The influence of business group control over firm disclosure in offshore financial centres: Evidence from the Caribbean

This study examines how a U.S. firm’s involvement in offshore financial centers (OFCs), by setting up subsidiaries or affiliates in OFCs, is associated with audit fees. After controlling for tax aggressiveness, firm strategy, international operation, and other firm characteristics, we find that U.S. multinational enterprises (MNEs) with OFC operations pay higher audit fees than U.S. MNEs without OFC operations. In addition, a greater extent of OFC operations is further associated with higher audit fees. This result is robust to using different measures of OFC involvement and controlling for issues of self-selection, endogeneity, and joint determination effect of audit and non-audit fees. We also find that a higher level of OFC operations is associated with higher audit risk, as measured by internal control weaknesses and the probability of financial reporting-related litigation. Further analysis shows that the audit fee increasing effect of OFC involvement is unlikely to be driven by corporate tax planning strategy and tax rate differential between the U.S. and OFCs, but driven by the regulatory arbitrage opportunities and secrecy policies of OFCs. In sum, this paper contributes to the literature on audit fees and OFCs.

International business and public policy research have examined the techniques that multinational enterprises (MNEs) use to shift revenues to subsidiaries in offshore financial centres (OFCs) in order to minimize tax liability and arbitrage for their advantage. While study of such tax arbitrage strategies has looked to geographical locations and legal dimensions to better understand these strategies, it has ignored the structural and organizational relationship between MNEs and their subsidiaries. We define two distinct types of OFC-based corporate entities based on their location among and apparent control over other MNE affiliates: ‘stand-alone’ OFCs at the end of a chain of MNE subsidiaries; and ‘in-betweener’ OFCs with equity control over further entities and hence apparent flexibility to redirect profits to other MNE subsidiaries further down the chain. We hypothesize that when MNEs have in-betweener OFCs controlling a substantial share of overall MNE profits, this indicates greater MNE interest in aggressive tax planning (ATP). We then evaluate empirical support for our claims based on an ‘equity mapping’ approach identifying stand-alone and in-betweener OFCs in 100 of the largest MNEs operating globally. This study demonstrates that a key factor determining tax arbitrage is not the amount of value registered on OFC subsidiaries’ balance sheets, but rather the portion of the group’s operating revenues and net income controlled by OFC subsidiaries. National taxing authorities could benefit from tracking in-betweener OFC locations and behaviour to counter ATP strategies, decrease sovereign arbitrage, and increase MNE tax revenue.

How do formal and informal institutions influence firm profitability in emerging countries?

The aim of the research is to identify the strength and direction of the development of the relationship between formal and informal institutions and to assess the institutional equilibrium of modern economies. The structural equations modelling based on partial least squares (SEM-PLS) is applied to achieve the purpose of the article. It is an econometric method that allows the measurement and analysis of the dependencies between latent variables (measures that cannot be directly observed). The study included 27 EU economies and the research period covered the years 2008 and 2018. The results of the study demonstrate that the quality of informal institutions strongly, positively determines the quality of formal institutions. The conducted analyses indicate that modern economies are diversified in terms of the quality of informal and formal institutions and, consequently, in institutional equilibrium. Considerable institutional disparities also translate into a large diversification in economic development. The article proposes a different meaning of institutional equilibrium, understood as the achieved state of institutional structure characterised by high quality informal institutions which interact with each other to improve the efficiency of formal institutions. The article presents a comprehensive model of the institutional structure and a unique method of measuring institutional equilibrium.

This study investigates whether U.S. multinational firms with subsidiaries located in offshore financial centers (OFCs) (i.e. offshore firms) are more likely to be opaque in their voluntary disclosure relative to U.S. multinationals without such subsidiaries (non-offshore firms). We use management earnings forecasts to capture corporate voluntary disclosure. Consistent with the opportunism view, but inconsistent with the efficiency argument, our results (including robustness checks) show that offshore firms are less likely to issue earnings forecasts, disclose forecasts less frequently, exhibit a stronger tendency to withhold bad news forecasts, and release less precise forecasts than non-offshore firms. Moreover, of the three distinct dimensions of OFCs’ institutional environment, namely, low taxation, lax regulation, and secrecy policy, each plays a role in negatively shaping firms’ disclosure strategy. Thus, OFCs’ institutional features exacerbate the opacity that plagues firms seeking to avoid taxes via their OFC subsidiaries. Our results are consistent with the notion that, beyond the scope of taxes, multinational firms’ use of OFCs has a corrosive effect on market information dynamics. Hence, OFCs have a much wider impact on the U.S. economy as well as other major economies than just tax avoidance or evasion.

Purpose. The purpose of the article is to defining the nature, types, and role of formal and informal insurance market institutions. Methodology of research. The methodological basis of the work has become a systematic approach to the study of the formation and functioning of formal and informal insurance market institutions; as well as a dialectical method of cognition and grouping to determine the types of formal and informal institutions that have formed and ensure the development of insurance relationships. Methods of induction and deduction have been used to generalize the essence and role of insurance market institutions under the provisions of economic theory and insurance business. The differences between formal and informal insurance market institutions have been established by a comparative method. To make theoretical generalizations, to form conclusions from the study, an abstract reasoning method has been used. Findings. The article presents the results of empirical analysis of formal and informal institutions, under the influence of which the insurance market has been formed and is currently functioning. Formal insurance market institutions are clearly defined, regulated by public protection mechanisms, and mandatory for all economic entities involved in the insurance process. Informal insurance market institutions are unwritten and undocumented norms and rules that shape the behaviour of economic entities of the insurance market regarding the creation, purchase and sale, and consumption of insurance services. Both formal and informal insurance market institutions should be divided into basic and specific ones, taking into account the peculiarities of the insurance market and the specifics of insurance relationships. Originality. Given the peculiarities of the insurance business, formal and informal insurance market institutions are clearly distinguished, with their subsequent division into basic and specific ones. Practical value. The results of the study can serve as a basis for further research in this area and will be useful for insurers, supervisory authorities, and other participants in the insurance market in terms of improving the quality of insurance services, identifying areas of the insurance market, and efficiency of its participants, which will increase confidence in the insurance market. Key words: institution, formal institution, informal institution, insurance market, basic insurance market institution, specific insurance market institution.

Using a large sample of multinational firms operating in offshore financial centers (offshore firms) from 1998 to 2014, this study investigates the financial reporting implications of economic activities involving offshore financial centers (OFCs). We find that offshore firms have a greater tendency to report less conservatively than non‐offshore firms. Moreover, we find that financial reporting is less conservative for firms operating in OFCs with more pronounced OFC attributes than for those with less pronounced OFC attributes. Finally, we also find that firms with their headquarters registered in OFCs (type I offshore firms) tend to adopt less conservative accounting practices than those with subsidiaries operating in OFCs (type II offshore firms). Our findings provide useful insights into how a multinational firm's operation in OFCs is associated with financial reporting practices.

This paper examines the profit-shifting behaviour of emerging multinational firms from India. It is found that the before-tax profitability of subsidiaries differs according to whether they were established directly or via an Offshore Financial Centre (OFC). The impact of the corporate tax rate on profitability is examined using a fixed-effects model for the period 2010–19. In the case of subsidiaries established via OFCs, a negative relationship between corporate tax rate and profitability is found, indicating profit-shifting behaviour. However, a disaggregated investigation by characteristics of parent firms reveals that the negative relationship holds primarily for via-OFC subsidiaries that belong to multinational firms with limited transactions of intangible assets, lower export intensity, and limited dependence on external commercial borrowing. The evidence of profit shifting is not all pervasive. However, in the presence of these transaction channels, multinational firms establish better control over intra-firm resources, which enables the transfer of resources within the multinational firm when the network of subsidiaries is connected through the OFC. The results are robust to the inclusion of economic and institutional factors pertaining to the host country.

Taking into account the peculiarities of the market of social and environmental services of forests as a new ecological and economic system of the forest sector of the Ukrainian economy, its institutional equilibrium should be understood as a state of the institutional environment in which there is no significant contradiction between informal and formal institutions.\n\nThe degree of correspondence between formal and informal institutions determines the amount of expenditure to eliminate possible contradictions, that is, the possible dynamics of transaction costs, and, accordingly, determines both the effectiveness of institutional provision and the effectiveness of the economic system as a whole.\n\nThe most typical situation of institutional disequilibrium in the market of social and ecological forest services is that when the introduction of new formal institutions, that is, the development of the state of the institutional environment in the position of institutional equilibrium is met with strong resistance from the informal. The economic conditions for development of such situation to the state of institutional equilibrium are such when the economic benefits of introducing new formal norms exceed institutional transactions. The strategy to achieve institutional equilibrium is the gradual evolutionary adaptation of informal institutions in existing informal constraints.\n\nAnother situation of institutional disequilibrium can be generated by the fact that formal institutions do not change when informal institutions change. Economic conditions for development of such situation to the state of institutional equilibrium are those when the price of the risk of penalties for certain informal shadow rules for the exploitation of social and ecological resources of the forest exceeds the benefits. The strategy to achieve institutional balance is in introducing of effective coordination institutions in the institutional environment.\n\nA state of institutional disequilibrium is possible, when the acquisition of institutional equilibrium occurs through the adequate development of formal and informal institutions. The economic conditions for the implementation of such process are the conformity of the economic benefits that such transformation gives and the costs of providing informal formal status rules. The strategy for implementing such process should be to choose economically viable alternatives.\n\nMore theoretically, a state is possible when a certain institutional equilibrium is established between formal and informal institutions, that is, for some time, formal and informal institutions do not change. The economic condition for such provision is that institutional transactions will require more expenses than those benefits that can receive economic agents from institutional development. This situation requires a stabilization strategy, which consists in mutual compromises in resolving issues when concluding and implementing contracts.

Research SummaryPrior studies on business groups (BGs) have predominantly focused on the impact of group affiliation on financial performance. In contrast, we argue that BG affiliates will outperform standalone firms in terms of corporate social performance (CSP) and that this effect will be positively moderated by the strength of formal and informal institutions. Moreover, we examine also differences among BGs and hypothesize that diversification and hierarchy of the group will negatively affect the CSP of affiliates. Employing a panel of 4368 firms from 43 countries between 2003 and 2016 and a propensity score matching approach in our regressions, we find robust support for these predictions. Our findings advance two distinct strands of literature on BGs and, respectively, corporate social responsibility.Managerial SummaryBG are a common organizational structure in many countries. Despite this, we still do not know much about them beyond their financial performance. In this study, we focus on examining the impact of BG affiliation on non‐financial performance (i.e., CSP) in the light of growing societal grand challenges. Using an international dataset of several thousands of firms, we find out that BG affiliates exhibit superior CSP results compared to non‐affiliated firms. These positive effects of affiliation are increased in environments with strong formal and informal institutions but reduced within groups that are more diversified and hierarchical. Our findings showcase the importance of BGs in tackling some of today's grand challenges and provide support for more nuanced approaches to study BGs across countries.

In Brazil, Latin America’s largest economy, offshore financial services have a deep impact on state power. They affect Brazilian state power through both sides of the balance sheet—taxation and money creation. Yet, it is offshore banking that is more consequential. In Brazil, offshore finance has become an integral part of the domestic cycle of money, tax, and debt. Starting in the 1960s, offshore banking largely replaced onshore money creation. Offshore banking enhanced state power by providing access to preferential liquidity. It helped finance Brazil’s ‘economic miracle’ in the late 1960s–1970s and boosted growth in the late 1990s and early 2000s. Yet, offshore banking also undermined state power during Latin America’s 1982 crisis. Following this economic and political fallout, the Brazilian state built defensive measures against offshore finance. It protected its tax base through a mix of domestic and international measures. And it effectively mitigated the risks of offshore banking through regulation and central bank interventions. Brazilian state power became resilient towards offshore finance. Nevertheless, given the structural dependence on offshore banking, and the level of corruption it enables, offshore finance remains a double-edged sword for the Brazilian state.

Introduction and Aims Entrepreneurship and the business environment, in general, are being influenced by the existence of formal and informal institutions. This study focuses on the negative versus positive perceptions of Moroccan, Chinese, and German entrepreneurs to formal and informal institutions, and the associations of these perceptions with self-efficacy and market versus network orientation of the business environment. Methods In a sample of n = 319 female and male entrepreneurs, we have examined similarities and differences in the perception of informal and formal institutions and their effects on self-efficacy and business strategy, while conducting t -tests and linear regressions. Results In all three cultural contexts, both formal and informal institutions play a significant role because of different reasons. Conclusion The nature of entrepreneurship is complex as both formal and informal institutional factors are differently associated with businesses. The results could enhance the understanding regarding the coexistence of formal or informal institutions within the business environments of different countries and the connections between business orientation and self-efficacy.

This chapter addresses the aspects of corporate governance specific to emerging markets, with a particular interest in governance framework within business groups. Business groups represent the dominant form of large business organizations in emerging markets around the world. In their respective national economies, business groups contribute greatly to GNP, they own a large proportion of national assets and they employ a significant percentage of the national workforce (Chung, 2005; Carney, 2008; Khanna and Rivkin, 2001). Despite the importance of groups to many national economies, research on this phenomenon is still fragmented. Broadly defining business groups as “collections of firms bound together in some formal and informal ways” (Granovetter, 1995: 454), scholars still debate groups’ origins, their developmental paths and the effects of group affiliation on member firms. The portion of business group literature related to the specifics of governance mechanisms, cost and conflicts is relatively small, but growing. A review of strategy-related issues in emerging economies (Hoskisson et al., 2000) has demonstrated a variety of theoretical perspectives in the studying of patterns of corporate governance. There are a number of studies on governance issues in newly industrialized markets (Khanna and Palepu, 2004; Phan, 2001; Young et al., 2004) and in transition economies (Filatotchev et al., 2003; Wright et al., 2003). There are studies addressing corporate governance as an issue for national business policy (Carney, 2004) or as governance convergence-divergence globally (Khanna and Palepu, 2004). In the context of interactions between the local business logic of emerging countries and global strategies of multinational enterprises (MNEs), business groups represent the essence of complexity MNEs face in entering developing countries. As the largest, strongest and most reputable players in their national markets, business groups become both partners and rivals for MNEs operating in emerging economies (Carrera et al., 2003). To be competitive in emerging economies, MNEs need to understand the specifics of local business systems,including decision making, strategic motives of economic actors, societal pressures, etc. In terms of firm behavior they should be aware of potential costs and conflicts related to firm governance in less structured institutional environments. MNEs should be ready to adjust their approach to effective firm management to blend into their new and very different business environment. Understanding models and principles of corporate governance relevant to large, diversified business groups will help MNEs to assess the direction and magnitude of the adjustments in their governance system required to succeed in emerging economies. What specific features of business groups are reflected in the corporate governance in emerging markets, and what are the implications for MNEs entering these markets? The answer to these questions is based on a synthesis of findings from prior research on business groups’ origins, conduct and change. Agency and institutional theories together provide an integrated perspective for analyzing corporate governance at the firm and the country level. Agency theory helps in approaching the internal environment for corporate governance, including tensions, costs and management tools related to the specific ownership configuration of business groups. Institutional theory brings to focus external pressures that shape firm behavior in emerging markets. This chapter seeks to contribute to a better understanding of the characteristics of corporate governance in business groups. It also aims to shed light on the complexity of interactions among the elements of governance in emerging markets. The conceptual model presented in this chapter illustrates the process of formation of corporate governance in emerging markets. This model illustrates how the interactions among input factors (concentrated ownership and state activism) and formal and informal institutional relationships shape the governance system. To answer the research questions stated above, this chapter begins with an introduction to the topic of corporate governance. The second section reviews corporate governance in light of agency perspective and internal mechanisms of governance in business groups. The third section looks at the institutional context of governance in emerging economies. The chapter concludes with a conceptual model of corporate governance in emerging markets.

This study examines the impact of formal institutions on foreign direct investment. First, the quality (strength or weakness) of formal institutions in host countries is analyzed. Second, the absolute differences in the quality of formal institutions between the host and home countries are examined. The results show that (1) strong formal institutions in host countries positively influence FDI flows and (2) the larger the institutional distance between the home and host country, the lesser the FDI inflows. © 2009 Wiley Periodicals, Inc.

PurposeThe purpose of this study is to examine how formal and informal institutions play a role in the Iranian context in shaping corporate social responsibility (CSR) policies and practices.Design/methodology/approachUsing a multiple case-study approach combining comparative and cross-sectional methods with semi-structured interviews, primary data was collected from eight corporations that actively participated in CSR activities in Iran. A microanalysis approach was used to examine the meanings and dynamics in the data. Through thematic analysis and pattern-matching techniques, the authors separately examined the roles of formal and informal institutions. Cross-case analysis was used to highlight the cases’ similarities and differences.FindingsThis study demonstrates that both formal and informal institutional structures exist in Iran and that both types influence CSR. This study also shows that informal institutions (such as personal values, culture, religion, traditions, charity and philanthropy) play a more explicit role than formal institutions (such as legal regulations and laws) in shaping CSR adoption policies and practices. The results indicate that, among institutions linked to CSR, formal and informal institutions are complementary and potentiate each other in Iran. Nevertheless, compared to formal ones, informal institutions play a more prominent role in shaping CSR policies and practices.Research limitations/implicationsThe authors recognize that, although the eight corporations are large, and although they interviewed their key personnel, they do not claim that these findings are generalizable, owing to the qualitative nature of the study and the small number of selected corporations.Originality/valueThis study makes relevant theoretical and empirical contributions. First, it contributes to the growing body of CSR literature that highlights the necessity of linking informal and formal institutions. Although the CSR literature lacks research on informal institutions in developing economies, researchers have yet to push forward and explore how the CSR adoption process works in developing economies that have influential informal institutions.