The Dividend Substitution Hypothesis: Australian Evidence

Abstract:     
Using data prior to the Jobs & Growth Tax Relief Reconciliation Act of 2003 Grullon and Michaely (2002) find that firms in the US are financing repurchases with funds that would otherwise have been used to increase dividends. This finding supports the hypothesis that firms are substituting from dividends towards repurchases. This paper examines the relation between share repurchases and dividend changes in a non-classical tax environment, where dividends are not tax disadvantaged relative to capital gains. We find that repurchase yield is positively related to dividend increases, suggesting that Australian firms are not buying back shares with funds generated by altering dividend policy. Our findings have important implications for our understanding of the effect of taxation on firms' payout policy.

Keywords: payout, imputation, franking, buyback, repurchase, off-market, equal access

JEL Classifications: G30, G32, G35

Working Paper Series