Effect of Corporate Taxation System on Profitability and Market Ratios – the Case of ROE and P/B Ratios

Abstract

The impact of a corporate taxation regime on the application of performance indicators of companies is one of the issues receiving inadequate coverage in finance literature. This paper discusses some issues that relate to the use of return on equity (ROE) and price-to-book (P/B) ratios under different taxation regimes. We compare the behaviour of these indicators under distributed profit taxation with that under total profit taxation in order to explain possible differences. Regarding the price-to-book ratio we also investigate the impact of differences in companies’ financial leverage. Based on the example of a hypothetical company, we find that both ROE and P/B yield different values depending on the profit taxation scheme (ceteris paribus). Suggestions for practical applicability of results are provided at the end of the paper.