Dividends Are Here To Stay

Why do companies pay dividends? According to finance theory, investors should be indifferent to dividends or capital gains assuming equal taxation. And when dividends are tax disadvantaged, investors should prefer no dividends and the subsequent increase in capital gains. Professor Douglas Skinner, an accounting professor at the University of Chicago, discusses the dividend puzzle. As is noted in DeAngelo, DeAngelo, and Skinner (2004), the top 25 dividend payers account for more than one-half of all dividend payments. Skinner points to continued dividend payments as a result of: 1) The signalling power of dividends. That is, dividends are a strong signal that the firm will continue to be able to pay dividends. 2) Dividends reduce the ability of managers to squander cash. 3) Widows, orphans, and regulations that force large institutions to invest in dividend paying stocks. As Dr. Skinner points out "Although we haven’t yet established the reason, the data are very clear: Dividends, even though they remain a puzzle, are here to stay."