Market Selection and Payout Policy Under Majority Rule

Pablo Beker

The Warwick Economics Research Paper Series (TWERPS) from University of Warwick, Department of Economics

Abstract: The purpose of this paper is to explain how the choice between distributing cash through dividends or shares repurchases affects the firm’s ability to raise capital in the financial market. I assume investors have quadratic preferences over wealth but different prior beliefs about the likelihood a distribution takes place. At date zero agents purchase shares given their expectation about the firm’s payout method. At date 1 the firm announces whether the payout takes place that period. As in Brennan and Thakor [3], investors with different shareholdings have different incentives to gather information and, therefore, heterogeneous preferences about payout methods at date 1. I assume the firm adopts the payout method preferred by the majority of shareholders at date 1 under the one share/one vote rule. At date 2 the firm is liquidated and the remaining output is distributed among its shareholders. If at date zero agents disagree but not too much on the probability a distribution takes place, I show that a firm expected to pay dividends raises strictly more financial capital than an otherwise identical firm which is expected to repurchase shares. Therefore, a larger fraction of cash is distributed as dividend than through repurchases. One concludes that even in the presence of a small tax disadvantage financial markets favor dividend paying firms.

Keywords: Market Selection Hypothesis; Payout Policy; Production under Incomplete Markets (search for similar items in EconPapers)
JEL-codes: D52 D84 G35 (search for similar items in EconPapers)
Pages: 37 pages
Date: 2007
New Economics Papers: this item is included in nep-bec
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https://warwick.ac.uk/fac/soc/economics/research/w ... s/2008/twerp_814.pdf

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Working Paper: MARKET SELECTION AND PAYOUT POLICY UNDER MAJORITY RULE (2007)
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Persistent link: https://EconPapers.repec.org/RePEc:wrk:warwec:814

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