– The purpose of this study is to examine the relationship of using derivative financial instruments, tax aggressiveness and firm market value.
– This paper develops analytical models and designs an empirical study.
– Using data from large Canadian public companies, this paper finds that a firm’s realized losses or unrealized gains from using derivatives are negatively associated with its effective tax rate, and a firm’s realized losses or unrealized gains from using derivatives are positively associated with its market value.
– This study simplifies the analytical model by separating the firm’s intrinsic market value from the tax-timing option value. In a more general framework, the tax-timing option value could be subsumed in the firm’s market value, and the firm’s market value would be determined endogenously.
– This study develops a framework to show how firms exploit the tax-timing option by using derivatives. It is the first study to conclude that a motive for firms to use derivatives is to exploit the tax-timing option.
