Dividends: Relevance, Rigidity, and Signaling

Posted: 10 Feb 2014

See all articles by Sigitas Karpavicius

Sigitas Karpavicius

University of Adelaide - Business School

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Date Written: January 9, 2014

Abstract

This paper uses a dynamic partial equilibrium model to explain a puzzle of dividend smoothing. In contrast to the Modigliani–Miller theory, I show that firm value depends on payout policy. The analysis implies that firms with more stable dividend stream are more valuable. This explains why dividends are rigid over time. A volatile component of dividends is introduced to reduce the likelihood of dividend omission in bad times while keeping the same historical average dividends. I show that the empirically observed positive relation between dividends and future firm performance is a statistical artifact driven by dividend smoothing. Thus, the empirical tests of dividend signaling theory might be misspecified.

Keywords: Dividend smoothing, Payout policy, Signaling theory, Partial equilibrium model

JEL Classification: G35, D21, D58

Suggested Citation

Karpavicius, Sigitas, Dividends: Relevance, Rigidity, and Signaling (January 9, 2014). Journal of Corporate Finance, Vol. 25, 2014, Available at SSRN: https://ssrn.com/abstract=2392970

Sigitas Karpavicius (Contact Author)

University of Adelaide - Business School ( email )

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