Does the Pricing of Financial Reporting Quality Change Around Dividend Changes?
48 Pages Posted: 16 Apr 2005
Date Written: August 29, 2005
We examine whether accrual earnings quality is a priced information risk factor in a dividend change setting. We define information risk as the probability that firm-specific financial statement information pertinent to investor pricing decisions is of low precision, and use the factor-mimicking portfolio returns formed on the Dechow-Dichev (2002) AQ metric to proxy for the Information Risk (IR) factor returns. We augment the Fama-French three-factor model with this IR factor, and find that dividend initiation and increase firms exhibit a decrease in the factor loadings on the IR factor while dividend decrease firms exhibit an increase in the corresponding factor loadings, and such changes in the factor loadings occur months prior to the dividend change announcements. Further analysis indicates that dividend initiation and increase (decrease) firms experience a corresponding improvement (decrease) in the precision of earnings information (proxied by changes in the AQ metric) and a reduction (an increase) in analyst forecast dispersion and stock return volatility in the years surrounding the structural break on the IR factor loadings. Overall, our results are consistent with investors treating the information risk associated with the precision of financial statement information as a priced risk factor, with both the precision and pricing changing in predictable directions around dividend changes.
Keywords: Dividends, information risk, accruals quality, systematic risk
JEL Classification: G12, G35, M41
Suggested Citation: Suggested Citation