The Value of Offshore Secrets: Evidence from the Panama Papers

Hannes Wagner is Associate Professor of Finance at Bocconi University. This post is based on paper authored by Professor Wagner; James O’Donovan of INSEAD; and Stefan Zeume, Assistant Professor of Finance at the University of Michigan.

On April 3, 2016, news sources around the world started reporting about a data leak of 11.5 million confidential documents concerning the business activities of Mossack Fonseca, a Panama-based law firm. The leaked documents implicate a wide range of firms, politicians, and other individuals to have used 214,000 secret shell companies to evade taxes, finance corruption, launder money, violate sanctions, and hide other activities. In our paper entitled The Value of Offshore Secrets—Evidence from the Panama Papers, which was recently made available on SSRN, we use this data leak to study whether and how the use of offshore vehicles creates firm value.

Because activities of offshore vehicles are generally unobservable, one needs to resort to revelations such as the Panama data leak to study whether and how such vehicles create shareholder value. The leak might negatively affect firm value if it makes it harder to avoid future taxes or to use offshore money to bribe foreign government officials to obtain government contracts; similarly, the data leak may result in regulatory punishment for past tax evasion and violations of anti-bribery regulation. Alternatively, if offshore structures were used to tunnel resources out of the firm at the expense of shareholders, the leak might increase firm value.

In order to assess the impact of the Panama Papers data leak on firm value, we use a sample of 26,655 publicly traded firms from 73 countries, with a total of 543,151 subsidiaries across 213 sovereign and non-sovereign territories. We measure firm value by the stock price reaction of firms around April 3, 2016, the announcement of the data leak.

Specifically, our paper shows:

  • Firm Exposure to Implicated Tax Havens: Are firms using offshore subsidiaries to create shareholder value? Does the data leak destroy some of that value? We find that, around the world, the data leak erased $222-230 billion in market capitalization among circa 1,100 firms with subsidiaries in Panama, the British Virgin Islands, the Bahamas, or the Seychelles, the tax havens that were used predominantly by Mossack Fonseca. The drop in firm value reflects 0.5%-0.6% of affected firms’ market capitalization, and is more negative among firms with subsidiaries in the Bahamas (-1.3%), followed by Panama (-0.8%) and the British Virgin Islands (-0.7%).
  • Firm Exposure to perceivably corrupt countries: Are firms with operations in countries where high-ranked government officials were implicated by the data leak affected? We find that firms operating subsidiaries in countries perceived to be more corrupt than their home country experience 0.3% lower returns than similar firms without this exposure. Also, the impact of the data leak is more pronounced for firms that have activities in countries whose high-ranked government officials were implicated by name for suspected fraud, money laundering, bribes, or related activities by the data leak. Firms with at least one subsidiary in any of these ten countries lost 0.65% in market value.
  • Firm Exposure to Implicated Tax Havens and Implicated Countries: Were offshore facilities used to pay off corrupt politicians? Because bribe payments and contract allocation procedures are unobservable, our evidence is indirect. We find that, around the data leak, firms exposed both to tax havens implicated by the Panama Papers and to perceivably corrupt countries lose 0.3%-0.4% in value compared to similar firms. Firms with exposure to any of the four Panama Papers havens and nine of the ten countries directly implicated by the leak have negative returns. For instance, firms linked to Mossack Fonseca’s tax havens and operating in Iceland experienced negative abnormal returns of -1.4%. The data leak had linked Iceland’s Prime Minister Sigmundur Davíð to an undisclosed company in the British Virgin Islands.

Overall, our estimates suggest that investors perceive the leak to destroy some of the value generated from offshore activities. One potential channel is that shareholders are afraid the publicity might lead to governments cracking down on tax havens. That would mean companies could lose out on tax savings they had been accustomed to. A second channel is that some companies might have illegal activity exposed; such companies might pay hefty fines and may have to stop activities such as tax evasion and financing corruption, or violations of sanctions. A third channel is that customers of implicated companies might resent them dodging taxes in their home countries and boycott or avoid their products.

More broadly, the Panama data leak may indicate the end of offshore secrecy altogether. Part of the negative share price response documented in our paper may capture this, and any further revelations of similar activities may destroy further shareholder value. Notably, many of the details pertaining to the Panama Papers data leak are not yet available; for our tests, we rely on market data and news coverage up to April 7, 2016. Future revelations from the Panama Papers and responses by law enforcement, governmental agencies, and regulatory bodies will offer additional room to investigate what types of firms and what types of connections to havens and implicated countries create value.

The full paper is available for download here.

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