be monitoring managers but the problem of collective action results in too

Be monitoring managers but the problem of collective

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be monitoring managers, but the problem of collective action results in too little monitoring taking place. Thus Easterbrook (2000) suggests that one way of solving this problem is by increasing the payout ratio. When the firm increases its dividend payment, assuming it wishes to proceed with planned investment, it is forced to go to the capital market to raise additional finance. This induces monitoring by potential investment of the firm and its management, thus, reducing agency problem. Van Horne et al (2001) develop a model that underpins this theory, called the cost minimization model. This model combines the transaction costs that may be controlled by limiting the payout, with the agency costs that may be controlled by limiting the payout, with the agency cost that may be controlled by raising the payment ratio. The central idea on which the model rests is that the optimal payment ratio is at the level where the sum of these two types of costs is minimized. The agency approach moves away from the assumptions of the Modigliani and Miller‟s theory by recognizin g two points. First, the investment policy of the firm cannot be taken as independent of its dividend policy and in particular, paying out dividends may reduce the efficiency of marginal investments. Second, and more subtly, the allocation of all the profits of the firm to shareholders on a pro-rata-basis cannot be taken for granted, and in particular the insider may get preferential treatment through assets diversion, transfer prices and theft, even holding the investment policy constant. In so far as dividend is paid on a pro-rata-basis, they benefit outside shareholders relative to alternative of expropriable retained earnings.(Kapoor, 2009) [14] Lease et al (2000) states that other stakeholders do not hold significant influence in the firm and because of this disparity in influence, an agency relationship exists. Baker et al (2002) states that, in their attempt to answer the dividend puzzle, firms pay dividends because they wish to reduce the agency cost among various stakeholders, especially the agency costs between shareholders and management. The two most important agency relationships that exist with regard to the payment of dividends are the agency relationships between: • shareholders and debenture holders, and • shareholders and management. 2.4 Theoritical framework Among numerous conjectural and empirical studies regarding impact of dividend over firm value the pioneering work by Modigliani and Miller (1958) [16] and Miller and Modigliani (1961) [18] where the authors proved persuasively the irrelevance of dividend policy to firm value within a perfect capital market without the presence of tax. Even as they established the theoretical foundations for dividend irrelevance, Miller and Modigliani (1966) [17] realized that dividends and dividend changes indirectly convey a considerable amount of information at least about management's expectations of long-run future profits. This earnings information itself is an integral part to the firm's underlying operations and hence would affect firm value.
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  • Spring '19
  • BEM
  • Dividend, TechMind Research Society, International Journal of Management Excellence, Effect of Dividend Policies

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