Working Paper: NBER ID: w2243
Authors: John B. Shoven; Laurie Blair Simon
Abstract: Firms can transmit cash to shareholders either by paying dividends or by purchasing shares. The share purchases can be either the firm's own securities or those of another firm. Recent evidence suggests that there has been a dramatic increase in the use of these nondividend payments to shareholders. This paper reviews the theories which have been offered regarding the motivation of nondividend payments. These include taxation advantages, adjustment towards optimal debt-equity ratios, anti-takeover strategies, free cash flow (agency) considerations, signaling, and habit formation or learning. From these theories, we derive and investigate econometrically potential characteristics which predict participation in the above actions for roughly 2.000 firms in 1976 and 1984. We find the variables suggested by the various hypotheses collectively have substantial power in predicting participation in share repurchase and acquisitions. The free cash flow and habit forming arguments prove most consistent with our findings. Tests for structural change across time confirm an intercept shift consistent with dramatic increases in these activities, and fail to reject that the characteristic determinants of these actions are unchanged.
Keywords: Share Repurchases; Acquisitions; Corporate Finance; Free Cash Flow; Taxation
JEL Codes: G34; H25; H32
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| higher free cash flow (G39) | likelihood of share repurchases and acquisitions (G34) |
| low price-to-book ratio (G32) | likelihood of share repurchases (G34) |
| previous participation in repurchase or acquisition activities (G34) | likelihood of future repurchase or acquisition actions (G34) |
| higher debt-equity ratio (G32) | lower likelihood of share repurchases and acquisitions (G34) |