DISCUSSION OF LIFO Adoption and the Tax Shield Substitution Effect.

Abstract The article comment on the research paper by Robert H. Trezevant on the tax shield substitution effect. According to the author the main idea in the Trezevant paper is that increased cost of goods sold (COGS) results from last in first out (LIFO) adoption represents an additional tax shield, much like interest expense arising from debt issue. From a tax perspective, these tax shields are substitutes. Most expenditures result in tax deductions of some sort and could, in some sense, be thought of as tax shields. While, from a tax perspective, a dollar of COGS deduction is a perfect substitute for a dollar of advertising deduction, this ignores the role of nontax costs. The authors remarks that he was surprised that the paper omitted investment-related tax shields from the analysis, especially since the trade-off between depreciation and interest shields has been the focus of prior research. Incorporating only the interest-half of the prior literature leaves the paper incomplete. This study is limited to LIFO switches taking place in 1974. Essentially, this paper uses a pre-post design in which event-date clustering causes the pre and post-periods to be identical for all observations.