Managerial Finance

Abstract

Purpose The purpose of this paper is to identify three (maturity, agency, and information) effects that help explain the change in idiosyncratic volatility after a firm initiates a dividend. Design/methodology/approach The paper uses a cross-sectional analysis where the standard errors are adjusted for heteroskedasticity. As for robustness check, the authors perform two-stage analysis to control for potential self-selection bias. The authors also control for 2003 Dividend Tax Cut effect, matching-firm volatility, and confounding events. Findings Using a sample of 688 dividend-initiating firms for a period of 1977 to 2010, the authors find evidence consistent with the hypotheses based on the maturity, agency, and information effects. The volatility changes upon the dividend initiation can be reliably explained by the changes in profit volatility and free cash flow per total assets, and whether the firm consummated a stock split prior to the dividend initiation. The information effect is also found to be economically significant. Originality/value By studying a firm’s decision to initiate a dividend and its impact on the change in its volatility, the research helps contribute to the payout policy and volatility literatures.