Bài 11

Corporate Tax Avoidance and Corporate Social Responsibility
Disclosure Readability: Evidence from China
Shuolei Xu & Fangjun Wang , Xi’an Jiaotong University

Charles P. Cullinan, Bryant University
Nanyan Dong , Xi’an Jiaotong University
Paying taxes to support the societies in which they operate is both a legal and ethical responsibility of business.
Nevertheless, some companies work to avoid taxes, which could cause society to question the legitimacy of the
organisation. Many companies provide reports on their corporate social responsibility (CSR) activities; more
transparent CSR reports may help to restore the legitimacy loss associated with tax avoidance. We investi-
gate the relationship between tax avoidance and CSR report readability among Chinese companies. We find
a positive relationship between corporate tax avoidance and the readability of CSR reports. This relation is
weaker among state-owned enterprises, which may have stronger pre-existing legitimacy owing to their rela-
tionship with the state. The relationship is also weaker among companies in less developed regions of China,
which have less developed institutions to monitor organisational legitimacy. Overall, our results are consistent
with the notion that CSR reporting represents an attempt to overcome legitimacy concerns arising from tax
avoidance. Our findings indicate that tax avoidance and CSR reporting are alternative means of establishing
legitimacy, rather than complementary reflections of an organisational culture that values (or devalues) CSR.
Corporate social responsibility (CSR) refers to the ac- reputational damage from financial restatements can
tions designed by companies to improve their social and be offset by enhanced CSR readability, managers may
environmental conditions (Mackey et al. 2007). One as- perceive that the adverse effect of tax avoidance on
pect of CSR is a company’s willingness to pay taxes to corporate legitimacy can also be offset by more readable
promote social welfare. If a company avoids paying its CSR reports. In this ‘legitimacy gap’ perspective, paying
‘fair share’ of taxes, the company can be considered a a fair share of taxes or providing transparent CSR
‘poor citizen’ (Bankman 2004), and viewed as socially disclosure could be alternative/substitute means for
irresponsible (Huseynov and Klamm 2012). Avoiding companies to establish legitimacy. Consistent with this
taxes can therefore deviate from social expectations, re- perspective, Lanis and Richardson (2013) found that
ducing the trust of stakeholders and endangering cor- tax-avoiding companies provided higher level (not
porate legitimacy (Lanis and Richardson 2013). CSR re- readability) of CSR disclosure.
porting may be a solution for managers to maintain An alternative perspective (‘corporate culture’) could
(or regain) legitimacy among stakeholders (Bebbington suggest that companies committed to CSR may pay their
et al. 2008; Chen et al. 2016) when they are avoiding fair share of taxes and present transparent CSR report-
taxes. ing owing to their commitment to CSR. Hoi et al. (2013)
Disclosure by management of CSR activities has examined CSR activities (not disclosure readability) and
drawn attention in both research and practice found that tax-avoiding companies had lower overall
(i.e., Dhaliwal et al. 2011; Lys et al. 2015; Chen et al. CSR performance. Hoi et al. (2013) suggest that their
2018). CSR reporting can reduce information asymme- results reflect an organisation’s culture and its commit-
try and build stakeholder trust (Kim et al. 2012). More ment (or lack of commitment) to CSR, and this com-
readable CSR reporting can help firms improve their mitment manifests itself in organisations both paying
communication with stakeholders about their legiti-
macy and compliance with social norms by using clear,
plain and understandable language (Zhang et al. 2021). Correspondence
Zhang et al. (2021) also found that the reputational Fangjun Wang, School of Management, Xi’an Jiaotong University,
damage caused by financial restatements can be at least Xi’an, Shaanxi, China; email: wangfangjun@xjtu.edu.cn
partially restored by more readable CSR reports. If the Accepted for publication 10 March 2022.
Australian Accounting Review (2022), No. 101 Vol. 32, 267–289 doi: 10.1111/auar.12372 267
This is an open access article under the terms of the Creative Commons Attribution-NonCommercial-NoDerivs License, which permits use
and distribution in any medium, provided the original work is properly cited, the use is non-commercial and no modifications or adaptations
are made.
Corporate Tax Avoidance and Corporate Social Responsibility S. Xu et al.
their fair share of taxes and having stronger performance ber of tests to alleviate endogeneity concerns, includ-
on other aspects of CSR. ing using a difference-in-difference model (DID), ap-
In this study, we examine which of these two com- plying a Heckman two-stage model and examining
peting notions holds in the Chinese context. China the potential impact of unobserved confounding vari-
provides a unique setting for us to examine the issue ables. The results consistently suggest that the rela-
of how tax strategy and CSR reporting can relate to tion between corporate tax avoidance and readabil-
creating and sustaining legitimacy and/or reflect an ity of CSR disclosure is not driven by endogeneity
organisation’s cultural commitment to CSR. Two as- problems.
pects of the Chinese environment allow for a more We also test whether CSR report readability can alle-
in-depth examination of the management decisions viate the negative consequence of tax avoidance by re-
about tax policy and CSR reporting. First, many Chi- ducing the stock price crash risk. Kim et al. (2011a)
nese listed companies are controlled by the government. found that aggressive tax position can mask managerial
These state-owned enterprises (SOEs) have incremental opportunism behaviours and the accumulation of bad
public policy goals, such as economic development news. When such accumulated bad news is eventually
and employment growth. These public policy goals revealed, there would be an adverse stock price reaction.
may engender legitimacy among SOEs regardless of the More readable CSR reporting could reduce asymmet-
company’s tax-paying habits, lessening the need of SOEs ric information and result in greater information trans-
to create legitimacy by other means, such as through parency (Lehavy et al. 2011; Kim et al. 2012), which
CSR reporting. If the legitimacy gap perspective holds could therefore reduce crash risk. The results we found
in China, we would therefore expect the tax avoid- are consistent with this expectation.
ance/CSR readability relationship to differ between The contributions of this paper are threefold. First,
SOEs and non-SOEs. Alternatively, if tax avoidance and this study directly contributes to the literature on tax
CSR reporting both reflect some underlying culture avoidance and lexical feature of CSR disclosure. Prior
supporting CSR, we would not expect the tax avoid- research has yielded conflicting results regarding the
ance/CSR reporting relationship to vary between SOEs relation between firms’ tax decisions and CSR perfor-
and non-SOEs. Second, market and legal development mance/disclosure (Lanis and Richardson 2013; Hoi et al.
differs among the regions of China (Wang et al. 2008; 2013; Davis et al. 2016; Col and Patel 2019). Gao et al.
Lin et al. 2017; Zhang 2018). In regions of China with (2022) suggested that textual properties of CSR such as
lower market and legal development, management readability can deliver value relevance information and
may not feel as much pressure to offset tax avoidance have impact on stakeholders’ decision-making process.
strategies by enhancing CSR reporting. The communication pattern in CSR disclosure can indi-
Our sample consists of Chinese listed firms who is- cate the characteristics and motivation of management
sued CSR reports from 2010 to 2017. Following re- and thus have important significance for understanding
cent studies (Hanlon and Heitzman 2010; Tang et al. corporate decisions (Li 2010). Complementing the ex-
2017), we use two proxies for corporate tax avoidance, isting research, we find that firms improve the readabil-
which are effective tax rate and difference between statu- ity of CSR disclosure when they engage in aggressive tax
tory tax rate and effective tax rate. We obtain the read- positions. Our results indicate that the readability of the
ability index from WinGo, a Chinese textual analytic language used in the CSR reports is a possible means
database, to measure CSR readability. Consistent with of creating and maintaining legitimacy. The results also
legitimacy theory, the results show that corporate tax provide evidence that greater CSR disclosure reduces the
avoidance is significantly positively associated with CSR negative impact of tax avoidance.
report readability. This finding indicates that managers Second, we offer fresh insight into the literature on tax
may perceive that CSR readability can help to offset avoidance in the emerging market. Our analyses suggest
the threat to legitimacy posed by aggressive tax plan- that the higher demand for legitimacy in more devel-
ning. We also suggest that the tax avoidance/CSR report oped regions and non-SOEs leads to a stronger relation-
readability relationship is weaker among SOEs in China ship between tax avoidance and CSR readability, which
and among firms in regions of China with a lower level deepens the understanding of the moderating effect of
of market and legal development. All of the results to- institutional factors on the relation between tax avoid-
gether provide consistent support for the notion that ance and CSR disclosure (Tang et al. 2017; Wang et al.
more readable CSR reports may be used instead of pay- 2020). Furthermore, we focus on the language used in
ing more in taxes as alternative means of establishing CSR reports and find that there are regional and owner-
legitimacy. ship differences in relation to tax avoidance, which ex-
Our results are robust in a number of ways. First, tends the study by Lin et al. (2017).
we use multiple measures of both tax avoidance and Third, this paper also contributes to the research
CSR report readability; the results are consistent across related to the textual features of CSR disclosure and
the different measures. Second, we apply a num- readability in particular. The voluntary nature of CSR
268 Australian Accounting Review © 2022 The Authors. Australian Accounting Review published by
John Wiley & Sons Australia, Ltd on behalf of CPA Australia.
S. Xu et al. Corporate Tax Avoidance and Corporate Social Responsibility
disclosure gives management the opportunity to ma- they own valuable brands, which confirmed the exis-
nipulate the textual properties, such as readability (Du tence of the reputation effect.
and Yu 2021). Consistent with this argument, Muslu
et al. (2019) suggested that a higher-quality CSR re-
port reduces information asymmetry, which allows an CSR report readability
analyst to better predict a firm’s performance. Zhang
et al. (2021) found that firms mark significant improve- Prior research suggests that narrative disclosures are
ments to CSR quality (including readability) after fi- different from financial/numerical disclosures. These
nancial restatements. We extend this idea by exploring narrative disclosures contain (among other items)
whether and how companies may modify the readabil- non-financial data and information about business
ity of CSR disclosure to respond to concerns about tax fundamentals (Jones and Shoemaker 1994; Beattie
avoidance. 2014; Cheung and Lao 2016; Bonsall and Miller 2017).
The remainder of this study is organised as follows. Examples of narrative disclosure include management
Section 2 reviews the literature and develops the hy- discussion and analysis (MD&A), earnings announce-
pothesis. Section 3 discusses the research design. Section ments and corporate social responsibility reports (Asay
4 presents the empirical results and additional analysis, et al. 2018). These narratives provide a channel for
and Section 5 concludes the study. managers to convey their company’s contextual in-
formation to market participants and stakeholders
(Merkley 2014), but may also create an opportunity for
Literature Review and Hypothesis management to manipulate and modify such disclo-
Development sures to portray the company (and/or management) in
a more favourable light. CSR reports contain extensive
Corporate tax avoidance narrative disclosures, and the content and format of
CSR reports have not been clearly stipulated by policies
Tax avoidance is defined as engaging in transactions and and regulations in China (Wang et al. 2018). This lack
behaviours that reduce a firm’s tax burden (Dyreng et al. of disclosure regulation can provide an opportunity
2008; Hanlon and Heitzman 2010). One means of tax for management to manipulate or modify the content,
avoidance is by structuring transactions in an aggres- format and readability of CSR reports.
sive fashion with a primary purpose of avoiding taxes The notion of readability is associated with the com-
(Lanis and Richardson 2013). Prior studies investigated plexity of information presentation (Smith and Taffler
the economic consequence of tax avoidance based on 1992) and can be interpreted as the ease of reading
both agency theory and legitimacy theory. Desai and and understanding written material (Harris and Hodges
Dharmapala (2006) and Desai et al. (2007) stated that 1995). Financial communications with lower readabil-
the complexity of tax avoidance transactions may offer ity require users to spend more time obtaining rel-
opportunities for managers to implement and conceal evant information, which can affect the reactions of
self-interested activities (i.e., earnings management, re- investors and stakeholders (Bloomfield 2002; You and
lated party transactions and other resource shifting) un- Zhang 2009). Early research on the readability of fi-
der the cover of complex tax transactions. Their results nancial disclosure had problems with small samples or
are consistent with the notion that agency costs could methodology (Loughran and McDonald 2016) until the
reduce the shareholder’s wealth of tax avoidance firms. emergence of Li’s (2008) research. Li (2008) used the
Desai and Dharmapala (2009) suggested that stronger Fog index and the length of the document as prox-
governance mechanism can reduce the ability of man- ies for readability and found that reading low-earnings
agement to conceal sub-optimal behaviour (thereby re- firms’ annual reports is more difficult, while firms with
ducing agency costs) and found a positive association more readable annual reports have higher earnings per-
between tax avoidance and firm value. sistence. Following Li (2008), other studies examined fi-
In addition to financial and management self-dealing nancial readability and other attributes of companies,
concerns, there can be longer-term reputation effects such as reporting quality (Biddle et al. 2009), investor
of tax avoidance (Xu and Mose 2022). For example, reactions (Miller 2010), analyst coverage (Lehavy et al.
Bankman (2004) suggested that firms engaging in tax 2011), earnings forecasts (Guay et al. 2016) and the cost
avoidance may be labelled ‘poor corporate citizens’, al- of debt (Bonsall and Miller 2017).
though Gallemore et al.’s (2014) results suggest that tax In addition to annual report readability, several re-
shelter firms may not suffer high reputation losses even searchers analysed the readability of CSR reports. Abu
if they are under scrutiny. Graham et al. (2014) found Bakar and Ameer (2011) found that the readabil-
that the concerns about possible reputation effects can ity of CSR communication is linked to firms’ per-
limit firms’ tax avoidance. Austin and Wilson (2017) formance. Their sample included 333 CSR reports of
speculated that firms engage in less tax avoidance when listed Malaysian companies in 2007; firms with poor
© 2022 The Authors. Australian Accounting Review published by Australian Accounting Review 269
performance manipulate their CSR reports by using could represent symbolic actions intended to portray
longer sentences and more complex words. This find- corporations as genuinely committed to CSR.’1
ing is consistent with the hypothesis that managers of The key distinction between CSR performance and
underperforming companies reduce the transparency of CSR reporting is that CSR performance relates to ac-
disclosures, which is also known as ‘management obfus- tions the company took to fulfil its various societal roles,
cation hypothesis’ (Bloomfield 2002, 2008). Muslu et al. and CSR reporting is how the organisation reports on
(2019) developed a disclosure score based on readabil- its CSR initiatives. Firms could use CSR disclosure to
ity, tone, length and other features of CSR reports. They mask actual CSR performance (Merkl-Davis and Bren-
emphasised that the quality of CSR reports is more im- nan 2007; Nazari et al. 2017). Companies may prepare
portant than whether a report was issued. Zhang et al. CSR reports to achieve legitimacy (Lanis and Richard-
(2021) suggested that consistent CSR disclosure can al- son 2013) and/or to enhance their reputations (i.e.,
leviate legitimacy concerns during a corporate crisis Pérez 2015).
through value protection. Deephouse and Carter (2005) and Bebbington et al.
(2008) distinguish between legitimacy and reputation.
Deephouse and Carter (2005: 329) indicate that ‘legit-
Corporate tax avoidance and CSR performance imacy emphasizes the social acceptance resulting from
adherence to social norms and expectations whereas
Huseynov and Klamm (2012: 824) indicated that ‘Tax reputation emphasizes comparisons among organi-
avoidance, for any reason, may be viewed by some as sations’. This distinction may have implications for
socially irresponsible, that is, a firm not paying its fair the relation between corporate tax decision and CSR
share.’ Consistent with Huseynov and Klamm (2012), reporting.
Slemrod (2004) noted that tax avoidance can produce
significant, potentially irrecoverable loss to society.
The prior literature on the relation between tax avoid- Legitimacy gap perspective
ance and corporate social responsibility performance
has produced mixed results. One stream of literature According to legitimacy theory, corporations try to
suggests that socially irresponsible firms will pay less sustain their legitimacy through contracting with soci-
tax (Lanis and Richard 2012; Hoi et al. 2013). Hoi ety that they are meeting community and societal ex-
et al. (2013) explained these results based on corpo- pectations (Suchman 1995; Deegan 2002). One impor-
rate/organisational culture: some corporations are fo- tant channel of signalling legitimacy is CSR reporting
cused on being ‘good’ corporations, and this corporate (Bebbington et al. 2008; Islam 2017). Legitimacy can be
culture encourages companies to engage in a variety of viewed as a ‘status’ (Islam 2017: 327) that can be threat-
socially responsible activities, including paying their fair ened by (among other things) a corporation engaging
share of taxes. Christensen and Murphy (2004:37) sup- in aggressive tax strategies (i.e., Lanis and Richardson
ported this perspective rhetorically, noting that ‘tax rev- 2013), creating a legitimacy gap. To close a legitimacy
enues are the lifeblood of the social contract’ and the gap, the company may engage in CSR reporting when
social contract forms the basis for corporate social re- threats to legitimacy ‘are linked to social issues’ (Islam
sponsibility. 2017: 330).
Other studies indicate the opposite relation between A company seeking to establish (or regain) an accept-
tax aggressiveness and CSR. For example, Davis et al. able level of legitimacy can do so by reporting their CSR
(2016) found a negative relationship between tax avoid- activities, or by paying more in taxes if either is consid-
ance activities and CSR performance. They suggested ered an acceptable way of achieving legitimacy. Sikka
that CSR performance and corporate tax avoidance can (2010) suggests a company not paying its fair shares
be substitutes for one another. of taxes can threaten the organisation’s legitimacy. Ev-
idence similar to the idea that CSR disclosure can close
the gap when legitimacy concerns arise was found by La-
Corporate tax avoidance and CSR reporting nis and Richardson (2013). They examined the CSR re-
porting of Australian firms that had been charged by the
CSR reporting is considered to be a different theoretical taxation authorities with aggressive taxation practices
(and empirical) construct from CSR performance (i.e., relative to the CSR disclosures of companies that had
Mahoney et al. 2013). Michelon et al. (2015) notes the not been charged with aggressive tax strategies. They
potential for CSR reporting and CSR performance to be suggested that firms publicly exposed for aggressive tax
either consistent with each other or divergent: strategies faced a legitimacy problem, which they would
CSR reporting ‘may be the outcome of a substantive attempt to overcome by providing more CSR disclo-
approach to CSR undertaken to carry out duties of ac- sure. Lanis and Richardson (2013) used legitimacy the-
countability to stakeholders, or conversely [reporting] ory to suggest that a company’s tax policy and their CSR
CSR disclosure can help to build an organisation’s rep-

utation for social responsibility (Ioannou and Serafeim
2016; Bianchi et al. 2019; Nguyen et al. 2021) and corpo-
rations can compete for capital (MacKey et al. 2007) and
for customers (Lee and Lee 2015; Bianchi et al. 2019)
based on their reputation for socially responsible activ-
Figure 1 Legitimacy gap perspective ities. Lee and Lee (2015) distinguish between an organ-
isation’s minimal economic and legal standards (some-
what like meeting the minimum legitimacy threshold)
and more exacting ethical and philanthropic standards.
reporting practices are substitute means of achieving the They find that economic and legal standards directly af-
status of organisational legitimacy, or to close the legiti- fect purchasing behaviour (i.e., consumers are less likely
macy gap when threats to legitimacy are encountered. to purchase from companies that do not meet these
CSR disclosures with higher accuracy and integrity are minimum thresholds), while ethical and philanthropic
viewed as higher quality and are expected to influence standards indirectly affect purchase intentions through
key stakeholders’ evaluation of firms’ legitimacy posi- self-congruity (the relationship between a brand image
tively (Michelon et al. 2015). A high-quality CSR re- and the consumer’s self-image). These findings are con-
port requires using clear and understandable language sistent with Deephouse and Carter’s (2005) notion that
(Wang et al. 2018). Zhang et al. (2021) reported that reputation (as opposed to legitimacy) is about compar-
firms signal their legitimacy through significantly im- isons among organisations.
proving CSR disclosure quality (including readability) The notion that some corporations are ‘good’ and
after financial restatements. Similar to restatements, a thereby pay more in taxes and issue transparent, read-
more readable CSR report enables stakeholders to as- able CSR reports, suggests that there are ‘bad’ com-
sess the perceived legitimacy of tax-aggressive firms. panies in which the corporate culture would be com-
Tax avoidance could increase the complexity of cor- fortable with both tax avoidance and less transparent
porate disclosures, which results in lower transparency CSR reporting. Thus, tax aggressiveness and irrespon-
and greater information asymmetry (Guenther et al. sible CSR are complementary; the presence of one im-
2016). Firms could alleviate suspicion and improve le- plies the presence of the other, and both are signs of a
gitimacy by enhancing the readability of CSR reports to corporate culture that is better or worse from a societal
offset the negative effects of tax avoidance because le- perspective. We will refer to this possibility as the ‘cor-
gitimacy can be demonstrated by greater readability of porate culture/reputation’ perspective.
CSR disclosure through better transparency and credi-
bility (Zahller et al. 2015).
In summary, corporations could seek to be perceived Summary and Hypothesis 1
as ‘good enough’ to achieve legitimacy through either
higher tax payments or through transparent and read- Organisations may seek to achieve an acceptable level
able CSR reports. This notion will be referred to as of legitimacy through a portfolio of various activities
the ‘legitimacy gap’ perspective, and is consistent with that can achieve legitimacy status (Ardiana 2019). In this
Michelon et al.’s (2015: 59) notion that CSR reporting perspective, payment of corporate taxes and transparent
‘represent[s] symbolic actions intended to portray cor- CSR reporting could be viewed as alternative means of
porations as genuinely committed to CSR’. The idea of establishing an acceptable level of legitimacy. Payment
the legitimacy gap, and its relationship to tax avoidance of lower taxes may expose the organisation to a legiti-
is presented in Figure 1. macy gap if the organisation is perceived as not paying
its fair share of taxes. The company may then respond
Corporate culture/reputation perspective to this tax avoidance to close the legitimacy gap by cre-
ating more transparent CSR reporting. Based on this le-
While legitimacy can be considered a status that is gitimacy gap perspective, we would expect a positive as-
present or absent, corporate culture and reputation ex- sociation between tax avoidance and the readability of
ist more on a continuum (Deephouse and Carter 2005). CSR reports.
Sikka (2010: 153) notes that a company’s desire to be Alternatively, corporations may have organisational
perceived as legitimate and their corporate culture may cultures that focus on a broader group of stakeholders
not always be in sync: ‘companies legitimize their so- and pursue actions favourable to society including pay-
cial credentials by making promises of responsible and ing their fair shares of taxes and being transparent about
ethical conduct, but organisational culture and practices their societal impact through their CSR reporting. These
have not necessarily been aligned with publicly espoused companies may view being good citizens as either an im-
claims’. portant role of a corporation, or as a means of achieving
longer-term profit maximisation goals through man- a stronger relationship between tax avoidance and CSR
agement of the company’s corporate image and brand reporting readability, and may be more likely have their
name (Jia and Li 2021). These organisations may treat legitimacy questioned and therefore may feel higher de-
the payment of taxes and transparency about CSR prac- mand to modulate their CSR reporting in response to
tice as important parts of their corporate culture and their tax policies. We therefore propose Hypothesis 2 as
reputation. Based on the corporate culture perspective, follows:
we would expect a negative relation between tax avoid-
H2: If corporate tax avoidance and CSR report read-
ance and the readability of CSR reports.
ability are positively related, this relationship is
The legitimacy gap perspective is consistent with the
stronger among private companies than SOEs.
use of CSR to close a legitimacy gap that may arise when
a company is perceived as not paying its fair share of
taxes, thus suggesting a positive relationship between Regional development and the tax avoidance/CSR
corporate tax avoidance and transparency of CSR re- readability relationship
porting. The corporate culture/reputation perspective
indicates that meeting society’s expectation for payment In China, the economy has adopted and integrated mar-
of taxes is complementary to strong CSR reporting, sug- ket mechanisms at different speeds in different regions
gesting a negative relationship between tax avoidance of China. Generally, market reforms began in coastal
and the transparency of CSR reporting. Differentiating regions where export products were emphasised (Yang
between these two perspectives in the Chinese context 1991) before spreading further inland. Material differ-
is an empirical question; we therefore propose a non- ences in the extent of marketisation remain in differ-
directional hypothesis as follows: ent regions of China (Wang et al. 2016). In regions of
China with more market-oriented economies, compa-
H1: There is no relationship between corporate tax nies may be more sensitive to the need to maintain their
avoidance and the readability of CSR reports. legitimacy owing to increased scrutiny applied by mar-
ket intermediaries. Thus, legitimacy may be a more im-
State ownership and the tax avoidance/CSR portant driver of corporate decisions than in regions
readability relationship with less market-oriented economies. We therefore posit
that, if the legitimacy gap perspective holds, the tax
During the transition from a centrally planned to a avoidance/CSR reporting relationship will be stronger
market-oriented economy, the establishment of the se- in more developed regions of China.2 We propose Hy-
curities market and vigorous development of private pothesis 3 as follows:
business is one of the most important reforms. The H3: If corporate tax avoidance and CSR report read-
private sector’s development is an important factor in ability are positively related, this relationship
the realisation of China’s economic reform (Chen et al. is stronger in more market-oriented regions of
2011), but its share is still limited in the open stock mar- China.
kets. Accordingly, more than 75% of Chinese listed com-
panies are controlled by different layers of government
(Chan et al. 2016; Tang et al. 2017). Although China’s Research Design
economy has gradually become highly market-oriented,
the government, both central and local, still intervene or Sample
control the allocation of resources. Because of the natu-
ral political connections, SOEs have obvious advantages Our initial sample spans the period 2010–2017. We start
in the acquisition of scarce resources, enjoyment of pref- the sample in 2010 because a new corporate income tax
erential tax policies, access to financial capital and pro- law of China was enacted in 2008. The new law set the
tection of property rights. For instance, financing has tax rate at 25% (instead of 33%). Beginning our anal-
been a major obstacle for private companies in China. yses in 2010 ensures consistent measurements across
They often do not have access to bank loans, which are the years examined. We obtain CSR report readability
mostly reserved for SOEs (Li et al. 2008). data for Chinese listed firms that published CSR reports
Private firms have stronger motivation to avoid tax during 2010–2017. Readability data are obtained from
obligation than SOEs (Cai and Liu 2009; Bradshaw et al. the WinGo textual analytic database, a database that
2019). The aggressive tax behaviours undermine pri- includes textual features of disclosures made by Chi-
vate firms’ legitimacy, which originate from tax au- nese listed firms. The CSR performance data are taken
thority and other stakeholders. Moreover, private firms from Hexun.com, a financial portal website in China.
have greater need of legitimacy to acquire resources Financial data are taken from two widely used Chi-
(Ahlstrom and Bruton 2001). Thus, if the legitimacy gap nese databases in prior literature: CSMAR database and
perspective is applicable, these private firms may exhibit WIND database. We exclude firms with negative pre-tax
income and those with missing tax rate. We also exclude the whole report. A higher value indicates greater fre-
firms in the financial industry and those with missing quency of collocation order of word pairs in the text,
data. The final sample comprises 2488 firm-year obser- which indicates that the text is easier to read and under-
vations. All of the continuous variables are Winsorised stand. Conversely, a lower value means less word-pair
at the 1% level. frequency, and therefore the more difficult the text is to
understand. We standardise the original value by divid-
Measure of CSR readability ing it by 100 to facilitate our empirical inference.
The major readability measures in accounting literature Measure of corporate tax avoidance
include the Fog index (Li 2008; Biddle et al. 2009; Guay
et al. 2016), Plain English index (Bonsall and Miller Based on existing studies, we employ two measures of
2017), Smog index (Muslu et al. 2019; Zhang et al. 2021) tax avoidance and adjust the measure to match the Chi-
and file size (Loughran and McDonald 2014). How- nese context. The first measure, current effective tax rate
ever, all these measurements were developed based on (ETR), is computed as the ratio of current income tax
an English language environment, which is significantly expense to pre-tax income (see Model 2). A lower ETR
different from the Chinese language environment. Al- indicates a higher level of tax avoidance. While ETR
though several researchers have attempted to explore the cannot capture the effects of temporary differences and
readability of Chinese, these have generally not consid- could be affected by accounting accruals (Hanlon and
ered the collocation order of words in sentences. There- Heitzman 2010), existing studies extensively use ETR
fore, we use the readability measure developed by the because it is easily accessible in footnotes of annual re-
WinGo Textual Analytical Database. WinGo is widely ports. ETR is also easily understood and identified by
used in current financial textual research as China’s first stakeholders, and is common in media coverage (Austin
artificial intelligence financial analytics database. By us- and Wilson 2017), which suggests that the ETR measure
ing the readability of MD&A in the WinGo database, is one stakeholders are most concerned with.
Wang et al. (2021) found that firms are charged higher
audit fees when their MD&A readability is lower. Hu
et al. (2021) used the management tone index devel- ET Rit = Current Income Tax E x penseit /
oped by WinGo as the proxy for management mood and Pre−t axIncomeit (2)
found that unpleasant mood caused by air pollution re-
sulted in poor decision-making. Hou and Yang (2021)
constructed policy signalling indicators by employing The second measure of tax avoidance is tax rate differ-
the Chinese government text database in WinGo, and ence (RATE). We define RATE as the difference between
suggested that support policy signalling increases the statutory tax rate and effective tax rate. Chinese firms
stock price synchronicity. In addition to the above stud- enjoy various tax preferences, which result in different
ies, the database has also been applied to other studies levels of statutory tax rates (Tang et al. 2017). Therefore,
(Huang et al. 2021; Xue et al. 2021; Guo and Xu 2021). we consider statutory tax rate and calculate statutory tax
The WinGo measure is based on the mean log- rate minus the effective tax rate (see Model 3). This mea-
likelihood of the generation probability product by each sure not only allows comparison of different firms’ tax
sentence as the readability measurement of the text. positions but also ensures that the higher the value is,
The higher probability of generating a sentence indi- the greater the tax avoidance.
cates that the sentence is composed of more common
pairs of words, and a lower probability indicates that
RAT Eit = St at ot ury Tax Rat eit
the sentence is composed of uncommon word pairs. The
WinGo readability measure assumes that the higher fre- − E f fective Tax Rat e it (3)
quency of word pairs in the text are more well-known
word pairs. Word pairs appearing less frequently means Model development and variable definition
that such word pairs are not commonly used and are less
well known. The WinGo readability score is thus mea- We estimate the following equation based on Kubick
sured as follows: et al. (2015) and Zhang et al.’s (2021) model to inves-
tigate whether tax avoidance could be related to CSR re-
1
N
port readability:
Readabilit y = log Ps (1)
N S=1
Readabilityit = β0 + β1 T Ait + β2Cont rol
In Model 1, Ps indicates the generating probability of
sentence s, and N denotes the sum of the sentences in + Year+ Industry+εit (4)
Readability uses the data derived from the WinGo Table 1 Descriptive statistics
database. TA denotes corporate tax avoidance, which VARIABLES N Min Mean Median Max SD
consists of current effective tax rate (ETR) and tax rate
Readability 2488 –0.474 –0.293 –0.289 –0.164 0.063
difference (RATE). We multiply ETR by −1 to provide a
ETR 2488 –0.428 –0.191 –0.178 –0.002 0.084
measure of tax avoidance consistent with our hypothe- RATE 2488 –0.279 0.005 0.004 0.248 0.076
ses. Therefore, a positive (negative) coefficient of TA CSR 2488 13.15 49.28 56.32 80.76 20.19
would suggest that firms will publish more (less) read- AR_READ 2488 –0.264 –0.191 –0.189 –0.141 0.023
able CSR reports when they avoid more taxes. To test CSCORE 2488 –18.25 –0.373 0 2.791 2.175
DQ 2488 0.130 0.484 0.460 1 0.193
H1, we apply Model 4 to our entire sample. We conduct
SIZE 2488 20.55 23.04 22.91 26.75 1.302
cross-sectional analysis to examine H2 and H3. First, ROA 2488 0.003 0.058 0.046 0.211 0.043
we include PRIVATE* ETR (RATE) in Model 4. Private LEV 2488 0.072 0.475 0.487 0.821 0.186
is an indicator variable, which equals to 1 if a firm’s ul- AGE 2488 5 16.58 17 30 5.078
timate shareholder is a non-state entity and 0 otherwise. GROWTH 2488 –0.505 0.112 0.117 0.598 0.188
INVINT 2488 0 0.176 0.129 0.761 0.171
Second, similar to previous analyses, we add the item
BOARD 2488 1.609 2.202 2.197 2.708 0.207
LE* ETR (RATE) in Model 4. We use the local legal in- INDEN 2488 0.300 0.375 0.364 0.571 0.056
dex, which is the regional legal environment level of the FEMALE 2488 0 0.119 0.100 0.444 0.113
province where the firm operates, as the proxy for lo- PRIVATE 2488 0 0.404 0 1 0.491
cal environment. This index is obtained from the Mar- QFII 2488 0 0.002 0 0.025 0.005
CEO_AGE 2488 35 49.89 50 65 5.763
ketization Index of China’s Provinces: NERI Report 2016
CEO_GENDER 2488 0 0.053 0 1 0.225
(Wang et al. 2016), which is widely used in studies of CEO_TENURE 2488 0.083 4.459 3.250 14.25 3.547
Chinese setting (Zhang 2018; Huang et al. 2019). Legal LE 2488 0 0.696 1 1 0.460
Environment is an indicator variable, which equals to 1
if the local legal index is above the sample median and 0
otherwise.
Model 4 also includes control variables that could af- is calculated as the logarithm of the total number of
fect the relation between tax avoidance and CSR report directors on the board; INDEN, which is calculated as
readability (see Appendix 1). We control for CSR perfor- the percentage of independent directors. We also in-
mance, CSR, using the CSR performance rating develop clude the age and gender of the chief executive officer
by the financial portal Hexun.com (Xiong et al. 2016; (CEO), represented by CEO_AGE, CEO_GENDER and
Huang et al. 2018; Wang et al. 2019). Existing studies CEO_TENURE, respectively, to control for the effect of
found that financial disclosure quality can be correlated management characteristics on CSR readability (Man-
with CSR disclosure (Dhaliwal et al. 2012). Specifically, ner 2010; Huang 2013; Hrazdil et al. 2019). The presence
we include readability of annual report (AR_READ), of women directors (FEMALE), which plays a significant
financial reporting conservatism measured by CSORE role on the readability of firm’s CSR reports (Harjoto
(Khan and Watts 2009; Cho et al. 2020), and disclosure et al. 2020) is also controlled. QFII, which is the per-
quality measured by the KZ index (Kim and Verrecchia centage of qualified foreign institutional ownership, is
2001). Li (2008) found that firm size is positively as- included to control for the potential oversight effects of
sociated with annual report readability, so we control institutional investors (Li et al. 2021; Wu et al. 2021). In
firm size, which is defined as the logarithm of total as- view of the research background, the ownership struc-
set. Richard et al. (2015) found a positive association be- ture (PRIVATE) and institutional environment (LE) are
tween profitability and readability; we therefore include also included when we test the whole sample. Finally,
return on assets, ROA.3 Financial leverage, LEV, may af- year fixed effects control for time-specific factors that
fect the firm’s disclosure decision because it reflects the might affect the readability of CSR reports, and indus-
default risk of the firm (Wang et al. 2018). AGE con- try fixed effects control for static special industry factors
trols for the difference of readability between firm’s dif- that might influence CSR report readability.
ferent life-cycle stages (Richards and Van Staden 2015).
Fast-growing firms need to disclose more complex, un-
certain issues, and have more complex annual reports; Empirical Results
thus, we include growth of firm’s sales, GROWTH (Li
2010; Nazari et al. 2017). We also control for business Descriptive statistics
complexity by including INVINT, which is the ratio of
total inventory to total asset (Chen et al. 2016). Table 1 shows the descriptive statistics for our final sam-
We also include corporate governance factors be- ple. Readability ranges from −0.474 to −0.164, implying
cause prior research suggested that corporate gover- large differences among CSR reports of Chinese listed
nance mechanisms are related to CSR disclosure (Jizi firms. A mean (median) value of −0.293 (−0.289) for
et al. 2014; Ali et al. 2017). We include BOARD, which Readability indicates a relatively low readability of CSR
Table 2 Regression of corporate tax avoidance on CSR report readability

(1) (2) (3) (4)
VARIABLES Readability Readability Readability Readability
ETR 0.071** 0.055*
(2.17) (1.68)
RATE 0.069*** 0.062***
(2.74) (2.68)
CSR 0.000** 0.000**
(1.96) (2.03)
AR_READ 0.000* 0.000*
(1.71) (1.94)
CSCORE 0.248*** 0.242***
(4.58) (4.47)
DQ –0.001*** –0.001***
(–2.70) (–2.69)
SIZE 0.007 0.007
(1.08) (1.06)
ROA 0.007*** 0.006***
(5.25) (4.99)
LEV –0.027 –0.032
(–0.793) (–0.94)
AGE –0.031*** –0.033***
(–3.42) (–3.60)
GROWTH –0.001** –0.001***
(–2.53) (–2.87)
INVINT 0.005 0.004
(0.78) (0.68)
BOARD –0.012 –0.011
(–1.14) (–1.02)
INDEN 0.017*** 0.019***
(2.68) (2.90)
FEMALE 0.001 0.001
(0.04) (0.04)
PRIVATE 0.020** 0.020*
(1.97) (1.96)
QFII 0.004 0.004
(1.38) (1.33)
CEO_AGE –0.010 –0.009
(–0.67) (–0.60)
CEO_GENDER 0.000 0.000
(1.31) (1.25)
CEO_TENURE –0.006 –0.006
(–1.08) (–1.09)
LE –0.001* –0.001*
(–1.87) (–1.87)
Constant –0.317*** –0.451*** –0.306*** –0.439***
(–51.19) (–15.15) (–91.95) (–14.76)
Year Fixed Effect YES YES YES YES
Industry Fixed Effect YES YES YES YES
Observations 2488 2488 2488 2488
Adjusted R-squared 0.093 0.123 0.094 0.124
* t-statistics in parentheses: *** p<0.01, ** p<0.05, * p<0.1.
disclosure. The average of original effective tax rate is Main regression results
0.191 (ETR is computed as effective tax rate multiplied
by −1), which is relatively close to the Chinese statutory Table 2 presents the ordinary least squares (OLS) re-
tax rate of 25%. The mean (median) of RATE is 0.005 gression results of Model 4 examining the association
(0.004), indicating that most firms’ effective tax rates are between corporate tax avoidance and CSR report read-
lower than the statutory tax rate suggesting that corpo- ability. Columns (1) and (3) control for year and indus-
rate tax avoidance is a common phenomenon in China. try fixed effects, but without control variables; Columns
The descriptive results for control variables are generally (2) and (4) contain all the control variables. In general,
consistent with previous studies. the coefficients on the tax avoidance measures (ETR and
RATE) are significantly positive in both columns, indi- Table 4 reports the OLS regression results of analy-
cating that aggressive tax behaviours are associated with sis based on regional legal environment. LE is an indi-
more readable CSR reports. In Column (2), the coeffi- cator variable, which equals 1 if the firm operates in a
cient of ETR is 0.055 (t = 1.68). This significantly pos- more developed region of China, and 0 otherwise. The
itive relationship suggests that firms with a lower effec- coefficients on the interactions are significantly positive
tive tax rate have more readable CSR reports, and is con- and support H3. Specially, the coefficient of ETR* LE
sistent with the legitimacy gap perspective: CSR reports (RATE* LE) is 0.086 (0.094). The evidence implies that
are used as a tool to mitigate the delegitimising effects of in provinces with higher levels of market and legal en-
corporate tax avoidance. In Column (4), RATE is used vironment, firms tend to regard the readability of CSR
as a proxy for tax avoidance. The coefficient of RATE is disclosure as a tool to restore their legitimacy when they
highly positively related with the readability of CSR re- engage in aggressive tax avoidance.
ports (t = 2.68), which is also consistent with the result
of ETR. This finding suggests that firms with a larger tax Robustness tests
difference may improve the readability of their CSR re-
ports to regain legitimacy. An alternative measure of corporate tax avoidance
The coefficients in Table 2 for most control variables
are consistent with the findings of prior research. There Prior studies have argued that General Accepted Ac-
is a positive relation between CSR performance and counting Principle (GAAP) effective tax rate does not
readability, indicating that firms with better CSR per- capture deferred tax strategies. Accelerating deductions
formance are more likely to publish more readable CSR and deferring income for tax purposes reduces cur-
reports. The coefficients on AR_READ and DQ suggest rent tax expense, but increases deferred taxes because
that the overall disclosure quality has a positive impact GAAP ETR includes both current tax and deferred taxes
on CSR readability, and higher financial reporting qual- (Dyreng et al. 2008; Hanlon and Heitzman 2010). There
ity (CSCORE) is associated with more readable CSR re- can also be significant year-to-year volatility in annual
ports. The variable SIZE is significantly positively re- effective tax rate. Therefore, we use Tax Planning Score
lated to CSR readability, which is consistent with Li (TPS) developed by Jacob and Schütt (2020) to address
(2008). The coefficient on LEV is significant and neg- this concern.
ative, suggesting that firms with higher default risk pub-
lish less readable CSR reports. We find a significantly 1 − CETRit
negative relation between AGE and Readability, indi- Tax Planning Scoreit = T PSit = (5)
VolCETRit
cating that the CSR report readability of older firms is
lower. The positive coefficient on INVINT suggests that
more complex operations are more likely to have com- where CETR is 10-year cash effective tax rate as a proxy
plex CSR reports (Wang et al. 2018). We also find that of long-run corporate tax avoidance. CETR is calculated
companies with a higher percentage of female directors as cash tax paid divided by pre-tax income (net of spe-
and more qualified institutional ownership tend to pub- cial items). The denominator is the standard deviation
lish more readable CSR reports (Harjoto et al. 2020; Li of annual CETR from t to t–9.
et al. 2021). Table 5 presents the results of using TPS as a mea-
Table 3 reports the OLS regression results of a cross- sure of corporate tax avoidance. The coefficient on
sectional analysis based on different ownership struc- TPS in Column (1) is 0.015 (t = 2.19), suggesting a
tures. PRIVATE is an indicator variable equal to 1 if significantly positive relation between tax planning
a firm’s ultimate shareholder is a non-state entity and and CSR report readability. The coefficient is still
0 otherwise. Across columns, estimated coefficients for significantly positive when controlled for the factor
interactions are positively and statistically significant. that may affect readability. These results show that
In Column (2), the interaction ETR* PRIVATE (0.101, firms with higher tax planning scores will issue more
t = 3.24) is significant associated with readability of readable CSR reports. Overall, our main results are
CSR reports, while the interaction in Column (4), robust to the alternative measure of corporate tax
RATE* PRIVATE (0.103, t = 2.46) is also positively re- avoidance.
lated to CSR report readability. Overall, the results sug-
gest that private firms pay more attention to the read- Alternative measures of CSR report readability
ability of their CSR disclosure when they engage in more
tax avoidance. This provides further support for the le- In our main tests, we use data from the WinGo
gitimacy gap perspective; legitimacy is likely to be of database to measure CSR report readability. Length of
greater concern for private companies than for SOEs, text is often used to measure readability as well (Li
which may already have a reservoir of legitimacy owing 2008; Loughran and McDonald 2014; De Franco et al.
to their incremental public policy objectives. 2015). Prior studies suggest that length of disclosure
Table 3 Tax avoidance on CSR report readability within ownership structures

(1) (2) (3) (4)
ETR* PRIVATE 0.115*** 0.101***
(3.712) (3.24)
ETR 0.046*** 0.040**
(2.90) (2.37)
RATE* PRIVATE 0.116*** 0.103**
(2.80) (2.46)
RATE 0.036*** 0.028***
(3.32) (3.23)
PRIVATE 0.001 0.05* 0.020*** 0.021***
(0.547) (2.70) (2.70) (2.85)
CSR 0.000* 0.000*
(1.70) (1.80)
AR_READ 0.245*** 0.245***
(4.54) (4.53)
CSCORE 0.001*** 0.001***
(–2.66) (2.67)
DQ –0.007 0.007
(1.10) (1.08)
SIZE 0.006*** 0.006***
(4.82) (4.73)
ROA –0.029 –0.034
(–0.85) (–0.99)
LEV –0.028*** –0.030***
(–3.06) (–3.27)
AGE –0.001*** –0.001***
(–2.76) (–2.98)
GROWTH 0.004 0.004
(0.66) (0.68)
INVINT –0.013 –0.013
(–1.25) (–1.234)
BOARD 0.020*** 0.020***
(2.99) (3.11)
INDEN 0.001 –0.001
(0.050) (–0.05)
FEMALE 0.021** 0.020**
(2.01) (1.98)
QFII –0.009 –0.010
(–0.60) (–0.66)
CEO_AGE 0.000 0.000
(1.29) (1.23)
CEO_GENDER –0.006 –0.006
(–1.15) (–1.18)
CEO_TENURE –0.001* –0.001*
(–1.80) (–1.87)
LE –0.003 –0.002
(–0.90) (–0.77)
Constant –0.321*** –0.444*** –0.306*** –0.429***
(–49.54) (–15.16) (–81.78) (–14.63)
Observations 2488 2488 2488 2488
could be an indicator of disclosure informativeness and more information in its CSR reports (Xu et al.
corporate transparency (Lang and Stice-Lawrence 2019).
2015). Specifically, Dhaliwal et al. (2012) argue that We calculate our alternative measures of CSR report
longer CSR reports contain more information, which readability based on file size of CSR report, the total
can improve the analyst forecast accuracy. A longer number of characters, words and sentences except for
text length indicates that the company discloses numbers and English. According to Luo et al. (2018),
Table 4 Tax avoidance on CSR report readability within legal environment

(1) (2) (3) (4)
ETR* LE 0.088*** 0.086***
(3.03) (2.93)
ETR 0.020*** 0.018**
(2.99) (2.53)
RATE* LE 0.097*** 0.094***
(3.67) (3.50)
RATE 0.013*** 0.016***
(3.58) (3.08)
LE 0.002 0.003 0.023*** 0.021***
(0.66) (0.98) (3.34) (3.07)
CSR 0.000** 0.000**
(1.97) (2.09)
AR_READ 0.000* 0.000*
(1.70) (1.65)
CSCORE 0.247*** 0.248***
(4.56) (4.60)
DQ –0.001*** –0.001***
(–2.64) (–2.63)
SIZE 0.008 0.007
(1.14) (1.09)
ROA 0.006*** 0.006***
(4.84) (4.66)
LEV –0.030 –0.029
(–0.89) (–0.85)
AGE –0.029*** –0.029***
(–3.19) (–3.13)
GROWTH –0.001*** –0.001***
(–2.93) (–2.98)
INVINT 0.005 0.005
(0.74) (0.72)
BOARD –0.014 –0.015
(–1.35) (–1.38)
INDEN 0.019*** 0.020***
(2.94) (3.06)
FEMALE –0.004 0.001
(–0.16) (0.03)
QFII 0.021** 0.021**
(2.03) (2.02)
PRIVATE –0.009 –0.009
(–0.57) (–0.60)
CEO_AGE 0.000 0.000
(1.33) (1.25)
CEO_GENDER –0.006 –0.006
(–1.12) (–1.14)
CEO_TENURE –0.001* –0.001*
(–1.88) (–1.83)
Constant –0.321*** –0.443*** –0.305*** –0.427***
(–48.02) (–15.12) (–77.70) (–14.55)
Observations 2488 2488 2488 2488
we take the natural logarithm of these four factors. Columns (1)–(4) of Table 6 present the results, where
Then, we get Rep_size, Char_count, Word_count and Rep_size, Char_count, Word_count and Sent_count are
Sent_count as alternative proxies for CSR report read- the dependent variables. We find that the coefficients
ability. A higher value of each variable represents a of ETR are positive and significant, indicating that
higher readability of CSR reports. firms engaging in more tax avoidance issue longer CSR
Table 5 Alternative measure of corporate tax avoidance Endogeneity tests

and CSR report readability
(1) (2) Our main results may arguably be driven by endogene-

VARIABLES Readability Readability ity between corporate tax avoidance and CSR report
TPS 0.015** 0.012** readability. We design three tests to mitigate the po-
(2.19) (2.08) tential endogeneity threats. First, firms with more read-
CSR 0.000 able CSR reports could be the tool of impression man-
(1.60) agement, which provides cover for aggressive tax avoid-
AR_READ 0.177***
(2.92)
ance. Therefore, we employ a quasi-natural experiment,
CSCORE 0.002** China’s pilot value-added tax (VAT) reform, to allevi-
(2.10) ate the endogeneity concern driven by reverse causal-
DQ –0.003 ity. In recent years, the Chinese government has intro-
(–0.41) duced a series of policies to reduce the tax burden on
SIZE 0.006***
(3.81)
firms, including replacing business tax with VAT for cer-
ROA 0.008 tain companies. On 1 January 2012, the pilot reform was
(0.20) first carried out in transportation and six modern ser-
LEV –0.031*** vice industries of Shanghai. By the end of 2012, the pi-
(–2.96) lot was expanded to eight more provinces, and finally
AGE –0.001***
(–2.72)
implemented nationwide in 2016. This reform has sig-
GROWTH 0.006 nificantly reduced the tax obligation of pilot industries
(0.80) in pilot areas (Liu et al. 2021). The variations in time,
INVINT 0.004 region and industry in the adoption of VAT reform pro-
(0.35) vide an opportunity for a difference-in-difference (DID)
BOARD 0.005
(0.58)
analysis. Specifically, there are two groups, the treatment
INDEN 0.007 group comprising firms that do not enjoy the benefit of
(0.26) the policy, and the control group comprising firms in pi-
FEMALE 0.013 lot industries and areas.Figure 2 shows the result of the
(1.14) parallel trend assumption test.
PRIVATE 0.004
(1.39)
We include Treat* Post in Model 4. Treat is an indica-
QFII –0.004 tor variable, which equals 1 if a firm is not in the pi-
(–0.25) lot group, and 0 otherwise. Post is an indicator variable
CEO_AGE 0.000 equal to 1 if year > 2012, and 0 otherwise. Figure 2 plots
(1.37) the impact of VAT reform on the readability of CSR re-
CEO_GENDER –0.008
(–1.42)
port. As shown, the coefficient on the VAT dummy vari-
CEO_TENURE –0.000 ables is insignificant from 2010–2011, which indicates
(–0.20) that there is no significant difference between treatment
LE –0.001 and control group before the implementation of the re-
(–0.28) form, and meets the parallel trend assumption.
Constant –0.316*** –0.424***
(–63.62) (–11.82)
Panel A of Table 7 presents the results of the fixed ef-
Year Fixed Effect YES YES fects model. We find that the coefficient on Treat* Post
Industry Fixed Effect YES YES is significantly positive, supporting our expectation that
Observations 2318 2318 firms do not enjoy the policy (and which therefore have
Adjusted R-squared 0.116 0.138 a stronger motivation to avoid taxes) and are more likely
* t-statistics in parentheses: *** p<0.01, ** p<0.05, * p<0.1. to issue readable CSR reports. Overall, the results from
this exogenous shock test suggest that the level of CSR
report readability is driven by the level of tax avoidance.
Second, our sample firms do not randomly pub-
reports, which are associated with higher readability. lish CSR reports. Instead, many factors affect a firm’s
Columns (5)–(8) of Table 6 are regression results in decision to disclose its CSR information. To the extent
which RATE is the dependent variable. The results show that these factors are also correlated with the level of
that corporate tax avoidance is significantly positive corporate tax avoidance, our results might be subject to
related to file size of CSR report and number of sen- selection bias. Therefore, we use a Heckman two-stage
tences, but there are not significant relationships be- model (i.e., Lennox et al. 2012; Kim and Zhang 2016) to
tween tax avoidance and number of characters and alleviate this concern. In the first stage, we apply a pro-
words. bit model to all firms in which the dependent variable is
Table 6 Corporate tax avoidance and alternative measures of CSR report readability
(1) (2) (3) (4) (5) (6) (7) (8)
VARIABLES Rep_size Char_count Word_count Sent_count Rep_size Char_count Word_count Sent_count
ETR 0.582*** 0.278*** 0.345*** 0.284***
(2.85) (2.65) (2.68) (2.66)
RATE 0.480** 0.132 0.222* 0.128
(2.38) (1.27) (1.74) (1.21)
Constant –3.045*** 3.517*** –1.599*** 2.622*** –3.058*** 3.507*** –1.608*** 2.612***
(–5.67) (12.72) (–4.71) (9.28) (–5.69) (12.68) (–4.74) (9.24)
Year Fixed Effect YES YES YES YES YES YES YES YES
Industry Fixed Effect YES YES YES YES YES YES YES YES
Observations 2488 2488 2488 2488 2488 2488 2488 2488
Adjusted R-squared 0.264 0.276 0.272 0.278 0.263 0.274 0.271 0.276
Figure 2 Test of parallel trend assumption [Colour figure can

be viewed at wileyonlinelibrary.com]
a dummy variable (CSR_Dis) indicating whether a firm ing variables (Frank 2000; Larcker and Rusticus 2010).
issues a CSR report in a given year. We also use Pollution For an unobserved confounding variable to affect main
as the exclusion restriction because companies operat- results, it needs to be correlated with both the inde-
ing in a polluting industry are less likely to issue a CSR pendent variable and the dependent variable after con-
report (Liao et al. 2019). We also include a dummy vari- trolling for other variables. Frank (2000) proposes the
able CSR_Dis as the dependent variable, which equals to impact threshold for a confounding variable (ITVC),
one if a firm publishes a CSR report in a given year and which means the minimum correlations necessary to
zero otherwise. The Inverse Mills Ratio (IMR) is calcu- overturn a statistically significant result. ITVC is defined
lated from the first stage, and is then included as a con- as the lowest product of the partial correlation between
trol variable is the second stage (Heckman 1979). dependent variable (Readability) and the confounding
The results are presented in Panel B of Table 7. In the variable and the partial correlation between the inde-
first stage, we find a negative and significant relation be- pendent variable (ETR and RATE) and the confounding
tween Pollution and CSR disclosure. Then, our interest variable. The higher the ITVC, the less likely the results
coefficients on ETR and RATE are positive and signifi- are affected by omitted variables threats.
cant, implying that our main results hold when using a The ITVCs are presented in Panel C of Table 7. The
Heckman two-stage model to address potential selection thresholds are 0.0045 and 0.0067 for ETR and RATE
bias. separately. Since the impact of the unobserved con-
Third, although we control a range of control vari- founding variable cannot be determined, we calculate
ables, the relation between tax avoidance and CSR re- the impact of control variables on the coefficient of ETR
port readability can be spurious if the model omits any and RATE. Similar to ITVC, partial impact is defined
factors affecting both variables.4 To alleviate the threats as the product of partial correlation between indepen-
of omitted variables, we follow the prior research by dent variable (ETR and RATE) and control variables
examining the potential effect of unobserved confound- and the partial correlation between dependent variable
Table 7 Endogeneity tests

Panel A: Difference-in-difference model
(1) (2)
VARIABLES Readability Readability
Treat* Post 0.012*** 0.012***
(4.30) (4.21)
Treat –0.022 –0.025
(–1.08) (–1.23)
Post 0.012*** 0.016
(3.93) (0.70)
Control Variables No YES
Year Fixed Effect YES YES
Firm Fixed Effect YES YES
Observations 2488 2488
Adjusted R-squared 0.730 0.732
Panel B: Heckman two-stage model
(1) (2) (3)

First-stage Second-stage
VARIABLES CSR_Dis ETR RATE

Readability 0.017* 0.039***
(1.68) (2.95)
Pollution –0.026***
(–3.37)
IMR 0.002* 0.004**
(1.59) (2.31)
Control Variables YES YES YES
Year Fixed Effect YES YES YES
Industry Fixed EffectObservations(Pseudo) R-squared YES78570.125 YES24710.189 YES24710.270
Panel C: Impact threshold for an omitted confounding variable (ITVC)
Readability
(1) (2) (3) (4)

Dependent Variables Partial Impact Raw Impact Partial Impact Raw Impact
CSR 0.0017 0.0023 0.0012 0.0010
AR_READ –0.0019 –0.0019 0.0004 0.0027
CSCORE 0.0002 0.0020 0.0012 0.0008
DQ 0.0002 0.0005 0.0035 0.0011
SIZE –0.0016 –0.0012 –0.0022 –0.0031
ROA 0.0000 0.0000 0.0003 0.0005
LEV 0.0040 0.0006 0.0000 0.0003
AGE 0.0005 0.0001 0.0004 0.0003
GROWTH 0.0003 0.0004 0.0001 0.0000
INVINT 0.0010 0.0012 0.0023 0.0047
BOARD –0.0006 –0.0002 –0.0013 –0.0016
INDEN 0.0002 0.0005 –0.0002 –0.0003
FEMALE –0.0006 –0.0001 0.0005 0.0000
PRIVATE 0.0017 0.0016 0.0036 0.0002
QFII 0.0004 0.0005 0.0000 0.0000
CEO_AGE 0.0000 0.0001 0.0007 0.0006
CEO_GENDER –0.0002 –0.0003 –0.0001 –0.0001
CEO_TENURE 0.0003 0.0006 0.0001 0.0006
LE 0.0007 0.0018 –0.0001 0.0000
ITVC for Tax Avoidance 0.0045 (ETR) 0.0067 (RATE)
Table 8 Effects of tax avoidance and CSR report readability on stock price crash risk
(1) (2) (3) (4)
VARIABLES NCSKEWt NCSKEWt DUVOLt DUVOLt
HTA1t−1 * Readabilityt−1 –0.110** –0.076**
(–2.15) (–2.09)
HTA1t−1 0.293* 0.208*
(1.89) (1.88)
HTA2t−1 * Readabilityt−1 –0.116* –0.087*
(–1.68) (–1.76)
HTA2t−1 0.319 0.246*
(1.63) (1.76)
Readabilityt−1 –0.086** –0.069** –0.051* –0.041*
(–2.33) (–1.98) (–1.93) (–1.66)
RETt−1 8.921*** 8.721*** 5.148** 5.027**
(2.89) (2.83) (2.34) (2.29)
SIGMAt−1 –2.203 –2.114 –1.417 –1.351
(–1.56) (–1.49) (–1.41) (–1.34)
SIZEt−1 0.017 0.021 0.000 0.004
(0.81) (1.00) (0.02) (0.26)
LEVt−1 0.226 0.208 0.202** 0.188*
(1.59) (1.46) (2.00) (1.86)
ROAt−1 1.651*** 1.715*** 1.271*** 1.314***
(3.16) (3.28) (3.41) (3.53)
MTBt−1 –0.108*** –0.108*** –0.063*** –0.063***
(–3.72) (–3.72) (–3.03) (–3.04)
ACCMt−1 –0.130 –0.118 0.065 0.079
(–0.46) (–0.41) (0.32) (0.39)
Constant –0.393 –0.522 –0.090 –0.187
(–0.82) (–1.10) (–0.26) (–0.56)
Observations 1536 1536 1536 1536
(Readability) and control variables. The sign of the im- Additional test
pact indicates how the control variable affects the co-
efficient of the independent variable. A positive impact The regression results indicate an association between
suggests that the inclusion of the control variable makes corporate tax avoidance and the readability of CSR dis-
the coefficient on ETR and RATE more negative and a closure. Whether the improvement of CSR readabil-
negative impact has the opposite effect. ity can protect a company from negative consequences
In the ETR model, the control variable with the largest associated with tax avoidance needs further analysis.
impact on the coefficient of ETR is CSR performance Hence, we test the shield role of CSR readability in the
(CSR), which has a partial impact of 0.0017, and a raw relationship between tax avoidance and stock price cash
impact of 0.023, which is the product of the raw corre- risk, which can be a serious negative consequence of ag-
lations instead of partial correlations. Both of these val- gressive tax behaviours.
ues are smaller than the ITVC for ETR, which is 0.0045. We believe that the enhancement of CSR disclosure
This suggests that the unobserved omitted variable must readability could mitigate this negative effect of tax
have a higher correlation with Readability and ETR than avoidance on stock price for the following reasons. First,
CSR performance. Given that we have a good set of con- better CSR disclosure can reduce information asymme-
trol variables, this provides some evidence in the esti- try and improve transparency (Gelb and Strawser 2001;
mate of the effect of ETR on CSR readability. The re- Kim et al. 2012), which increases the probability of de-
sults are similar for the RATE model, the largest impact tection and the costs of hoarding bad news. Second, the
on the coefficient of RATE is disclosure quality (DQ), improvement of financial reporting quality, especially
which has a smaller partial impact (0.0035) and raw im- readability, facilitates information exchange and greater
pact (0.0011) than ITVC for RATE (0.0067). Overall, the corporate transparency, which can limit opportunism
evidence above suggests that the relation between cor- behaviours and accumulation of bad news (Lehavy et al.
porate tax avoidance and readability of CSR disclosure 2011; Zhang et al. 2021). Therefore, we expect that
is unlikely driven by omitted variable concerns. CSR report readability should mitigate the negative
effect on stock price in firms with a higher level of tax et al. 2021). This study examines whether corporate
avoidance. tax avoidance is associated with a firm’s CSR reporting
Based on Kim et al. (2011a, 2011b), we employ two readability.
measures of crash risk: negative conditional return Using a sample of Chinese firms from 2010 to 2017,
skewness (NCSKEW) and down-to-up volatility (DU- we find that firms avoiding taxes are likely to produce
VOL). Both measures are based on the firm-specific more readable CSR reports, suggesting that firms at-
weekly returns (W). A larger value of NCSKEW (DU- tempt to offset concerns about their tax avoidance be-
VOL) means a greater crash risk. The models are shown haviour (i.e., to close the legitimacy gap) through im-
as below: proving the readability of their CSR disclosure. Consis-
tent with the legitimacy gap perspective, the propensity
NCSKEWit = −[n(n − 1)3/2 W3it ]/ to issue more readable CSR reports is stronger among
3/2 private companies (non-SOEs) and in regions of China
[(n − 1) (n − 2) W3it ] (6) with more developed markets and legal systems. Com-
bined, these findings provide more robust support for
the implications of legitimacy theory and are a key con-
DUVOLit = tribution of our study. Our study adds to the growing
literature on CSR readability and its implications on

(nu −1) W2it / (nd −1) W2it (7) corporate and investor decisions. Consistent with the
DOWN UP
notion that CSR disclosure readability can mitigate the
legitimacy concerns, we provide new evidence regarding
We estimate the following regression model to exam- corporate tax planning.
ine the association between tax avoidance of firms with We also find that improving CSR disclosure readabil-
more readable CSR reports and stock price crash risk: ity can mitigate the negative consequences of tax avoid-
ance through reduced asymmetry and increased corpo-
Crashriskit = β0 + β1 H T Ait −1 ∗ Readabilit yit −1 rate transparency, resulting in a lower stock price crash
risk. Our results on stock price crash risk can also be
+ β2 H T Ait −1 + β3 Readabilit yit −1 useful to firms and investors who want to manage crash
+ β4 RETit −1 +β5 SIGMAit −1 +β6 SIZEit −1 +β7 LEVit −1 risk.
Our study has important implications. Tax avoid-
+β8 ROAit −1 +β9 MT Bit −1 + β10 ACCMit −1 ance can cause harm to society (Slemrod 2004) and

+ Year + Indust ry + εit (8) can be considered socially irresponsible (Huseynov and
Klamm 2012). In addition to the economic effects on
companies, tax avoidance can be viewed through an
In Model 8, the dependent variable is Crashriskit ,
ethical lens; depriving society of resources to achieve
which includes two stock price crash risk measures. We
societal objectives may result in harm to society, and
include HTA, which is an indicator variable equal to 1
be considered unethical. Our study and results indicate
if the firm’s tax avoidance is higher than median (the
that companies engaged in tax avoidance may view tax
highest quantiles of tax avoidance) defined by industry-
avoidance more through an economic lens, as they ap-
year. Table 8 presents the regression results. Columns
pear to be aware of the potential effects of tax avoidance
(1) and (2) report the results where NCSKEW is the de-
on public perceptions. Instead of responding by reduc-
pendent variable, and Columns (3) and (4) report the
ing their tax avoidance, our results suggest that com-
results where DUVOL is the dependent variable. The
panies choose more image management activities to re-
coefficients are significantly negative, which means that
spond to public concerns about tax avoidance to distract
the improved readability of CSR disclosure limits bad
stakeholders from the company’s tax avoidance. If CSR
news hoarding, thus reducing the crash risk caused by
reporting were more common and standardised, the op-
aggressive tax behaviours.
portunity to distract stakeholders may be lessened, and
companies may be more likely to pay their fair share of
Conclusions taxes as the opportunity to otherwise overcome legiti-
macy concerns would be reduced.
Prior literature suggests that firms engaging in aggres- Our research is subject to some limitations. First,
sive tax behaviours suffer negative consequences such readability measures are less well developed in Chinese
as legitimacy loss, negative market reactions and higher than in English. While we have used multiple mea-
stock price crash risk (Hanlon and Slemrod 2009; Kim sures of CSR report readability, these measures may not
et al. 2011a; Graham et al. 2014). CSR disclosure qual- fully capture differences in the readability of CSR re-
ity, including readability, can play a protection or insur- ports issued by Chinese companies. Second, we use data
ance role when a firm’s legitimacy is questioned (Zhang from China; the relationship between tax avoidance and
CSR report readability may differ in other developing Valuable Consumer Brands.’ Journal of the American Taxation
markets. Association, 39 (1): 67–93.
Bankman, J. 2004, ‘The Tax Shelter Problem.’ National Tax
Notes Journal, 57 (4): 925–36.
Beattie, V. 2014, ‘Accounting Narratives and the Narrative
1 When there is a large divergence between weaker CSR perfor- Turn in Accounting Research: Issues, Theory, Methodology,
mance and stronger CSR reporting, this practice is often known Methods and A Research Framework.’ The British Accounting
as ‘greenwashing’ (i.e., Siano et al. 2017). Review, 46 (2): 111–34.
2 If the corporate culture/reputation perspective holds, we would
not expect the tax avoidance/CSR reporting readability relation- Bebbington, J., Larrinaga, C. and Moneva, J. M. 2008, ‘Cor-
ship to vary based on regional development. porate Social Reporting and Reputation Risk Management.’
3 Prior literature also controls loss carryforward for profitability. Accounting, Auditing and Accountability Journal, 21 (3): 337–
Our results remain when we include loss carryforward as robust 61.
controls. Loss carryforward is an indicator variable equal to 1 if
loss carryforward is positive in the beginning of the year (Brad- Bianchi, E., Bruno, J. M. and Sarabia-Sanchez, F. J. 2019, ‘The
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mentioned, the firm fixed effect may not detect an effect when Biddle, G. C., Hilary, G. and Verdi, R. S. 2009, ‘How Does
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Appendix
Variable definitions
Variables Definition
Measure of CSR disclosure readability
Readability Readability = N1 N S=1 log Ps , where Ps is the generating probability of sentences s, and N is the sum of the
sentences in the whole CSR report divided by 100
Measures of Corporate Tax Avoidance (TA)
ETR Income tax expense divided by pre-tax income multiplied by −1
RATE Statutory tax rate minus effective tax rate
Control variables
CSR CSR performance score from Hexun.com
AR-READ Readability of annual report obtained from WinGo database
CSCORE Financial reporting conservatism, calculated by using Khan and Watts (2009) model
DQ KV index, calculated by using Kim and Verrecchia (2001) model
SIZE Natural logarithm of total assets
ROA Return on assets, calculated as total debt divided by total asset at the end of the year
LEV Financial leverage, calculated as total assets less equity divided by total assets
AGE Number of years since the firm has been listed
GROWTH Sales growth, calculated as total sales of next year less sales of current year divided by sales of current year
INVINT Total inventory divided by total asset
BOARD Natural logarithm of the number of directors on the board
INDEN Percentage of independent directors on the firm’s board
FEMALE Percentage of female directors on the firm’s board
PRIVATE Indicator variable that is equal to 1 if the controlling shareholder is private and 0 otherwise (i.e., non-SOE
indicator variable)
QFII Percentage of qualified institutional ownership
CEO_AGE Age of the CEO
CEO_GENDER Indicator variable that is equal to 1 if the CEO is female and 0 otherwise
CEO_TENURE Number of the years that the executive has been CEO
LE Indicator variable that is equal to 1 if the legal environment of the province where the firm operates is above the
sample median and 0 otherwise
(Continues)
288 Australian Accounting Review

© 2022 The Authors. Australian Accounting Review published by John Wiley & Sons Australia, Ltd on behalf of CPA Australia.
Variables Definition
Variables in robustness tests
Rep_size Nature logarithm of file size of CSR reports
Char_count Nature logarithm of characters (without numbers and English) of CSR reports
Word_count Nature logarithm of words (without numbers and English) of CSR reports
Sent_count Nature logarithm of sentences (without numbers and English) of CSR reports
CETR Cash effective tax rate, calculated as cash tax paid scaled by pre-tax income (net of special items)
TPS Tax planning score, see Model 5
Treat Indicator variable that is equal to 1 if firm is not in pilot group and 0 otherwise
Post Indicator variable that is equal to 1 if year >2012 and 0 otherwise
Variables in additional analysis
NCSKEW Negative conditional return skewness, see Model 6
DUVOL Down-to-up volatility, see Model 7
HTA Indicator variable that is equal to 1 if the firm’s tax avoidance level is above median (ETR and RATE), and 0
otherwise
RET Mean of firm-specific weekly returns over the fiscal year period multiplied by 100
SIGMA Standard deviation of firm-specific weekly returns over the fiscal year period
MTB Market value of equity divided by the book value of equity
ACCM Absolute value of discretionary accruals, where discretionary accruals are estimated based on the modified Jones
model
Australian Accounting Review 289

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Corporate Tax Avoidance and Corporate Social Responsibility

Disclosure Readability: Evidence from China

Shuolei Xu & Fangjun Wang , Xi’an Jiaotong University

CSR disclosure can help to build an organisation’s rep-

Table 2 Regression of corporate tax avoidance on CSR report readability

Table 3 Tax avoidance on CSR report readability within ownership structures

Table 4 Tax avoidance on CSR report readability within legal environment

Table 5 Alternative measure of corporate tax avoidance Endogeneity tests

(1) (2) Our main results may arguably be driven by endogene-

Figure 2 Test of parallel trend assumption [Colour figure can

Table 7 Endogeneity tests

Panel B: Heckman two-stage model

(1) (2) (3)

VARIABLES CSR_Dis ETR RATE

Panel C: Impact threshold for an omitted confounding variable (ITVC)

(1) (2) (3) (4)

288 Australian Accounting Review

Australian Accounting Review 289

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