Investment as the Opportunity Cost of Dividend Signaling

68 Pages Posted: 10 Jun 2019 Last revised: 6 Jan 2020

See all articles by Zachary Kaplan

Zachary Kaplan

Washington University in St. Louis - John M. Olin Business School

Gerardo Perez Cavazos

Harvard University - Business School (HBS)

Date Written: January 6, 2020

Abstract

We examine the interaction between investment opportunities and the information content of dividends. Consistent with investment opportunities acting as the opportunity cost of communicating earnings information through dividends, we show that both dividend levels and changes contain more earnings information among firms with weaker investment opportunities. In contrast, firms with stronger investment opportunities are more likely to fund dividend changes by changing investment policy. Variation in aggregate investment opportunities leads to inter-temporal variation in the earnings information content of dividend changes, and aggregate investment opportunities explain inter-temporal variation in payout better than behavioral models (e.g., the ‘dividend premium’). Market reaction tests suggest that earnings news, and not investment, is the ‘signal’ driving market reactions. Collectively, our results contrast with the predictions of costly signaling theories, as we show that dividends provide earnings information predominantly when the costs of foregone investment are low.

Keywords: dividends, payout policy, signaling, earnings, capital structure

JEL Classification: G15, G32, G35

Suggested Citation

Kaplan, Zachary and Perez Cavazos, Gerardo, Investment as the Opportunity Cost of Dividend Signaling (January 6, 2020). Available at SSRN: https://ssrn.com/abstract=3393065 or http://dx.doi.org/10.2139/ssrn.3393065

Zachary Kaplan (Contact Author)

Washington University in St. Louis - John M. Olin Business School ( email )

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States

Gerardo Perez Cavazos

Harvard University - Business School (HBS) ( email )

Soldiers Field Road
Morgan 270C
Boston, MA 02163
United States

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