Dividend Changes and Signaling of Future Cash Flows

Posted: 9 Mar 2006

See all articles by Amy Chun-Chia Chang

Amy Chun-Chia Chang

University of Houston; San Francisco State University

Praveen Kumar

University of Houston - Department of Finance

Shiva Sivaramakrishnan

Rice University

Date Written: November 15, 2005

Abstract

We present fresh evidence on the validity of the dividend signaling hypothesis (DSH), by using a new testing approach. We test the unambiguous prediction from the DSH that the association between current dividend changes and future profitability is stronger for firms with higher marginal net benefits from signaling. Using a simple dividend signaling model, we derive three empirically identifiable drivers of the marginal net benefit of signaling: cash flow predictability, market-to-book, and past equity returns. Our empirical tests support the DSH. There is a significant association between current dividend changes and future earnings performance for firms with low cash flow predictability, low market-to-book ratio, and low past equity returns. But, as predicted by the DSH, the association is much weaker for firms with high cash flow predictability, high book-to-market, and high past equity returns. There is also evidence that the marginal signaling benefits at the firm-level are influenced by aggregate factors: the information content of dividend changes is time-varying, increasing (decreasing) in booms (recessions) and in periods of high (low) aggregate stock market performance.

Keywords: Dividend signaling, Cash flow uncertainty, Market-to-book ratio, Time-varying information content

JEL Classification: G35, D82,G30

Suggested Citation

Chang, Chun-Chia and Chang, Chun-Chia and Kumar, Praveen and Sivaramakrishnan, Shiva, Dividend Changes and Signaling of Future Cash Flows (November 15, 2005). Available at SSRN: https://ssrn.com/abstract=881511 or http://dx.doi.org/10.2139/ssrn.881511

Chun-Chia Chang

University of Houston ( email )

Houston, TX 77204-6021
United States

San Francisco State University ( email )

San Francisco, CA
United States

Praveen Kumar (Contact Author)

University of Houston - Department of Finance ( email )

Houston, TX 77204
United States
713-743-4770 (Phone)
713-743-4789 (Fax)

Shiva Sivaramakrishnan

Rice University ( email )

6100 South Main Street
Houston, TX 77005-1892
United States

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