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The main purpose of this study is to test the functional fixation hypothesis (FFH) by examining how the Taiwan stock market interprets corporate tax expense after the 1997 Tax Integration. Since tax integration changes the nature of corporate tax expense, but current GAAP still treats it as an operating expense in the income statement, it provides a good opportunity to test the FFH through the examination of market behavior before and after tax integration.
Years 1995 to 1998 are selected as testing sample due to the data availability. The empirical results suggest two main conclusions. First, corporate tax expense provides incremental information content in explaining firm’s stock return after tax integration. This implies that Taiwan’s stock market was not functionally fixated at the bottom-line accounting numbers. Instead, it could perceive the effects of tax integration on the nature of corporate tax expense. Second, corporate tax expense provides no explanatory power in explaining security abnormal stock return after tax integration.
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