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An Empirical Examination of Dividend Policy Following Debt Issues

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  • Long, Michael S.
  • Malitz, Ileen B.
  • Sefcik, Stephan E.

Abstract

This paper empirically examines the underinvestment problem and the use of dividends to expropriate lenders' wealth. Rather than analyzing the market's reaction to potential wealthexpropriating events, a different aspect of potential conflicts of interest is addressed: do managers who control dividends act in a manner consistent with wealth expropriation? If so, then debt issues should be followed by increases in dividends. Two samples of firms are used: those issuing straight debt and those issuing convertible debt. The study finds no evidence that firms manipulate dividend policy to transfer wealth from the bondholders to stockholders. Two possible explanations are suggested. First, wealth expropriation may be a potential problem, but existing bond covenants restricting a firm's ability to pay dividends are effective. Second, firms may believe that reputation has greater value than what can be transferred from creditors in a one-time expropriation of wealth. Since the paper fails to find support for the covenant argument, it concludes that reputation is the most plausible explanation.

Suggested Citation

  • Long, Michael S. & Malitz, Ileen B. & Sefcik, Stephan E., 1994. "An Empirical Examination of Dividend Policy Following Debt Issues," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 29(1), pages 131-144, March.
    • Handle: RePEc:cup:jfinqa:v:29:y:1994:i:01:p:131-144_00
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    Citations

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    Cited by:

    1. Michael P. Ross., 1998. "Dynamic Optimal Risk Management and Dividend Policy under Optimal Capital Structure and Maturity," Research Program in Finance Working Papers RPF-281, University of California at Berkeley.
    2. White, Lourdes Ferreira, 1996. "Executive compensation and dividend policy," Journal of Corporate Finance, Elsevier, vol. 2(4), pages 335-358, July.
    3. Brucato, Peter Jr. & Smith, David M., 1997. "An analysis of the role of firm reputation in the market's reaction to corporate dividends," The Quarterly Review of Economics and Finance, Elsevier, vol. 37(3), pages 647-665.
    4. Mike Adams & Wei Jiang & Tianshu Ma, 2024. "CEO power, corporate risk management, and dividends: disentangling CEO managerial ability from entrenchment," Review of Quantitative Finance and Accounting, Springer, vol. 62(2), pages 683-717, February.
    5. Gul, Ferdinand A., 1999. "Government share ownership, investment opportunity set and corporate policy choices in China," Pacific-Basin Finance Journal, Elsevier, vol. 7(2), pages 157-172, May.
    6. Brockman, Paul & Unlu, Emre, 2009. "Dividend policy, creditor rights, and the agency costs of debt," Journal of Financial Economics, Elsevier, vol. 92(2), pages 276-299, May.
    7. Philip A. Hamill & Wasim Al-Shattarat, 2012. "What Determines the Dividend Payout Ratio for Jordanian Industrial Firms?," Journal of Emerging Market Finance, Institute for Financial Management and Research, vol. 11(2), pages 161-188, August.

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