Tax Planning, Firm Performance and the Moderated role of Dividend
Policy: Evidence from East African Countries
HERI GASPER MULAMULA
Department of Postgraduate Programme,
Universiti Tunku Abdul Rahman,
31900 Kampar, Perak,
https://orcid.org/0000-0001-6328-0773
MALAYSIA
ZURIAWATI ZAKARIA
Department of Finance,
Universiti Tunku Abdul Rahman,
31900 Kampar, Perak,
MALAYSIA
ZAM ZURIYATI MOHAMAD
Department of Commerce and Accountancy,
Universiti Tunku Abdul Rahman,
31900 Kampar, Perak,
MALAYSIA
Abstract: - This study aims to explore the impact of tax planning on the firm's value with the moderated effect of
dividend policy. The study has drawn a unique and limited explored sample of non-financial listed firms in East
African Countries' stock exchanges. It covers a period of eleven years (2009 – 2019). The tax planning proxy was
determined using the book tax difference, while firm performance was measured using return on assets (ROA) and
Tobin Q. The Dynamic panel system (GMM) was employed to establish the causal relationship between variables.
The robustness check on GMM results was also conducted using OLS and FEM. The results of the study showcase
that tax planning positively affects a firm's values. The findings indicate that tax planning activities in EAC partner
state aim to achieve corporate goals, not opportunistic managerial ones. However, the study's findings reveal a
significant moderated role of the dividend policy on the linkage between tax planning and firm performance of the
EAC-listed firms. This study contributes to the existing literature by providing additional insights into taxation and
corporate governance perspectives. The findings also have practical implications for tax administrators,
policymakers, and shareholders
Key-Words: - Tax planning, tax avoidance, dividend policy, firm value, developing countries
Received: May 2, 2023. Revised: July 25, 2023. Accepted: August 2, 2023. Published: August 11, 2023.
1 Introduction
Managing tax avoidance practices is increasingly
challenging for both local tax administrations and
international organizations. East African Countries
(EAC), like any other developing countries, are
explicitly vulnerable to aggressive tax planning due
to deficiencies in their legal tax framework,
inadequate resources, and expertise to monitor the
underlying behaviors, [1]. Although EAC
experiences different patterns and histories of tax
aggressiveness, its member states share common
approaches and characteristics in dealing with the
problem. The most common anti-avoidance measure
undertaken by them is tax policy reforms and the
development of anti-avoidance regulations, [2].
Despite those different measures being undertaken by
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tax administrations in EAC and other developing
countries, their success in addressing tax avoidance
problems remains questionable. Firms are still
reported to engage in tax minimization strategies
commonly known as tax planning, [3]
The relationship between firms' performance and
tax planning is currently the subject of extensive
research, [4], [5], [6]. One of the crucial goals of
many firms is to increase firm value with the aim of
meeting owners' and other stakeholders' expectations.
Therefore, with the help of experts, firms use several
techniques to cut down tax liabilities to achieve firm
value enhancement. They usually take advantage of
the existing loopholes in tax regulations to
accomplish their goal. For instance, managers can
use variations in effective tax rates, book-tax
differences, deferred tax liability, and debt at an
optimal level to minimize their tax liability and
maximize profit after Tax, [7], [8]. According to
positive accounting theory, managers are also
deemed to use accounting methods to reduce their
earnings to reduce the tax burden, [9], [10].
The strand of literature indicates that tax
planning when performed legally has a positive
impact on firm performance, [11], [12]. It can be
used to increase profit after tax without incurring
unnecessary costs, which might arise if the firm
practices illegal tax planning, [11], [13]. Besides
reporting high performance, managers can also use
tax planning to signal to their shareholders and attract
market reaction, [5]. In contrast, when it is done
opportunistically, tax planning adversely impacts
shareholders and other stakeholders of the firms. In
the same context, [6], highlighted that aggressive tax
planning arising from agency problems creates not
only personal benefits to managers but also
accumulates non-tax costs such as penalties that
directly affect the firms and shareholders. Tax
planning creates opportunities for managers to
manage earnings in their interest and reduce the firm
value due to information asymmetry between
managers and shareholders, [14], [15].
Despite the stated benefits of tax planning, its
adverse still outweigh the benefits. Aggressive tax
planning increases the company's likelihood of
incurring high costs; thus, it is suggested to be
controlled. On this note, a dividend can be used as a
control mechanism for aggressive tax planning
because it requires a firm to have quality earnings to
pay dividends, [16]. Thus, managers of the firms that
plan the payment of cash dividends must concentrate
on the quality of their earnings and avoid engaging in
harmful tax planning, [17]. Additionally, the payment
of cash dividends constrains opportunities for
managers to have excess cash for their interest, [16].
Therefore, in this context, the link between tax
planning, firm performance, and dividend policy is
one of the most important factors to be examined.
Nevertheless, despite the significant implication of
dividend policy to monitor aggressive tax planning
and reduce agency problems, prior researchers have
given little attention to exploring its impact.
The impact of aggressive tax planning on firm
performance has been less investigated in EAC.
Innumerable research has been conducted in
developed countries, and few were done in the rest of
Africa, such as Ghana, Nigeria, and Tunisia, [5],
[18]. Despite giving little attention, EAC has been
highly affected by firms' tax avoidance practices.
According to, [19], East African countries, such as
Kenya and Tanzania, have been losing billions of US
dollars in tax revenue from large companies in
various sectors, including energy, resource, and
tourism sectors. Therefore, having this study
conducted in EAC becomes vital in filling the gap by
ascertaining the significant tax planning impact on
firms' performance and the moderating effect of
dividend policy in a new setting.
This study also contributes to the literature in
various ways. Firstly, to the agency and signalling
theories, the study complements the literature with an
understanding of the implications of tax planning in
influencing agency problems and information
asymmetry. This study explores the contribution of
dividends policy in monitoring agency problems.
Secondly, since EAC is losing considerable revenue
through tax avoidance and evasion, the study plays
an integral part to the policymakers and tax
administrators in designing appropriate measures that
will close loopholes for aggressive tax planning.
Finally, the study contributes to the methodology by
conducting a study in a previously unexplored
setting.
2 Literature Review and Development
of Hypotheses
2.1 Theoretical Review
Previous studies have divided tax planning into two
categories known as tax avoidance and tax, [5], [20].
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Tax planning is referred to as tax avoidance when it
is performed legally. Usually, it occurs when it is
arranged in a way that reduces the tax burden without
adversely impacting the firm performance, [20].
However, when tax planning is set illegally, it is
known as tax evasion, and most of the time, it
negatively affects firm performance, [5]. Tax evasion
can also be referred to as aggressive tax planning,
and it goes in parallel with the practices of firms to
manipulate tax payments, [21]. Typically, tax evasion
exposes firms to a greater risk of heavy penalties and
has negative implications on the firms' reputations.
Hence to distinguish tax avoidance from tax evasion,
one should figure out what is acceptable avoidance
and what is unacceptable avoidance, [22].
Prior studies have focused on investigating the
connection between firm value and tax planning
mainly by using the agency, stakeholders' agency,
and signaling theories, [23], [24]. Regarding the
agency theory, an extensive body of literature has
documented a piece of Evidence that self-interest
managers have used tax planning to pursue their
objectives, [5], [25]. Normally tax planning is
considered value enhancement by shareholders when
it is used to improve the firm's value, [26]. In this
manner, managers receive great support from their
shareholders, who inspire them to use their best effort
to reduce the tax burden, [23]. However, tax planning
allows opportunistic managers to capitalize on the
advantage arising in their favor, [14], [23]. Therefore,
instead of resolving the agency problem, tax planning
increases the magnitude of the problem.
Following the agency problem arising from tax
planning, the stakeholders’ agency theory comes with
propositions that try to resolve the existing situation.
The stakeholders’ agency theory proposes aligning
the interest of shareholders and managers to avoid
agency problems, [27]. Thus, the theory postulates
that managers should have an obligation to balance
and defend the interest of all stakeholders, [28]. That
means firms must engage in legal tax planning,
which increases firm value without harming other
stakeholders. This proposition was supported by,
[24], who found that tax planning positively relates to
firm performance in different data sets and periods.
In contrast to this proposition, firms are still engaged
in harmful tax planning that aims to replicate
managers’ interests. Using data from Ghana-listed,
[5], indicates an opposite relationship between tax
planning and firm performance. In building
justification for their finding, [5] reveal that
managers avoid tax to pursue their self-interests due
to the presence of agency problems.
The linkage between tax planning and firm value
is also explained by signalling theory. According to
the signalling theory, managers are deemed to use tax
planning to signal the firms' favorable or unfavorable
performance to shareholders to attract their attention,
[29]. Aggressive tax planning could signal bad
information to investors that would cause them to
lose their investment interest, especially when firms
have court cases related to illegal tax practices, [30].
On the other hand, tax planning can also signal
valuable information about the firm's good future
performance, which would attract investors' interest
to buy shares and subsequently increase share prices
and firms' values, [30]. Furthermore, firms choose to
disclose tax planning information based on their
motivation. The effect caused by disclosed
information varies depending on the types of firms
and countries concerned, [22]. This means that the
impact of tax planning tends to differ based on
motivations, types of firms, and countries in which
firms originated.
On the other side, the moderating role of
dividend policy on the relation between tax planning
and firm performance continues to be an open
question. Most studies on corporate governance have
explored the direct relationship between dividend
policy and tax planning but not the moderating effect,
[31], [32]. However, dividend policy can play an
essential role in moderating the effect of tax planning
on firm value because it monitors the relationship
between shareholders and managers. [32], asserted
that the dividend policy reduces the agency problem
because cash dividend payments improve the
association between shareholders and managers.
Most importantly, the Dividend policy limits
managers from being involved in aggressive tax
planning; instead, they will minimize tax payments to
have the excess cash flow for dividends payments,
[23], [33], argue that with the obligations of paying
dividends, managers will not be involved with
aggressive tax planning because it is ineffective in
increasing their benefits. Dividend policy is also
highly linked with investor protection, [34].
Furthermore, an active dividend policy is favored by
investors whose dividends are charged at a lower
effective tax rate, [35], [36].
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2.2 Hypotheses Development
Studies on the linkage between firm performance and
tax planning have yielded mixed results. Tax
planning is reported to have both beneficial and
adverse impacts on firms. [37], indicated that tax
planning performed in the tightened tax system is
highly related to the positive performance of the
firms. In the same context, [38], found that tax
planning improves performance for well-governed
companies. Similarly, [14], assert a significant
relationship between firm performance and tax
planning positively. Their results indicate that firms
that adopt tax planning need assistance from
corporate governance to have good performance. On
the contrary, [39], using the effective tax rate as a
proxy, reveals an adverse impact of tax planning on
firm performance caused by high agency costs. [40],
also produces identical results by indicating that tax
planning increases agency costs and reduces firm
value. With the above findings, it is presumed that
tax planning affects firm performance. Hence the
following hypothesis is developed.
H1: Tax planning has a significant relationship with
firm performance.
Literature has reported contradictory results
about the interaction of the dividends policy on the
relation between tax planning and the value of the
firm. Accordingly, while investigating the effect of
tax planning on the firm performance of the Bursa
Malaysia listed firms, [30] found that tax planning
proxied by effective tax rate increased firm value.
However, with the introduction of dividend policy,
their study reveals a negative relationship between
dividends and firm performance. Meanwhile, [41],
explored the association between tax avoidance,
dividend policy, and firm value of the manufactured
listed firms on the Indonesia stock exchange. Their
results reveal a significant positive relationship
between dividend policy and firm value. At the same
time, [42], indicates that an effective dividend policy
manages to maximize shareholders' wealth by
reducing tax liability. Therefore, the above findings
lead to the generation of the following hypothesis
H2: The relationship between tax planning and firm
performance is moderated by dividend policy.
3 Research Methodology
Empirical studies examining the effects of tax
planning on firm performance were conducted in
different economic contexts using different
techniques. This study draws its sample from EAC-
listed non-financial firms. It employs panel data from
48 firms from 2009 to 2019 with a total of 468 firm-
year observations. Since the study utilized tax
planning as one of the key variables, the study has
excluded non-listed firms because tax planning
incentives for non-listed firms differ from listed
firms. Non-listed firms are reported to engage in tax
planning only to avoid tax, while listed firms, apart
from avoiding tax, also aim to attract market
reaction, [43]. Also, the study has excluded financial
institutions due to their complexity in meeting the
financial reporting standards, [44].
Most of the studies which have used cross-
sectional and time-series data have been affected by
individual heterogeneity, [45], [46], [47]. To resolve
this problem, several studies propose using panel
data estimation [48], [49], [50], [51]. Panel data
estimation was noted to provide convincing results
because it not only exploits the advantage of cross-
sectional and time series analysis but also corrects
their weakness, [25]. The panel data estimation, apart
from supporting the construction and testing of
complicated models, is also more informative, while
constructs are less collinear than in cross-sectional
and time series, [52]. Therefore, based on the above
findings, this study uses panel data estimations.
3.1 Measurement Variables
Firm performance in corporate governance studies
has been divided into two groups: accounting
performance and market performance, [53]. Market
performance measures indicate long-term financial
performance and growth opportunities while
accounting measures reflect short-term financial
performance, [6], [54]. This study measures firm
performance from both perspectives, market and
accounting performance, to improve the robustness
and check the sensitivity of the results. Market
performance is measured by using Tobin Q. Tobin Q
is considered a better proxy for the study related to
tax planning because it minimizes distortion arising
from tax laws and accounting policies, [6].
Therefore, in line with, [5], [6], [55], Tobin Q is
measured as the annual market capitalization of the
firm divided by the annual book value of total assets.
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On the other hand, accounting performance is
measured by using return on assets. As one of the
widely used accounting measures of performance,
return on assets is considered an appropriate ratio in
analyzing a firm's economic health and investment
portfolio proficiency, [56], [57]. It is also considered
to link a company's operations and investment
activities, [58]. About the above findings, the study,
therefore, measures return on assets (ROA)
following, [59], [60], as net income per total assets.
Tax planning as an independent variable of the study
has been measured by using various methods,
including book-tax difference (BTD), the effective
tax rate (ETR), and tax saving (TS). The utilization
of BTD as a tax planning proxy has become much
more popular due to the perceived difference
between the reported level of accounting profit
associated with taxable income and the corporate
income tax payable to the tax authorities, [61]. On
the other hand, ETR also was widely applied by prior
studies, [5], [6], [39], as the reflection of a decrease
in tax liability without affecting accounting income.
This study uses BTD as the main measure of tax
planning and ETR to check the robustness of the
result. Using more than one method in estimating tax
planning helps to increase the explanation of the
results and make an appropriate statistical inference,
[12]. Therefore, BTD is measured in line with, [61],
[62], [63], using disaggregate BTD by first
measuring total BTD and then estimating Permanent
Difference out of total BTD. Accordingly, PD is
estimated as follows
Where PDit is the Permanent Book Tax Difference.
BTDit denotes the Total Book Tax Difference which
is calculated as the difference between
profit before tax and estimated taxable profit.
TDit denotes the Temporary Book Tax Difference
which is calculated as the ratio of
deferred tax expenses over by the statutory tax rate.
Furthermore, ETR as the tax planning proxy for
checking the results' robustness in this study, is
measured similarly to, [5], [64], as a ratio of total
corporate tax expense minus differed tax divided by
pre-tax income. Since tax planning practices are
argued to influence firms to incur losses, [23], loss-
making firms are not excluded in this study.
Dividend policy has been widely measured by most
studies as the dividend payout ratio, [65], [66]. Other
studies also have examined the impact of dividends
by using the dummy variables set as follows; a value
of one (1) for the firm that paid dividends and a value
of zero (0) for the firms that do not pay dividends in
a particular year, [16]. This study employs the widely
used dividend payout ratio, calculated as dividends
over net income.
Firm size, as one of the control variables in this
study, is the size of the firms that arguably influences
tax planning decisions. Large firms are less involved
in aggressive tax planning than small firms because
of their reputations and transparency, [5].
Meanwhile, large firms are also reported to have
higher information asymmetry and political influence
that they can efficiently utilize to plan taxes, [25].
Firm size in this study is measured in line with, [39],
[48], by taking the natural logarithm of total assets.
Financial leverage, as another control variable, is
related to firm performance through the argument
that firms with higher financial leverage are more
efficient in minimizing tax liability and increasing
firm performance, [39]. [67], finds that firms with
higher debt-to-equity ratios have low effective tax
rates because they use debt deduction to reduce
corporate tax liability. The study measures financial
leverage similarly to, [48], [68], by taking total debt
and dividing it by total assets.
Firm growth opportunities as the final control
variable in this study is an essential tool in examining
the relationship between tax planning and firm
performance. Low-growth firms are reported to
engage more in aggressive tax planning than high-
growth firms. This is because low growth faces more
financial distress than high-growth firms that enforce
them to reduce tax liabilities, [68]. Following [69],
[70], firm growth opportunity in this study is
measured by using the sales growth rate. The
definition of the variables is presented in Table 1.
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Table 1. Definition of Variables
VARIABLE
SYMBOL
DEFINITION
SOURCE
Firm Value
ROA
Net income over total assets.
Financial Reports
Tobin Q
The market capitalization of the firm
over the book value of total assets at
the year-end
Financial Reports
Book-Tax Difference
BTD
Measure by tax effect book-tax
difference
Financial Reports,
Tax Authority
website of the
Partner State
Effective Tax Rate
ETR
Total corporate tax expense minus
differed tax divided by pre-tax
income
Financial Reports
Dividend Policy
DP
Dividend over Net Income
Financial Reports
Moderated Variable
BTD_DP
Book-Tax Difference times dividend
policy
Financial Reports
Firm Size
SIZE
Natural logarithm of total assets
Financial Reports
Financial Leverage
LEV
Total debt over total assets
Financial Reports
Firm Growth Opportunity
GROWTH
Sales growth rate
Financial Reports
Source: Owners' compilation
3.2 Model Specification
The ordinary least squares (OLS) are highly
criticized for being the best method for panel data.
Instead, it is proposed to work with Panel data by
considering individual effects, [71]. Studies under
OLS suffered from endogeneity and simultaneity
problems, [72]. According to, [73], [74], OLS could
be appropriately used under restrictive assumptions
of autocorrelation, homoscedasticity, normality, and
Multicollinearity. However, these restrictive
assumptions of OLS result in biased and inconsistent
estimates, which create room for the possibility of
reporting spurious results, [75]. Consequently, as a
remedy for the observed shortcomings, it is proposed
to use a dynamic panel system with two steps
(GMM) to run regression estimations. The dynamic
GMM is effectively designed to overcome the
endogeneity bias arising from unbalanced panel data,
resulting in inconsistent estimates, [76]. The model is
also capable of handling heteroskedasticity and
autocorrelation issues. Thus, this study estimates the
dynamic two steps system GMM as follows;
(2)
Where: presents firm performance for the firm t
the time , denotes the lagged firm
performance, represents independent variables and
moderated variables (Tax planning and dividend
policy), denotes control variables (financial
leverage, Firm size, and growth opportunity), and
presents vector coefficients for explanatory and
control variables respectively, firm-level fixed
effect and the error term.
Accordingly, we estimate the relationship between
firm performance and book-tax difference by using
the panel data regression model as follows;
Where; FVit denotes Firm Value, BTDit is the
book-tax difference (BTD), SIZEit is Firm Size,
itiitiitiitpit ZXykY
1
it
Y
t
1it
y
it
Z
i
i
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LEVit is Financial Leverage and GROWTHit is
Growth Opportunity.
Furthermore, the moderate role of dividend
policy is estimated by using the following
regression model:
Where; DPit denotes Dividend Policy.
4 Empirical Results
4.1 Descriptive Statistics
Firstly, the data were winsorized at the 2nd and 98th
percentiles before analysis to control for outliers. The
summary of descriptive statistics of the final sample
of 516 firm-year observations is provided in Table 2
for dependent variables (ROA and Tobin Q) and
explanatory variables (BTD, DP, LEV, GROWTH,
and SIZE). The summary covers the mean, standard
deviation, and minimum and maximum values of the
variables used in this study.
The descriptive statistics results in Table 2 above
indicate an average book-tax difference of -0.017,
equivalent to -1.7%. It implies that many firms in
EAC are under due tax by the government, and the
statutory tax rate imposed by the governments of the
partner states does not reflect the real amount of tax
paid by firms. Some firms in EAC reported a
maximum and a minimum book-tax difference of -
11.7% and 4.1%, implying that accounting income
exceeds taxable income for some firms and vice
versa for others. The descriptive statistics also report
a standard deviation of 4.1% for book-tax
differences, indicating considerably low variation
across EAC-listed firms.
On the other hand, the EAC listed firms report a
positive average return on assets (ROA) of 0.175
(17.5%) and Tobin Q 1.7 (170%), with maximum
and minimum ROA of -41.4% & 67.6% and Tobin Q
40% & 659% respectively for some firms. This
implies that EAC-listed firms efficiently utilize assets
to generate more income, which is also evidenced by
high market capitalization. The descriptive statistics
further report positive averages for the following
variables; dividend policy at 31.3%, financial
leverage at 50.4%, growth rate at 0.6%, and firm size
of the natural logarithm of 7.94. The average growth
rate of 0.6% indicates that firms in EAC have poor
sales growth even though a certain firm has recorded
a maximum growth rate of 34.7%. Also, a standard
deviation of 142.7% for Tobin Q and 69.7% for firm
size indicates a high disparity between Tobin Q and
firm size. Conclusive results of the descriptive
statistics between book-tax difference and firm
performance indicate the presence of tax planning
activities that increase the firm's value.
Table 2. Descriptive Statistics
Variable
Obs
Mean
Std. Dev.
Min
Max
ROA
516
.175
.286
-.414
.676
Tobin Q
516
1.709
1.427
.4
6.59
BTD
516
-.017
.041
-0.117
.033
DP
516
.313
.378
-.007
1.244
LEV
516
.504
.239
.196
1.04
GROWTH
516
.006
.182
-.389
.347
SIZE
516
7.942
.697
6.041
9.595
The notation: ROA = Return on Asset (ratio) ETR = Tax planning measure by Effective Tax Rate (ratio), AQ1 = DP1=
Dividend Policy measure by dividend pay-out (ratio) SIZE = Firm size (In), LEV = Leverage (ratio), GROWTH = Firm
growth opportunity (ratio).
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Table 3. Pearson Correlation Matrix
Variables
-1
-2
-3
-4
-5
-6
-7
(1) ROA
1
(2) TobinQ
0.330***
1
(3) BTD
0.647***
-0.011
1
(4) DP
0.240***
0.312***
0.165***
1
(5) LEV
-0.429***
0.015
-0.323***
-0.291***
1
(6) GROWTH
0.183***
-0.001
0.157***
0.015
-0.036
1
(7) SIZE
0.029
-0.024
-0.021
0.028
0.180***
0.149***
1
Notes: The asterisks ***, ** and * represent significance at 1%, 5%, and 10% levels respectively
4.2 Correlations Results
Table 3 provides the correlation matrix result
between all variables used in this study. The
correlation matrix also serves as the collinearity test
among variables. The results indicate that some
variables are significantly correlated with each other.
Specifically, the results reveal that ROA is
significantly positively correlated with the book-tax
difference. This implies that more tax planning
activities result in high firm value. The results also
indicate a correlation among explanatory variables.
Notably, the result showed a positive correlation
between dividend policy and book-tax difference.
Results also revealed that financial leverage
negatively correlates with a book-tax difference and
dividend policy. However, despite having a
significant correlation among explanatory variables,
Multicollinearity is observed to be not a problem.
First, the magnitude of the correlation values is
observed to be the minimum set threshold of 0.8,
[74]. Also, as further evidenced in the results of
variance inflation factors reported in Table 4, none of
the reported VIF exceeds 10. The average VIF
reported is 1.08, with the highest VIF at 1.142 and
the lowest VIF standing at 1.03.
Table 4. Variance inflation factor
V.I.F.
1/VIF
LEV
1.141
.876
SIZE
1.106
.904
DP
1.104
.906
ETR
1.042
.96
GROWTH
1.027
.973
Mean VIF
1.084
.
4.3 Other Diagnostic Tests
The study followed other researchers, [52] and ran
other diagnostic tests to ensure the findings matched
the different metrics. The study ran Breusch Pagan/
Cook-Weisberg Test to detect heteroscedasticity in
the estimated regression models. As shown in Table
5, the estimated results indicate a p-value
(probability > chi2) to be more than 0.1 ROA,
showing no heteroscedasticity problem when ROA
measures firm performance. Conversely, the results
indicate significant heteroscedasticity in the Tobin Q
models. This means the regression must be run
robustly to overcome heteroscedasticity in the Tobin
Q model. However, since the main regression is
estimated using GMM, the heteroscedasticity
problem is resolved automatically.
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Table 5. Heteroskedasticity Test by Breusch Pagan/Cook-Weisberg
ROA
TOBIN Q
Chi-Square
P-value
Chi-Square
P-value
2.22
0.1366
9.24
0.002***
Table 6. Unit Root Test- Im-Pesaran-Shin
Variables
Statistic
P-value
1st Difference
ROA
-1.9183
0.0275**
TOBIN Q
0.5415
0.7059
0.0000***
BTD
-1.0942
0.0261**
ETR
-2.8745
0.002**
AQ
-2.7806
0.0027**
LEV
0.6292
0.7354
0.0000***
GROWTH
-2.8369
0.0020**
F_Size
-0.6328
0.0000***
Table 7. Cointegration Test - Pedroni
ROA
TOBIN Q
Variables
P-value
P-value
Modified Phillips-Perron t
0.0000***
0.0000***
Phillips-Perron t
0.0000***
0.0000***
Augmented Dickey-Fuller t
0.0006***
0.0000***
In line with, [52], [79], the study also conducts a
unit root test to check for data stationarity using Im-
Pesaran- Shin (IPS). IPS has been chosen over other
tests because it fits well with both balanced and
unbalanced panel data. Also, it has large power and
size than others, [88]. The panel unit root test results
in Table 6 indicate all variables to be stationaries
except Tobin Q and Financial leverage. However,
after performing the first difference, Tobin Q and
Financial Leverage become stationary. The presence
of stationarity implies that data is predictable on
permanent or temporary shocks, and they can hold up
for future projections.
The presence of data stationarity postulates the
importance of assessing the long-run relationship
between variables. Thus the study conducted panel
cointegration using the Pedroni test to confirm
whether data stationarity indicates a long-run
relationship between dependent and independent
variables. As shown in Table 7, the results reject the
null hypothesis of no cointegration at less than a 1%
significant level and accept the alternative hypothesis
for all Pedroni tests. This means there is a solid long-
run relationship between variables.
4.4 Regression Results
Relationship between Tax Planning and Firm
Performance
Before GMM estimation, the model was pre-
estimated by using the Ordinal Least Square (OLS)
and Fixed Effect Model (FEM) to assess the
sensitivity of the results. The initial results shown in
Table 4 are robust in both OLS and FEM. Consistent
with GMM, both OLS, and FEM reveal a positive
relationship between book-tax difference and ROA at
a 1% significant level and an insignificant
relationship between book-tax difference and Tobin
Q. Generally, the evidence of having a similar pattern
of results in all estimation models implies the
existence of strong persistency of the results that can
not be affected by the change of models. Therefore,
the results are appropriate for making statistical
inferences.
The GMM results presented in columns 6 and 7
of Table 8 show that the lagged dependent variables
are positively significant for both ROA and Tobin Q
at 1%. The results confirm the condition of the
lagged variable, which require it to be significant to
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justify the instrument's validity, [77], [78], [79].
Specifically, the results show that tax planning
positively relates to ROA at a 1% significant level
(Coef 3.663), suggesting a large difference between
the EAC-listed firms’ accounting and taxable
incomes. The coefficients of 3.663 indicate that every
increase in 1 unit of tax planning increases firm
accounting performance by 3.663. The result support
hypothesis H1 by confirming that tax planning is
related to firm performance. However, we find no
evidence to support the relationship between tax
planning and Tobin Q. This could be explained by
the fact that book-tax difference arises from variation
in the computation of accounting tax and taxable
income. Thus, as a market measure of firm
performance that reflects investors’ valuation, Tobin
Q could not be directly impacted by BTD. Also,
complex tax avoidance is more likely to attract
investors’ attention and increase supervision costs,
[14].
Furthermore, since ROA measures the firm’s
accounting performance, the results reveal that EAC
firms engage in tax planning activities to meet
earnings targets. They reduce earnings for tax
purposes. However, this practice has a negative effect
on the reliability and accountability of financial
statements. It may create unnecessary contradictions
for users of financial statements. Consequently, the
significant magnitude between tax planning and
ROA suggests that firms in EAC involve more in tax
planning for the short-run causality than the long-run.
Also, the positive relationship between tax planning
and the firm's value confirmed the assertation by
prior studies that proper tax planning favours
shareholders as they consider it a value enhancement,
[5], [26]. The result is identical to the existing
empirical finding by, [6], [55], who documented that
firms use tax planning to increase their value. On the
contrary, the results oppose the finding by, [18], who
documented a negative relationship between tax
planning and firm value.
Similar results are also found in the association
between leverage and Tobin Q, which confirms the
positive relationship. This result suggests that high
leverage is positively linked with the long-run
performance of the firms, but in the short-run, high
leverage has no impact on the firm performance. The
result is also justified because firms usually acquire
debt finance for projects that will yield positive
returns in the future. Results also indicate a negative,
statistically insignificant relationship between firm
size and firm performance, which stands to reason
that large firms use their status and political influence
to avoid tax, [80]. The negative relation between firm
size and the value of the firm can also be explained
as large firms experiencing more serious agency
problems than small firms, which influence managers
to pursue their opportunistic goals, [6]. The
regression results for tax planning and firm value are
presented in Table 8.
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Table 8. Regression results for Tax Planning and Firm Value
OLS
FEM
GMM sys
ROA
TOBIN Q
ROA
TOBIN Q
ROA
TOBIN Q
L.ROA/ L.TOBIN
0.228***
0.747***
[0.082]
[0.219]
BTD
3.835***
-0.237
3.822***
-1.875*
3.663***
-0.91
[0.235]
[1.635]
[0.188]
[1.107]
[0.458]
[0.711]
LEV
-0.314**
0.107
-0.216***
-0.032
-0.117
0.841***
[0.041]
[0.284]
[0.054]
[0.316]
[0.086]
[0.303]
GROWTH
0.119**
0.035
0.103**
-0.244
0.08
-0.111
[0.051]
[0.355]
[0.04]
[0.236]
[0.044]
[0.178]
SIZE
0.031**
-0.057
-0.15***
-1.851***
0.022
-0.194*
[0.013]
[0.093]
[0.045]
[0.265]
[0.032]
[0.106]
Constant
0.148
2.103***
1.536***
16.4***
0.051
1.464*
[0.105]
[0.729]
[0.358]
[2.111]
[0.237]
[0.851]
Number of Obs
516
516
516
516
516
516
AR (1) (p-value)
0.044
0
AR (2) (p-value)
0.74
0.533
Sargan
0.031
0
Hansen
0.296
0.264
Notes: The Table reports regression coefficients and Standard error (in brackets). The asterisks ***, ** and * indicate
significant levels at 1%, 5%, and 10%, respectively. Dynamic panel data are reported with AR (1) and AR (2), which are
first-order and second-order serial correlations in the first differenced residuals. Also, it reports the Sargan and Hansen Test
in p-value. The notation: L.ROA and L. TOBIN = lagged performance, BTD = Book Tax Difference, LEV = Financial
Leverage, GROWTH= Firm Growth Opportunity, SIZE= Firm Size
4.4.1 Robustness Check
To increase the reliability of the above-presented
results, the robustness check has been performed
using the effective tax rate as an alternative tax
planning measure. The results, as shown in Table 9
below, indicate that the coefficients of the lagged
firm performance variable still produce a positive
correlation with a firm performance at a 1%
significant level. This implies that the past effect of
firm performance continues to control unobserved
historical factors in the relationship between tax
planning and firm performance. More specifically,
the results reveal a quite similar pattern of the
relationship between tax planning and firm
performance. Exclusively, the results indicate a
positive correlation between tax planning and Tobin
Q at a 1% (Coef 0.105) significant level and a
positive correlation between tax planning and ROA
at a 10% significant level (Coef 0.043). Generally,
the evidence obtained from the robustness check
supports the study's finding that EAC-listed firms
engage in tax planning to increase firm value. It
further reveals that the magnitude of tax planning on
the firm performance depends on how it is measured.
Book tax difference has a positive relationship with
ROA, while effective tax rate has a positive
relationship with Tobin Q. The robustness results for
tax planning and firm value are presented in Table 9.
4.4.2 Moderated Effect of Dividend Policy
The moderated effects of the dividend policy on the
relation between tax planning and the firm's value are
presented in Table 10. The moderated variable is
measured by calculating the product of dividend
policy and book-tax difference. Similar to the
previous section, the study conducted a robustness
check of the GMM results using OLS and FEM. The
robustness check on the moderated effect of dividend
policy produces identical results for all models.
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Table 9. Robustness Results for Tax Planning and Firm Value
OLS
FEM
GMM sys
ROA
TOBIN Q
ROA
TOBIN Q
ROA
TOBIN Q
L.ROA/ L.TOBIN
0.422***
0.754***
[0.121]
[0.211]
ETR
0.066***
0.517***
0
0.104
0.043*
0.105***
[0.021]
[0.115]
[0.02]
[0.086]
[0.025]
[0.292]
LEV
-0.521***
0.161
-0.502***
0.1
-0.273***
0.875***
[0.047]
[0.264]
[0.071]
[0.306]
[0.092]
[.281]
GROWTH
0.246***
0.052
0.225***
-0.297
0.163**
-0.141
[0.062]
[0.344]
[0.054]
[0.234]
[0.065]
[0.187]
SIZE
0.025
-0.137
-0.086
-1.871***
0.009*
-0.212**
[0.017]
[0.093]
[0.062]
[0.265]
[0.028]
[0.104]
Constant
0.244*
2.74***
1.109**
16.524***
0.146
1.599*
[0.131]
[0.729]
[0.492]
[2.112]
[0.201]
[0.823]
Number of Obs
516
516
516
516
516
516
AR (1) (p-value)
0.001
0.041
AR (2) (p-value)
0.846
0.68
Sargan
0
0.032
Hansen
0.169
0.332
Notes: The notation: L.ROA and L. TOBIN = lagged performance, ETR = Effective Tax Rate, LEV = Financial Leverage,
GROWTH= Firm Growth Opportunity, SIZE= Firm Size
On the other hand, the GMM model treats book-tax
difference, dividend policy, the interaction of
dividend policy and book-tax difference, firm size,
financial leverage, and firm growth opportunity as
exogenous and the lagged firm performance as
endogenous.
The GMM results, as presented in Table 10,
show the moderated effect of dividend policy to have
a significant negative influence on the relationship
between tax planning and firm performance. More
specifically, the results indicate the moderated role of
dividend policy has a negative relationship with ROA
at a 1% significant level (Coef -4.323). This implies
that the association between firm performance and
tax planning in EAC-listed firms is successfully
moderated by dividend policy. Therefore, the results
accept hypothesis H2, which suggests that the
relationship between tax planning and firm
performance is moderated by dividend policy.
The plausible explanation for the results is that
since the dividend is paid out of quality earnings, it
manages to monitor managers' self-interest activities
which might deteriorate the firm's value. According
to, [81], Tax planning is one of the high-risk
investment opportunities available to managers that
involve future cash flow. So, managers must avoid
aggressive tax planning and effectively plan it to
create a positive response from all shareholders.
Accordingly, these findings suggest that EAC-listed
firms are involved in effective tax planning to satisfy
their shareholders through reported good firm
performance. Also, with the help of a stable
dividend policy, shareholders can foresee and
monitor their firms' aggressive tax planning
activities. The results affirmed the finding by,
[82], that tax planning, besides increasing firm
value, brings other benefits to the firms, including
increasing firm liquidity, which can be used to
facilitate the company's other activities, such as
dividend payments. The regression results for the
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moderated effect of dividend policy are presented in
Table 9.
Table 10. Regression results for the moderated effect of dividend policy
OLS
FEM
GMM sys
ROA
TOBIN Q
ROA
TOBIN Q
ROA
TOBIN Q
L.ROA/ L.TOBIN
0.231***
0.758***
[0.077]
[0.201]
BTD
4.269***
-0.997
4.271***
-1.553
4.227***
-0.681
[0.253]
[1.697]
[0.199]
[1.211]
[0.39]
[0.575]
DP
0.012
1.313***
-0.105***
0.185
-0.056*
0.151
[0.027]
[0.179]
[0.024]
[0.149]
[0.03]
[0.109]
BTD_DP
-3.483***
-1.487
-3.167***
-3.151
-4.323***
-1.347
[0.759]
[5.093]
[0.602]
[3.67]
[1.043]
[3.755]
LEV
-0.277***
0.705**
-0.233***
0.042
-0.1
0.934***
[0.042]
[0.279]
[0.052]
[0.319]
[0.078]
[0.283]
GROWTH
0.095*
0.08
0.074*
-0.238
0.041
-0.199
[0.05]
[0.337]
[0.039]
[0.237]
[0.043]
[0.197]
SIZE
0.026**
-0.118
-0.16***
-1.86***
0.02
-0.213**
[0.013]
[0.088]
[0.043]
[0.265]
[0.03]
[0.102]
Constant
0.164
1.861***
1.659***
16.366***
0.076
1.511*
[0.103]
[0.69]
[0.346]
[2.112]
[0.228]
[0.819]
Number of Obs
516
516
516
516
516
516
AR (1) (p-value)
0
0.036
AR (2) (p-value)
0.331
0.729
Sargan
0
0.03
Hansen
0.289
0.301
Notes: The notation: L.ROA and L. TOBIN = lagged performance, BTD= Book Tax Difference, DP= Dividend Policy,
BTD_DP = Moderated Variable
5 Conclusion
The study explores the effect of tax planning on firm
performance with moderated effect of dividend
policy in EAC-listed firms. Although tax literature
emphasizes on tax planning activities of the listed
firms, its impact has been under-investigated in
emerging markets, [83], [84], [85]. Therefore, this
study exploits this void by drawing a sample of 48
listed non-financial firms from EAC partner states.
The study adopts a panel approach whereby the
regression estimations were done using the Dynamic
Panel System’s two steps (GMM). The study first
examines the relationship between tax planning and
firm performance and then extends its investigation
by analyzing the moderated impact of dividend
policy on the relations between tax planning and the
value of the firm.
The finding suggests a significant positive
relationship between tax planning and firm
performance. It implies that EAC context, listed
firms consider tax planning as an effective strategy to
reduce tax liability and increase the value of the firm.
The finding is in line with the stakeholder agency
theory that managers balance their interests to
achieve the overall goals of the other stakeholders.
Also, the finding supports the signalling theory by
suggesting that, through effective tax planning,
managers in EAC-listed firms can increase the
disclosure of tax information and alleviate
information asymmetry problems, [84]. More so, the
results reveal that dividend policy has moderated
impact on the relations between firm performance
and tax planning. This finding also supports the
agency theory proponents that shareholders can use a
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control mechanism as a dividend policy to monitor
managers' self-interest activities.
The study adds to the existence of several policy
implications and contributions. First, it contributes to
the literature on the implication of tax planning on
firm performance in EAC. This contribution can be
helpful to shareholders to have actual estimates of
firm value. Also, the study discloses the implication
of dividend policy as the moderated variable of
corporate governance studies. Secondly, the study
provides insight into the understanding of EAC's tax
planning practices to policymakers and tax
administrators that can be used to design effective
anti-avoidance strategies.
Furthermore, the current study adds new insight
into the literature by exploring the differences
between the present and prior studies. These
differences are the environment in which the study
has been undertaken (East African Countries) and the
uses of the moderated role of dividend policy.
Dividend policy is the relevant moderated role in
ensuring firms report high-quality earnings and avoid
aggressive tax planning. The previous studies that
have examined the relationship between book-tax
difference and earnings quality have ignored the
impact of dividend policy, [86], [87].
On the other hand, due to time constraints, the
study has been limited to one component of tax
planning: tax avoidance. Based on this limitation, the
study identified some interesting parties that can
open further research opportunities. Future
researchers can extend their studies by including
other tax planning components, such as transfer
pricing. In addition, Future studies can use audit
quality instead of dividend policy as the moderated
variable. Furthermore, future studies can extend their
sample period to capture the impact of COVID-19.
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Contribution of Individual Authors to the
Creation of a Scientific Article (Ghostwriting
Policy)
-Heri Gasper Mulamula performs conceptualization
and original draft preparation, methodology, data
curation, formal analysis, and discussion of findings.
-Zuriawati Zakaria, Zam Zariyati Mohamad: carried
out supervision, reviewing, and editing works:
Sources of Funding for Research Presented in a
Scientific Article or Scientific Article Itself
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The authors have not received any financial support
to assist with preparing this manuscript. Also, the
authors declare to have no financial interest in the
submitted work.
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The authors have no conflict of interest to declare.
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