Is Asymmetric Information Associated with UK
Husam Basiddiq
Assistant Lecturer in Accounting
B.O 844, P.C 211, Salalah,
Sultanate of Oman
Email: h.basiddiq@hotmail.com
Khaled Hussainey*
Senior Lecturer in Accounting
Accounting and Finance Division
Email: khaled.hussainey@stir.ac.uk
Forthcoming
Journal of Applied Accounting Research
2010
* Corresponding author.
Abstract
Purpose: We investigate whether asymmetric information is associated with corporate dividend policy. Our proxy for asymmetric information is the number of analysts following UK
Methodology: We use a multiple regression model to investigate the relation between asymmetric information and dividend policy. Data is collected for a sample of 282 companies listed in the London Stock Exchange.
Findings: Consistent with our predictions, we find that there is a negative and statistically significant relation between UK UK
Originality: We contribute to the literature by being the first study to examine in the UK
Classification: Research Paper
Keywords: Dividend payments, asymmetric information, analysts following, firm characteristics, United Kingdom
1. Introduction
In spite of much literature on the determinants of corporate dividend policy, the dividend puzzle still exists. There is as yet no sole and satisfactory evidence explaining firms’ dividend decision and behavior (Naceur, et al, 2006). Prior finance literature provided some empirical evidence regarding the factors affecting firms’ dividend policy. Researchers in the United States
In the United Kingdom Walker
We focus on companies in the United Kingdom UK US UK UK
Our study makes an important and novel contribution to the literature on the determinants of corporate dividend policy. So far as we are aware it is the first UK UK UK
The reminder of the paper is organised as follows. The next section discusses dividend theories. Section 3 reviews prior literature and develops the research hypotheses. Sections 4 and 5 discuss the research design, sample and data. Section 6 discusses our empirical results. Section 7 concludes and suggests lines for future research.
2. Dividend theories
2.1 Agency theory
Jensen and Meckling (1976) defined agency theory as an engagement between two or more people, namely, the principals (or owners) and the agent (or manager), whereby principals grant an agent authority to perform services on their behalf, including decision-making. Al-Najjar and Hussainey (2010) stated that agency theory assumes that inherent conflicts of interests exist between the principal/owner and manager/agent, resulting in an agency-cost problem. In order to mitigate this problem, Rozeff (1982), Easterbrook (1984), Jensen et al. (1992), and Bhaduri (2002) maintained that it can be alleviated by distributing dividends to the shareholders. Hence, a negative association between UK
2.2 Signaling theory
Bhattacharya (1979), John and Williams (1985), and Miller and Rock (1985) revealed that signalling theory assumes that, in comparison with investors, managers have superior information about their firm’s value. Hence, investors carefully review changes in dividend policy as signals regarding management’s valuation of the firm’s future performance (Li and Zhao, 2008; Al-Najjar and Hussainey, 2010). As an extreme example, an entity that announces a huge increase in a dividend payment would be regarded as financially healthy, but a firm that announces the elimination of a dividend is usually regarded negatively by investors. Furthermore, Deshmukh (2003, 2005) argued that, in the presence of a higher level of asymmetric information in the firm, the level of dividend payment will be relatively higher to signal similar level of earnings, and vice versa. Given that dividend policy is assumed to be used as a signal of the firm’s future performance, a positive sign in the relationship between UK
2.3 Pecking order theory
This theory originated from Myers (1984) and Myers and Majluf (1984). It assumes that firm managers hold private information, which the investors do not have. Furthermore, firms prefer to finance their investment through the lowest-cost avenue (i.e., retained earnings), and only secondarily through debt. Finally, the source of financing least utilised, i.e., the highest cost source, is through the issue of new stock (Al-Yahyaee, 2006; Faulkender, et al. 2007; Al-Najjar and Hussainey, 2010). The amount of distributed dividends, therefore, decreases firms’ retained earnings, which can result in a need for debt financing (Al-Yahyaee, 2006). Based on this theory, a positive relationship between dividend payout and both profitability and the debt ratio is expected. In addition, Myers and Majluf (1984) argued that, when information asymmetry exists in a firm, it is highly likely to have underinvestment, which occurs from the association of lemons problem in the issue of new capital (Deshmukh 2003, 2005)[2]. This problem can be mitigated by retaining the amount of slack by reducing the level of dividends (Myers and Majluf, 1984). Therefore, pecking order theory anticipates a negative association between dividend payment and information asymmetry. Furthermore, more profitable firms are expected to depend heavily on retained earnings, thus meaning that a positive relationship between dividend policy and profitability is expected.
2.4 Transaction cost theory
On one hand, a higher dividend payout mitigates agency cost but, on the other, a higher dividend payment would increase the transaction costs that constrain external sources of financing (Rozeff, 1982). Al-Najjar and Husainey (2010) argued that larger firms have an incentive to reduce transaction costs. Hence, larger firms are expected to have higher dividend payout ratios and, simultaneously, are more likely to rely on equity financing than debt. Given that large firms are presumed to have an incentive to lessen transaction costs, a positive relationship between dividend payments and firm size is expected, and it is plausible to suggest a positive association between profitability and dividend payment under transaction cost theory.
3. Literature review and hypotheses development
3.1 Dividend policy and information asymmetry
Studies from the United States
Deshmukh (2003, 2005), and Li and Zhao (2008), found a negative relationship between asymmetric information and dividend policy. In other words, firms that are subject to low levels of information asymmetry prefer to distribute greater amounts of dividends, whereas firms that are subject to high levels of asymmetric information disburse lower amounts of dividends. Deshmukh (2003, 2005) concluded that the association between dividend policy and information asymmetry is consistent with pecking order theory and inconsistent with signaling theory. Similarly, Li and Zhao (2008) confirmed the prediction of the inconsistency of the relationship between asymmetric information and dividend policy with signaling theory. In summary, prior papers indicate that dividend policy is inversely related to asymmetric information. Based on the above reviewed articles, we formulate the following hypothesis:
H1.There is a negative association between dividend payout and information asymmetry.
3.2 Dividend policy and firm characteristics
Al-Najjar and Hussainey (2009) examined the factors that drive firms’ decisions to disburse or not to distribute dividends. In terms of firm characteristics, they investigated a set of firm characteristics, such as firms’ liquidity, size, growth opportunities, profitability, asset structure, and firm risk. These characteristics have witnessed pivotal role in determining dividend policy in preceding literature. For instance, Fama and French (2001), and Li and Zhao (2008), addressed the significant position of three characteristics - firms’ profitability, investment opportunities, and size - in determining firms’ decision to pay dividends. They posited that firms with more investment opportunity have fewer propensities to disburse dividends, while large firms and firms with high profits are highly likely to distribute dividends. Benito and Young (2001) looked at the associated factors in the omission of UK UK UK UK
Dividend policy and profitability
Jensen et al. (1992), Aivazian et al. (2003a) and Al-Najjar and Hussainey (2009), among others, examined empirically the relationship between dividend payments and profitability. They found that profitable firms are more likely to pay dividends than non-profitable firms. In addition, their findings demonstrated a significant and positive correlation between these two variables. Based on the above reviewed articles, we formulate the following hypothesis:
H2. A positive relationship between dividend payout and firms’ profitability exists.
Dividend policy and liquidity
Strikingly, Al-Najjar and Hussainey (2009) documented an insignificant relationship between liquidity position and UK Japan Australia Japan Pakistan
H3. An association between dividend payout and liquidity position is anticipated.
Dividend policy and growth opportunities
The examination of the association between dividend policy and growth opportunities in the UK Canada France Japan Germany Canada UK France Germany Japan
H4. There is a relationship between dividend payout and growth opportunities.
Dividend policy and firm size
Benito and Young (2001) found a negative association between UK UK
H5. A positive association between dividend payout and firm size is predicted.
Dividend policy and asset structure
Aivazian et al. (2003a), and Al-Najjar and Hussainey (2009), found a negative association between dividend policy and asset structure, which implies that firms with more tangible assets disburse lower amounts of dividends. This is due to the assumption that, in the existence of a large size of tangible assets in the firm, the size of short-term assets’ tends to be low. As a result, the reliance on the source of debt financing will be used least as firms will depend on retained earnings, triggering firms to have lower propensity to pay dividends. Based on the evidence from prior research, the following hypothesis is formulated as follows:
H6. There is an expectation of a negative relationship between UK
Dividend policy and debt level
Kowalewski et al. (2007) investigated the determinants of dividend policy in Poland UK
H7. There is a relationship between dividend payout and level of debt.
Table 1 shows the combined expectation for the association between dividend payout and the investigated variables based on dividend theories and prior literature.
Insert Table 1 here
4. Research design
4.1 Sample selection
All UK UK
4.2 Data collection
The research sample of 282 firms is collected from variety of sources. Data on firms’ dividend per share for the year 2007 and on firms’ profitability, liquidity, size, asset structure, and growth opportunity, are collected from the FAME and Thomson One Banker databases. In addition, data on the level of asymmetric information (number of analysts following a firm) is collected from FactSet.
4.3 Regression model
In light of the collection of the above, defined and discussed data, an archival analysis is used through a running regression model. A multiple regression model is applied using dividend per share as a dependent variable, whereas number of analysts following UK
Dividend = α + β1 Assy Info+ β2 PROF + β3 LIQU + β4 GROPP + β5 SIZE + β6 ASSTRU + β7 DL + e
Where Dividend = dividend per share, α = intercept, Assy Info= asymmetric information measured by number of analysts following a firm, PROF = profitability measured by return on shareholders funds, LIQU = liquidity measured by current ratio, GROPP = growth opportunities measured by price to book value ratio, SIZE = LOG of total assets, ASSTRU = tangibility and DL = debt level measured by gearing ratio.
5. Variables definitions
5.1 Dependent variable
Dividend payments: This study follows Aivazian et al. (2003b), and Naceur et al. (2006), by employing dividend per share (DPS) as a dependent variable. Dividend per share is defined as the amount of dividend received by a stockholder in 2007 divided by total shares outstanding for the same period.
5.2 Independent variable
Asymmetric information: The number of analysts following UK
5.3 Control variables
Profitability: Similar to Hutchinson
Insert Table 2 here
6. Empirical results and analysis
6.1 Descriptive analysis
Table 3 shows the descriptive analysis. It shows that the total number of listed firms in the sample is 282 firms. The maximum number of analysts following a firm is 45, with an approximate mean of 11. However, the sample holds some firms that had no analysts following them in 2007. Similarly, the sample contains firms with zero dividends per share, while the highest firm with dividend per share in the sample is £2.58 being paid, with an average of £0.16. With respect to firm size, the maximum, minimum, and average firm’s size is worth £132,426,000, £48, and £3,847,662, respectively, suggesting an influence on firms’ dividend payments by firm size. The least profitable firm shows a negative profitability with –£55.55 in return on shareholders’ funds, with an average profitability of £36.76 and a maximum of £833.33, indicating a likelihood of an effect on firms’ dividend policies.
Insert Table 3 here
6.2 Correlation analysis
Table 4 shows the correlation analysis. It shows that the number of analyst following is positively correlated with dividend per share. The correlation between these variables is significant at the 1 percent level. This suggests that an increase in number of analyst following a firm when a firm pays more dividends. The least significant correlation is between dividend per share and tangibility (0.141), respectively, whereas the latter shows a significant and positive relationship with (p = .018), suggesting that firms with greater size of tangibility pay higher level of dividends to their shareholders. Furthermore, the natural logarithm of total asset (size) is shown to be positively and linearly correlated with the dependent variable with correlation is (r = .306, p= .000), indicating that large firms pay more dividends than their smaller counterparts. Similarly, return on shareholders funds is positively (.230) and strongly (p-value = .000) correlated with dividend per share. This suggests that more profitable firms disburse more dividends than do less profitable firms. On the other hand, there was no significant correlation between current ratio, price to book value, and gearing ratio with dividend per share, suggesting liquidity, growth opportunities, and debt level to be insignificantly correlated with dividend per share. Furthermore, Table 4 shows a high correlation between price to book value and gearing ratio. This high correlation between the former and the latter - .875 ≈ 87.5% - has given rise to the problem of multicollinearity[3], thus, gearing ratio has been eliminated.
Insert Table 4 here
6.3 Regression results
Table 5 shows the empirical findings. It shows that the coefficient of determination (R-Square) between dividend per share and the independent variables is .189 ≈ 19%. It indicates that 19% of the variance in dividend policy can be predicted from asymmetric information, profitability, liquidity, size, growth opportunities, and asset structure. More importantly, the model specification (F = 10.666 and the associated P-value with F = 0.000) shows a statistically significant relationship between dividend policy and the group of independent variables, suggesting that the explanatory variables can be utilised reliably to determine UK
Dividends and asymmetric information
Interestingly, Table 5 shows a statistically significant positive relationship between dividend payments and the number of analysts following a firm (t = 3.232, p value = 0.001). In other words, as the number of analysts following a firm increases, so does the dividend payment. The coefficient (parameter estimate) for analysts following a firm is 0.007, predicting an increase of 0.007 in dividend payments for every the increase in the number of analysts following a firm. As discussed earlier, a positive relation between dividend payout and number of analysts suggests a negative association between dividend policy and information asymmetry. The regression output indicates, therefore, a strong significant negative relationship between UK UK US UK
Dividends and profitability
Consistent with prior studies, firms’ profitability has a significantly positive association with dividend policy (t = 3.599 and p value = .000). This finding implies that highly profitable UK
Dividends and liquidity
Based on the research sample, regression output has showed no statistically significant relationship between UK
Dividends and growth opportunities
Table 5 shows a marginally significant association between growth opportunities and UK
Dividends and firm size
Table 5 shows a significantly positive association between firm size and dividend per share. This suggests that large firms distribute more dividends to their shareholders than do their smaller counterparts. Furthermore, for every increase in total assets (size), a higher dividend payment by .043 is predicted, based on the coefficients estimate. This result is in line with transaction cost theory. Thus, the fifth hypothesis (H5) is accepted.
Dividends and asset structure
Table 5 shows that there is no significant relationship between asset structure and UK
Insert Table 5 here
Table 6 shows a summary of the present’s paper empirical findings on the association of dividend payments with other independent variables.
Insert Table 6 here
7. Conclusion
In summary, a multiple regression model has been employed to identify the effect of information asymmetry on UK UK UK UK
There are many reasons for undertaking this study. The most important is the fact that this type of research has potential implications. It helps to inform regulators about the benefits of improving firms’ information environment to investors and firms. Our study provides evidence that firms with lower levels of asymmetric information are more likely to pay more dividends. This might help in attracting more investors to invest in these companies. The findings have also managerial implications. They show that for an effective financial communication with the stock market, managers should give high priority to develop appropriate and complete disclosure practices to reduce the information asymmetry. Then, dividends can be used to reward current investors and attract new investors to their firms. Finally, the findings of the study have important implications for small investors who may not have access to information through other sources in the same way that financial analysts or large institutional investors do. Our study suggests that paying dividends alone may be insufficient for an investor to make an investment decision. The study suggests that paying dividends and reducing information asymmetry may help small investors as well in their investment decision-making process.
The present study suggests a number of other avenues for future research. First, it would be interesting to re-examine the association between dividend policy and asymmetric information by using different proxy for asymmetric information such as the quality and the quantity of corporate disclosure. Second, it would be interesting to extend the present study by testing the degree to which other corporate governance mechanisms (i.e. board and audit committee characteristics) affect the association between asymmetric information and corporate dividend policy. Finally additional research could be undertaken to examine the association between asymmetric information and financing decisions (i.e. corporate capital structure).
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Table 1: The combined expectation for the association between dividend payout and the investigated variables in the current paper based on dividend theories and prior literature.
Asymmetric Profitability Liquidity Growth Size Asset Debt level
information opportunities structure
Negative Positive Mixed Mixed Positive Negative Positive
Agency theory Signaling theory Transaction Agency
cost theory theory
Pecking order Pecking order
theory theory
Transaction cost
theory
Table 2: The measurement and definition of the present research variables.
Variables Measurement Definition
1. Dividend payments Dividend per share Dividend / total
shares outstanding
2. Asymmetric information Financial analyst following No. of financial
analysts following
3. Profitability Return on equity Net income /
Shareholders’ equity
4. Liquidity Current ratio Current assets /
Current liabilities
5. Growth opportunity Price to book value ratio Market price per share
/ Book price per share
6. Size Logarithm of total asset Log of firm’s total assets
7. Asset structure Tangibility (Total assets – current
assets) / total assets
8. Debt level Gearing ratio Total debt / shareholders’
funds
Table 3: Descriptive statistics analysis
N
|
Minimum
|
Maximum
|
Mean
|
Std. Deviation
| |
Analysts following a firm
|
282
|
0
|
45
|
11.30
|
7.737
|
Size
|
282
|
48
|
132426000
|
3847662
|
13891030
|
Tangibility
|
282
|
.017
|
.97
|
.57
|
.22
|
Price to book value
|
282
|
-370.11
|
246.18
|
3.59
|
27.42
|
Liquidity
|
282
|
.27
|
45.14
|
1.64
|
2.81
|
Profitability
|
282
|
-55.56
|
833.33
|
36.76
|
73.42
|
Debt Level
|
282
|
-5294.10
|
5168.09
|
115.11
|
5.43E2
|
DPS
|
282
|
.00
|
2.59
|
.17
|
.25
|
Valid N (listwise)
|
282
|
Table 4: The correlation between dividend per share (dependent variable) and the independent variables
Independent Variables
|
Correlation
|
P-value
|
Analyst Following
|
.355**
|
.000
|
Return on Shareholders Funds
|
.230**
|
.000
|
Current Ratio
|
-.059
|
.324
|
Price to Book Value
|
.070
|
.243
|
Log of Total Assets
|
.306**
|
.000
|
Tangibility
|
.141*
|
.018
|
Gearing Ratio
|
.104
|
.082
|
Problem type
|
Between
|
Correlation
|
Multiculinearity
|
Price to Book Value and Gearing ratio
|
.875
|
** = Correlation is significant at the 0.01 level (2-tailed) and * = Correlation is significant at the 0.05 level (2tailed)
Table 5: Regression output
R-Square
|
.189
|
Observation
|
282
|
F-Test
|
10.666
|
Significance
|
.000
|
Independent Variables
|
Coefficients
|
T-statistic
|
P-value
|
Analyst Following
|
.007
|
3.232
|
.001***
|
Profitability
|
.001
|
3.599
|
.000***
|
Liquidity
|
1.821 E-5
|
.004
|
.997
|
Growth Opportunities
|
.001
|
1.689
|
.092*
|
Size
|
.043
|
2.653
|
.008***
|
Asset Structure
|
.059
|
.904
|
.367
|
The significance levels (two-tailed test) are * = 10 per cent, and *** = 1 per cent
Table 6: A summary of the present’s paper empirical findings on the association of dividend payments with other independent variables.
Explanatory variables Type of relationship Significance
- Asymmetric information Negative Strong
- Profitability Positive Strong
- Liquidity Positive Not significant
- Growth opportunities Positive Margin/Weak
- Firm size Positive Strong
- Asset structure Positive Not significant
[1] Information asymmetry suggests that firms’ managers are more acquainted with the current situation of the firm and know more concerning the firm’s realistic value than do investors, which will be transmitted to the market by different means, such as distributing dividends to firms’ shareholders.
[3] Multicolliearity problem exists when the correlation between two independent variables is equal to or greater than 70% (Drury, 2008).
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