Deferred tax

Equity analysis when accounting and economics diverge

Posted on

Analysis becomes more difficult for investors if financial statements fail to faithfully represent the underlying economics of a business. Sometimes this reflects the limitations of accounting; however, sometimes the accounting is simply misleading – for example, US GAAP accounting for loan losses.

The FASB has recently issued an amendment to US GAAP to correct an anomaly where an accounting loss is recognised when loans are acquired, even though no economic loss has occurred. We explain why accounting and economic reality can diverge, and how the US GAAP amendment will help investors.

Continue reading “Equity analysis when accounting and economics diverge” →

Effective tax rates for NOPAT and DCF

Posted on

Taxation is a significant expense for most companies and an important driver of profitability and value. Differences in the effective tax rate matter in equity analysis, but how should you calculate this metric and what rate should you use as a basis for forecasting?

We explain the different calculations of effective tax rates, why it is important to examine the tax rate reconciliation footnote, the impact of exceptional gains and losses, and how intangible amortisation complicates the analysis. Understanding these effects is important to determine the correct tax rate for use in NOPAT and DCF calculations.

Continue reading “Effective tax rates for NOPAT and DCF” →

Effective tax rates and stock-based compensation

Posted on

Stock-based compensation can have a significant impact on the effective tax rate. For US companies the effect is driven to a large extent by changes in the stock price. In 2021 this reduced the effective tax rate for many companies; however, in 2022 you could well see the reverse.

We use Netflix to explain the effect of stock-based compensation on cash taxes and deferred tax adjustments. The accounting is complex and made even more challenging for investors by differences between IFRS and US GAAP. Unfortunately, neither US GAAP nor IFRS financial statements may fully reflect the underlying economics.

Continue reading “Effective tax rates and stock-based compensation” →

Deferred tax fails to reflect economic value – Vodafone

Posted on

Most deferred tax adjustments in financial statements help investors – but not always. The ‘economic value’ of deferred tax assets arising from unused tax losses may be significantly less than the balance sheet figure. However, as a consequence, profit forecasts may be understated, potentially leading to an undervaluation by investors. 

We estimate that if the £24bn deferred tax asset of Vodafone were discounted to an economic value then it would instead be closer to £8bn, but forecast profit would rise by about £500m.

Continue reading “Deferred tax fails to reflect economic value – Vodafone” →