investor protection, taxation, and dividends...1 investor protection, taxation, and dividends...
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Investor Protection, Taxation, and Dividends
Mohammed Alzahrania and Meziane Lasferb,* a King Fahd University of Petroleum & Minerals, Dhahran 31261, Saudi Arabia
b Cass Business School, 106 Bunhill Row, London EC1Y 8TZ
Abstract
We find that governance and taxation affect dividends across countries. Unlike previous
studies, firms in strong investor protection countries pay lower dividends than in weak
investor protection countries when the classical tax system is implemented, but they buy
more shares to maximise their shareholders’ after-tax returns. However, in weak
protection countries, dividends are less responsive to taxes. Our results suggest that when
investors are protected, they weigh the tax cost of dividends against the benefit of
mitigating the agency cost, but when they are not, they accept whatever dividends they
can extract, even when this entails high tax costs.
JEL Classification: G18, G35, H24 Keywords: Shareholder rights, Dividend policy, Dividend taxation, Agency costs
Corresponding author: Tel +44 207 040 8634, Fax: +44 207 040 8881, email [email protected]. Alzahrani: Tel: +966 3 860 1626, Fax: +966 3 860 2585, Email: [email protected]. We would like to thank Lubomir Litov, Huai Zhang, Laura Moreau, Ashraf Eid, and Jungwon Suh for useful suggestions. We also benefited from comments offered by seminar participants at Western Finance Association meetings, European Financial Management Association meetings, Asian Finance Association meetings, Financial Management Association meetings, Cass Business School, King Fahd University, and Universite Paris Dauphine. This work started when Alzahrani visited Cass Business School. He thanks Cass for the hospitality and support and acknowledges the summer research grant from the British Council and the support from King Fahd University of Petroleum & Minerals.
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Investor Protection, Taxation, and Dividends
Previous cross-country studies identified the level of investor protection as the primary
determinant of dividend payments. In good investor protection countries, shareholders are
able to use their power to make managers disgorge cash. However, in countries with poor
investor protection, undistributed excess cash is easily appropriated by controlling
shareholders for their own private benefits (see La Porta et al., hereafter LLSV, (2000a)
for a review), and thus, investors welcome as much dividends as possible (LLSV
(2000b)), and they assign higher value to those dividends (Pinkowitz, et al. (2006) and
Kalcheva and Lins (2007)). These arguments are based on LLSV (2000b) who develop
two distinct models of dividends: The outcome model where dividends emanate from a
legal protection for minority shareholders and the substitute model where dividends are a
mechanism of market self-regulation that can substitute for weak shareholder protection.
Their empirical results support the outcome model, suggesting that, unlike weak investor
protection countries, better shareholder protection forces managers to payout more
dividends, and thus prevents them from gaining private benefit from excess cash flows.
Subsequent studies confirm these findings under different specifications.1
Do these results hold in the presence of taxes? Pinkowitz et al (2006) argue that
the introduction of taxation complicates the LLSV arguments, as when dividends are tax
disadvantaged, their value for minority shareholders is reduced, and shareholders in
countries with poor investor protection will gain from dividends only in the absence of
taxes, or when the gains from preventing expropriation of minority shareholders more
than offset the tax disadvantage of dividends. Despite their theoretical importance, the
empirical evidence provided to-date on the impact of taxes on dividends at country and
1 See, for example, Faccio, Lang and Young (2001), Mitton (2004), Brockman and Unlu
(2009), and Shao, Kwok, and Guedhami (2009).
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firm level is mixed.2 In this paper, we expand these arguments by asking the following
questions: Do companies in strong investor protection countries pay dividends when their
tax cost is high, or do they substitute them for share repurchases to maximize their
shareholders’ after tax return? Conversely, in weak investor protection countries, do
investors prefer to receive dividends, even if they incur high tax cost, to mitigate the
appropriation of private benefits by controlling shareholders, or do taxes affect dividends?
We use a sample that spans 24 OECD countries and 8 years to answer these
questions. We split our sample into strong and weak governance system countries,
following Djankov et al (2008), and into two main tax groupings, using a unique database.
The first is the dividend tax system at corporate level. Some countries, such as the US,
follow a classical tax system that treats corporate income differently from personal
income in terms of statutory tax rate and deduction rules, and in which, the same unit of
earning paid as dividend is taxed first at firm level and then at the personal level; a
disadvantage known as “double taxation”. Others have a partial integration or imputation
system between corporate and personal income taxes, which mitigates part of the tax
disadvantage of dividends, or a full imputation system, where dividends are, like debt
interest, fully tax deductible. The second tax measure is the tax differential between
dividends and capital gains (TD) at shareholder level, defined as the ratio of after-tax
dividends relative to capital gains. This comparison of the tax effect across countries with
different tax rates and investor protection helps us reduce the impact of varied marginal
tax rates among investors.
2 See, for example, Pinkowitz et al (2006), and LLSV (2000) for cross-country evidence
and surveys of Allen and Michaely (2003), DeAngelo, DeAngelo and Skinner (2008) and
Graham (2008) for predominantly firm level studies. We review some evidence in the
next section.
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In strong investor protection countries, when dividend tax is low, we expect
minority shareholders to use their stronger rights to obtain higher dividend payouts, but
when dividend tax is high, they will demand their firms to substitute dividends for share
repurchases. In weak investor protection countries, the agency theory, under the outcome
model in LLSV (2000b), predicts that managers will refrain from paying dividends to
consume private benefits. In this situation, investors will be willing to receive dividends
as the benefits of reducing the cost of expropriation of minority shareholders outweigh the
tax cost of dividends. Moreover, as investors in weak protection countries have less power
to force managers to pay out cash, there is no reason to believe that they have power to
choose the method of payment. Therefore, under the outcome model, we expect investors
in weak protection countries to welcome any kind of payout even in its less tax-efficient
form, implying weak or no tax effect on payouts. Alternatively, as argued by LLSV
(2000b) under their substitute hypothesis, managers need to pay dividends to establish
reputation, particularly for future capital raising decisions. In this case, they can use the
dividend tax system as a tool to convince minority shareholders that they need to retain
cash. Therefore, we expect the tax cost on dividends to affect the propensity of these firms
to hoard cash, and dividend taxation will have negative impact on dividend payout.
Our aggregate results indicate that cash dividends are significantly higher in strong
governance countries, consistent with the outcome hypothesis and in line with previous
evidence (e.g., LLSV (2000b); Brockman and Unlu (2009)). However, we find that the
distribution of payouts across tax systems is not homogeneous. First, we show that in
classical tax system, firms in strong investor protection countries pay significantly lower
dividends than their counterparts in weak investor protection countries. Further analysis
reveals that companies in strong investor protection countries that operate the classical tax
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system buyback significantly more shares than other firms, and as the tax cost of
dividends decreases, they pay higher dividends but buyback fewer shares. These results
suggest that in strong protection countries, investors settle for less dividends and more
repurchases when the tax cost of dividend outweigh the benefit of reducing the agency
cost, and indicate that managers maximize their shareholders’ after tax return by
substituting cash dividends for repurchases. In contrast, in weak protection countries, we
find lower dividends and repurchases and less impact of taxation on dividends, suggesting
that firms in weak governance countries pay out less cash with no consideration of the tax
disadvantage attached to the payout, and investors do not mind the tax disadvantage as
long as they can extract cash from managers.
We account for the firm and country fundamentals in our regressions.3 We find
that, in strong, not weak, investor protection countries, cash dividends are substantially
higher in the partial and full imputation tax systems, compared to the classical tax system.
The tax discrimination variable is significantly positive for cash dividends, and negative
for repurchases, and the two payout methods are substitutes. These results suggest that
companies maximize their shareholders’ after-tax return by choosing a tax efficient
distribution method.
We support these results by analyzing the impact of a set of interaction variables.
We first create a dummy equal to one for firms residing in countries that apply the
imputation system and have strong investor protection. This variable is positively
(negatively) associated with cash dividends (share repurchases), suggesting that firms in
3 Previous studies report that firms across investor protection countries are not
homogenous. For example, firms in weak investor protection countries are likely to be
more risky (e.g., Ellul, Guntay and Lel (2009)), thus, they may hold cash to weather
potential shocks.
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strong protection country pay higher cash dividends but buyback less shares as dividends
become more advantageous. We find similar results when we analyse the discrete
dividend and share repurchases decision. In particular, we show that the probability of
paying and increasing cash dividends is significantly higher in the partial and full
imputation systems, compared to the classical system, TD is positive and significant, and
while the investor protection variable is not significant, its interaction with the imputation
system is positive and significant, suggesting that it is not the governance per se that
makes firms pay or change their dividends, but the combination of taxation and
governance systems.
Overall, our results suggest that, unlike weak protection countries, the optimal
dividend in strong investor protection countries is, as predicted by John and Williams
(1985), larger when the tax disadvantage of dividends relative to capital gains is smaller.
However, unlike the predictions of the models of John and Williams (1985) and Allen,
Bernardo and Welch (2000), firms in strong investor protection countries repurchase
shares to avoid taxes as the signalling costs are lower. In contrast, in weak investor
protection countries, managers can get away with setting up dividend policies that are
independent of tax costs because investors’ rights are not well protected and also investors
are more concerned about extracting cash than about the tax consequences of such
extraction. Our results provide an additional perspective to the agency theory explanation
of dividends and show that the interrelation between agency costs and taxation explain
dividend payouts across firms and countries.
Our paper contributes to previous cross-country studies in three ways. First, unlike
pervious studies, we focus on the differences in tax systems following Graham’s (2006)
plea that it would be helpful if there were more research that exploits the rich variation in
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tax codes around the world. Second, we provide more support for the tax effect on
dividends and repurchases by showing that dividend tax system and TD affect both the
amount and propensity to pay and change dividends and repurchases. Previous studies
provide mixed evidence. For example, Pinkowitz et al. (2006) use dividend tax systems in
their regressions, but find weak evidence for the tax effect. LLSV (2000b) find
inconsistent evidence on the role of tax on dividends, as TD is only significant when
payout is measured as dividend to sales. Eije and Megginson (2008) find that TD is
positive and significant in determining the probability of paying dividend, but negative
and significant in determining the amount of dividends. Third, we show that taxation and
governance jointly explain the behaviour of dividends across countries. Contrary to the
general observation in the literature that firms in strong investor protection countries
payout more dividends vis-à-vis firms in weak protection countries, we show that the
validity of this observation depends on the extent of dividend tax disadvantage.
We note, however, that our results suffer from limitations inherent in cross-
country study. While we expand previous studies by providing a relatively deeper analysis
of the impact of a combination between the level of investor protection and taxation on
dividend payments, we recognise that the accounting numbers may not be comparable,
firms may be subject to tax and governance structures in other than their country of
registration, they may face different effective corporate and personal tax rates, and they
can have other internal and external corporate governance mechanisms to mitigate their
agency conflicts, including specific ownership structure, managerial shareholding, and
board structure, in addition to the magnitude of the country level investor protection.
We run a series of robustness tests to mitigate such effects, even though the
unavailability of more disaggregated data limited our ability to test for all the limitations.
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First we assess whether our results are driven by some countries in our sample. In our
country-classification, we have only US and Ireland as countries that are in the strong
investor protection and classical tax system.4 Since 98% of our sample firms are from the
US, our results indicate that dividends of US firms are different from the rest of the
OECD countries. However, we find similar qualitative results when we exclude the US
where dividends declined (Fama and French (2001)), and other countries with high
number of observations, such as Japan and UK. Second, we use alternative definitions of
our variables, and we control for time-variation in the relation between dividends and
firm-specific factors, as DeAngelo et al (2008) suggest that the impact of taxes on
dividend and repurchases can be gauged directly by observing the extent to which firms
alter their payout decisions in response to tax law changes. Finally, we control for
ownership structure as Mitton (2004) shows that the first-order determinant of the payout
policy is the firm-level shareholder protection in combination with the country-level
protection. We find relatively similar qualitative results, although the level of significance
of the investor protection variable is, in some cases, sensitive to the definition we use.
The rest of the paper is structured as follows. In Section 1, we review the literature,
present the tax framework, and set up our hypotheses. Section 2, describes the data and
the methodology. In Section 3, we present an analysis of the empirical results. In Section
4, we report some robustness checks. Conclusions are set out in Section 5.
4 Fan, Titman, and Twite (2011) classify also UK within the classical system in the post
2001 period. However, as we argue below, although the dividend tax system changed in
1997 for tax exempt investors and all other investors in 2000, dividend are still taxed at,
for example, 32.5% compared to tax on interest income of 40 for high tax payers. We
provide further details in the next and data sections.
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1. Review of the literature, Institutional Settings and Hypotheses Tested
1.1. Review of the literature
In theory, Miller and Modigliani (1961) show that, in the absence of various frictions,
firms could not create value from their payout policy over and above the value they
generate by their investment policy. In this paper we focus on two contrasting frictions:
agency conflicts and taxes.5 When dividends are subject to agency conflicts, firms will not
pay high dividend so that controlling investors extract private benefits from retained cash
flow. When dividends are taxed, companies are expected to defer them until the present
value of payout taxes are zero, or opt for share buybacks that are subject to capital gains
taxes if they are lower than the taxes on dividends (e.g., DeAngelo et al (2008), Auerbach
and Hassett (2003)). These arguments suggest that dividends will emanate from the trade-
off between mitigation of agency conflicts and taxation.
In terms of agency conflicts LLSV (2000b) develop two opposing hypotheses at
country level. The first is the outcome hypothesis where corporate governance quality is
expected to be positively related to dividend payouts because better-governed firms offer
stronger protection rights to their shareholders, and shareholders are expected to
pressurize managers to pay higher dividends rather than using the excess cash for their
own private benefits. The second is the substitution hypothesis which stipulates that
5 See Allen and Michaely (2003) for a review on the controversies on these two issues and
details on other frictions, including signalling, firm maturity, and behavioural motives,
which we control for in our analysis. In the public economics literature, the relationship
between dividend, taxes, and firms’ investments is also controversial. Under the “old
view” a cut in dividend taxes leads individuals to save and buy stocks, spurring business
investment, profits, and dividend distributions, but under the “new view” taxes do not
affect dividends because firms finance their marginal investments by retained earnings
rather than new share issues. See Auerbach (2002) Auerbach and Hassett (2003).
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dividends should be higher in weak governance system to mitigate the agency conflicts.
LLSV (2000b) provide evidence consistent with the outcome hypothesis. Other
subsequent studies also provide additional evidence on these effects. For example,
Pinkowitz et al. (2006) show that dividends are valued more in weak investor protection
countries. Brockman and Unlu (2009) study the relationship between creditor rights and
dividend policy. They find a positive relationship between country-level creditor rights
and dividend payout, consistent with the substitute model, as when creditor right is weak
at country-level, managers are more likely to restrict dividends in order to build a good
reputation and, hence, reduce costs of capital. However, Shao, Kwok, and Guedhami
(2009) find that the positive relationship between creditor rights and dividend payout is
significant only when shareholder rights are strong.6
In terms of the tax effect on dividends, the results of previous studies at firm level
are relatively mixed. While Desai and Jin (2011) show that taxable institutions are
significantly less likely to hold shares in firms with larger dividend payouts, Grinstein and
Michaely (2005) do not find meaningful tax-based preferences by institutional investors.
Chetty and Saez (2010) and Morck and Yeung (2005) introduced dividend tax cut as a
tool to reduce the agency problem of free cash flow because managers cannot use
dividend tax disadvantage as an excuse to retain excess cash when dividend tax is cut.
Other studies explore the impact of taxes on dividend in the context of a natural
experiment, such as the US 2003 dividend tax cut. For example, Chetty and Saez (2005)
and Brown, Liang and Weisbenner (2007) report significant effects of the US tax cut on
6 Hu and Kumar (2004), John and Knyazeva (2006), Nielsen (2006), Jo and Pan (2009),
and Officer (2007) also use agency theory to explain dividend behavior. Other studies
focus on the impact of corporate governance on various corporate outcomes such as cash
holding (e.g., Dittmar et al (2003)), and market liquidity (Chung, Elder, and Kim (2010)).
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the amount of dividends and the proportion of dividend payers. However, Blouin, Raedy,
and Shackelford (2004), examine dividend payments in the three months immediately
after this reform and show that virtually all the dividend payments increases was due
solely to 17 firms who paid special dividends. Brav, Graham, Harvey and Michaely
(2008) provide evidence that dividend initiations surged temporarily after the adoption of
this reform, but they also show that aggregate repurchases increased significantly, which
is inconsistent with the tax effect. Their survey suggests that the reform had only a
second-order influence on dividends. Other studies report that taxation does not explain
fully the recent “disappearing dividend” phenomenon in the US (Fama and French (2001),
Julio and Ikenberry (2004)). In addition to the difficulties of assessing the effect of taxes
on dividends as marginal tax rates differ among investors (Graham (2008)), these studies
are country-specific, focusing predominantly on the US market, where dividends are
double-taxed. Thus, the impact of taxation on dividends is difficult to detect and, between
investors, tax differences and tax clienteles may weaken the results of any tax effect.
These drawbacks can be mitigated in cross-country studies, but the results
provided to-date are also relatively mixed. Studies that focus on the disappearing
dividends at international level either ignore tax effects (Denis and Osobov (2008)) or
find that TD is positive and significant in determining the probability of paying dividend,
but negative and significant in determining the amount of dividends (Eije and Megginson
(2008)). Moreover, Pinkowitz et al (2006) split their sample of countries into four groups
based on dividend tax treatment and the corruption index. They find that the relationship
between market value and cash holding is independent of the tax effect, and dividends
contribute more to market value only in countries with poor investor protection where
dividends are tax disadvantaged. These results are not consistent with the tax hypothesis
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and suggest that dividends are likely to be more relevant to minority shareholders at the
margin because the dividend tax disadvantage subsidizes the consumption of private
benefits. We provide below details of cross-country institutional differences in taxes on
dividend to set up our tax framework and develop our hypotheses.
1.2. Institutional Setting
In a classical tax system, dividends, d, received by shareholders are taxed at personal
income taxes, m, resulting in a net after-tax income of d(1-m). In contrast, under the
imputation system, the same dividend carries a tax credit at a rate s. As a result,
shareholders are deemed to have received gross dividend, D, defined as d/(1 - s). As in the
classical tax system, they pay personal income tax at rate m, but on their gross dividend D,
i.e., mD, and at the same time, they receive a tax credit of sD, i.e., sd/(1 - s). Therefore,
their dividend tax is (m - s)D, i.e., d(m- s )/( 1 - s).
We use an example to illustrate these fundamental principles. Suppose that the
cash dividend, d, is $7.00, the personal income tax rate, m, is 40%, and the tax credit, s, is
30%. Investors in the classical tax system receive a net dividend of $7.00×(1-40%) =
$4.20 and pay income tax of $2.80. In contrast, in an imputation system, investors are
deemed to have received $7.00/(1-30%) = $10.00. Their income tax is $10.00×40% =
$4.00, but they can claim a tax credit of $10.00×30% = $3.00, resulting in an additional
income tax demand of $1.00 on the $7.00 dividend received. Their effective tax is 14.3%
((40%-30%)/(1-30%)) and their net after-tax dividend is $6.00 compared 40% and $4.20
in the classical system. Their excess net dividend is $1.80, representing 25.7% of the
$7.00 original payment.
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The treatment of other investors usually depends on particular applications of the
imputation system in different countries. Tax-exempt institutions can claim the full tax
credit and their after-tax dividend is $10.00. Investors taxed at the basic income tax rate
have no additional dividend tax to pay. Dividends received by corporate investors from
other domestic companies are not taxed again as a profit. The tax authorities do not refund
the associated tax credit but corporate investors can use it to frank their own dividend
payments or offset it against their previous tax liability. Overall, dividends under the
imputation system are taxed at a lower rate than the classical system.
In our paper, we expand these arguments and analyse the aggregate taxation of
dividends relative capital gains and corporation tax. We consider that the tax burden on
dividends depends on both the corporate and personal income tax systems, and that the
managers aim at minimising the overall tax liability when they decide on their dividends.
In a classical system, the total tax is the sum of the corporation tax, the effective capital
gains tax and the tax on dividend. Typically, the tax on dividend exceeds the capital gains
tax, creating an incentive to reduce dividends. In contrast, in an imputation system, the
total tax is the corporation tax plus the effective gains tax plus the reduced dividend tax. A
reduction in the tax on dividend that is large enough to make it lower than the effective
capital gains tax creates an incentive to increase dividend.
Assuming a corporation tax rate of τc, the dividend tax burden is, thus, the sum of
corporate tax paid by the company, τcd/(1 - τc), and the personal income tax paid by
shareholders, d(m - s)/(1 - s), as proportion of the pre-corporate-tax dividend, d/(l - τc), i.e.,
s1)m1)(1(1
1d
s1)sm(d
1d
c
c
c
c
−−τ−
−=
τ−
−−
+τ−
τ
(1)
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On the other hand, if earnings are retained and reinvested at the cost of capital,
they are expected to generate an after-tax capital gains of r(1 - z) where r is the firm's
after-tax earnings that are retained and z is the effective capital gains tax rate. The capital
gains tax burden is the sum of the corporate tax paid, τcr/(1 - τc), and the individual tax rz,
all divided by the pre corporate-tax capital gains, i.e.,
)z1)(1(1
1r
rz1
r
c
c
c
c
−τ−−=
τ−
+τ−τ
(2)
The overall tax burden on dividend and retained earnings borne by the firm and its
shareholders is the weighted average of the dividends and capital gains tax burdens as a
proportion of the firm's payout ratio and can be defined as:
[ ]
( )⎭⎬⎫
⎩⎨⎧
−+⎥⎦⎤
⎢⎣⎡ −−
−−
τ−−=
−τ−−⎟⎠⎞
⎜⎝⎛ −+⎥⎦
⎤⎢⎣⎡
−−τ−
−
)z1()z1(s1m1
Ed11
)z1)(1(1Ed1
s1)m1)(1(1
Ed
c
cc
(3)
where d/E is the firm's payout ratio and E are earnings.
Equation (3) implies that the overall tax burden on dividends and capital gains is a
function of the corporation tax, the dividend payout ratio and the differential taxation of
dividends and capital gains. Let
)1)(1()1(
zsmTD−−
−= (4)
represent this tax discrimination variable and rearranging, Equation (3) becomes:
[ ]⎭⎬⎫
⎩⎨⎧ +−τ−− 11TD
Ed)1(1 c (5)
While the taxation of capital gains (Equation 2) is relatively unaffected by the tax
systems, the taxation of dividends (Equation 1) and the overall tax burden (Equation 5)
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differ across the classical and the imputation systems. In the classical system, since s = 0,
shareholders are expected to be indifferent between dividends and capital gains when m =
z. In this case, the overall tax burden is invariant with respect to the payout ratio. However,
when m is higher than z, TD will be lower than one, and the overall tax burden on
dividends will rise as the payout ratio increases. In contrast, under the imputation system,
this tax on dividends will increase only if z < [(m - s)/(1 - s)], making the breakeven point
under which shareholders will prefer capital gains to dividends much lower. In practice,
TD varies with the income tax rate of individual investor. For example, tax-exempt
investors (m = z = 0), given a corporation tax rate of, say, 52% and a standard rate of
income tax of 30%, will have a tax discrimination factor of 1.43 and an overall tax burden
on dividends of 31.4% compared to 52% if earnings are retained. For individuals taxed at
m = s = 30% and at an effective capital gains tax of, say, 20%, TD is 1.25 and the
dividend tax is 52% but the capital gains tax burden rises to 61.6%. This implies that both
tax-exempt investors and basic income taxpayers are expected to favour dividends.
However, for investors taxed at a higher income tax rate, TD is less than one and their
dividend is taxed at a higher rate than retained earnings. They will prefer dividend only if
capital gains tax rate, z, is higher than the additional dividend tax, i.e., z > (m - s)/(1 - s).
The overall tax burden of dividends depends also on the link between corporate
and imputation tax rates. In the classic system, there is no effect. In the partial integration
system, 0 < s < τc, shareholders receive tax credit for part of the underlying corporate tax
paid on dividends, or only part of their dividend is taxed at the personal level with no
further tax credit. In the full integration system, s = τc, shareholders receive tax credit for
the full amount of the underlying corporate tax paid on dividends, or shareholders pay no
tax on dividends. In this case, dividends are, like interests, tax deductible. In the split rate
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system, dividends are taxed at different rate than retained earnings at the corporate level,
and, depending on the rate of deduction, s is between zero and the corporate tax rate, τc.
1.3. Hypotheses Tested
Although the literature on the tax effect on dividends is mixed, recent studies indicate that
companies do consider taxation in their financial decision making (e.g., Riddick and
Whited (2009) and Foley et al (2007)). We expect taxation to affect dividends in two
ways. First, firms in the classic tax system countries will have a propensity to pay lower
or no dividends, but, to opt for share repurchases, which are both tax-favored and more
flexible than regular cash dividends, while in countries with more favourable dividend tax
environments (partial and full imputation systems), they will pay high dividends and will
be more likely to increase and initiate, rather than to omit or cut their dividends. Second,
firms with high (low) TD are expected to pay high (low) dividends. These impacts are,
however, more likely to apply in strong investor protection countries, where managers are
expected to maximise the wealth of their shareholders by adopting payouts that maximise
the after-tax returns of their shareholders. This discussion motivates our first hypothesis:
Hypothesis 1: Firms in strong investor protection countries maximize their
shareholders’ after tax returns by substituting cash dividends for share repurchases.
In weak investor protection counties, payouts are expected to be low and not a
function of the tax system because managers are less likely to maximise the wealth of
their shareholders and investors are more likely to welcome whatever cash they can get
regardless of its tax disadvantage. This is in line with LLSV (2000b) outcome model, as
controlling shareholders would like to hoard cash to pursue their interests at the expense
of minority investors. Thus, dividends taxation should not affect dividends payout in weak
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investor protection countries under the outcome model. Alternatively, under the substitute
model, managers choose to disgorge cash to their shareholders to build good reputations
so as to gain access to external financing or to maintain high stock prices. We consider
that taxation will allow them to achieve these opposite objectives. They could argue that
when dividends are taxed at a higher rate, they need to keep cash. Thus, under the
substitution model, dividends taxation will have a negative effect on dividend payouts in
weak protection countries. Previous studies do not provide support to the substitution
model. We therefore set our second hypothesis under the outcome model:
Hypothesis 2: Firms in weak investor protection countries do not pay attention to
dividends taxation when setting their payout policy.
2. Data and methodology
We first select all firms registered in 24 OECD countries from DataStream. We exclude
Korea for lack of data, Czech Republic, Slovak Republic, and Iceland for incomplete or
unreliable data. We also exclude from our sample Hungary, Germany in 2000, Norway in
2006-2007, and Poland in 2002 because they apply either a split rate system or other
dividend tax treatments, which are incomparable to other countries and may have unclear
effect on dividends. We follow LLSV (2000b) and exclude Greece because of the
mandatory dividend rule forced on Greek firms. In addition, we eliminate firms with
missing dividend or earning data and those with negative book equity, and financial and
utility firms as their dividend policy may exhibit different motivations. Our final sample
includes 9,806 firms from 2000 to 2007, resulting in 44,194 firm/year observations.
We follow Djankov, LaPorta, Lopez-De-Silanes, and Shleifer (2008) and use the
anti self-dealing index, Law, to capture corporate governance. The higher the index score,
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the higher the level of investor protection. Djankov et al. (2008) argue that the anti self-
dealing index measures investor protection better that pervious indices in LLSV (1998).
In our robustness checks, we simulate with alternative measures.
We focus on two measures of taxation on dividends. The first is the classification
of the countries in the sample into the three tax systems: (i) classical system where s = 0,
(ii) partial imputation system where 0 < s < τc, and (iii) the full imputation system where s
= τc. The second is the tax discrimination variable, TD, as defined in Equation (4). We
collect the relevant dividend tax data from the annual OECD tax database
(www.oecd.org/ctp/taxdatabase), and each country’s tax authorities’ official websites.
The classification into the three systems is relatively straightforward. We calculate TD for
each country and sample period, assuming effective statutory tax rates on distributions of
domestic source income7 to a resident individual shareholder, taking account of corporate
income tax, personal income tax and any type of integration or relief to reduce the effects
of double taxation. We start with the corporate and individual tax rates, which correspond
to the top statutory rates. We then calculate the net individual tax rate, the tax rate on
dividends net of any relief or tax credit applicable to dividends, to find the overall tax rate
on dividends, which is the combined corporate and net individual tax rates applied to the
paid dividends, and the proportions of corporate and individual taxes paid on dividends.
Finally, we extract the capital gain tax rates applied to long-term gain realized by
individual resident on sold assets from Price Waterhouse: Corporate & Individual taxes:
A worldwide Summary. We estimate the following model:
tik
tiktititititi CONTROLLawTDPartialFullPayout ,
8
1,,4,3,2,10, εββββββ ++++++= ∑
=
(6)
7 We do not have data on the treatment of foreign income dividend. See Graham, Raedy
and Shackelford (2008) for some discussion on this issue.
19
In line with LLSV (2000b) and Ejie and Megginson (2008)), we use a country
random effect specification to account for cross correlation between error terms among
firms within the same country and accommodate the inclusion of time invariant variables,
such as System dummies and the EU dummy.8 Our data also led us to use the Tobit model
with country random effect, including industry dummies, in the following specification:
⎩⎨⎧ >
=Otherwise
PayoutifPayoutPayout titi
ti 00,,
,
We measure our dependent variables using both raw and industry-adjusted data.
We use dividends to total assets ratio (DIV/TA) and repurchases to total assets ratio
(Rep/TA) as measures of payout.9 We also provide robustness of our results using sales,
cash and net income as denominators of our payouts. We use three measures of dividend
taxation: Fullit, a dummy variable equals to 1 if the firm is located in full integration
country, and zero otherwise, Partialit, a dummy variable equals to 1 if the firm is located
in partial Integration country, and zero otherwise, and the tax discrimination variable TD.
We expect these three variables to be positive as payouts should be higher in partial and
full imputation systems, compared to the classical tax system, and when TD is high.
8 For further assurance, we also ran a country fixed effect model without the EU dummy
and employ Hausman and Hansen-Sargan tests to check for the validity of the random
effect which we find to be stronger than the fixed effect specification. 9 We include share repurchase as they account for a large proportion of cash return mainly
in the U.S. (e.g., Allen and Michaely (2003)). We recognise that in some countries, such
as Germany, share buybacks are allowed only recently, thus companies did not have a
choice in their form of cash returns to their shareholders. The tax impact on repurchases is
relatively mixed. For example, while, Dittmar (2000) finds no evidence that supports the
notion that tax changes had any significant effect on share repurchases, Rau and
Vermaelen (2002) find that tax changes do have a significant effect on share repurchases.
20
We also include a set of control variables, CONTROLSit, that are likely to affect
the payout ratio, namely: (i) profitability, measured by ROA, the ratio of the profit after
tax but before interest to total assets, (ii) size, measured by sales (ln(S)), (iii) growth,
measured by M/B, the market value of the firm (total assets - book value of equity +
market value of equity) divided by total assets, and %∆TA, the percentage change in total
assets, as in Fama and French (2001), (iv) financial risk, measured by leverage (D/E), the
ratio of long-term debt over market value of equity, (v) business risk, measured by cash
flow volatility (CFVOL) defined as the standard deviation of operating cash flow to total
assets, as in Chay and Suh (2009), and (vi) maturity, measured by the number of years the
firm in the database (AGE), following Grullon, Michaely and Swaminathan, (2002) and
DeAngelo, DeAngelo, and Stulz (2006). Finally, we use two relevant macro economic
variables: growth in GDP, gGDP, and Euro, a dummy variable equals to 1 if the firm
belongs to a country that is a member of the European Union (EU) since tax
harmonization practices in place may make the dividend taxation across the 16 EU
member states in our sample not independent.
We use DataStream to collect all the relevant share price and accounting data,
which are measured in US dollars and winsorized at the top and bottom 1% to reduce the
possibility of data errors. We test for robustness by including zero dividend firms,
analysing the impact of negative earnings, and using data in local currency rather than US
Dollars, to avoid exchange rate impact.
Our second test relates to the impact of taxation on the propensity to pay dividends
and on the decision to change dividend policy. We estimate the following probit model to
capture these effects:
tik
tiktititititi CONTROLLawTDPartialFulld ,
8
1,,4,3,2,10, )1Pr( εββββββ ++++++== ∑
=
(7)
21
Where itd is an indicator function of whether firms in our sample pay, increase, or
decrease their cash dividends. For share repurchases, itd indicates whether firm i in our
sample bought back the shares in year t. We use the same control variables as in Equation
(6). We also include Dividend Premium, the difference in the logs of value weighted
average market to book ratio of dividend payers and non-payers to account for the
catering theory (Baker and Wurgler (2004)). We expect firms that operate in strong
governance system, with high tax cost on cash dividends, i.e., those that operate in the
classical dividend tax system, and where TD is low, to buyback shares, instead of paying
cash dividends. Thus the propensity to pay and increase (decrease) dividends will be
positively (negatively) related to TD, Partial, Full, and Law. In contrast, we expected the
propensity to repurchase shares to be negatively related to TD, Partial, Full, but positively
related to Law to reflect strong investor protection, as managers will be inclined to
mitigate any agency conflicts over the free cash flow by returning the cash to the
shareholders rather than investing it in negative NPV projects.
3. Empirical Results
3.1. Dividend Payouts across Governance and Tax Systems
Table 1 reports summary statistics of the variables used in our analysis. The mean payout
ratio is 23% but the median is 8%, implying that this ratio is skewed. Similar skewness is
observed for dividend per share (DPS), earnings per share (EPS), and to a lesser extent
return on assets (ROA), suggesting that some companies do not pay dividends and the
profitability is relatively widely dispersed across our sample firms. We have also
computed but not reported for space considerations the correlations between the variables.
We find that dividend variables are all positively related to profitability (EPS and ROA)
22
and size (ln(S)), but negatively related to leverage (D/E). Similarly, high growth firms, as
measured by market-to-book (M/B) and change in total assets (%∆TA), and high risk
firms, i.e., firms with high cash flows volatility (CFVol) appear to pay low dividends.
These results suggest that these firms are likely to rely on internal financing, as
corroborated by the negative correlation between these growth and risk variables and D/E.
The tax discrimination ratio, TD, is negatively related to DPS and EPS, but positively
related to dividends payout ratios. Finally, LAW is positively related to all dividends
ratios but negatively related to DPS and EPS, suggesting that firms in strong investor
protection countries have higher payouts even though they are less profitable.
[Insert Table 1 here]
Table 2 presents the distribution statistics of variables ranked by governance and
tax systems. The results indicate that about 36% of the sample countries apply double
taxation of dividends, 24% use full integration, and 40% the partial integration system.
However, in terms of sample size, the respective proportions are 51%, 17%, and 32%,
respectively, as the vast majority of our sample firms are from the US (26%) and Japan
(11%) which apply the classical system. In the partial system, UK accounts for 16%,
followed by Canada, Germany and France. In full system, Australia and France have the
large sample size. The remaining countries are randomly distributed. Some countries,
such as France, Finland, Portugal, Spain, and Norway, are in more than one category,
because they switched their systems during the sample period.
It is interesting to note that the average TD is higher in some classical tax system
countries than their counterparts in full and partial integration countries. This is because
even though dividends are doubled-taxed, some classical system countries have higher
dividends tax advantage (higher tax discrimination ratio) than other countries that use full
23
or partial integration. Overall, the average TD is significantly higher in the partial
imputation system countries compared to the full imputation system and it is the lowest in
the classical system. While these figures are averages, we find some changes in the
corporate and individual tax rates during the sample period without any shift in the tax
system. For example, the individual tax rate has changed from 60% in 2000 to 30% in
2001 in the Netherlands, from 31% in 2002 to 16% in 2003 in the US, and from 35% in
2005 to 40% in 2006 in Turkey. We also find, but not report, that the average net
individual income tax in classical system countries of 27% is higher than that in partial
integration system of 24%, which in turn is higher than the 10% in full integration system.
Given that the tax rates variation within each country and across countries may play
distinctive role in shaping the dividend policy, we expect the combination of the tax
discrimination variable, together with the tax system, to provide a richer environment and
a unique opportunity to test whether the tax environment affects dividend policy.
We find a monotonic increase (decrease) in dividend payout (repurchases) as we
move from classical to full system in strong protection countries (Table 2, Panel A). The
average TD is highest in partial system (1.14) and lowest in classical system (0.93). Panel
A. also shows that EPS and DPS are higher in the classical tax system, and Panel B.
shows an increase in dividend payout in weak protection countries, as we move from the
classical to partial and full systems, but the magnitude of the increase although
significant, is rather small. In addition, the average repurchase ratio is not consistent with
the dividend tax disadvantages. Unlike Panel A, firms in the classical system country have
lower DPS and EPS in weak protection countries, and the average TD increases as we
move from the classical to full systems. Overall, our results show that the tax impact on
dividends and repurchases is stronger in strong, compared to weak protection countries.
24
[Insert Table 2 here]
Table 3 presents further evidence on the impact of taxation and governance on
payout ratios. We classify our sample into dividend tax systems (classical, partial and
full), tax discrimination ratios (high and low TD), and shareholder protection (strong and
weak). We test for differences in means using the t-test. The results indicate that in strong
governance countries, the average payout ratio is significantly higher than that of the
weak governance system. These results are consistent with previous evidence (e.g., LLSV
(2000b)) and suggest that in strong protection countries shareholders are likely to make
managers disgorge cash that might be used to undertake negative NPV projects. However,
the distribution of this ratio across tax systems and governance quality is not monotonic.
Interestingly, in the classical system the reverse is observed: the average payout in weak
governance system is significantly higher than that in the strong protection countries. For
the remaining tax systems, the results are consistent with the outcome hypothesis as firms
in strong pay higher amounts of dividends than those in the weak system. We also find,
but not report, similar results when we define payout as dividends over earnings, as firms
in the classical tax system and strong governance countries pay only 12% of their earnings
as dividends, compared to 26% for those in the weak system (p difference = 0.00), but the
respective average dividend payout ratios are 36% and 24% (p = 0.00) in full tax system,
and 27% and 24% in the partial tax system.
Table 3, Panel A. also shows that dividends in strong governance system are
affected by the taxation of dividends relative to capital gains (TD). In particular, the
average payout of companies with high TD is about twice that of low TD (p = 0.00). We
obtain similar results when we use dividend over earnings (0.25 vs. 0.13, p = 0.00). This
impact is also observed in weak governance countries. Finally, the last three columns
25
indicate that the average payout when TD is high (above the median TD) is significantly
higher than low TD firms, in all the tax systems. We note also that the average payout is
significantly higher in the full imputation compared to the classical tax system in both low
and particularly high TD groups, where the distribution of payout is monotonic. When we
divide dividends by earnings, we find similar results with a mean payout ratio of 26% in
high compared to 20% in low TD countries (p = 0.00), and the difference is more
pronounced when we account for the tax system.
Table 3, Panel B. reports the distribution of repurchases over total assets. The
results indicate clearly that, in strong governance countries, repurchases are the highest in
the classical and lowest in the full imputation tax system, and they are also statistically
higher in low TD countries. In the weak governance system, repurchases are not evenly
distributed across the tax system and, in contrast to our predictions, they are higher in
high TD groups. The distribution of repurchases across TD groups reported in the last
three columns is also not as expected.
Overall, our results suggest that payouts are affected by a combination of
governance and tax systems. In countries with strong governance and where the classical
tax system operates, companies prefer not to pay cash dividends to their shareholders as
they will be tax penalised. Instead they recur to share repurchases to maximise the after-
tax returns of their shareholders. In the weak governance system, firms pay small
dividends and buyback smaller amount of shares, and the relationship between payouts
and taxation is not strong and as expected. These results provide an early support for the
outcome, not substitution model.
[Insert Table 3 here]
26
3.2. Impact of taxation on the payout ratios
In Table 4, we run a set of regressions to explain the levels of payouts. The dependent
variable is cash dividends in Model (1) to (3) and share repurchases in Model (4) to (6),
both scaled by total assets.10 We present the results based on random effect econometric
specification. We define the dependent variable as raw and industry-adjusted data and we
run Tobit model, as specified in Equation (6). Consistent with previous evidence (e.g.,
LLSV (2000b)), we find that Law, a dummy equal to one for strong shareholder
protection countries based on anti-self-dealing index, is positive and significant in all our
specifications, suggesting that in good corporate governance countries, firms are likely to
pay high cash dividends and also to buyback shares.11 However, this variable does not tell
us how firms chose between dividends and share repurchases, and whether managers
destroy shareholder value by paying dividends. Thus, investor protection variable does
not appear to be a clear determinant of the firm’s payout decisions. We overcome this
drawback by assessing whether firms pay cash dividends (repurchase shares) when the tax
cost on dividends is low (high) and whether, taxes and shareholder protection are joint
determinants of firms’ dividend payment across our countries.
The tax coefficients in Table 4 provide a strong indication that companies in the
full and partial imputation system countries pay significantly higher dividends than those
in the classical system. In Model (1) and (3), the results also indicate that the impact of
10 We also use alternative measures for payout using sales, net income and cash flow as
scaling factors for both cash dividends and repurchases. Our results, discussed more in
robustness section, are qualitatively similar. 11 With almost similar set of controlling variables and similar sample period, Eije and
Megginson (2008) report no significant effect of legal environment on dividend policy of
EU member countries. We also find strong impact when we use other investor protection
variables, such legal origin or anti director rights, reported in robustness checks section.
27
the full system on cash dividends is higher than that in the partial, as the coefficients of
Full are economically higher. However, when we use dividend payers only (Model (2)),
the coefficients of Full and Partial are relatively the same. The coefficient of the tax
discrimination variable, TD, is not significant in Model (2), but it is, as expected, positive
and significant in the remaining models. In Model (4) to (6), the relationship between
repurchases and taxation is even stronger. As expected, the results indicate that companies
that operate in the full and partial tax system, and whose shareholders are taxed at a higher
rate on dividends relative to capital gains, repurchase significantly less. These results are
independent of the specification we use. We note, however, that the coefficients of Full
and Partial are economically relatively similar, suggesting that there is not much
difference in the amount of repurchases between full and partial systems.
The results also indicate that cash dividends and share repurchases are substitutes,
not complementary, as the coefficients of repurchases (cash dividends) are negative in the
dividend (repurchases) regressions, in line with some previous studies (Jagannathan,
Stephens and Weisbach (2001) and Grullon and Michaely, (2002)). Although firms may
have other motives to buy back shares,12 our results suggest that they are likely to do so to
minimise the tax liability of their shareholders, as our regressions control for all other
likely fundamental factors.
12 Vermaelen (1981) points out the conditions under which repurchases can also be taxed as
dividends and thus may not work as perfect substitutes. Dittmar (2000) finds that
repurchasing firms do not necessarily have lower dividend payout ratios. Brennan and
Thakor (1990) argue that repurchases can carry a significant information asymmetry cost that
may washout any tax advantage from them, especially when firms are perceived to be taking
advantage of shareholders.
28
Our results contribute to the controversial debate and mixed results in the literature
on the impact of taxation on dividends (see, e.g., Graham (2008) for a review). For
example, Pattenden and Twite (2008) investigate the changes in dividend policy around
the introduction of a dividend imputation tax system in Australia in 1987 and find a
significant increase in dividend payout and dividend initiation after switching form
classical to imputation system. Akhtar (2008) compares the determinants of dividend
payout ratio across Australia, U.S., Japan, U.K. and Malaysia and reports a higher
dividend payout in firms in imputation tax system countries (Australia and U.K.) relative
to firms in the other countries that apply classical tax system. However, unlike the results
of previous studies (e.g., LLSV (2000b) and Ejie and Megginson (2008)), the tax
discrimination ratio, TD, is positive (negative) and significant in all our dividend
(repurchases) specifications, suggesting that shareholder tax preferences affect dividends.
Thus, we contribute to previous evidence by showing that both the tax system and
shareholders’ personal taxes affect firms’ payout ratios.
The coefficients of the control variables are relatively as expected. Profitability
(ROA) is positive and significant, implying that profitable firms have higher payout ratios
than less profitable companies. The coefficient of debt to equity ratio (D/E) is negative
and significant, suggesting that either high leverage constrain companies from paying
high dividends through debt covenants, or that high levered firms suffer less from the free
cash flow problem, and thus do not need to disgorge cash to their shareholders (Jensen
(1986)). The negative and significant coefficient of the percentage change in total assets
(%∆TA) indicates that firms with higher investment needs have lower payout ratio. The
negative and significant coefficient of the cash flow uncertainty (CFVol) support the
findings of Chay and Suh (2009) that firms with high cash flow uncertainty are risky, thus
29
less able to payout dividends.13 In addition, AGE is positive and significant, in line with
the life cycle theory (DeAngelo, DeAngelo, and Stulz (2006)) and firm's maturity effect
(Grullon, Michaely and Swaminathan, (2002)). However, the results are not significant in
all specifications. Unlike Eije and Megginson (2008), the dummy variable (Euro) is
positive in our dividend but negative in repurchases regressions. These results suggest that
firms in the Euro zone pay higher dividends but repurchase less than other OECD
countries. Finally, GDP growth rate is mainly negative, reflecting the need for internal
funding in growing economy, but it is not always significant.
It is interesting to note that the coefficient of market-to-book is positive and
significant in most specifications, suggesting that high growth firms pay high dividends
and buyback more shares. Similarly, in Model (2) the coefficient of size (ln(S)) is
negative and significant,14 suggesting that smaller firms have higher payout ratio. These
results are not consistent with previous evidence (e.g., Fama and French (2001)) where
large and mature companies have higher payouts. However, the negative size effect
applies only when non-dividend paying firms, which are usually the smallest, are
excluded from the sample.
[Insert Table 4 here]
3.3. The interaction between Taxation and Investor Protection
In this section we examine whether taxation affects payouts in a similar way in firms
across strong and weak governance countries. We divide our sample firms into two
subsamples based on the level of investor protection. A strong protection subsample
includes firms in countries with above average anti self-dealing index while weak
13 We find similar results when we use the standard deviation of ROA. 14 We also obtain similar results when we use the log of total assets to proxy for size.
30
protection subsample includes the remaining firms. The results, reported in Table 5 are
based on industry-adjusted data country random effect (Equation (1)), and Tobit model
with random effect (Equation (2)) for both cash dividends and repurchases.
The first column shows that, in line with previous results, in strong shareholder
protection countries, firms that operate in full and partial imputation systems pay higher
dividends than those in the classical system. The coefficient of Full is higher than that of
Partial, suggesting that, economically, firms in the full system pay the highest amount of
dividends, followed by those in the partial, and in the classical the payout is lowest. TD is
also positive and significant, suggesting that the tax system at both firm and shareholder
levels affect dividend payments. However, companies do not substitute cash dividends for
repurchases as Rep/TA is negative but not significant. We obtain similar results in column
3 with the Tobit specification, except that TD is positive but not significant. Similarly, in
the repurchases regressions, reported in columns (5) and (7), TD, is not significant, but the
coefficients of Full and Partial are negative and significant, suggesting that firms that
operate in the full and partial system are less likely to buyback their stock, compared to
those in the classical system. Overall, these results suggest that, although TD may not
have a strong effect on dividends and repurchases in the strong shareholder protection
countries, firms that operate in the classical tax system are less likely to pay cash
dividends, but they recur to share repurchases to maximise their shareholders’ after-tax
return. The results are consistent with the agency theory of dividend taxation developed
by Chetty and Saez (2010) and Morck and Yeung (2005), which postulates that lower
dividend taxes mitigate the free cash flow agency problem since managers cannot use the
tax burden of dividends as an excuse to hoard cash. The low dividends taxes lead
managers to use the excess cash efficiently in strong shareholder protection countries.
31
In contrast, in weak shareholder protection countries, the relationship between
payouts and taxation is relatively weak. In columns (2) the coefficients of the dividend tax
system are not significant and TD is negative, in contrast to the predictions of the tax
effect. In column (4), all the tax variables are not significant. In the repurchases
regressions, reported in columns (6) and (8), the tax variables are negative but not always
significant. Moreover, cash dividends appear to be complementary, not substitutes, to
share repurchases, as the coefficients of Rep/TA and Div/TA are positive and significant,
suggesting that firms that pay cash dividends are also to buyback shares.
The remaining results are relatively similar to those reported in the previous
section. We note, however, that the coefficient of ROA is significantly higher in low
protection environment relative to strong protection countries, suggesting that firms in
strong investor protection countries tend to smooth dividends more, consistent with the
agency model of Allen et al. (2000) and the findings of Leary and Michaely (2008) that
tight monitoring, and in our case strong power in the hand of investors, predict higher
dividends smoothing as managers will be reluctant to cut them.
[Insert Table 5 here]
In Table 6 we assess the impact of shareholder protection in countries with
classical and imputation systems. For space considerations, we split our firms into two tax
groups and run a set of regressions as in Equation (6). The first subsample includes all
firms that operate in the classical dividend tax system. The remaining firms are included
in the second subsample, referred to as Imputation, since they operate in the full and
partial imputation systems. We find same qualitative results when the full and partial
imputation systems are separated. Model (1) shows that, in both tax systems, dividends are
positively related to TD. However, the relationship between dividends, law, and
32
repurchases differs across the two tax systems. In the classical system, repurchases are
positively related to dividends. These results suggest that these two payment methods are
complementary, and thus not consistent with the tax hypothesis. However, as shown
above dividends are significantly lower in the classical tax system where firms pay
minimum amount of dividends necessary to signal or reduce agency costs. Therefore, in
the classical tax system, companies pay cash dividends and supplement them with share
repurchases, which are more tax efficient. These arguments are consistent with Allen et al.
(2000) who develop a model in which firms pay dividends to attract untaxed institutional
clientele, and show that dividends and repurchases are not substitutes, and firms are
expected to use dividends rather than repurchases for signalling and agency reduction
motives. Since their model is based on dividend tax clientele, it is only working if
dividends are taxed (as in classical system). Therefore, based on their model's prediction,
dividends and repurchases need not be substitutes in classical system and thus the
coefficient on repurchase needs not be negative. We find that in the imputation system,
the relationship is negative, suggesting that firms pay high cash dividends but repurchase
less, thus they use dividends and repurchases equally to distribute excess cash, and one
method reduces the dependence on the other. However, in the classical system, while
repurchases reduce taxes, they do not necessarily lead to a reduction in dividend, which
are already set at an optimal level.
In Model (2), the results are consistent with the tax hypothesis, except that TD is is
positive and significant under imputation system, but it is insignificant under the classical
system. The general weak performance of the TD variable here and in previous literature
may be partly due to the inaccuracy of its measure under the classical relative to the
imputation system, as it is based on top statutory rather than effective tax rates of
33
marginal investors. Thus, when the process of indentifying the marginal investor and
measuring her effective tax rate are complex, the statutory rate is less representative, and
the TD ratio becomes weaker (Graham (2008)). In classical system, investors are
motivated to pursue different ways to avoid dividend taxes. For example, investors can
invest through tax-exempt entities or hold their investments in a tax-exempt account. In
addition, the relatively high taxation of dividends under the classical system creates
dividend clientele that makes the process of identifying the marginal investor less uniform
among firms. These measurement difficulties of the marginal investor’s effective tax rate
lessen the accuracy of the statuary tax rate as a proxy for the marginal unobserved tax
rate, and weaken the significance of the TD ratio. In contrast, the imputation system
lowers (or eliminate) the tax burden of dividends and thus investors are less (or not)
motivated to pursue strategies that significantly change their effective tax rates. Therefore,
in the absence of tax clientele and tax avoidance strategies, the statutory tax rate can
proxy for the marginal tax rate with more precision, and thus TD ratio will show stronger
impact on dividends.
Interestingly, Law is negative and significant in the classical but positive in the
imputation tax system. The results suggest that in strong shareholder protection countries,
firms pay high dividend in the imputation but low dividends in the classical system, to
maximise the wealth of their shareholders. However, in the case of share repurchases, the
impact is positive in both the classical and imputation tax systems, except the non-
significance of Law in the last column. These results suggest that in strong shareholder
protection countries, companies buy back shares independently of the tax system in which
they operate.
34
The agency theory suggests that dividends are a manifestation of shareholders'
wealth maximization on the part of the manager, and, thus, the more aligned the
objectives of managers with those of shareholders, the higher the payout (e.g., LLSV
(2000b), Fenn and Liang (2001), and Desai, Foley, and Hines (2007)). Our results are
consistent with these arguments, as in the classical tax system, paying dividends carries a
tax disadvantage that reduces the wealth of shareholders. In a strong shareholders
protections environment, a shareholders' wealth maximizing manager is expected to
reduce dividend payout. In contrast, when dividends suffer no (or less) tax disadvantage, a
manager is expected to increase dividend payout as investor protection increases. In
addition, the lack of impact of taxation in weak governance countries support the outcome
model that managers in those countries not only pay less dividends but ignore the tax
disadvantages assumed by their investors. Managers can get away with such practice not
only because investors’ rights are not well protected but also because investors are more
concerned about extracting cash than about the tax consequences of such extraction.
These results provide an additional perspective to the agency theory explanation of
dividend payout and show the interrelation between agency and taxation in explaining
dividend payout.
Similar results are reported for repurchases in the last four columns. The remaining
explanatory variables are similar to Table 3 and 4. We note, however, that the coefficient
of ROA is significantly higher (at 0.01 level) under the imputation than classical system,
suggesting that dividends are less sensitive to profitability in classical system as firms
smooth dividends more, i.e. have slower speed of adjustment.15
15 The low speed of adjustment found in classical system relative to other systems is
consistent with the argument in Rozycki (1997) that dividend taxation encourages
35
[Insert Table 6 here]
In Table 7, we assess the joint effects of shareholder protection and taxation on
dividends and share repurchases. As in the previous table, we group the full and partial
imputation systems into Imputation for space considerations, and we report the random effect
model and the Tobit model for both cash dividends and share repurchases scaled by total
assets. The results indicate that it is not tax and shareholder protection separately that
explain payouts. The interaction variables provide stronger results. For example, Law x
Imputation is positive in cash dividend but negative in repurchases regressions. These
results suggest that firms that operate in strong protection and imputation system are
significantly more likely to pay higher cash dividends but repurchase less than other firms
in the classical tax system and in weak shareholder protection. Similarly, Repurchase x
Imputation is negative in dividend regressions and Dividend x Imputation is negative in
repurchases equations. The results suggest that firms prefer to pay cash dividends instead
of repurchasing shares in the imputation system, while they do the reverse in the classical
system, in line with the tax hypothesis. Finally, TD x Imputation is positive and
significant in the dividend equations, suggesting that companies that operate in an
imputation system and where shareholders are taxed less on dividends than capital gains
pay the highest amount of dividends. The relationship of this variable in the repurchases
regressions is not significant. Overall, these results provide some evidence that dividends
and shareholder protection affect payouts.
[Insert Table 7 here]
managers to smooth dividends, i.e. slow down the speed of adjustment, to reduce the
present value of expected income tax liabilities of their investors.
36
3.4. Changes in Dividends across Dividend Tax Systems
In this section we focus on the impact of taxation and shareholder protection on the
decision to pay, increase and decrease cash dividends and repurchase shares.16 We include
the tax and governance variables as well as their interactions. The results reported in
Table 8 indicate that companies that operate in the full and partial tax systems are more
likely to pay dividends. TD is also positive suggesting that when shareholders are taxed
less on dividends than capital gains, firms pay dividends, in line with Ejie and Megginson
(2008) who find positive effect of TD on the probability to pay dividends. However, Law
is negative and insignificant, but Law x Imputation is positive and significant suggesting
that firms that operate in an imputation tax system and in strong shareholder protection
are more likely to pay dividends than their counterparts in other systems. The coefficient
of TD x Imputation is negative and significant, not consistent with the tax hypothesis,
while Repurchase x Imputation is negative and significant. The results for dividend
increases and reductions are relatively similar and suggest that the interaction between
shareholder protection and taxation affect significantly the decision to pay and to change
cash dividend payments. However, for the decision to repurchase shares the results are
relatively weak.
16 The foreign exchange bias may affect our classification of firms as dividend increasers
and cutters. For example, it is possible that we incorrectly classify a firm as dividend
cutter, even if the company continues to pay the same dividend in local currency, but due
to the U.S. dollar slide, the dividends appear to have gone down. Although we control for
that by including the Euro dummy, we also re-run probit model using data measured in
local currencies. The Probit results based on local currencies provide further support to
our earlier conclusions.
37
We also find, but not report, that 56% of the firms in our overall sample are paying
dividends. However, the proportion of 60% is relatively higher in the full compared to the
remaining two systems. Similarly, while the average proportion of companies that
increased their dividends during our sample period is 31%, it is statistically higher in the
partial and the full systems compared to the classical system. The probability of initiating
dividends is also statistically higher in the full, followed by the partial and it is the lowest
in the classical system. In contrast, the probability of never paying dividends is the lowest
in full imputation system, followed by the partial and then the classical system. Overall,
these results provide support for the tax impact on dividends and suggest that firms are
more willing to pay, initiate, and increase dividends and less likely to never pay dividends
in a more favourable tax environment. In contrast, the results for dividend cut and
omission are not consistent with our tax hypothesis. The probability of omitting or cutting
dividends is significantly higher in the full system compared to the classical system.
The coefficients of the remaining variables are relatively consistent with previous
studies (e.g., Fama and French (2001), Denis and Osobov (2008), Ejie and Megginosn
(2008) and Chay and Suh (2009)). The significance of the coefficient of size (ln(S)) and
profitability (ROA) variables suggests that larger and profitable firms are more likely to
pay and increase dividends and they are less likely to reduce or cut dividends. Dividend
premium is not significant, and when it is, its sign is not as expected, inconsistent with the
catering theory of dividend (Baker and Wurgler (2004)). These results are in line with
Denis and Osobov (2008) and Ejie and Megginson (2008) who show that dividend
premium consistently carries the wrong sign in some countries in their samples, and do
not support Ferris, Jayaraman and Sabhel (2009) who find that while in civil law countries
catering does not explain dividends, in common law countries shareholders extract
38
dividends by putting a premium on dividend paying firms.17 Cash flow volatility (CFVol)
is negatively related to the likelihood of paying and increasing dividends, but positively
related to the probability of cutting dividend. The negative coefficient of M/B in paying
and increasing dividends and the positive coefficient in reducing dividends are consistent
with the need to fund growth. Other studies report mixed evidence of the impact of M/B
on dividend changes. For example, Denis and Osobov (2008) report a negative coefficient
for M/B in U.S., Canada, and U.K. and a positive coefficient in Germany, France, and
Japan. Similarly, Chay and Suh (2009) show inconsistent impact of M/B ratio as they
report nonnegative or insignificant M/B coefficient in many countries.
[Insert Table 8 here]
4. Robustness checks
In this section we assess whether our results are driven by our sample specifications and
the measurements of our variables. We report the tax and investor protection variables
when we re-run the regression results reported in Table 4 in Table 9 and those in Tables 5
and 7 in Table 10. The remaining variables are not reported for space considerations.
4.1. Impact of zero dividends and negative earnings
We first use only dividend paying companies. The results reported in the baseline
regression shows that the measurement of the dependent variable does not affect our main
findings in Table 4 as dividend payout ratios are higher in the full and partial compared to
the imputation system, and in countries with strong shareholder protection. We then
17 Hoberg and Prabhala (2009) investigate the role of dividend premium in explaining
dividend decisions to find that dividend premium is not significant and with a wrong sign.
39
include non-paying firms, we re-run our baseline regression.18 The results in Table 9 show
that the tax system dummies are still significant with the correct sign for dividends19
(model A1). In (B1), the partial tax system dummy and the tax discrimination (TD) for
repurchases are significant with the predicted negative sign. However, the full tax dummy
variable lost its significance, although it is signed correctly.
We also run the regressions excluding negative earnings (models A2 and B2). We
find similar results as the tax system dummies are significant with the correct signs for
dividends and repurchases. However TD switched to negative sign in the dividend
regression and became significant.20 These findings explain the negative and significant
coefficient of TD in Eije and Megginson (2008) who follow Julio and Ikenberry (2005)
and set the dividend payout ratio equal to one if earnings are negative. Finally, in all
regressions, the variable Law is qualitatively not affected by including non-payers or by
excluding negative earnings. Thus, in spite of some impacts of non-payers and negative
earners, our main tax dummies perform well specially in explaining dividends and TD
variables kept its power in explaining repurchases.
4.2. Impact of U.S. data
U.S. firm/year observations represent 54%, 48%, and 27% in the classical, strong
protection, and overall sample respectively. With the relatively heavy presence of U.S.
18 We do not truncate our ratios as we adjust all firm level data by their industry averages. 19 In unreported results we find that size (ln(S)) coefficient is positive and significant,
suggesting that large companies in our overall sample are more likely to have high payout
ratios, but amongst the payers, large firms have lower payout policies. 20 We note that the coefficient of M/B in the payout regression is positive and significant
after excluding negative earnings.
40
data in our sample, it is important to know whether our results are driven by the behavior
of U.S. firms. For example, it is possible that the lower payout ratio in classical system
countries is driven by the lower propensity to pay dividends in the U.S. (Fama and French
(2001)), especially since in other countries many firms still pay dividends (Denis and
Osobov (2008)). To address this issue, we follow Brockman and Unlu (2009) and
Ferreira, Massa, and Matos (2010) and re-run our regression without U.S. data. The
results in (A3) and (B3) show that our tax dummies are qualitatively unaffected by
dropping US data in dividend regression, however they lost significance in repurchases
regression. Interestingly, in (A3) Law is larger and more significant after dropping the US.
4.3. Impact of ownership structure
In a recent work, Ferreira et al. (2010) show that foreign institutional investors press for
fewer dividends since most countries impose a withholding tax on their dividends. Even if
it is possible to credit those taxes against home country taxes, many institutional investors
are tax exempt and cannot take advantage of such credit. Unlike foreign institutional
investors, local institutional investors are expected to press for higher payout to mitigate
agency and information asymmetry costs. Using the institutional ownership data used by
Ferreira et al. (2010), we find that foreign institutional ownership is lower in classical
system countries (correlation -0.49), while domestic institutional ownership is higher in
those countries (correlation 0.56). We find the opposite in full and partial system
countries where the correlations between full and partial system dummies with foreign
institutional ownership are 0.10 and 0.45, respectively, while their respective correlations
with domestic institutional ownership are -0.31 and -0.35. These results indicate the
41
existence of country level dividend clienteles where foreign investors prefer countries
with some tax relief.
To the extent that foreign (domestic) institutional investors impact dividend
payout negatively (positively), our results may be biased downward as we dot not control
for institutional ownership. In addition, ownership concentration impacts the sensitivity of
payout to tax advantage of dividends, as large shareholders are likely to encourage
dividend payments if they perceive dividends to have a lower tax cost.21 Finally, countries
with low protection have higher ownership concentration, and since both variables impact
payouts, our results for the Law variable may be biased by omitting a relevant variable.
We address this issue by adding two variables to our regression: (i) country level
percentage of total institutional ownership relative to total market capitalization, and (ii)
an interaction term between the first variable and a dummy that equals one if the
proportion of foreign institutional investors is larger than 60% (the sample mean). We use
the same data as Ferreira et al. (2010) and re-run our main regression by adding these two
additional variables for dividends (A4) and repurchases (B4). Finally, we control for
country level ownership concentration measured by the average percentage of common
shares owned by the top three shareholders in the ten largest non-financial, privately-
owned domestic firms in a given country using La Porta et al. (2006) data.
In dividends regression (A4) our tax systems kept their significance especially the
full tax dummy which is stronger in magnitude and level of significance. TD in (A4) and
Law in (B4) are also highly significant. In unreported results, we find a positive and
significant coefficient for ownership concentration, in line with the proposition that large
21 Blouin et al. (2004) and Jacob and Jacob (2010) show that in the presence of dividend
tax disadvantage, shareholders concentration is likely to drive dividend increases.
42
shareholders monitor managers and reduce the agency cost of free cash flow (Shleifer and
Vishny (1986)). In line with Ferreira et al. (2010), we also find, but do not report, that
institutional ownership variable is positive and significant, while the foreign ownership
dummy is negative and significant when we exclude the U.S. data in the dividend
regression (A4), but when we include U.S. data, both variables are negative and foreign
dummy is insignificant. In the repurchases equation (B4), the two institutional ownership
variables are positive and significant, suggesting that foreign institutional investors are
more disadvantaged with dividends than repurchases.
4.4. Additional Country Specific Controls
We control for several country specific variables that are shown to have an effect on
payout policy to insure that our results are not biased by omitting variables. We control
for the following institutional variables. First, risk of expropriation as firms in high
expropriation risk countries are encouraged to hold less liquid assets and payout more
cash to reduce the chance of expropriation (Faccio et al. (2001)). Second, creditors’ rights
as countries with poor creditors rights are expected to have lower payout to substitute for
such weak rights (Brockman and Unlu (2009)). Third, rule of law as countries with higher
score for rule of law are expected to have higher dividends based on the outcome model
(LLSV (2000b)). Fourth, stock market development measured as stock market
capitalization relative to GDP, as firms in countries with less developed stock markets are
more likely to pay lower dividends and accumulate more cash. Fifth, accounting
disclosure quality as it affects payout policy (Brockman and Unlu (2008)). The data on all
of the above variables is extracted from LLSV (1998).
43
Models (A5) and (B5) show that our tax variables are stronger in magnitude and
significance when we control for the above variables. However, Law becomes
insignificant in dividend regression. Further analysis shows that this is due mainly to the
inclusion of creditors’ rights which support the argument of Brockman and Unlu (2009)
that the agency cost of debt has a stronger impact on dividends policies than agency cost
of equity. In repurchases regression, Law is significant after controlling for country
specific variables. We also find, but not report, that in dividend regression, all the
additional country specific variables are significant except accounting discloser quality
which was not significant, while in repurchases all the five variables are not significant.
4.5. Alternative investor protection measures
In this section we use alternative measures of investor protection to assess whether our
results are robust. In models (A6) and (B6), we replace the anti-self dealing index with the
revised anti-directors rights index from Djankov et al. (2008). In addition, in models (A7)
and (B7) we replace the anti-self dealing index with a dummy indicating civil law origin
for the country. The tax system variables in both the dividend and repurchases regressions
are significant, and in the repurchases regression TD is also significant. However, the
anti-directors rights is insignificant, in line with the argument of Djankov et al. (2008) that
anti-self dealing index provides a superior measurement for investor protection than anti-
directors rights. Consistent with LLSV (2000b), the civil law dummy affects dividends
and repurchases.
44
4.6. Alternative Payout Measures
Our main results are based on dividends to total assets. The baseline regression above
tested for robustness using dividends over earnings. In this section we try two alternative
ratios: dividends over sales and dividends over operating cash flows. In models (A8) and
(A9), our tax system dummies are still significant, but the Law variable is not significant
when we use dividends to sales as a dependent variable. We also take the log of dollar
dividends as a dependent variable in (A10). The results show that all the main variables
are significant with the expected sign.
In Panel B., we use two alternative measures for repurchases to make sure our
main results are not biased towards specific measures. In model (B8), we use the
percentage of repurchases relative to total payout which include repurchases and
dividends. We still find that our tax variables and Law are significant. We get similar
results when we measure repurchases in terms dollars (in log form) in model (B9).
[Insert Table 9]
4.7. Joint impact of taxation and governance on payout
In Table 10 we re-run the regressions in Table 5 and 7 while experimenting with different
samples (excluding some countries), alternative payout measures of dividends,
repurchases, and Law variables, and additional country level controls. The dividends
results (Part I) are similar to our original regressions specially the taxation effect and the
joint effect of taxes and governance on dividends. The coefficient on repurchases seems to
be sensitive to the inclusion of some countries. In particular, when we exclude UK or
Japan, repurchases in strong investor protection countries became independent of
dividends but when we exclude both countries and US, repurchases become substitutes
for dividends. The results on repurchases (Part II) also show strong tax impact. However,
45
the joint impact of taxation and governance on repurchases became insignificant when we
use anti-directors rights as a measure for governance quality and when we include
intuitional and foreign ownership structures as control variables. In addition, the impact of
taxation on repurchases seems to be driven by US firms. When we exclude the US, firms
in full and partial system repurchase more shares than those in classical system countries
and TD become insignificant. Our overall results support the separate and joint effects of
taxation and governance on dividends and repurchases, especially on dividends.
[Insert Table 10]
5. Conclusion
We analyze the dividend payout policy of companies listed in 24 OECD member
countries under different tax systems of dividends and level of investor protection. We
reassess previous evidence that firms in high investor protection countries pay higher
dividends in the presence of tax costs of dividends. More specifically, we test whether
firms in strong investor protection countries pay dividends when their tax cost is high, or
whether they substitute them for share repurchases to maximize their shareholders’ after
tax return. We also assess whether in weak investor protection countries, investors prefer
to receive dividends, even if they incur high tax cost, to mitigate the appropriation of
private benefits by controlling shareholders.
Consistent with previous studies (e.g., LLSV (2000b), we show that firms in high
investor protection countries pay higher dividends, but the distribution of payouts across
tax systems is not homogeneous. In the classical tax system, firms in strong investor
protection countries pay significantly lower dividends than their counterparts in weak
investor protection countries, but they buyback significantly more shares than other firms;
and as the tax cost of dividends decreases, they pay higher dividends but buyback fewer
46
shares. However, in weak protection countries, payouts and repurchases are lower and the
impact of taxation is weak. Our results suggest that in strong protection countries,
shareholders accept less dividends and more repurchases when the tax cost of dividend
outweigh the benefit of reducing the agency cost; and managers maximize their
shareholders’ after tax return by substituting cash dividends for repurchases. In contrast,
in weak investor protection countries, managers appear to be able to set dividend policies
that are independent of tax costs as governance is poor and investors aim at extracting
cash than about the implied tax consequences. Thus, investors in such countries are likely
to suffer from the private benefits of expropriations, but also from the tax costs of
dividend payments. Overall, our results provide an alternative explanation of dividends
that combines the agency theory and taxation, as the interrelation between governance and
taxation provides a stronger explanation of dividend payouts across firms and countries.
While we provide further insight into this ongoing and controversial theoretical
and empirical question using a relatively large and more recent data, our analysis may
suffer from a number of limitations beyond our control. First, we do not have data on firm
level shareholding to compute fully the tax discrimination variable using the effective tax
rates of each category of shareholders. We rely on the standard and effective personal
income taxes of mainly individuals. Second, we assume that firms are subject to taxes of
their country of registration and quotation, while many companies are international and
may pay dividends from their foreign income. Forth, companies may have other ways of
managing their tax liability, particularly if they operate internationally. While these issues
are beyond the scope of our research because of data unavailability, the extent to which
their inclusion will strengthen or alter our results is a subject of further research.
47
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54
Table 1: Descriptive Statistics of the Variables
Panel A presents summary statistics of the main variables and Panel B presents a correlation matrix of tax, law, and
payout variables. The sample includes 44, 194 firm/year observations from 24 OECD countries from 2000 to 2007. N
Obs. is for the number of firm-year. DPS is for dividend per share, EPS is earnings per share, Div/NI s the ratio of
dividends over earnings. Div/S is the ratio of dividends to sales, Div/TA is the ratio of dividends to total assets, Div/CF
is the ratio of dividends to cash flow from operation. Rep/NI is the ratio of repurchased shares during the year over
earnings. Rep/TA is the ratio of repurchased shares during the year over total assets. Rep/TP is the ratio of repurchases
over the sum of dividends and repurchases. ROA is profit after tax but before interest to total assets. Ln(S) is the
natural logarithm of sales. D/E is long-term debt divided by the market value of equity. M/B is market value to book
value of the firm. % Δ TA is the percentage change in total assets. Law is the score of anti self-dealing index reported
in Djankov et al. (2008). CFVol is the standard deviation of the log of operating cash flow. Repurchases is the ratio if
repurchased shares during the year to total assets. Age is the number of years the firm is in the database. TD is the tax
discrimination variable, the ratio of the after-tax dividend income to after-tax capital gains. DP is the dividend
premium, the difference in the logs of value weighted average market to book ratio of dividend payers and non payers.
gGDP is the growth in real GDP. Euro is a dummy variable that equals one if the country is an EU member and zero
otherwise. All accounting variables are measured in US dollars for all firms. All accounting variables are winsorized at
the top and bottom 1%. All correlations coefficients in panel B are significant at 1% level except the ones in bold.
Panel A: Summary Statistics
Variables N Mean Median SD Min Max
DPS 44,194 0.29 0.04 0.69 0.00 14.53 EPS 44,194 0.92 0.34 2.11 -5.47 14.97 Div/NI 44,194 0.23 0.08 0.41 -1.42 3.44 Div/CF 42,627 0.12 0.04 0.20 -0.66 1.49 Div/TA 44,194 0.01 0.00 0.02 0.00 0.16 Div/S 44,194 0.01 0.00 0.03 0.00 0.33 Rep/TA 42,953 0.00 0.00 0.01 0.00 0.14 Rep/NI 42,953 0.06 0.00 0.21 -0.30 1.80 Rep/TP 42,953 0.18 0.00 0.35 0.00 1.00 ROA 44,194 0.01 0.03 0.13 -1.03 0.27 ln(S) 44,194 6.08 6.19 2.02 0.01 11.71 D/E 44,194 0.38 0.18 0.6 0.00 5.08 M/B 44,194 1.79 1.29 0.97 0.56 9.39 %Δ TA 39,238 0.18 0.05 1.89 -0.99 173.9 CFVol 42,361 0.06 0.04 0.05 0.00 2.22 Age 44,194 13.76 12.00 5.93 1.00 30.00 DP 44,194 0.06 0.11 0.31 -0.85 1.33 TD 44,194 0.96 0.97 0.19 0.40 1.51 Law 44,194 0.59 0.64 0.21 0.17 0.95 gGDP 44,194 2.52 2.51 1.33 -5.70 9.36 Euro 44,194 0.38 0.00 0.48 0.00 1.00
55
Panel B: Correlation Matrix of Selected Variable
TD Law DPS EPS Div/NI Div/CF Div/S Div/TA Rep/TA Rep/NI Rep/TP
Classical ‐0.40 ‐0.20 ‐0.02 ‐0.04 ‐0.11 ‐0.02 ‐0.18 ‐0.19 0.16 0.18 0.07 Partial 0.28 0.25 ‐0.00 ‐0.05 0.05 0.01 0.08 0.10 ‐0.11 ‐0.12 ‐0.06 Full 0.18 ‐0.04 0.03 0.01 0.08 0.01 0.14 0.14 ‐0.09 ‐0.09 ‐0.02 TD 1 0.64 ‐0.15 ‐0.17 0.09 0.01 0.13 0.17 ‐0.02 ‐0.05 ‐0.09 Law 1 ‐0.24 ‐0.23 0.04 0.01 0.07 0.09 0.04 0.02 ‐0.06 DPS 1 0.66 0.31 0,03 0.32 0.38 0.05 0.03 ‐0.11 EPS 1 0.10 0.00 0.12 0.16 0.13 0.09 ‐0.05 Div/NI 1 0.03 0.48 0.55 0.00 0.05 ‐0.17 Div/CF 1 0.04 0.05 ‐0.00 ‐0.00 ‐0.01 Div/S 1 0.74 0.05 0.02 ‐0.15 Div/TA 1 0.09 0.03 ‐0.18 Rep/TA 1 0.79 0.43 Rep/NI 1 0.45 Rep/TP 1
56
Table 2: Distribution of Dividend and Tax Variables across Countries and Tax Systems
The sample includes 44,194 firm/year observations from 24 OECD countries from 2000 to 2007. Strong (weak) protection
sample is for countries with Anti-self dealing index (Law) greater (lower) than the mean, using the score of anti self-dealing
index reported in Djankov et al. (2008). TD is the tax discrimination variable, the ratio of the after-tax dividend income to
after-tax capital gains. No. firms if for the number of firms in each country; No. Obs. is for the number of firm-year. DPS
(EPS) is for dividend (earnings) per share, Div is dividends, NI is earnings, TA is total assets. Rep is repurchased shares
during the year, TP is the sum of dividends and repurchases. All accounting variables are measured in US dollars for all
firms and winsorized at the top and bottom 1%. * indicate significant at 1% or 5% level between strong and weak
protection. The letters a, b, and c indicate significant difference at 1% or 5% level between classical vs. Partial, Classical
vs. Full, and Partial vs. Full, respectively.
Country No. Firms
No. Obs.
TD Law DPS EPS Div/NI Div/TA
% Rep/NI
Rep/TA %
Rep/TP
Panel A: Strong Protection Countries a) Classical Tax System Ireland 59 291 0.72 0.79 0.10 0.42 0.19 1.30 0.03 0.16 0.10 U S A 2,612 12,093 0.94 0.65 0.21 0.98 0.12 0.67 0.13 0.90 0.23 2,671 12,384 0.93 0.65 0.21 0.97 0.12 0.68 0.13 0.88 0.23 b) Partial Imputation Tax System Canada 769 3,021 0.93 0.64 0.21 0.67 0.17 1.06 0.04 0.26 0.15 UK 1,573 6,063 1.25 0.95 0.12 0.20 0.31 1.84 0.03 0.22 0.12 2,342 9,084 1.14 0.85 0.15 0.36 0.26 1.58 0.03 0.23 0.13 c) Full Imputation Tax System Australia 880 3,478 1.05 0.76 0.08 0.11 0.35 2.31 0.02 0.15 0.12 New Zealand 66 310 1.49 0.95 0.11 0.14 0.50 3.25 0.02 0.12 0.12 946 3,788 1.09 0.78 0.08 0.11 0.36 2.39 0.02 0.15 0.12
Panel B: Weak Protection Countries a) Classical Tax System Austria 75 291 0.75 0.21 0.99 2.85 0.26 1.10 0.04 1.72 0.14 Belgium 76 357 0.85 0.54 1.03 2.61 0.24 1.38 0.06 3.98 0.19 Denmark 99 467 0.57 0.46 1.04 2.91 0.24 1.31 0.69 0.69 0.24 Netherlands 168 824 0.67 0.20 0.74 1.69 0.29 1.65 0.05 0.37 0.16 Japan 1,051 6,291 0.86 0.50 0.13 0.46 0.25 0.65 0.07 0.22 0.19 Poland 113 377 1.00 0.29 0.32 1.09 0.18 1.29 0.02 0.11 0.18 Portugal 46 94 0.84 0.44 0.17 0.42 0.26 1.14 0.06 0.27 0.24 Spain 118 71 0.96 0.37 0.43 1.46 0.23 1.41 0.05 0.22 0.20 Sweden 179 837 1.00 0.33 0.43 0.91 0.33 2.24 0.06 0.43 0.12 Switzerland 143 512 0.59 0.27 1.28 3.97 0.24 1.25 0.06 0.44 0.20 2,068 10,121 0.83 0.43 0.37 1.06 0.26 1.00 0.09 0.45 0.18 b) Partial Imputation Tax System Finland 113 232 1.15 0.46 0.71 1.24 0.44 3.82 0.00 0.01 0.12 France 623 1,027 0.91 0.38 0.97 2.84 0.24 1.30 0.00 0.01 0.14 Germany 467 1,906 0.76 0.28 0.57 1.55 0.22 1.00 0.00 0.02 0.22 Italy 218 578 0.94 0.42 0.24 0.57 0.26 1.13 0.00 0.01 0.19 Luxembourg 18 83 0.80 0.28 0.40 1.24 0.14 1.22 0.09 0.54 0.22 Norway 94 62 1.24 0.42 0.28 0.70 0.23 1.10 0.09 0.50 0.26 Portugal 46 149 0.89 0.44 0.11 0.27 0.25 0.94 0.05 0.20 0.19 Spain 118 530 0.91 0.37 0.42 1.33 0.27 1.48 0.03 0.16 0.14 Turkey 154 685 0.77 0.43 0.18 0.43 0.18 1.50 0.00 0.01 0.21 1,851 5,252 0.85 0.36 0.53 1.46 0.24 1.31 0.01 0.05 0.19 c) Full Imputation Tax System Finland 113 371 1.41 0.46 0.72 1.17 0.46 2.68 0.01 0.04 0.13 France 623 1,942 0.85 0.38 0.89 2.90 0.21 1.11 0.01 0.02 0.20 Italy 218 460 0.96 0.42 0.14 0.21 0.27 1.02 0.01 0.02 0.25 Mexico 97 523 1.00 0.17 0.04 0.20 0.15 1.09 0.07 0.47 0.28 Norway 94 269 1.39 0.42 0.42 0.93 0.30 1.52 0.03 0.14 0.12 1,145 3,565 0.99 0.37 0.62 1.83 0.24 1.29 0.02 0.10 0.20
57
Panel C: Overall Sample All Strong 5,959 25,256 1.03 abc 0.74 abc 0.17 abc 0.62 abc 0.21 abc 1.26 abc 0.08 abc 0.54 abc 0.18 ab All Weak 5,064 18,938 0.87 abc 0.40 abc 0.46 abc 1.32 abc 0.25 ab 1.14 ab 0.06 abc 0.27 abc 0.19 bc All Classical 4,739 22,505 0.89 0.53 0.28 1.01 0.18 0.83 0.10 0.61 0.21 All Partial 4,193 14,336 1.04 0.69 0.29 0.76 0.26 1.49 0.02 0.17 0.15 All Full 2,091 7,353 1.04 0.58 0.34 0.94 0.30 1.86 0.02 0.13 0.16 All Sample 11,032 44,194 0.96*ab 0.59*abc 0.29*bc 0.92*abc 0.23*abc 1.21*abc 0.06*abc 0.38*abc 0.18*abc
58
Table 3: Payout Ratio across Dividend Tax and Governance Systems
The table reports the mean dividend (Panel A) and repurchases (Panel B) over total assets for 6 subsamples based on three
tax systems (Classical/Partial/Full) and two TD levels (high/low). Each country/year is classified into the three main
dividend tax treatment classes: Classical System (Classical), Full integration system (Full), Partial integration System
(Partial). TD is tax discrimination ratio measured as the after tax individual income from dividend divided by the after tax
individual income from capital gain. A country is classified as high (low) TD in certain period if its TD is larger (smaller)
than the median TD of the broader sample. The overall sample includes 44, 194 firm/year observations from 24 OECD
member countries between 2000 and 2007. p‐χ2 is p-values of Chi-square statistics to test for homogeneity across the tax
groups. Payout ratios are winsorized at the top and bottom 1%. The letters a, b,and c, indicate significant difference at 1%
level between classical vs. Partial, Classical vs. Full, and Partial vs. Full, respectively. *,**,and *** indicate significance at
10,5, and 1 percent levels, respectively.
System All
Protection Tax discrimination
Strong Weak Strong ‐ Weak High Low High ‐ Low
Panel A: Mean Div/TA (%) ‐ Overall Sample
Classical Partial Full p‐χ2 High TD Low TD High ‐ Low All
0.825 1.490 1.856 0.000 1.212 abc
0.682 1.581 2.389 0.000 1.530 0.725 0.805*** 1.262 ab
1.000 1.333 1.290 0.000 1.301 1.073 0.228*** 1.147 ab
‐0.318*** 0.248*** 1.099*** 0.229*** ‐0.348*** 0.115***
0.873 1.797 2.211 0.000 1.469abc
0.785 1.149 1.088 0.000 0.935 ab
0.088*** 0.648*** 1.123*** 0.534***
Panel B: Mean Rep/TA (%) ‐ Overall Sample
Classical Partial Full p‐χ2 High TD Low TD t High ‐ Low All
0.098 0.024 0.019 0.000 0.459 abc
1.047 0.282 0.188 0.000 0.545 0.827 ‐0.282*** 0.639 abc
0.344 0.054 0.124 0.000 0.296 0.188 0.108*** 0.222abc
0.703*** 0.228*** 0.064*** 0.249*** 0.636*** 0.417***
0.743 0.291 0.216 0.000 0.478 abc
0.713 0.096 0.030 0.000 0.439abc
0.030 0.195*** 0.186*** 0.039
59
Table 4: Dividend Payout Ratio, Governance, and Dividend Tax Systems The table reports the regression results of dividends and buybacks over total assets on tax, governance and
control variables. The data includes 44,194 observations from 23 OECD countries in 2000-2007. The
dependent variables are: Equation (1) industry-adjusted data - country random effect; Equation (2) Industry-
adjusted data - country random Effect using dividends payers only; (3) Tobit model with country random
effect; Equations (4) to (5) are for repurchases with (5) including only repurchasing firms. The remaining
variables are as defined in Table 1. Standard errors are in parentheses. ***, **, * Significant at 0.01, 0.05 and
0.1 level, respectively.
Dependent
Div/TA Rep/TA
Model (1) (2) (3) (4) (5) (6)
Intercept
‐0.019*** (0.001)
‐0.007***
(0.002) ‐0.045***
(0.003) ‐0.001(0.001)
‐0.012*** (0.003)
‐0.032***
(0.004) Full
0.011*** (0.000)
0.004***
(0.001) 0.016***
(0.001) ‐0.003***
(0.000) ‐0.007*** (0.001)
‐0.007***
(0.001) Partial
0.004*** (0.000)
0.005***
(0.001) 0.006***
(0.001) ‐0.004***
(0.000) ‐0.008*** (0.001)
‐0.008***
(0.001) TD
0.003*** (0.001)
‐0.001(0.001)
0.004***
(0.001) ‐0.002***
(0.001) ‐0.005*** (0.001)
‐0.003**
(0.002) Law
0.009*** (0.000)
0.012***
(0.004) 0.012***
(0.002) 0.008***
(0.001) 0.025*** (0.001)
0.004***
(0.002)
Rep ‐0.006*** (0.000)
‐0.010**
(0.004) ‐0.019*
(0.011)
Div
‐0.001***
(0.002) ‐0.002*** (0.000)
‐0.001**
(0.000) ROA
0.039*** (0.001)
0.102***
(0.006) 0.179***
(0.007) 0.012***
(0.000) 0.011*** (0.002)
0.039***
(0.003) ln(S)
0.001*** (0.000)
‐0.001***
(0.000) 0.002***
(0.000) 0.001***
(0.000) 0.002*** (0.000)
0.003***
(0.000) D/E
‐0.004*** (0.000)
‐0.003***
(0.000) ‐0.006***
(0.000) ‐0.001***
(0.000) ‐0.002*** (0.000)
‐0.001***
(0.000) %ΔTA
‐0.001*** (0.000)
‐0.003**
(0.001) ‐0.002***
(0.001) ‐0.000***
(0.000) ‐0.006*** (0.001)
‐0.016***
(0.001) M/B
0.004*** (0.000)
0.007***
(0.000) 0.002***
(0.000) 0.002***
(0.000) 0.009*** (0.000)
0.000(0.000)
CFVol
‐0.011*** (0.002)
‐0.011**
(0.005) ‐0.075***
(0.008) 0.002(0.001)
0.011*** (0.004)
‐0.002(0.005)
Age
0.001*** (0.001)
0.001***
(0.000) 0.001***
(0.000) ‐0.000***
(0.000) ‐0.001*** (0.000)
0.000(0.000)
gGDP
0.001*** (0.000)
‐0.000(0.000)
0.001***
(0.000) ‐0.000(0.000)
0.001*** (0.000)
‐0.000(0.000)
Euro
0.004*** (0.000)
0.005***
(0.000) 0.006***
(0.001) ‐0.011***
(0.000) ‐0.000 (0.000)
‐0.003***
(0.001) Wald λ2 (F) 9345.9*** 3768.2*** (55.39)*** 3538.2*** 3472.1*** (27.31)***
Adj (Pseudo)R2 0.46 0.50 (0.24) 0.27 0.33 (0.11)N 38,246 22,113 38,246 38,246 14,755 38,246
60
Table 5: Dividend Payout Determinants across Governance Systems
The table reports the regression results of dividends and buybacks over total assets on tax and control variables, split into
strong and weak shareholder protection. The data includes 44,194 observations from 23 OECD countries in 2000-2007.
The dependent variables are: Equation (1) industry-adjusted data - country random effect; Equation (2) Tobit model with
county random effect; Equations (3) and (4) are for repurchases. The remaining variables are as defined in Table 1.
Standard errors are in parentheses. ***, **, * Significant at 0.01, 0.05 and 0.1 level, respectively.
Indep. Div/TA Rep/TA Model (1) (2) (3) (4)
Law System Strong Weak Strong Weak Strong Weak Strong Weak Intercept
‐0.010*** (0.001)
0.005** (0.003)
‐0.057***
(0.007) ‐0.018(0.014)
0.005***
(0.001) ‐0.002*** (0.001)
‐0.056***
(0.013) ‐0.008**
(0.004) Full
0.021*** (0.001)
0.000 (0.001)
0.040***
(0.003) ‐0.002(0.002)
‐0.004***
(0.000) ‐0.001*** (0.000)
‐0.012***
(0.002) ‐0.003(0.002)
Partial
0.006*** (0.000)
0.001 (0.001)
0.013***
(0.001) ‐0.001(0.002)
‐0.004***
(0.000) ‐0.003*** (0.000)
‐0.008***
(0.002) ‐0.006***
(0.001) TD
0.004*** (0.001)
‐0.002*** (0.001)
0.003(0.003)
0.012(0.010)
0.001(0.001)
‐0.003*** (0.001)
0.008 (0.006)
‐0.005*
(0.003) Rep/TA
‐0.005 (0.003)
0.020*** (0.003)
0.010(0.028)
0.065**
(0.031)
Div/TA
‐0.001***
(0.000) 0.001* (0.000)
‐0.003***
(0.001) 0.001***
(0.000) ROA
0.028*** (0.001)
0.072*** (0.003)
0.152***
(0.034) 0.230***
(0.048) 0.120***
(0.001) 0.007*** (0.001)
0.055*
(0.027) 0.009(0.007)
ln(S)
0.002*** (0.000)
0.001** (0.000)
0.005***
(0.001) 0.001**
(0.000) 0.002***
(0.000) 0.001*** (0.000)
0.004***
(0.001) 0.001*
(0.000) D/E
‐0.004*** (0.000)
‐0.003*** (0.000)
‐0.005***
(0.002) ‐0.005***
(0.001) ‐0.002***
(0.000) ‐0.007*** (0.000)
‐0.001(0.002)
‐0.001(0.000)
%ΔTA
‐0.001*** (0.000)
‐0.001*** (0.000)
‐0.002***
(0.000) ‐0.003***
(0.001) ‐0.001***
(0.000) ‐0.001*** (0.000)
‐0.024***
(0.001) ‐0.008***
(0.002) M/B
0.004*** (0.000)
0.005*** (0.000)
0.002(0.002)
0.003(0.001)
0.002***
(0.000) 0.001*** (0.000)
0.000 (0.001)
‐0.001(0.001)
CFVol
‐0.014*** (0.002)
‐0.012*** (0.003)
‐0.082***
(0.017) ‐0.061***
(0.013) ‐0.001(0.002)
‐0.001 (0.001)
‐0.002(0.010)
‐0.002(0.006)
Age
0.001*** (0.000)
0.001*** (0.000)
0.000(0.000)
0.000(0.000)
0.001***
(0.000) 0.000(0.002)
0.001**
(0.000) 0.000(0.000)
gGDP
‐0.001*** (0.000)
‐0.000 (0.001)
‐0.000**
(0.000) ‐0.000(0.000)
‐0.001**
(0.000) 0.001*** (0.000)
‐0.000(0.001)
0.000(0.000)
Euro
0.006*** (0.001)
0.003 (0.002)
0.016***
(0.003) 0.005***
(0.002) ‐0.002***
(0.000) ‐0.001* (0.000)
‐0.009***
(0.003) ‐0.003**
(0.001) Chow test
(0.000)
(0.000)
(0.000) (0.000)
Wald λ2 (F) 5709.1*** 2911.4*** 1807.2*** 713.61*** Adj (Pseudo)R2 0.99 0.08 0.42 0.18 0.75 0.35 0.33 0.05N 21,651 16,595 21,651 16,595 21,651 16,595 21,651 16,595
61
Table 6: Dividend Payout Determinants across Dividend Tax Systems
The table reports the regression results of dividends and buybacks over total assets on governance and control variables,
split into tax systems. The data includes 44,194 observations from 23 OECD countries in 2000-2007. The dependent
variables are: Equation (1) industry-adjusted data - country random effect; Equation (2) Tobit model with country random
effect; Equations (3) and (4) are for repurchases. The remaining variables are as defined in Table 1. For space
considerations we group the full and partial imputation systems into Imputation. Standard errors are in parentheses. ***, **, * Significant at 0.01, 0.05 and 0.1 level, respectively.
Indep. Div/TA Rep/TA Model (1) (2) (3) (4)
Tax System Classical Imputation Classical Imputation Classical Imputation Classical Imputation
Intercept
‐0.003*** (0.001)
‐0.010*** (0.002)
‐0.014***
(0.004) ‐0.047***
(0.004) ‐0.019***
(0.002) ‐0.018** (0.016)
‐0.028***
(0.007) ‐0.021***
(0.004) TD
0.005*** (0.001)
0.004** (0.002)
0.002(0.002)
0.018***
(0.003) ‐0.008***
(0.003) ‐0.006*** (0.002)
‐0.013***
(0.003) 0.002(0.002)
Law
‐0.006*** (0.001)
0.018*** (0.003)
‐0.014***
(0.003) 0.014***
(0.002) 0.017**
(0.003) 0.011*** (0.002)
0.024***
(0.004) ‐0.001(0.002)
Rep/TA
0.020*** (0.003)
‐0.009** (0.004)
‐0.010***
(0.001) ‐0.038***
(0.001)
Div/TA
0.002***
(0.002) ‐0.004*** (0.001)
0.001**
(0.001) ‐0.000(0.000)
ROA
0.023*** (0.001)
0.051*** (0.002)
0.134***
(0.008) 0.206***
(0.010) 0.017***
(0.003) 0.001 (0.002)
0.087***
(0.007) 0.013***
(0.002) ln(S)
0.001*** (0.000)
0.002*** (0.000)
0.002***
(0.000) 0.003***
(0.000) 0.002***
(0.000) 0.002*** (0.000)
0.004***
(0.000) 0.001***
(0.000) D/E
‐0.003*** (0.000)
‐0.005*** (0.000)
‐0.004***
(0.000) ‐0.007***
(0.001) ‐0.002***
(0.000) ‐0.000 (0.000)
‐0.003***
(0.001) 0.001***
(0.000) %ΔTA
‐0.001*** (0.000)
‐0.001*** (0.000)
‐0.006***
(0.001) ‐0.002***
(0.001) ‐0.001***
(0.000) ‐0.001* (0.000)
‐0.019***
(0.003) ‐0.126***
(0.001) M/B
0.003*** (0.000)
0.006*** (0.000)
0.001***
(0.000) 0.004***
(0.000) 0.002***
(0.000) 0.002*** (0.000
0.002***
(0.001) ‐0.002***
(0.000) CFVol
‐0.007*** (0.003)
‐0.020*** (0.003)
‐0.062***
(0.011) ‐0.080***
(0.010) 0.004(0.003)
‐0.012** (0.005)
‐0.022*
(0.012) 0.006*
(0.003) Age
0.001*** (0.000)
0.000 (0.000)
0.000***
(0.000) 0.000***
(0.000) 0.000(0.000)
0.001*** (0.000)
0.000(0.000)
0.000(0.000)
gGDP
0.000 (0.000)
‐0.000(0.000)
‐0.000(0.000)
0.001***
(0.000) ‐0.001**
(0.000) 0.000 (0.000)
‐0.003***
(0.001) 0.000(0.000)
Euro
0.008*** (0.000)
‐0.001(0.001)
0.009***
(0.001) ‐0.003***
(0.000) 0.001(0.001)
‐0.016*** (0.001)
‐0.002(0.002)
‐0.001*
(0.001) Chow test
(0.000)
(0.000)
(0.000) (0.000)
Wald λ2 (F) 2956.2*** 4292.8*** (22.23)*** (49.14)*** 579.75*** 933.37*** (17.71)*** (8.91)***
Adj (Pseudo)R2 0.43 0.54 0.20 0.36 0.32 0.32 0.12 0.07N 19,909 18,337 19,909 18,337 19,909 18,337 19,909 18,337
62
Table 7: Interaction Effects on Dividend Payouts The table reports the regressions of dividends and buybacks to total assets on tax, governance and
control variables. The data includes 44,194 observations from 23 OECD countries in 2000-2007. The
dependent variables are: industry-adjusted data - country random effect (1); Tobit model with country
random effect (2); Equations (3) and (4) are for repurchases. The other variables are in Table 1.
Standard errors in parentheses. ***, **, * Significant at 0.01, 0.05 and 0.1, respectively.
(1) (2) (3) (4) Dividend Decision Div/TA Div/TA Rep/TA Rep/TA
Intercept
0.002*** (0.001)
‐0.012*** (0.001)
‐0.011*** (0.001)
‐0.091*** (0.016)
Imputation
‐0.021***
(0.001) ‐0.034***
(0.003) ‐0.000(0.002)
0.014**
(0.007)
TD
‐0.003***
(0.001) ‐0.004*
(0.002) 0.001(0.004)
0.005(0.007)
LAW
‐0.018***
(0.001) ‐0.038***
(0.003) 0.023***
(0.006) 0.024**
(0.011)
Repurchase
0.005***
(0.002) 0.004***
(0.000)
Dividend
0.021*** (0.003)
0.016*** (0.005)
TD x Imputation
0.016***
(0.002) 0.019***
(0.004) 0.002(0.004)
0.006(0.008)
Law x Imputation
0.024***
(0.001) 0.053***
(0.004) ‐0.016*** (0.006)
‐0.036***
(0.008)
Repurchase x Imputation
‐0.007**
(0.003) ‐0.003***
(0.001)
Dividend x Imputation
‐0.026*** (0.003)
‐0.028*** (0.007)
M/B
0.004 ***
(0.000)0.002***
(0.000)0.004 *** (0.000)
0.002 (0.002)
D/E ‐0.004***
(0.000)‐0.006***
(0.000)‐0.001*** (0.000)
0.001(0.001)
Ln(S)
0.001***
(0.000)0.003***
(0.000)0.001***
(0.000)0.004***
(0.001)ROA
0.040***
(0.001) 0.180***
(0.007) 0.023***
(0.002) 0.093***
(0.012)
CFVol
‐0.011***
(0.002) ‐0.076***
(0.008) 0.004(0.004)
‐0.003(0.011)
%ΔTA
‐0.000*** (0.000)
‐0.002*** (0.001)
‐0.000*** (0.000)
‐0.043*** (0.008)
Age
0.000***
(0.000) 0.000***
(0.000) ‐0.000**
(0.000) 0.000***
(0.000)
gGDP
0.001***
(0.000) 0.001***
(0.000) 0.000(0.001)
‐0.001***
(0.000)
Euro 0.000(0.000)
0.001(0.001)
‐0.001(0.000)
‐0.003**
(0.001)
Wald λ2 (F) 7955.7*** (54.31)*** 1734.3*** (8.22)*** Adj(Pseudo) R2 0.58 (0.25) 0.26 (0.25)N 38,618 38,617 38,618 38,617
63
Table 8: Probit Regressions for Discrete Dividend Decisions
The table shows the likelihood of paying and changing dividends, and repurchases, with country
random effect. Full (Partial) system is a dummy equals 1 if the tax system is full (partial)
integration, and zero otherwise. TD is tax discrimination ratio measured as the after tax income from
dividend over the after tax returns from capital gain. Law is a dummy variable equals one if the firm
has above median anti-directors right score and zero otherwise using the index reported in Djankov
et al (2008). Repurchase Dummy indicates if the firm repurchase shares in year t. Dividend Dummy
indicates if the firm pay dividend in year t. ROA is profit after tax but before extraordinary items
divided by total assets. ln(S) is the natural logarithm of sales. D/E is long-term debt divided by the
market value of equity. M/B is market value to book value of the firm. CFVol is the standard
deviation of the log of operating cash flow. gGDP is the GDP growth rate. DP is Dividend
Premium, the difference in the logs of value weighted average market to book ratio of dividend
payers and non-payers. All accounting variables are in US dollars for all firms and winsorized at the
top and bottom 1%. Robust standard errors are in parenthesis. *,**,and *** significant at 10%, 5%, and
1% levels, respectively.
Dividend Decision Pay Increase Decrease Repurchase Intercept
‐2.089*** (0.206)
‐2.015*** (0.171)
2.207*** (0.176)
‐0.801*** (0.148)
Full System
0.958*** (0.220)
0.854*** (0.190)
‐0.803*** (0.196)
0.411** (0.163)
Partial System
0.871*** (0.219)
0.753*** (0.189)
‐0.786*** (0.195)
0.120 (0.161)
TD
0.820*** (0.128)
0.650*** (0.110)
‐0.655*** (0.110)
‐0.188* (0.102)
LAW
‐0.357 (0.310)
‐0.163 (0.217)
0.052 (0.230)
‐0.301** (0.152)
Repurchase Dummy
0.228*** (0.022)
0.131*** (0.020)
‐0.157*** (0.020)
Dividend Dummy
0.406***
(0.021) TD x Imputation
‐0.923***
(0.203) ‐0.742*** (0.178)
0.833*** (0.182)
0.097 (0.158)
Law x Imputation
0.840** (0.371)
0.482* (0.263)
‐0.519* (0.277)
‐0.001 (0.186)
Repurchase x Imputation
‐0.233***
(0.032) ‐0.210*** (0.030)
0.260*** (0.030)
Dividend x Imputation
‐0.589*** (0.028)
M/B
‐0.145***
(0.010) ‐0.113*** (0.010)
0.160*** (0.010)
‐0.143*** (0.008)
D/E
‐0.335***
(0.014) ‐0.232*** (0.015)
0.340*** (0.015)
0.051*** (0.011)
Ln(S)
0.286*** (0.005)
0.180*** (0.005)
‐0.224*** (0.005)
0.047*** (0.004)
ROA
6.624*** (0.130)
8.270*** (0.158)
‐7.301*** (0.153)
0.470*** (0.066)
64
CFVol
‐4.800***
(0.201) ‐3.966*** (0.210)
5.213*** (0.220)
‐0.078 (0.140)
Age
0.020*** (0.001)
0.004** (0.001)
‐0.010*** (0.001)
0.010*** (0.001)
gGDP
‐0.005 (0.009)
0.003 (0.010)
0.007 (0.010)
0.012 (0.008)
DP ‐0.066* (0.034)
‐0.032 (0.030)
‐0.005 (0.030)
‐0.069** (0.027)
Wald Chisq 9546*** 6690.3*** 7672.7*** 2370.1*** N 42,359 42,359 42,359 42,359
65
Table 9: Robustness checks on the predictably power of dividend taxation The table presents several model specifications for explaining dividend (Panel A) and repurchases
(Panel B). The dependent variable is dividends or repurchases over net income. Models (A0) and (B0)
presents the baselines results Equation 6 for dividends and repurchases, respectively. All models are
run using a regression similar to the one in Table 4 except for the robustness changes. In Models (A1)
and (B1) we include non-payers. In models (A2) and (B2) we exclude firms with negative earnings. In
models (A3) and (B3) we exclude U.S. firms. In models (A4) and (B4) we include ownership structure
controls, namely country level percentage of total institutional ownership relative to total market
capitalization, and an interaction term between the previous variable and a dummy that equals one if
the proportion of foreign institutional investors is larger than 60%. In models (A5) and (B5) we add
additional country specific institutional variables, namely risk of expropriation, creditor’s rights, rule of
law, stock market capitalization relative to GDP, accounting disclosure quality. All data on these
variables is extracted from LLSV (1998). In models (A6) and (B6) we measure the Law variable by
anti-directors rights index from Djankov et al. (2008). In models (A7) and (B7) the Law variable is
measured by a dummy that equals one if the company is originating in a common law country, and
zero otherwise. In models (A8), (A9), and (A10) the dividend payout is mastered as dividend to sales
ratio, dividend to operating cash flow ratio, and Log of dollar dividends, respectively. In models (B8)
and (B9), repurchases payout is measured by repurchases divided by the sum of repurchases and
dividends, and by the log of dollar amount of repurchases, respectively.
Robustness (Model No.)
Full System
Partial System
TD Law
Panel A: Dividends Baseline Regression (A0)
0.052*** (0.022)
0.057*** (0.021)
0.016 (0.029)
0.116** (0.056)
Sample: 1. Include non-payers
(A1)
0.0624*** (0.018)
0.0387** (0.016)
0.0107 (0.022)
0.1655*** (0.045)
2. Exclude negative earnings (A2)
0.0866*** (0.022)
0.0962*** (0.020)
-0.0914*** (0.026)
0.2475*** (0.054)
3. Exclude US data (A3)
0.0469*** (0.019)
0.0390** (0.017)
0.0426 (0.029)
0.1558*** (0.043)
Additional control variables: 1. Ownership structure
(A4) 2. Country specific variables
(A5)
0.1145*** (0.012) 0.1447*** (0.014)
0.0379*** (0.012) 0.1043*** (0.012)
0.0539** (0.026) 0.0239 (0.025)
0.2228*** (0.028) -0.0035 (0.032)
Alternative measures of Law 1. Law variable measured by anti-
directors Rights (A6) 0.0712*** (0.019)
0.0682*** (0.017)
0.0402 (0.027)
-0.0057 (0.010)
2. Law variable measured by 0.0722*** 0.0662*** 0.0310 0.0447**
66
common law dummy (A7) (0.019) (0.017) (0.027) (0.021) Alternative measures of Dividends
1. Dividends payout measured as dividends to Sales ratio (A8)
0.0082*** (0.002)
0.0085*** (0.002)
-0.0028 (0.001)
0.0045 (0.005)
2. Dividends payout measured as dividends to cash flow ratio (A9)
0.0724*** (0.026)
0.0726*** (0.024)
-0.0261 (0.026)
0.1491*** (0.058)
3. Dividends measured in dollars (A10)
0.2280*** (0.065)
0.3837*** (0.066)
0.2319*** (0.052)
0.2959** (0.153)
Panel B: Repurchases Baseline Regression (A0)
-0.002** (0.001)
-0.002*** (0.001)
-0.003*** (0.001)
0.001 (0.002)
Sample: 4. Include non-payers
(A1)
-0.0007 (0.001)
-0.0015** (0.001)
-0.0015** (0.001)
0.0010 (0.002)
5. Exclude negative earnings (A2)
-0.0024*** (0.001)
-0.0030*** (0.001)
-0.0029*** (0.001)
0.0022 (0.002)
6. Exclude US data (A3)
-0.0010 (0.001)
-0.0014 (0.001)
-0.0028*** (0.001)
0.0004 (0.000)
Additional control variables: 1. Ownership structure
(A4)
-0.0017*** (0.001)
-0.0051*** (0.001)
-0.0021*** (0.001)
0.0147*** (0.002)
2. Country specific variables (A5)
-0.0030*** (0.001)
-0.0037*** (0.001)
-0.0037*** (0.001)
0.0051* (0.003)
Alternative measures of Law 3. Law variable measured by anti-
directors Rights (A6)
-0.0019** (0.001)
-0.0026*** (0.001)
-0.0029*** (0.001)
-0.0001 (0.000)
4. Law variable measured by common law dummy (A7)
-0.0024*** (0.001)
-0.0030*** (0.001)
-0.0028*** (0.001)
0.0026*** (0.001)
Alternative measures of Repurchases : 1. Repurchases/(repurchases + div)
(B8)
-0.2864** (0.012)
-0.0431*** (0.011)
-0.1251*** (0.015)
0.0786*** (0.028)
2. Repurchases measured in dollars (B9)
-0.6689*** (0.283)
-1.052*** (0.272)
-1.3623*** (0.229)
1.6570** (0.874)
67
Table 10: Robustness Checks: Investor protection and dividend taxation The table presents re-runs of regressions appeared in Tables 5 and 7 with several model specifications for explaining dividend (Part I) and
repurchases (Part II). The dependent variable is dividends or repurchases over total assets. Panel A reports the main coefficients for different
samples that exclude US, UK, and Japan. Panel B reports the main coefficients with different measures of the dependent variable. In
dividend (Part I) the dependent variables are measured by the dividends scaled by earnings (NI), sales, or operating cash flows (CF). In
repurchases (Part II) the dependent variables is measured by repurchases divided by the sum of repurchases and dividends or repurchases
scaled by net income. In Panel C we use other measures for the Law variable, namely, the anti-directors rights index from Djankov et al.
(2008) or a dummy that equals one if the company is originating in a common law country, and zero otherwise. In Panel D, we include
ownership structure controls, namely country level percentage of total institutional ownership relative to total market capitalization, and an
interaction term between the previous variable and a dummy that equals one if the proportion of foreign institutional investors is larger than
60%. We also we add additional country specific institutional variables, namely risk of expropriation, creditor’s rights, rule of law, stock
market capitalization relative to GDP, accounting disclosure quality. All data on these variables is extracted from LLSV (1998). . ***, **, *
represent significance at 0.01, 0.05 and 0.1 level, respectively.
Part I: The dependent variable is Div/TA in Panels A, C and D)
Table 5 Table 7 Strong Weak
Full Partial TD Repurchases Full Partial TD Repurchases Law x Imp Panel A. Sample Selection
Excluding US Excluding UK Excluding Japan Excluding All above
0.021*** 0.021*** 0.021*** 0.023***
0.006*** 0.006*** 0.006*** 0.006***
0.006*** 0.004*** 0.004*** 0.006***
-0.012*** -0.001 -0.001 -0.019***
0.000 0.000 0.001 0.001
0.001 0.001 0.001 0.001
-0.002** -0.002** -0.003 -0.002
0.008*** 0.009*** 0.008*** 0.008***
0.027*** 0.034*** 0.028*** 0.031***
Panel B. Definition of Dependent Variable Div/NI Div/NI No negative Div/Sales Div/CF
0.307*** 0.329*** 0.025*** 0.197***
0.089*** 0.105*** 0.008*** 0.054***
0.078*** 0.073*** 0.010*** 0.044**
-0.519*** -0.616*** 0.005 -0.153***
0.017 0.027 0.002 0.012
0.010 0.018 0.004 0.028**
-0.026 -0.183** -0.000 0.020
0.485* 0.778*** 0.111*** -0.003
0.415*** 0.464*** 0.021*** 0.219***
68
Panel C. Definition of Law Variable
anti‐directors Rights Common law dummy
0.021***
0.021*** 0.006***
0.006*** 0.006***
0.003*** ‐0.004*
‐0.001 0.000 0.000
0.0020.001
‐0.002‐0.002**
0.009***
0.009*** 0.004*** 0.005***
Panel D. Additional Control Variables
Ownership structure Country specific
0.022***
0.014*** 0.009***
0.020*** 0.003***
0.003* 0.0000.001
‐0.004***
0.004*** ‐0.002***
0.005*** 0.004***
0.006*** 0.009***
0.008*** 0.026*** 0.009***
Part II: The dependent variable is Rep/TA in Panels A, C and D)
Table 5 Table 7 Strong Weak
Full Partial TD Dividends Full Partial TD Dividends Law x Imp Panel A. Sample Selection
Excluding US Excluding UK Excluding Japan Excluding All above
0.003*** -0.005*** -0.005*** 0.004***
0.003*** -0.005*** -0.004*** 0.005***
-0.001 -0.004*** 0.000 -0.003***
-0.001** -0.001*** -0.001*** -0.001**
-0.001*** -0.001*** -0.003*** -0.003***
-0.003*** -0.003*** -0.004*** -0.004***
-0.004*** -0.004*** -0.001* -0.001*
0.001*** 0.001*** 0.001** 0.001**
0.004*** -0.015*** -0.006*** -0.004***
Panel B. Definition of Dependent Variable Rep/(Rep+Div) Rep/NI Rep/NI No negative
-0.055*** -0.011*** -0.011***
-0.044*** -0.009*** -0.011***
-0.007 0.001 0.007
-2.772*** -0.029 -0.039
0.013 -0.006* -0.002
-0.006 -0.003 -0.002
-0.139*** -0.003 -0.009*
-2.522*** 0.163*** 0.106***
-0.016*** -0.014*** -0.015***
Panel C. Definition of Law Variable anti-directors Rights Common law dummy
-0.002*** -0.004***
-0.001*** -0.004***
0.000 0.001
-0.000 -0.001***
-0.003*** -0.001***
-0.004*** -0.003***
0.005*** -0.003***
-0.000 0.000*
-0.001 -0.005***
Panel D. Additional Control Variables Ownership structure Country specific
-0.005*** -0.005***
-0.003*** -0.002
0.005*** 0.005***
-0.001*** -0.001***
-0.003*** -0.002***
-0.004*** -0.003***
-0.000 -0.000
0.000 0.000
-0.002 -0.022***
69