A Survey of Management Views on Dividend Policy

Author(s): H. Kent Baker, Gail E. Farrelly and Richard B. Edelman

Source: Financial Management, Vol. 14, No. 3 (Autumn, 1985), pp. 78-84
Published by: Wiley on behalf of the Financial Management Association International
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 A Survey of Management Views
Dividend Policy
H. Kent Baker, Gail E. Farrelly, and Richard B. Edelman
ProfessorsBaker and Edelman are at the Kogod College of Business
Administration,The American University, Washington,D.C. and
Professor Farrelly is at Rutgers University,Newark, New Jersey.
I. Introduction
The effect of dividend policy on a corporation's
marketvalue is a subject of long-standing controversy.
Black [2, p. 5] epitomizes the lack of consensus by
stating"The harderwe look at the dividend picture, the
more it seems like a puzzle, with pieces thatjust don't
fit together."
Because the academic community has been unable
to provide clear guidance about dividend policy, a shift
in emphasis is proposed. In the spirit of Lintner's semi-
nal work [II], we asked a sample of corporate finan-
cial managers what factors they considered most im-
portant in determining their firm's dividend policy.
Our objectives were as follows:
(i) to compare the determinantsof dividend policy
today with Lintner's behavioral model of cor-
porate dividend policy and to assess manage-
ment's agreement with Lintner's findings;
(ii) to examine management's perception of signal-
ing and clientele effects; and
The authorswish to express theirappreciationto RobertA. Taggartand
the two anonymousreferees for their helpful suggestions.
78
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on
(iii) to determine whether managers in different in-
dustries share similar views about the determi-
nants of dividend policy.'
The remainingportion of this paper consists of three
sections. Section II sets forth the survey design. Sec-
tion III presents the research findings and compares
them with theory and other empirical evidence. Sec-
tion IV discusses conclusions and limitations of the
study. Because research on dividend policy is already
well documented [3], a separate section on the divi-
dend literature is not provided. Instead, relevant as-
pects of the literatureare incorporatedinto Section III.
II. Survey Design
The firms surveyed were listed on the New York
Stock Exchange (NYSE) and classified by four-digit
'Whetherindustryregulationinfluencesdividendpolicy is a potentially
richissue, since it is quiteconceivable thatregulationcreates incentives
for managementto adopt a different payout policy than nonregulated
firms. Although briefly addressed in this article, this issue has been
examinedelsewhere by Edelman, Farrelly, and Baker [61.
BAKER,FARRELLY,
EDELMAN/ASURVEYON DIVIDENDPOLICY 79

Exhibit 1. Major Determinants of Corporate Dividend Policy

Level of Importance
Maxi- Standard X2
None Slight Moderate Great mum Devi- Proba-
Determinant 0 1 2 3 4 Mean Rank ation bility Industry
1 Anticipated level of firm's future earnings 3.40% 6.80% 89.80% 3.20 1 .74 Mfg
1.75 14.04 84.21 3.12 1 .71 .4572* W/R
1.75 7.89 90.35 3.21 1 .66 Util

9 Pattern of past dividends 6.12 29.25 64.63 2.73 2 .89 Mfg

1.75 29.82 68.42 2.86 2 .74 .4390* W/R
2.63 25.44 71.93 2.94 3 .78 Util

8 Availability of cash 14.29 22.45 63.27 2.70 3 1.04 Mfg

22.81 21.05 56.14 2.42 4 1.15 .0273t W/R
21.24 34.51 44.25 2.35 4 1.02 Util

7 Concernabout maintainingor increasing stock 13.61 44.22 42.18 2.30 4 .87 Mfg
price 15.79 28.07 56.14 2.47 3 .85 .0001t W/R
3.51 22.81 73.68 2.96 2 .79 Util
*An asteriskindicates inadequatecell size and the chi-square test may not be valid.
tUnderlining indicates a significant relationshipat the .05 level of significance.
Mfg = manufacturing;W/R = wholesale/retail;Util = utility.

StandardIndustrialClassification (SIC) codes. A total
of 562 NYSE firms were selected from three industry
groups:utility (150), manufacturing(309), and whole-
sale/retail (103).
A mail questionnairewas used to obtain information
about corporate dividend policy. The questionnaire
consisted of three parts: (i) 15 closed-end statements
about the importance of various factors that each firm
used in determining its dividend policy; (ii) 18 closed-
end statements about theoretical issues involving cor-
poratedividend policy, and (iii) a respondent's profile
including such items as the firm's dividends and earn-
ings per share.
A pilot test of the preliminary questionnaire was
conducted among 20 firms selected from the three in-
dustry groups but not included in the final sample of
562 firms. The final survey instrumentwas then sent to
the chief financial officers (CFOs) of the 562 firms,
followed by a second complete mailing to improve the
response rate and reduce potential nonresponse bias.
The survey, which was conducted during the period
between February and April 1983, did not require
firms to identify themselves.
The survey yielded 318 usable responses (a 56.6%
response rate), which were divided among the three
industrygroups as follows: 114 utilities (76.0%), 147
manufacturingfirms (47.6%), and 57 wholesale/retail
(55.3%). Based on dividend and earnings per share
data provided by the respondents, the 1981 average
dividend payout ratios were computed. The payout
ratio of the responding utilities (70.3%) was consider-
ably higher than for manufacturing (36.6%) and
wholesale/retail (36.1%).2
III. Results and Discussion
A. Determinants of Dividend Policy
Lintner's classic 1956 study [11] found that major
changes in earnings "out of line" with existing divi-
dend rates were the most importantdeterminantof the
company's dividend decisions. However, because
these managers believed that shareholders preferred a
steady streamof dividends, firms tended to make peri-
odic partial adjustments toward a target payout ratio
ratherthan dramatic changes in payout. Thus, in the
2In the electric utility segment, the dividendpayoutratiocan be distort-
ed by non-cashitems such as allowance for funds used duringconstruc-
tion (AFUDC). Moody's Public UtilityManual reportsthat in 1981 (the
year surveyed), AFUDC made a substantialcontribution to electric
utility net income. In that year, average earnings per share for the
industrywas $10.16 from which $7.16 was paid in dividends. This
representsan averageutilitypayoutof 70.5% in contrastwith 34%in the
othersegments. If AFUDC is excluded from net income, earnings are
$4.79 per share. Earningsat this level would representa utility payout
ratio of nearly 150%.
Firms in the other industrysegments surveyed also have non-cash
items charged or added to their income figure. However, Compustat
shows no equivalent items in those segments which are consistently
usedby all firmsandhave such a profoundeffect on reportedincome. It
is ourbelief thatwith or withoutan adjustmentin the utility payoutratio
for AFUDC, utilities can be viewed as high payout firms relative to
manufacturingand wholesale/retailfirms.

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80
short run, dividends were smoothed in an effort to
avoid frequent changes.
Fama and Babiak's [8] examination of several alter-
native models for explaining dividend behavior sup-
ports Lintner's position that managers increase divi-
dends only after they are reasonably sure that they can
permanently maintain them at the new level.
To examine how well Lintner's model describes
current practice, the respondents were asked to indi-
cate the importance of each of 15 factors in determin-
ing their firm's actual dividend policy. A five-point
equal interval scale was used for this purpose: 0 = no
importance, 1 = slight importance, 2 = moderate
importance,3 = great importance, and 4 = maximum
importance. It should be noted that the questionnaire
does not follow Lintner's model exactly.
Exhibit 1 provides summary statistics on the major
determinantsof corporate dividend policy as reported
by the three industrygroups.3The results show that the
same four determinants (identified later by "D") are
consideredmost importantby the three industrygroups
when ranked by the mean response. The determinant
numbersrepresent the order in which each factor was
presented in the questionnaire.
The most highly ranked determinants are the antici-
pated level of a firm's future earnings (Dl) and the
pattern of past dividends (D9). The high ranking of
these two factors is consistent with Lintner's findings.
A thirdfactor cited as importantin determining divi-
dend policy is the availability of cash (D8). Although
Lintnerdoes not directly address this determinant, Van
Hore [19, p. 23] and Weston and Brigham [20, p.
675] note that liquidity is an important managerial
consideration.
A fourth major determinant is concern about main-
taining or increasing stock price (D7). This concern is
particularlystrong among utilities who rankedthis fac-
tor second in importance.
B. Issues Involving Dividend Policy
The study's second objective was to investigate
CFOs' perceptions of certain specific issues. The re-
spondents were asked to indicate their general opinion
about each of 18 closed-end statements based on a
seven-point equal interval scale: - 3 = strongly dis-
agree, -2 = moderately disagree, -1 = slightly
disagree, 0 = no opinion, + 1 = slightly agree, + 2
3Summarystatisticson all 15 determinantsof corporatedividendpolicy
are available from the authors.
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FINANCIALMANAGEMENT/AUTUMN1985
= moderately agree, and + 3 = strongly agree. Ex-
hibit 2 provides summary statistics on the responses to
each of the 18 statements (identified later by "S") for
the three industrygroups. The statement numbers refer
to the order in which the statements appeared in the
questionnaire.
Attitudes on Lintner's Findings. One issue was
the level of agreement with statements supporting
Lintner'sresearch findings, namely, S2, S3, S9, S10,
and S 17. The results show that several such statements
command the highest level of agreement. For exam-
ple, two of the highest ranked statements were that a
firm should avoid making changes in its dividend rates
that might soon have to be reversed (S10) and should
strive to maintain an uninterruptedrecord of dividend
payments (S17). Respondents also generally agreed
that a firm should have a target payout ratio and should
periodically adjust the payout toward the target (S3).
Lintner's field work also suggests that managers
focus on the change in the existing rate of dividend
payout, not on the dollar amount of dividends (S9) so
that investment requirements generally have little ef-
fect on modifying the pattern of dividend behavior
(S2). On average, managers expressed no strong opin-
ion on either of these statements.
Although management's perceptions could differ
significantly from actual decisions, the results in Ex-
hibit 1 do not suggest this. That is, managers' views
aboutcontinuity of dividend policy seem to be translat-
ed into factors (DI and D9) that are in fact consistent
with dividend continuity.
Attitudes on Theoretical Issues. A major con-
troversy in the literature involves the relationship be-
tween dividends and value. Miller and Modigliani
(MM) [15] suggest that dividend policy has no effect
on the value of the corporation in a world without
taxes, transaction costs, or other market imperfec-
tions. However, dividends may be relevant to the ex-
tent that market imperfections exist. Some of the ex-
planations for dividend relevance include signaling
and clientele effects.
Exhibit 2 shows that respondents from all three in-
dustry groups agreed relatively strongly that dividend
payout affects common stock prices (S1). The utilities
showed the highest level of agreement with this state-
ment. These results seem consistent with the finding
reportedin Exhibit 1 that concern about maintaining or
increasing stock price (D7) is a major determinant of
corporate dividend policy, especially for utilities.
Management attitudes were also sought on several
othertheoretical issues. The first issue involves signal-
 81
EDELMAN/ASURVEYON DIVIDENDPOLICY
BAKER,FARRELLY,

Exhibit 2. Issues Involving Corporate Dividend Policy

Standard x2
Disagreement Agreement Devi- Proba-
Statement -3 -2 -1 0 +1 +2 +3 Mean Rank ation bility Industry
. _
.

10 A firm should avoid making changes in its 1.37% 11.64% 86.99% 2.47 1 .91 Mfg
dividendratesthat might have to be reversedin a 7.02 5.26 87.72 2.16 2 1.46 .0155*t W/R
.00 8.77 91.23 2.61 2 .77 Util
year or so.
4 Reasons for dividend policy changes should be 2.05 20.55 77.40 2.09 2 1.28 Mfg
.00 19.30 80.70 2.14 3 1.04 .3189* W/R
adequatelydisclosed to investors.
.88 28.95 70.18 2.02 3 1.09 Util
17 A firm should strive to maintainan uninterrupted 1.36 25.85 72.79 1.97 3 1.05 Mfg
recordof dividend payments. 3.51 10.53 85.96 2.28 1 1.25 .0001*t W/R
.00 6.14 93.86 2.63 .72 Util
4
3 A firm should have a target payout ratio and 7.53 29.45 63.01 1.47 4 1.50 Mfg
3.51 17.54 78.95 2.09 4 1.20 .1715 W/R
periodicallyadjust the payout toward the target.
10.53 24.56 64.91 1.42 6 1.65 Util
1 Dividendpayoutaffects the price of the common 6.80 39.46 53.74 1.41 5 1.02 Mfg
stock. 7.02 42.11 50.88 1.46 5 1.23 .0059t W/R
3.51 21.93 74.56 1.99 4 1.22 Util
7 Investorshave differentperceptionsof the relative .69 45.83 53.47 1.38 6 1.04 Mfg
riskiness of dividends and retainedearnings. 3.57 42.86 53.57 1.34 6 1.28 .3286* W/R
1.76 35.96 62.28 1.62 5 1.16 Util
14 Dividend paymentsprovide a "signaling device" 6.80 38.10 55.10 1.37 7 1.35 Mfg
of future prospects. 7.02 49.12 43.86 1.18 7 1.26 .6904 W/R
7.02 42.11 50.88 1.19 10 1.38 Util
5 The marketuses dividend announcementsas 5.52 55.86 38.62 1.02 8 1.29 Mfg
informationfor assessing security value. 8.77 52.63 38.60 1.07 8 1.47 .2040 W/R
5.26 42.98 51.75 1.33 8 1.39 Util
9 A change in the existing dividendpayout is more 10.27 49.32 40.41 .86 9 1.60 Mfg
important than the actual amount of dividends. 21.05 50.88 28.07 .40 12 1.67 .000I t W/R
34.21 44.74 21.05 -.21 16 1.85 Util
16 A stockholderis attractedto firms which have 6.85 58.22 34.93 .80 10 1.32 Mfg
dividendpolicies appropriateto the stockholder's 10.53 45.61 43.86 .88 10 1.48 .0225t W/R
6.14 39.47 54.39 1.37 7 1.29 Util
particulartax environment.
15 Capital gains expected to result from earnings 6.29 58.04 35.66 .76 11 1.37 Mfg
retentionare riskier than are dividend 15.79 52.63 31.58 .51 11 1.47 .2816 W/R
9.65 51.75 38.60 .85 12 1.44 Util
expectations.
6 Managementshould be responsive to its 12.33 54.11 33.56 .68 12 1.52 Mfg
shareholders'preferencesregardingdividends. 8.77 56.14 35.09 .91 9 1.52 .0240t W/R
7.02 40.35 52.63 1.22 9 1.47 Util
12 Investorsin low tax bracketsare attractedto 10.96 63.01 26.03 .50 13 1.41 Mfg
high-dividendstocks. 15.79 56.14 28.07 .39 13 1.57 .1057 W/R
9.65 50.00 40.35 .86 11 1.47 Util
2 New capital investmentrequirementsof the firm 21.92 38.36 39.73 .38 14 1.88 Mfg
generally have little effect on modifying the 31.58 31.58 36.84 .09 15 1.97 .0786 W/R
patternof dividend behavior. 24.78 23.89 51.33 .72 14 2.05 Util
11 Stockholdersin high tax bracketsare attractedto 19.31 57.93 22.76 .24 15 1.56 Mfg
low-dividend stocks. 17.86 55.36 26.79 .29 14 1.59 .0075t W/R
14.91 41.23 43.86 .83 13 1.61 Util
8 Dividend distributionsshould be viewed as a 28.08 36.30 35.62 .13 16 1.97 Mfg
residualafter financingdesired investmentsfrom 38.60 26.32 35.09 -.07 16 2.12 .0001t W/R
available earnings. 61.95 27.43 10.62 -1.35 17 1.78 Util
13 Financingdecisions should be independentof a 43.54 27.21 29.25 -.36 17 2.12 Mfg
firm's dividend decisions. 49.12 22.81 28.07 -.58 17 2.04 .7495 W/R
38.60 28.07 33.33 -.10 15 2.04 Util
18 Investorsarebasically indifferentbetween returns 55.48 38.36 6.16 - 1.33 18 1.50 Mfg
from dividends versus those from capital gains. 60.71 33.93 5.36 - 1.46 18 1.54 .0103t W/R
76.32 18.42 5.26 -1.77 18 1.30 Util
*Anasteriskindicatesinadequate cell size andthe chi-squaretest maynot be valid.
tUnderlining at the .05 level of significance.
indicatesa significantrelationship
Mfg = manufacturing; W/R = wholesale/retail; Util = utility.

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82
ing effects. Managers have access to information about
the firm's expected cash flows not possessed by outsid-
ers and thus, changes in dividend payout may provide
signals about the firm's future cash flows that cannot
be communicated credibly by other means. With some
exceptions, empirical studies indicate that dividend
changes convey some unanticipatedinformation to the
market [1, 5, 9, 10, 16, 21].
Three statements involved signaling effects (S4, S5,
and S14). The respondents from all three industry
groups agreed, on average, that dividend payments
provide a "signaling device" of future company pros-
pects (S14) and that the market uses dividend an-
nouncements as informationfor assessing security val-
ue (S5). The respondents also demonstrated a high
level of agreement that the reasons for dividend policy
changes should be adequately disclosed to investors
(S4).
Another theoretical issue concerns the extent to
which investors with different dividend preferences
form clienteles. Two possible reasons for the forma-
tion of clienteles are different perceptions of the rela-
tive riskiness of dividends and retained earnings and
different investor tax brackets. Although the research
evidence is mixed, it does learn toward the existence of
clientele effects [7, 12, 171.
Seven statements involved clientele effects (S6, S7,
S11, S12, S15, S16, and S18) and these commanded
mixed agreement. Respondents from all three industry
groups thought that investors have different percep-
tions of the relative riskiness of dividends and retained
earnings (S7) and hence are not indifferent between
dividend and capital gain returns(S 18). Yet, there was
only slight agreement that a stockholder is attractedto
firms with dividend policies appropriateto that stock-
holder's tax environment (S16) and that management
should be responsive to its shareholders' dividend
preferences (S6). However, the utilities differed from
the other two groups, expressing significantly higher
levels of agreement on S16 and S6.
C. Industry Influence on Dividend Policy
The study's final objective was to investigate differ-
ences in managers' attitudes across three broad indus-
try groups. Studies by Dhrymes and Kurz [4], McCabe
[13], and Michel [14] have previously detected some
effect of industry classification on corporate dividend
policy. However, Rozeff [18] concluded that a com-
pany's industry does not help to explain its dividend
payout ratio. Rozeff's conclusion is not applicable to
utilities since he intentionally excluded regulated com-
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FINANCIALMANAGEMENT/AUTUMN1985
panies because their policies may be affected by their
regulatory status.
Chi-square analysis was used to test for differences
in the responses among the three industry groups. In
order to perform these tests and to avoid inadequate
cell sizes, both the five-interval importance scale and
the seven-interval disagreement-agreement scale were
collapsed into three classes as shown in Exhibits 1 and
2, respectively. Nevertheless, some warnings about
low cell counts resulted because of the highly skewed
nature of the responses. These tests showed that the
responses of the three groups differed significantly at
the .05 level among eight of the 15 determinants of
dividend policy (partly shown in Exhibit 1) and nine of
the 18 issues (Exhibit 2).
FurtherChi-square tests were performed using pair-
wise comparisons between the industry groups on all
15 determinants and 18 issues. The results revealed
that the manufacturingand wholesale/retail firms had
no significant differences in responses at the .05 level
for those questions with adequatecell sizes. Hence, the
differences occurred primarily as a result of the utili-
ties' responses relative to either manufacturing or
wholesale/retail.
The reported differences between the utilities and
the other firms may be due to regulation. For example,
since regulation gives utilities monopoly power over a
product enjoying steady demand, their earnings are
comparatively stable. Their risk of having to reduce
dividends because of an unexpected decline in earn-
ings is thus less than that for many other companies.
It is also plausible that regulation creates incentives
for managementto adopt a different payout policy than
nonregulatedfirms. This incentive may stem from the
fact that funds retained inside the firm are implicitly
subject to expropriationby the regulators in future rate
cases. Hence, managers of regulated firms may view
the world differently than managers operating in a
competitive environment.
On the other hand, the differences may have nothing
to do with regulationper se but with other characteris-
tics. For example, Rozeff [18] notes that the apparent-
ly significant industry effect found in past studies re-
sults from the fact that other variables are often similar
within a given industry. These similarities are the fun-
damental reason why companies in the same industry
have similar dividend payouts.
Utilities are high payout firms relative to the two
other groups and this characteristic makes them differ-
ent. To control for dividend payout, the responses by
managers in the highest payout quartile for 1981 of
 EDELMAN/ASURVEYON DIVIDENDPOLICY
BAKER,FARRELLY,
nonregulated firms(51 firms)werecomparedwith the
utilities(114 firms).4
With a few exceptions, the resultswere strikingly
similarto thosein Exhibit2. Althoughthe meanrank-
ings changedlittle, the responsesof the higherpayout
nonregulated firmsmoreclosely resembledtheutilities
on two statements- namely,dividendpayoutaffects
the priceof the commonstock (Si) and management
should be responsive to its shareholders'dividend
preferences(S6).
Overall, the findings suggest that the attitudesof
even high-payoutnonregulatedfirmmanagersaredif-
ferentfromthose of utility managers.Hence, regula-
tion may be responsiblefor some of the relationsob-
served.
IV. Conclusions
Before drawingany conclusions, several limiting
aspectsof this researchshould be noted. Survey re-
searchtypicallyinvolves some non-responsebias and
althoughsteps were taken to ensure a high response
rate,this studyis no exception.The problemof non-
responsebias is potentiallygreatestamong manufac-
turingfirms which had the lowest responserate. An-
other limiting factor is that views about dividend
policy were obtainedonly from chief financialoffi-
cers. AlthoughCFOs' views should reflect the atti-
tudesof top managementmore generally, CFOs are
not the only individualsinvolved in dividendpolicy
decisions.Finally,coverageis restrictedto threebroad
industrygroups representingonly New York Stock
Exchangefirms.
With these caveats in mind, several conclusions
emergefrom this survey. First, the resultsshow that
the majordeterminantsof dividendpaymentstoday
appearstrikinglysimilarto Lintner'sbehavioralmodel
developedduringthe mid-1950's. In particular,re-
spondentswere highly concernedwith dividendcon-
tinuity.
Second, the respondentsseem to believe thatdivi-
dend policy affects sharevalue, as evidencedby the
importanceattachedto dividendpolicy in maintaining
orincreasingstockprice.Althoughthe surveydoes not
uncoverthe exact reasonsfor theirbelief in dividend
relevance,it does provideevidence that the respon-
dents are generallyaware of signaling and clientele
effects.
Finally, the opinions of the respondentsfrom the
utilitiesdiffer markedlyfrom those of the other two
4Summary statisticsof highpayoutregulated
andnonregulated
firmsare
availablefromthe authors.
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83
industries.The resultssuggestthatmanagersof regu-
lated firms have a somewhatdifferentview of the
worldthanmanagersoperatingin a competitiveenvi-
ronment.Thus,it maybe worthwhileto segregatereg-
ulatedfromnonregulatedfirmswhen examiningdivi-
dendpolicy.
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84 FINANCIALMANAGEMENT/AUTUMN1985

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NEW YORK SOCIETY OF SECURITYANALYSTS

SPECIAL ANNOUNCEMENT

The New York Society of Security Analysts Inc. is now sponsoringa Faculty Resource Program.This
programis designed to matchthe expertiseand interestsof universityfaculty memberson sabbaticalor other
leave with financial institutions needing expert assistance in special research projects, in-house training
programs or other activities.

The New York Society is currentlydeveloping a nationalrosterof faculty memberswho will be available
for periodsof several monthsto a year or more. Thereis no chargeto faculty for listing with this programnor
to institutions for using the program to identify consultants. Financial arrangements between institutions and
individuals are the responsibility of the parties involved.

Faculty or institutionsinterestedin the New York Society's Faculty Resource Programshould contact:
Professor Fred Renwick
Department of Finance
New York University Graduate School of Business
100 Trinity Place
New York, NY 10006

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