IDEAS home Printed from https://ideas.repec.org/a/kap/rqfnac/v55y2020i3d10.1007_s11156-019-00867-8.html
   My bibliography  Save this article

What does the timing of dividend reductions signal?

Author

Listed:
  • Xin Che

    (California State University, Fullerton)

  • Kathleen P. Fuller

    (University of Mississippi)

Abstract

Dividend reduction theory suggests that during an economy-wide shock, a relatively early dividend reduction indicates that a firm reduces its cash outflows to pursue positive net present value projects, whereas a relatively late dividend reduction is due only to cash constraints rather than investment strategies. This paper directly tests the dividend reduction theory. Consistent with the theory, we find that during a recession, early-dividend reducers make 5% more firm investment than late-dividend reducers within the reduction year. Further, the investment levels are not significantly different between early and late reducers outside of recessions. The results also suggest that the signaling effect does not persist, implying that in a recession, the investment opportunities pursued by the early reducers are short-lived.

Suggested Citation

  • Xin Che & Kathleen P. Fuller, 2020. "What does the timing of dividend reductions signal?," Review of Quantitative Finance and Accounting, Springer, vol. 55(3), pages 1035-1061, October.
    • Handle: RePEc:kap:rqfnac:v:55:y:2020:i:3:d:10.1007_s11156-019-00867-8
    DOI: 10.1007/s11156-019-00867-8
    as

    Download full text from publisher

    File URL: http://link.springer.com/10.1007/s11156-019-00867-8
    File Function: Abstract
    Download Restriction: Access to full text is restricted to subscribers.
    File URL: https://libkey.io/10.1007/s11156-019-00867-8?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. Eva Liljeblom & Sabur Mollah & Patrik Rotter, 2015. "Do dividends signal future earnings in the Nordic stock markets?," Review of Quantitative Finance and Accounting, Springer, vol. 44(3), pages 493-511, April.
    2. Xin Che & Andre P. Liebenberg & Ivonne A. Liebenberg & Brandon C. L. Morris, 2018. "The effect of growth opportunities on the market reaction to dividend cuts: evidence from the 2008 financial crisis," Review of Quantitative Finance and Accounting, Springer, vol. 51(1), pages 1-17, July.
    3. Pettit, R Richardson, 1972. "Dividend Announcements, Security Performance, and Capital Market Efficiency," Journal of Finance, American Finance Association, vol. 27(5), pages 993-1007, December.
    4. Gustavo Grullon & Roni Michaely & Shlomo Benartzi & Richard H. Thaler, 2005. "Dividend Changes Do Not Signal Changes in Future Profitability," The Journal of Business, University of Chicago Press, vol. 78(5), pages 1659-1682, September.
    5. King Fuei Lee, 2010. "An Empirical Study of Dividend Payout and Future Earnings in Singapore," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 13(02), pages 267-286.
    6. Hull, Tyler J., 2015. "How the timing of dividend reductions can signal value," Journal of Corporate Finance, Elsevier, vol. 30(C), pages 114-131.
    7. Gerald R. Jensen & James M. Johnson, 1995. "The Dynamics of Corporate Dividend Reductions," Financial Management, Financial Management Association, vol. 24(4), Winter.
    8. DeAngelo, Harry & DeAngelo, Linda & Skinner, Douglas J., 1996. "Reversal of fortune Dividend signaling and the disappearance of sustained earnings growth," Journal of Financial Economics, Elsevier, vol. 40(3), pages 341-371, March.
    9. R. David Mclean & Mengxin Zhao, 2014. "The Business Cycle, Investor Sentiment, and Costly External Finance," Journal of Finance, American Finance Association, vol. 69(3), pages 1377-1409, June.
    10. Brickley, James A., 1983. "Shareholder wealth, information signaling and the specially designated dividend : An empirical study," Journal of Financial Economics, Elsevier, vol. 12(2), pages 187-209, August.
    11. Chau-Chen Yang & Chung-Jiun Lin & Yi-Chen Lu, 2000. "Investment Strategy, Dividend Policy and Financial Constraints of the Firm," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 3(02), pages 235-267.
    12. Michaely, Roni & Thaler, Richard H & Womack, Kent L, 1995. "Price Reactions to Dividend Initiations and Omissions: Overreaction or Drift?," Journal of Finance, American Finance Association, vol. 50(2), pages 573-608, June.
    13. Richardson, Gordon & Sefcik, Stephan E. & Thompson, Rex, 1986. "A test of dividend irrelevance using volume reactions to a change in dividend policy," Journal of Financial Economics, Elsevier, vol. 17(2), pages 313-333, December.
    14. John, Kose & Williams, Joseph, 1985. "Dividends, Dilution, and Taxes: A Signalling Equilibrium," Journal of Finance, American Finance Association, vol. 40(4), pages 1053-1070, September.
    15. Heckman, James, 2013. "Sample selection bias as a specification error," Applied Econometrics, Russian Presidential Academy of National Economy and Public Administration (RANEPA), vol. 31(3), pages 129-137.
    16. Mark T. Leary & Michael R. Roberts, 2014. "Do Peer Firms Affect Corporate Financial Policy?," Journal of Finance, American Finance Association, vol. 69(1), pages 139-178, February.
    17. Mitchell, Mark L. & Mulherin, J. Harold, 1996. "The impact of industry shocks on takeover and restructuring activity," Journal of Financial Economics, Elsevier, vol. 41(2), pages 193-229, June.
    18. Healy, Paul M. & Palepu, Krishna G., 1988. "Earnings information conveyed by dividend initiations and omissions," Journal of Financial Economics, Elsevier, vol. 21(2), pages 149-175, September.
    19. Fuller, Kathleen P. & Goldstein, Michael A., 2011. "Do dividends matter more in declining markets?," Journal of Corporate Finance, Elsevier, vol. 17(3), pages 457-473, June.
    20. Malcolm Baker & Jeffrey Wurgler, 2004. "A Catering Theory of Dividends," Journal of Finance, American Finance Association, vol. 59(3), pages 1125-1165, June.
    21. Watts, Ross, 1973. "The Information Content of Dividends," The Journal of Business, University of Chicago Press, vol. 46(2), pages 191-211, April.
    22. Li, Wei & Lie, Erik, 2006. "Dividend changes and catering incentives," Journal of Financial Economics, Elsevier, vol. 80(2), pages 293-308, May.
    23. Merton H. Miller & Franco Modigliani, 1961. "Dividend Policy, Growth, and the Valuation of Shares," The Journal of Business, University of Chicago Press, vol. 34, pages 411-411.
    24. Benartzi, Shlomo & Michaely, Roni & Thaler, Richard H, 1997. "Do Changes in Dividends Signal the Future or the Past?," Journal of Finance, American Finance Association, vol. 52(3), pages 1007-1034, July.
    25. Miller, Merton H & Rock, Kevin, 1985. "Dividend Policy under Asymmetric Information," Journal of Finance, American Finance Association, vol. 40(4), pages 1031-1051, September.
    26. Titman, Sheridan & Wessels, Roberto, 1988. " The Determinants of Capital Structure Choice," Journal of Finance, American Finance Association, vol. 43(1), pages 1-19, March.
    27. Asquith, Paul & Mullins, David W, Jr, 1983. "The Impact of Initiating Dividend Payments on Shareholders' Wealth," The Journal of Business, University of Chicago Press, vol. 56(1), pages 77-96, January.
    28. Chin-Sheng Huang & Chun-Fan You & Hsiao-Fen Hsiao, 2017. "Dividends and Subsequent Profitability: An Examination of a Dual Dividend Stock Market," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 20(01), pages 1-35, March.
    29. Chemmanur, Thomas J. & Tian, Xuan, 2014. "Communicating Private Information to the Equity Market Before a Dividend Cut: An Empirical Analysis," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 49(5-6), pages 1167-1199, December.
    30. Gerard Hoberg & Gordon Phillips & Nagpurnanand Prabhala, 2014. "Product Market Threats, Payouts, and Financial Flexibility," Journal of Finance, American Finance Association, vol. 69(1), pages 293-324, February.
    31. Best, Roger J & Best, Ronald W, 2001. "Prior Information and the Market Reaction to Dividend Changes," Review of Quantitative Finance and Accounting, Springer, vol. 17(4), pages 361-376, December.
    32. DeAngelo, Harry & DeAngelo, Linda, 1990. "Dividend Policy and Financial Distress: An Empirical Investigation of Troubled NYSE Firms," Journal of Finance, American Finance Association, vol. 45(5), pages 1415-1431, December.
    33. Yoon, Pyung Sig & Starks, Laura T, 1995. "Signaling, Investment Opportunities, and Dividend Announcements," The Review of Financial Studies, Society for Financial Studies, vol. 8(4), pages 995-1018.
    34. Steven N. Kaplan & Luigi Zingales, 1997. "Do Investment-Cash Flow Sensitivities Provide Useful Measures of Financing Constraints?," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 112(1), pages 169-215.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Bai-Sian Chen & Hong-Yi Chen & Hsiao-Yin Chen & Fang-Chi Lin, 2022. "Corporate growth and strategic payout policy," Review of Quantitative Finance and Accounting, Springer, vol. 59(2), pages 641-669, August.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Chin-Sheng Huang & Chun-Fan You & Hsiao-Fen Hsiao, 2017. "Dividends and Subsequent Profitability: An Examination of a Dual Dividend Stock Market," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 20(01), pages 1-35, March.
    2. Frankfurter, George M. & Wood, Bob Jr., 2002. "Dividend policy theories and their empirical tests," International Review of Financial Analysis, Elsevier, vol. 11(2), pages 111-138.
    3. Ashiq Ali & Oktay Urcan, 2012. "Dividend increases and future earnings," Asia-Pacific Journal of Accounting & Economics, Taylor & Francis Journals, vol. 19(1), pages 12-25.
    4. Eva Liljeblom & Sabur Mollah & Patrik Rotter, 2015. "Do dividends signal future earnings in the Nordic stock markets?," Review of Quantitative Finance and Accounting, Springer, vol. 44(3), pages 493-511, April.
    5. Jensen, Gerald R. & Lundstrum, Leonard L. & Miller, Robert E., 2010. "What do dividend reductions signal?," Journal of Corporate Finance, Elsevier, vol. 16(5), pages 736-747, December.
    6. Carlos Martins, 2007. "Consistency of Dividend Signalling and Future Maturity Level:Evidence from UK Data," Working Papers de Economia (Economics Working Papers) 40, Departamento de Economia, Gestão e Engenharia Industrial, Universidade de Aveiro.
    7. Małgorzata Snarska & Tomasz K. Wisniewski & Andrzej Zygula, 2020. "Are Emerging Markets Efficient? Evidence from Informational Content of Dividend Changes in Polish Stock Market," European Research Studies Journal, European Research Studies Journal, vol. 0(4), pages 687-717.
    8. Roni Michaely & Stefano Rossi & Michael Weber & Michael Weber, 2017. "The Information Content of Dividends: Safer Profits, Not Higher Profits," CESifo Working Paper Series 6751, CESifo.
    9. Lee, Bong Soo & Mauck, Nathan, 2016. "Dividend initiations, increases and idiosyncratic volatility," Journal of Corporate Finance, Elsevier, vol. 40(C), pages 47-60.
    10. Blau, Benjamin M. & Fuller, Kathleen P., 2008. "Flexibility and dividends," Journal of Corporate Finance, Elsevier, vol. 14(2), pages 133-152, April.
    11. Alderson, Michael J. & Betker, Brian L. & Halford, Joseph T., 2021. "Fictitious dividend cuts in the CRSP data," Journal of Corporate Finance, Elsevier, vol. 71(C).
    12. Mao Liang Li & Chin Man Chui & Chang Qing Li, 2014. "Dividend, liquidity and firm valuation: evidence from China AB share markets," Applied Financial Economics, Taylor & Francis Journals, vol. 24(9), pages 587-603, May.
    13. Harada, Kimie & Nguyen, Pascal, 2005. "Dividend change context and signaling efficiency in Japan," Pacific-Basin Finance Journal, Elsevier, vol. 13(5), pages 504-522, November.
    14. Ham, Charles G. & Kaplan, Zachary R. & Leary, Mark T., 2020. "Do dividends convey information about future earnings?," Journal of Financial Economics, Elsevier, vol. 136(2), pages 547-570.
    15. Bozos, Konstantinos & Nikolopoulos, Konstantinos & Ramgandhi, Ghanamaruthy, 2011. "Dividend signaling under economic adversity: Evidence from the London Stock Exchange," International Review of Financial Analysis, Elsevier, vol. 20(5), pages 364-374.
    16. Szomko Natalia, 2015. "Investor Reaction to Information on Final Dividend Payouts on the Warsaw Stock Exchange – an Event Study Analysis," International Journal of Management and Economics, Warsaw School of Economics, Collegium of World Economy, vol. 45(1), pages 127-146, March.
    17. Brav, Alon & Graham, John R. & Harvey, Campbell R. & Michaely, Roni, 2005. "Payout policy in the 21st century," Journal of Financial Economics, Elsevier, vol. 77(3), pages 483-527, September.
    18. Wei Hao & Udomsak Wongchoti & Martin Young & Jianguo Chen, 2021. "R2 and the corporate signaling effect," International Review of Finance, International Review of Finance Ltd., vol. 21(4), pages 1353-1381, December.
    19. H.Kent Baker & Gary E. Powell & E.Theodore Veit, 2002. "Revisiting the dividend puzzle," Review of Financial Economics, John Wiley & Sons, vol. 11(4), pages 241-261.
    20. Hull, Tyler J., 2015. "How the timing of dividend reductions can signal value," Journal of Corporate Finance, Elsevier, vol. 30(C), pages 114-131.

    More about this item

    Keywords

    Dividend reduction; Recession; Timing; Investment;
    All these keywords.

    JEL classification:

    • G35 - Financial Economics - - Corporate Finance and Governance - - - Payout Policy

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:kap:rqfnac:v:55:y:2020:i:3:d:10.1007_s11156-019-00867-8. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Sonal Shukla or Springer Nature Abstracting and Indexing (email available below). General contact details of provider: http://springer.com .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.