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A note on the cost of capital with fixed payout ratios

Author

Listed:
  • Ralf Diedrich

    (University of Leipzig)

  • Stefan Dierkes

    (University of Göttingen)

  • Hans-Christian Gröger

    (University of Applied Sciences Erfurt)

Abstract

The insights of Modigliani and Miller (Am Econ Rev 53:433–443, 1963) and Miles and Ezzell (15:719–730, https://doi.org/10.2307/2330405 , 1980) on the cost of capital of firms rank among the most important results in financial theory. The underlying assumptions regarding the financial policy, however, can hardly be reconciled with empirical findings. We investigate the implications of an alternative approach that is characterized by a fixed payout ratio. By introducing additional assumptions about investment opportunities, we find relationships between the cost of equity of levered and unlevered firms. The results contribute to explaining empirical findings and open the possibility to base valuation techniques on realistic and yet practicable assumptions.

Suggested Citation

  • Ralf Diedrich & Stefan Dierkes & Hans-Christian Gröger, 2022. "A note on the cost of capital with fixed payout ratios," Review of Quantitative Finance and Accounting, Springer, vol. 59(4), pages 1559-1575, November.
    • Handle: RePEc:kap:rqfnac:v:59:y:2022:i:4:d:10.1007_s11156-022-01085-5
    DOI: 10.1007/s11156-022-01085-5
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    More about this item

    Keywords

    Cost of capital; Dividend policy; Payout ratio; Financing policy; Capital structure;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G35 - Financial Economics - - Corporate Finance and Governance - - - Payout Policy

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