Optimal Payout Ratio under Uncertainty and the Flexibility Hypothesis: Theory and Empirical Evidence

45 Pages Posted: 5 Apr 2010 Last revised: 20 Apr 2014

See all articles by Cheng-Few Lee

Cheng-Few Lee

Rutgers University, Newark, School of Business-Newark, Department of Finance & Economics

Manak Gupta

Temple University - Department of Finance

Hong-Yi Chen

National Chengchi University - Department of Finance

Alice C. Lee

State Street Corporate

Date Written: February 10, 2011

Abstract

Following the flexibility dividend hypothesis used by DeAngelo and DeAngelo (2006), Blau and Fuller (2008), and others, we theoretically extend the proposition of DeAngelo and DeAngelo’s (2006) optimal payout policy in terms of flexibility dividend hypothesis. In addition, we also introduce growth rate, systematic risk, and total risk variables into the theoretical model.

To test our theoretical results derived in this paper, we use the U.S. data during 1969 to 2009 to investigate the impact of growth rate, systematic risk, and total risk on the optimal payout ratio in terms of fixed effects model. We find that a company will reduce its payout when the growth rate increases for the flexibility concern. In addition, we find that there exists a nonlinear relationship between the payout ratio and the risk. In other words, the relationship between the payout ratio and risk is negative (or positive) when the growth rate is higher (or lower) than the rate of return on total assets. Therefore, our theoretical model and empirical results can be used to identify whether flexibility or free cash flow hypothesis should be used to determine the dividend policy.

Keywords: Dividend Policy, Optimal Payout Ratio, Financial Flexibility, Uncertainty

JEL Classification: C1, G35

Suggested Citation

Lee, Cheng-Few and Gupta, Manak C. and Chen, Hong-Yi and Lee, Alice C., Optimal Payout Ratio under Uncertainty and the Flexibility Hypothesis: Theory and Empirical Evidence (February 10, 2011). Journal of Corporate Finance, Vol. 17, No. 3, 2011. Available at SSRN: https://ssrn.com/abstract=1582473 or http://dx.doi.org/10.2139/ssrn.1582473

Cheng-Few Lee (Contact Author)

Rutgers University, Newark, School of Business-Newark, Department of Finance & Economics ( email )

111 Washington Avenue
Newark, NJ 07102
United States
732-445-3907 (Phone)
732-445-5927 (Fax)

Manak C. Gupta

Temple University - Department of Finance ( email )

Fox School of Business and Management
Philadelphia, PA 19122
United States

Hong-Yi Chen

National Chengchi University - Department of Finance ( email )

No. 64, Chih-Nan Road
Section 2
Wenshan, Taipei, 11623
Taiwan

Alice C. Lee

State Street Corporate ( email )

1 Lincoln Street
Boston, MA 02111
United States

Here is the Coronavirus
related research on SSRN

Paper statistics

Downloads
281
Abstract Views
2,135
rank
113,827
PlumX Metrics