The Effect of Asymmetric Information on Dividend Policy

The Effect of Asymmetric Information on Dividend PolicyYohanes Kristiawan H16668

Main topicThis article examines the effect

of asymmetric information on dividend policy in light of an alternative explanation based on the pecking order theory.

Theory Used By Article Theory used

◦ Pecking Order Theory◦ Signaling Theory◦ Residual Theory

Previous Research◦ The various explanation of dividend policy can be classified into at least three

categorized of market imperfections; agency costs, asymmetric information, and transaction costs.

◦ Rozeff(1982) and Easterbrook(1984) argue that the dividend payments may serve as a mechanism to reduce agency costs of external equity. The agency costs arise from costs associated with monitoring managers and/ or from risk aversion on the part of managers.

◦ Aharony and Swary(1980); Asquith and Mullins(1983) argue that the evidence indicates a positive relation between stock price response and the sign of the announced dividend change.

◦ Miller and Rock(1985) develop a model in which higher dividends are associated with higher earnings.

◦ Pecking order theory predicts that the higher the level of asymmetric information, the lower the dividends.

◦ Signaling Theory predicts the firm with higher level of asymmetric information will have to pay a higher level of dividends to signal the same level of earnings as a firm with a lower level of asymmetric information.

HypothesisPecking order theory predicts

that the higher the level of asymmetric information, the lower the dividend. Devidends are inversely related to the level of asymmetric information.

Variable UsedVariables:

◦Devidend Yield (DIVYLD)◦Agency costs of (external) equity -

Insider Ownership (INSOWN)◦Growth or investment opportunity –

Growth measure (MTOB)◦Analyst following the firm (ANAL)◦Cash Flow (CFTOB)◦Agency costs of debt and financial

distress (DIST)◦Book Value of asset (BVA)

Method of AnalysisEmpirical model of dividend

policy◦Yi* = β’X + εi◦Yi* =optimum dividend level for firm

i◦Yi =measured dependent variable (of

optimum dividend level)◦X =vector of explanatory variables◦Εi =Disturbance term

ResultAnalyst following (LOGANAL) and

cash flow (CFTOB) are positive and significant

The coefficient of growth opportunities (MTOB) is negative and significant

The distress (DIST) variable is positive and significant

Dividends are unrelated to insider ownership variable (INSOWN)

Firm that resort to external sources for funds attempt to first exhaust their internal funds by paying lower dividend

Larger firms, which have less asymmetric information, pay higher devidends

Issue cost increase with the level of asymmetric information given firm size

Conclusion The empirical result above indicates that dividends are

positively related to both analyst following and cash flow, but negatively related to growth opportunities.

A higher analyst following implies less asymmetric information. The positive relation between dividends and analyst following is consistent with the pecking order theory.

The positive relation between dividend and cash flow and the negative relation between dividend and growth opportunity are consistent with the pecking order theory.

Dividends are unrelated to the insider ownership variable when the level of asymmetric information is explicitly controlled.

Dividend Policy Behaviour in the Jordanian Capital Market

Main topicThis paper examines the dividend

policy behavior of companies listed on the Jordanian capital market

Theory used and previous research Dividend Policy theory Previous research:

◦ Lintner’s (1956) classical paper, US and British corporations follow stable dividend policies.

◦ Kato and Lowentein (1995) find that Japanese companies follow stable dividend policy. Similarly, this conclusion was arrived at by Shevlin (1982), Leithner and Zimmermann (1993), and Lasfer (1996) who examined Canadian, European, and British corporations respectively.

◦ Adaoglu (2000) examined the dividend policy of Turkish corporations. Contrary to the empirical evidence which supports stability, his empirical results show that Turkish companies follow unstable cash dividend policies.

◦ Aivazian et al. (2001) examine the dividend behaviour of firms operating in eight developing countries as well as 100 American firms over the time period 1981-1990.

HypothesisJordanian listed companies follow

stable cash dividend policiescurrent dividends more sensitive

to past dividendsthe 1996 introduction of dividend

tax had any impact on the dividend behaviour of listed companies

Variables UsedThree main variables which are

used in this paper:◦dividend per share◦dividend payout ratio◦earnings per share

Method of analysisPooled ordinary least squaresThe fixed effects modelThe random effects model to

choose the more appropriate model for our sample.

Result

ConclusionThe empirical research in this paper focused on

the time period 1985-1999. Based on a sample of 44 Jordanian companies which are listed on ASM, the empirical evidence shows that these companies follow stable dividend policies.

The results indicate that lagged dividend per share is more important than current earnings per share in determining current dividend per share.

The empirical results indicate that the 1996 imposition of taxes on dividends did not have any significant impact on the dividend behaviour of the listed companies.

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