A one-time tax benefit ruined Alphabet’s recent quarterly earnings release. Alphabet’s earnings for the fourth quarter of 2016 were lower than analysts estimates when compared with the prior year.
Contributing to the less than expected earnings was a higher tax expense of $1,524 billion as compared with $277 million from the prior year. On the conference call, CFO Ruth Porat described the tax hike this way:
And then, the other item I noted was, with respect to our tax rate. I noted that there was a slightly elevated tax rate this quarter. It’s always affected by the geographic mix of results, but we did have a discrete item that affected the US tax rate, just to make that clear.
Some attributed the “discrete item” to a one time adjustment for stock based compensation. But this is not the case. In fact, the “discrete item” was from the prior year as stated in Alphabet’s SEC Filings:
Our effective tax rate for 2015 included a discrete tax benefit related to refunds and reductions in uncertain tax positions due to the resolution of a multi-year tax audit in the U.S.
At the end of 2015, Alphabet revised its estimated tax expense as a result of an IRS audit that covered many years. The IRS ruled in Alphabet’s favor causing the tax expense to be less than expected. The adjustment occurred in the 4th quarter of 2015 and made the 4th quarter of 2016 higher in comparison.
Income tax expense is not really the amount of taxes paid; instead it is an estimate. At the conclusion of its IRS audit, Alphabet’s revision pushed the effective tax rate to five percent for the quarter. One year later, the quarterly effective tax rate when back to “normal” at around twenty-two percent.
All of this should prove that GAAP based financial statement are somewhat meaningless or at least can’t be taken at face value. In their recent book, authors, Baruch Lev and Feng Gu, argued that GAAP based financial statement include so many estimates, that true corporate earnings are often obscured.