Corporate dividend policy in practice: Evidence from an emerging market with a tax-free environment

Several theories have been proposed to explain why companies pay dividends. However, as of today, the dividend policy remains a puzzle as no convincing explanation has been given as to why firms pay cash dividends to their shareholders. This paper contributes to this debate by examining the dividend policy in an emerging market that has a tax-free environment. Specifically, we follow Brav et al. (2005) and examine this issue using survey and field interviews, in the particular context of the United Arab Emirates. Our results provide support for the proposition that dividend policy is conservative. We also find that dividends in the UAE are considered by managers as a residual cash flow, and are determined after investment decisions are made. When examining the determinants of dividend policy, we find that taxes are not important, that institutional investors are expected to play a role in disciplining managers, and that dividends may play a disciplinary role as well in controlling agency conflicts.     

Family control,institutional environment and cash dividend policy: Evidence from China

Using a sample of 1486 Chinese A-share listed companies for the period 2004–2008, this study empirically tests the impact of family control, institutional environment and their interaction on the cash dividend policy of listed companies. Our results indicate that (1) family firms have a lower cash dividend payout ratio and propensity to pay dividends than non-family firms; (2) a favorable regional institutional environment has a significant positive impact on the cash dividend payout ratio and propensity to pay dividends of listed companies; and (3) the impact of the regional institutional environment on cash dividends is stronger in family firms than in non-family firms. Somewhat surprisingly, we find that controlling family shareholders in China may intensify Agency Problem I (the owner–manager conflict) rather than Agency Problem II (the controlling shareholder–minority shareholder conflict), and thus have a significant negative impact on cash dividend policy. In contrast, a favorable regional institutional environment plays a positive corporate governance role in mitigating Agency Problem I and encouraging family firms to pay cash dividends.     

Stock liquidity and corporate tax avoidance

We show that firms with higher stock liquidity engage less in extreme (i.e., overly aggressive or overly conservative) tax avoidance. The effect of stock liquidity on tax avoidance is economically meaningful and robust across alternative measures of tax avoidance and stock liquidity. The findings also hold after controlling for potential endogenous effects. We further document that the effect of stock liquidity on tax avoidance is amplified for firms with high proportions of activist shareholders and attenuated for firms with high levels of stock price informativeness. Overall, our findings suggest that stock liquidity mitigates extreme tax avoidance by enhancing shareholders’ monitoring over firm management.

     

Corporate liquidity and dividend policy under uncertainty

We examine optimal liquidity (retained earnings) and dividend choice incorporating debt financing with risk of default and bankruptcy costs as well as growth options under revenue uncertainty. We revisit the conditions for dividend policy irrelevancy and the broader role of retained earnings and dividends. Retained earnings have a net positive impact on firm value in the presence of growth options, high external financing costs and low default risk. High levels of retained earnings enhance debt capacity but have a negative effect on equity value due to the likelihood of losing accumulated cash balances in case of default, unless offset by high external financing costs. Opposite directional effects of retained earnings on equity and debt create a U-shaped relation with firm value. The framework is extended to analyze management-shareholder conflicts, demonstrating that managers accumulate higher than optimal cash.     

Corporate liquidity and dividend policy under uncertainty

We examine optimal liquidity (retained earnings) and dividend choice incorporating debt financing with risk of default and bankruptcy costs as well as growth options under revenue uncertainty. We revisit the conditions for dividend policy irrelevancy and the broader role of retained earnings and dividends. Retained earnings have a net positive impact on firm value in the presence of growth options, high external financing costs and low default risk. High levels of retained earnings enhance debt capacity but have a negative effect on equity value due to the likelihood of losing accumulated cash balances in case of default, unless offset by high external financing costs. Opposite directional effects of retained earnings on equity and debt create a U-shaped relation with firm value. The framework is extended to analyze management-shareholder conflicts, demonstrating that managers accumulate higher than optimal cash.     

Carbon risk and dividend policy: Evidence from China

Using a large sample of Chinese listed industrial firms from 2009 to 2019, this study investigates the effect of firm-level carbon risk on dividend policy. We find that carbon risk has a significant and negative impact on a firm's dividend payout level. We also find that when firms' capability in innovation is stronger, the degree of earnings uncertainty is higher, a firm belongs to high‑carbon industries, the negative relationship between carbon risk and dividend payout level is more significant. Furthermore, financial constraints and cash holdings are two underlying channels through which carbon risk affects cash dividend payouts. Our findings remain consistent across several robustness checks.     

The valuation of projects under the dividend imputation tax system

This paper proves that a modified weighted average cost of capital (“WACC”) valuation methodology is a rigorous and practicable method of valuing projects and companies under the Australian dividend imputation tax system. This methodology uses an effective tax rate in calculating both the discount rate and the ungeared after tax cash flow. A cash flow after effective corporate tax is shown to be equivalent to a cash plus value of imputation credit stream. Importantly, this valuation methodology is applicable to returns that are non-uniform and of finite duration. Also examined is the discounting of equity returns at the company's cost of equity capital. A worked example is presented to clarify and quantify the effects discussed.     

Ownership structure and dividend policy: Evidence from Italian firms

Abstract

This paper reports on empirical investigations into the relationship between dividend policy and ownership structure of firms, using a sample of 139 listed Italian companies. Ownership structure in Italy is highly concentrated and hence the relevant agency problem to analyse seems to be the one that arises from the conflicting interests of large shareholders and minority shareholders. This paper therefore attempts to test the rent extraction hypothesis by relating the firm’s dividend payout ratio to various ownership variables, which measure the degree of concentration in terms of the voting rights of large shareholders. The hypothesis that other non-controlling large shareholders may have incentives to monitor the largest shareholder is also tested. The results of the empirical analysis reveal that firms make lower dividend payouts as the voting rights of the largest shareholder increase. Results also suggest that the presence of agreements among large shareholders might explain the limited monitoring power of other ‘strong’ non-controlling shareholders.     

Taxes and dividend policy under alternative tax regimes

This paper examines changes in corporate dividend policy around the introduction of a dividend imputation tax system. This represented a significant change to the Australian tax framework and allows us to test the effect of differential taxation on corporate dividend policy. Consistent with the tax preference for the distribution of dividends, we find dividend initiations, all dividend payout measures and dividend reinvestment plans increased with the introduction of dividend imputation. Similarly we find that gross dividend payouts are more volatile under dividend imputation. Finally, we find that the increase in dividend payout and initiations differs across firms. In particular, we find that the higher the level of available franking tax credits the higher the firm's gross dividend payout and the more likely the firm is to initiate a dividend.     

Commonality in liquidity: Evidence from the Australian Stock Exchange

Several studies have reported strong evidence of commonality in liquidity in US markets. The present study uses the research design of Chordia et al. (2000) to examine commonality in liquidity for a broad sample of stocks listed on the Australian Stock Exchange (ASX). In contrast to previous research, there is some evidence of market‐wide commonality in liquidity for ASX stocks, but it is less significant and less pervasive than that observed in other markets. These results are consistent with explanations based on differences in market structure between the USA and Australia.     

Dividend payouts and catering to demands: Evidence from a dividend tax reform

Utilizing the 2012 dividend tax reform in China, this paper examines how firms make dividend payout decisions that cater to the controlling shareholders' demand, especially when controlling shareholders and outside minority shareholders have different dividend preferences. We find that firms increase dividend payouts when controlling shareholders demand higher dividends after the dividend tax reform. In particular, firms pay higher dividends when facing increased demand from controlling shareholders than when the demand is from minority investors. In addition, we find that firms that increase dividend payments due to the controlling shareholders' demand subsequently have more debt financing and poorer firm performance, suggesting that catering to the demands from controlling shareholders is subject to the Type II agency problem.     

Commonality in liquidity: Evidence from the Stock Exchange of Thailand

This study examines commonality in liquidity of the Stock Exchange of Thailand (SET) using a limited order book data from 1996 to 2003. Strong evidence is found for market-wide commonality in liquidity, which prevails across several liquidity measurements. Industry-wide commonality is found to be stronger than market-wide commonality in liquidity. However, we do not find a market-wide correlated liquidity supply imbalance. There is evidence that indicates a fall in individual liquidity on Monday and after a day with a positive return.     

Do dividend tax cuts lead firms to increase dividends: Evidence from China

Dividend taxation is an important component of investors’ taxes and has attracted the attention of policymakers and financial economists. However, the theory of dividends and the reform of dividend taxation remain a puzzle. This paper analyzes the effect of dividend taxation on firms’ dividend policies. Using a natural experiment and difference-in-difference estimation, we find that China’s dividend tax cut in 2005 led firms to increase their dividend payments. Companies with higher proportions of tradable individual shares or investment fund shares were more likely to increase their dividend payments. However, opportunistic behavior also exists, where companies with higher proportions of shares held by executives were also more likely to increase their dividend payments. These findings support the existence of a causal relationship between China’s tax cut and firms’ increased dividend payments and imply that the reform of dividend taxation in 2005 achieved its goal.     

Strategies and dividend imputation: the effect of foreign and domestic ownership on average effective tax rates

This study examines how dividend imputation affects the incentive of New Zealand firms to minimize tax. By effectively eliminating double taxation on company income, imputation reduces firms’ incentives to engage in costly tax minimization strategies. Before September 1993, resident and nonresident shareholders were treated differently under New Zealand’s imputation system. Because imputation credits cannot be passed to shareholders unless dividends are paid, we expect firms to pursue different tax paying strategies depending on their level of foreign ownership and their dividend payout ratios. After September 1993 when imputation credits were extended to nonresident portfolio shareholders, we expect that firms with high foreign ownership and high dividend payouts would have less incentive to minimize tax. Our results provide some support for these expectations.     

Shareholder taxation and aggregate dividend payout: Evidence from the tax reform act of 1986

The effect of shareholder taxation on corporate dividend policy is a major controversy in financial economics. The Tax Reform Act of 1986 eliminated the statutory tax disadvantage of dividends versus long-term capital gains for individual shareholders. Using aggregate time series data I find evidence that corporate dividend payout has become more generous in the period after tax reform.     

Political institutions,stock market liquidity and firm dividend policy: Some international evidence

In this cross-country study, we draw on the dividend liquidity hypothesis and the political economy literature to examine whether political institutions affect the relationship between stock market liquidity and a firm’s dividend policy. In countries with weak political institutions, we expect that investors are less able to demand higher dividends for stocks with low liquidity. Using a sample of 52 countries, we show that the negative association between stock market liquidity and dividends is more pronounced in countries with sound political institutions, consistent with the “outcome” model of dividends. These results are stronger in countries with better legal institutions and weaker for firms with financial constraints.     

Adapting the APV valuation methodology and the beta gearing formula to the dividend imputation tax system

This paper adapts the APV valuation methodology and the formula for gearing beta to the Australian dividend imputation tax system. The APV formulation is shown to be able to be applied in the dividend imputation tax system by simply replacing the statutory tax rate with an effective tax rate in the calculation of the “cash flows”. The effect of the dividend imputation tax system on a company's value is shown to be easily bounded using the APV formulation by making the extreme assumption that imputation credits are either: fully distributed and fully valued by the market; or that they are worthless. This paper also quantifies the effect of changing the assumed value of imputation credits on: (i) the value of the interest tax shield of debt; and (ii) the levered, or equity, beta.     

Dual-class share structure on the dividend payout policy: Evidence from China Concepts Stocks

This study investigates the impact of the dual-class share structure on the dividend pay-out policy for China Concepts Stocks listed on the US stock exchanges. Using a unique and hand-collected dataset, we find that the dual-class share structure negatively affects the propensity to pay dividends and the dividend payout ratios. Among firms with dual-class share structures, the divergence between voting and cash-flow rights also negatively affects the propensity to pay dividends and the dividend payout ratios. Furthermore, these dual-class firms are more susceptible to the tunneling to controlling shareholders. Our findings highlight the potential cost of adopting dual-class share structures in China, and the importance of external monitoring for Chinese US-listed firms with dual-share structure.     

Pricing of liquidity risks: Evidence from multiple liquidity measures

We investigate the pricing implication of liquidity risks in the liquidity-adjusted capital asset pricing model of Acharya and Pedersen (2005), using multiple liquidity measures and their principal component. While we find that the empirical results are sensitive to the liquidity measure used in the test, we find strong evidence of pricing of liquidity risks when we estimate liquidity risks based on the first principal component across eight measures of liquidity, both in the cross-sectional and factor-model regressions. Our finding implies that the systematic component measured by each liquidity proxy is correlated across measures and the shocks to the systematic and common component of liquidity are an undiversifiable source of risk.     

The tax incentives and corporate cash holdings: Evidence from a quasi-natural experiment of an accelerated depreciation tax policy for fixed assets

Based on a quasi-natural experiment of an accelerated depreciation tax policy (ADP) for fixed assets in China, we examine the impact of the ADP on corporate cash holdings. Using a multiperiod difference-in-differences model with a sample of Chinese A-share listed firms from 2008 to 2020, we document that firms subject to the ADP exhibit lower cash holdings compared to firms not affected by the policy. The effect is more pronounced for young firms, profitable firms, and firms with less R&D investment. According to our mechanism analysis, the ADP mitigates a firm's financing constraints and financialization and therefore, a firm does not need as much as cash holdings as they did before the implementation of the ADP. The mechanism test results suggest that the ADP lowers the precautionary and speculative demand for cash. The analysis of economic consequences shows that the reduction of cash holdings significantly enhances firm value. Our research results suggest that the ADP is a good policy for firms.