Value Relevance of Earnings of Multinational Firms: Regulatory Regimes Associated with Foreign Subsidiaries.

Summary We examine market valuation of foreign earnings of US multinational firms in the context of strength of rule of law of countries in which the international subsidiaries are located. Using 12,288 firm-years observations for the period of 1996 to 2013, we find that foreign earnings association with returns are increasing with the average rule of law of countries in which the MNCs have subsidiaries. We find negative returns-foreign earnings association when a firms expand its operations to other countries, but such association turns out positive when the expansion occurs to countries with stronger investor protection. Value relevance of foreign earnings is highest for the firms which have international subsidiaries located to destinations that are strong in rule of law but are not characterized as tax haven. Our results are robust to alternative empirical specifications and to the concern of endogenous relationship between market valuation and multinational choice of foreign location.