The Relationship between Dividend Payout and Price to Earnings

28 Pages Posted: 10 Aug 2017 Last revised: 16 Oct 2017

See all articles by C. N. V. Krishnan

C. N. V. Krishnan

Case Western Reserve University - Department of Banking & Finance

Yifei Chen

Case Western Reserve University - Department of Banking & Finance

Date Written: August 9, 2017

Abstract

Using a large database of all S&P 1500 index firms spanning a 88-quarter period from 1995 through 2016, we document that current period dividend payout is significantly and positively correlated with next period Price-to-Earnings ratio (PE) for high market cap firms and manufacturing firms, and significantly negatively correlated for high book-to-market firms. Market cap (firm size), book-to-market ratio (a proxy for market perception of growth potential) and industry matter for determining PE levels as a function of payout levels. However, once the PE levels are determined, current period dividend payout change is significantly and negatively associated with next period PE change. We find evidence supporting an argument that an increase in current period payout signals reduced investment opportunities and increased risk that reduce future PE ratios. Thus, modeling determinants of PE must take into account industry, size, risk and market perception of growth potential for a firm.

Keywords: Price-to-Earnings ratio, PE ratio, dividend payout ratio, industry, market cap, firm size, book-to-market ratio, growth opportunities, firm risk

JEL Classification: G35

Suggested Citation

Krishnan, C. N. V. and Chen, Yifei, The Relationship between Dividend Payout and Price to Earnings (August 9, 2017). Available at SSRN: https://ssrn.com/abstract=3016040 or http://dx.doi.org/10.2139/ssrn.3016040

C. N. V. Krishnan (Contact Author)

Case Western Reserve University - Department of Banking & Finance ( email )

10900 Euclid Ave.
PBL 363
Cleveland, OH 44106-7235
United States
216-368-2116 (Phone)

HOME PAGE: http://weatherhead.case.edu/faculty/c-n-v-krishnan

Yifei Chen

Case Western Reserve University - Department of Banking & Finance ( email )

10900 Euclid Ave.
Cleveland, OH OH 44106
United States

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