Strategic Corporate Finance Recent insights in payout policies Henk von Eije University of Groningen

Strategic Corporate Finance Recent insights in payout policies Henk

von Eije University of Groningen

Great to be invited

Who am I

http://www.rug.nl/staff/j.h.von.eije/

Where is Groningen

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A small, but old city

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With a rather old university

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A student city

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With a soccer/football club

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Now the issue of payouts

Background: 2 papers

Henk von Eije and William L. Megginson (2008), Dividends and share repurchases in the European Union, Journal of Financial Economics, 89, 347-374. Henk von Eije, Abhinav Goyal, Cal Muckley, Does the information content of payout initiations and omissions influence firm risks?, Journal of Econometrics, forthcoming

Many payout questions

What are payouts? How do we measure them? Do managers like them? What are the long term trends? What causes firms to pay or not to pay If firms pay, what causes them to pay more? Do shareholders like payouts? Do debtholders like payouts?

What can you tell me on payouts

Payouts

What are payouts? cash dividends and repurchases (buy backs) How do we measure them? by amounts paid and whether firms pay or not

When do they occur

(institutional aspects)

Dividends are announced (announcement day), if restrictions set by banks and bondholders are avoided Record day owners get dividends, then the stock is ex dividend (ex dividend day) Generally the price of the stock declines but with a smaller amount per share than what is paid per share (tax reasons?) Repurchases are announced, and generally during a (long period of time) shares are bought back

Payout issues

Lintner (1956) M&M (1961) and market imperfections Payout puzzles (tax imperfection) Declining propensity to pay Agency theory and other imperfections Signaling (maturity and risk reduction)

Do managers like dividends

Lintner (1956) interviewed managers and developed a theory, which is still very relevant Firms increase dividends if their earnings increase BUT, firms do not increase dividends directly Managers are risk averse and adapt dividends slowly to earnings, because they are very afraid to reduce dividends if earnings become less

Lintner

Lintner’s theory can be measured by: Dt = a0 + a1Et + (1 - a2)Dt-1 Where a1 represents the sensitivity of dividends to current earnings and a2 the speed of adjustment to current earnings

a1 and a2 in the EU

Dividends and repurchases

Lintner conclusion for EU

Managers are inclined (or forced) to payout more dividends (10.9% before 2000, 21.2% thereafter) … Similar for total payouts (16.5% and 33.9%) AND they also react faster to earnings

Then came modern finance theory

Modigliani and Miller (1958) capital structure Miller and Modigliani (1961) dividend policy (paying now or later, or by dividends or repurchases) is irrelevant IFF the capital markets are perfect and investors rational, then it is impossible to create value systematically through payout policies

What was the imperfection that Lintner (1956) found

Lintner after M&M 1961

Lintner found that managers may not be indifferent, though according to M&M investers/owners/stockholders would be indifferent in perfect markets Moreover, managers are risk averse, and invester/owners allow them to be so with respect to dividends

And it also implies …

That shareholders conclude on managerial behavior Initiating dividends may be a signal of an increase of higher future earnings (or of more stable future earnings) It may also indicate that managers do not want to use the cash for themselves Stopping (omitting) dividends is very bad

Dividends

With dividends the shareholders are indifferent to paying dividends if the dividend per share (after tax) is equal to the reduction in asset value per share caused by the cash dividend payment However, dividends are taxed by personal income tax, and then shareholders lose some value to the government With a tax imperfection: do not pay dividends!

Repurchases

With repurchases the firm uses the cash to buy shares. Shareholders who sell the shares get the cash. Shareholders who do not sell get access to the remaining cash flows and assets A fair repurchase price equals the value of the remaining assets per remaining shareholder But, because repurchases are also taxed, firms should not repurchase either!

Funky dividends

http://www.youtube.com/watch?v=MUsaSCRdtYI

Payout puzzle

Despite taxation of dividends and repurchases, firms still pay out! Is this caused by stupidly managed firms?

Payouts by asset decile EU

Dominance of large firms

Mostly payouts are done by large firms. Are their managers less knowledgeable than managers of small firms? This is not very likely; in fact small and large firms are generally rationally managed, though not necessarily on behalf of the shareholders So there may be other reasons than stupidity!

Tax rates differ too

Dividends are often taxed at a higher rate than repurchases So what should be paid more? Dividends or repurchases?

Trend in total payout amounts (EU)

Dividend and repurchase amounts

If dividends are taxed more, dividend amounts should be lower than repurchase amounts In fact the opposite is true, so tax may not be the major driver But … repurchase amounts increase faster and Skinner (2008) finds that repurchases are dominant now in the US Still, tax is -at best- a relative explanation

Non-tax explanations

Irrational behavior? Asymmetric information? Signals on future earnings Signal on lower growth opportunities Agency problems? Size, leverage, retained earnings, age Firm risk? Country / industry / firm background?

Irrational behavioral theories

Clientele effects Shares owned by widows, orphans, elderly and/or financial institutions (Mutual funds) Cyclical managerial behavior Only paying if dividend payers have a higher price to book value than non-payers (Baker and Wurgler, 2004) Dove in the hand theory http://slack-time.com/music-video-4944-wiley-money-in-my-pocket-cash-in-my-hand

Amounts versus payers

Dividend and repurchase amounts have been increasing But what happened to dividend and repurchase payers?

Trend in cash dividend payers

What may have caused this

1) … 2) … 3) …

What may have caused this

New firms get listed and have less spare money (1) Existing firms may also have different characteristics nowadays (2) There may be a declining propensity to pay according to Fama and French (2001) (3)

Fama and French, 2001

The propensity to pay cash dividends has declined in the USA Young listed firms are generally smaller, have less earnings and need more cash for investments and growth So control for these firm characteristics (What measures would you use?)

Four variables of F&F 2001

Firm size (+), Earnings (+), Past investments (-), Expected growth (-) Measure the sensitivity of paying (or not paying) for these variables in an early period Keep the resulting parameter estimates constant for next years and use these to estimate the number of expected payers Compare these to the actual number of payers

Dividends disappear also in the EU

But repurchasing firms appear

Remember the explanations

Earnings Asymmetric information? Growth opportunities, investments Agency problems? Size, leverage, retained earnings, age Firm risk? Country, industry and firm background? Irrational behavior? Tax

What drives firms to pay

Conclusions on payers

Agency costs Size (Lsize), Leverage (LLR) and AGE influence cash dividends significantly in the expected direction Earnings (LEA), investments (LDDA) and growth opportunities (LMBF), and industry (T) also do so Moreover firm risk (LSDS), Tax (DTP), and being in a common law country does so too

What drives payment amounts

Similar conclusions on payment amounts

Again agency costs and growth opportunities Size (Lsize), Leverage (LLR), AGE and retained earnings (character of firm age) Earnings (LEA), investments (LDDA) and growth opportunities (LMBF), and time (T) also do so New correct significant variables are cash holdings (LCASHA) and being a privatized firm (PRIV)

Second paper

In 2002 Grullon et al. indicate that the value may increase –not as much as a signal of future earnings- but as a signal on firm maturity and a concomitant reduction (increase) in risk We check whether this is the case after major payout event initiations (omissions) in an econometric precise way

Risk effects (US)

No systematic differences between initiators and omitters

Conclusion

We find the expected risk effects for dividends but not significantly so for repurchases Interestingly, it is not only systematic risk, but also idiosyncratic risks Unanswered: Do the positive (negative) value effects after initiations (omissions) arise from risk effects and does idiosyncratic risk also matter?

What to remember

Payouts consist of dividends and repurchases and is measured by amounts and incidence (paying firms) Lintner (1956) developed a very important theory based on managerial risk aversion After Miller and Modigliani (1961) many theories are developed that (partially) work in the EU, like tax, irrational behavior, agency theory, and maturity signaling There is a major reduction in firm risks after initiations and an increase after omissions

Спасибо