and healthy development of the company. Regulators, when conducting business guidance, should focus on those companies whose managers have too little managerial power. Regulators should promote good taxation behavior in companies by improving the power of corporate management, which reduces corporate tax avoidance behaviors.
This paper still has some limitations. First, endogenous problems with omitted variables still exist. For example, executive compensation and state ownership in the company may affect the managers’ incentives to avoid taxes, but we did not include those factors in the regression model, leading to a possible endogeneity problem. Second, there is still some uncertainty when measuring tax avoidance. We still cannot completely exclude the role of management earnings incentives in tax avoidance. Third, although we utilized an instrument variable regression to tackle possible endogeneity, this methodology is still not enough to address the problem completely. Future research should employ methodologies such as natural experiments and regression discontinuity designs to avoid any possible problems with endogeneity.