It might seem logical that companies that are aggressive in ensuring they pay as little tax as possible will also be keen to squeeze all the profit they can from other areas of the business, which might result in poorer treatment of the workforce. That is nonetheless what research from North Carolina State University shows.

Indeed, the study found that such firms were especially likely to employ more staff than they needed due to their inherent inefficiencies, and so “underemployment” was a particular problem.

“Aggressive tax planning means a company will have more cash on hand, so it should be able to invest more in its workforce,” the researchers explain. “We wanted to know if this was actually playing out in the real world. As it turns out, companies that engage in aggressive tax planning are actually doing a worse job of investing in labor—and that has ramifications for their overall operating efficiency.”

Investing efficiently

The study shows that labor investment efficiency is optimized when companies only employ the number of workers needed, no more, no less. To examine the relationship between labor investment and tax planning, the researchers gathered data on over 3,600 publicly traded US firms.

They judged the aggressiveness of each firm’s tax planning by analyzing how much tax they paid relative to their profit, with the less tax paid a signal of greater aggression. Meanwhile, labor efficiency was judged by looking at things such as sales growth, the number of people hired each year, and overall company assets.

“For example, if a company’s sales declined, you would expect hiring to decrease,” they say. “But we looked at quite a few variables here, so calculations of labor efficiency were actually quite a bit more complicated than that.”

The results show that companies that were aggressive with their tax planning didn’t do a very good job of hiring talent. The researchers explain that this is because of the company’s attitude towards uncertainty.

Embracing uncertainty

The authors suggest that when firms engage in aggressive tax planning, they typically embrace a certain amount of uncertainty as they run the risk of being audited and therefore paying more in taxes, and even fines, than they perhaps expected. They also run the risk of their reputation being harmed.

“Our study strongly suggests that the risks and uncertainties associated with aggressive tax planning make firms more cautious about engaging in long-term investments, such as hiring,” the researchers continue.

This trend was particularly strong among companies that were willing to take on greater tax risk, especially if they had high labor costs and poor corporate governance. This resulted in weaker institutional oversight and often less attention from external analysts.

“Ultimately, the take-away message for business leaders is that they need to think about whether aggressive tax strategies ultimately benefit the company,” the authors conclude. “If those tax strategies mean a company is not investing efficiently in its workforce, that could hurt the company’s bottom line. Basically, is the labor inefficiency costing the company more than it saved in taxes?”