The Dividend Smoothing Model

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The dividend smoothing model, often called behavioral model, is derived from one of the most observed dividend policy patterns followed by firms from every industry. The pattern those firms follow is to maintain a constant nominal dividend payment for a period of time, regardless of that firm profit during the same period: dividends do not automatically change when earnings change, and any adaptation to new levels of firm earning will occur slowly. Lintner (1956), and later Fama and Babiak (1968), and Brav, Graham, Harvey and Michaely (2005), demonstrated that managers have a preference for smoothing dividends. On the other hand, private firms do not systematically smooth dividends (Michaely and Roberts, 2012), as well as firms that do not…show more content…
The distinction between smoothing and the sickness is that the fist concept assumes that managers partially adjust dividends toward a target, while the second dividends are kept unchanged over a period of time: that is, besides the requirement of dividend smoothing that dividend variation is lower than earnings variation, it is also necessary that dividends maintain its payment level for at least two consecutive periods of time, while earnings change during the same period. The main contribution of their model is a partial pooling: only the group of intermediate outcomes present dividend stickiness, while very low and very high outcomes have full revelation of earnings. For dividends within a middle range interval the managers will keep the same value for more than one period, what is value by investors…show more content…
This of behavior is a result of both the different type of scrutiny firms are subject to in the market place and financial frictions in the same market. Information asymmetry alone not enough to explain why firms smooth dividends: their results show that public firms smooth dividends at a higher degree than private firms. They argue that the opposite should be true, as privately held firms have fewer governance mechanisms to reduce communication friction between agents. The dividend policy observed is therefore a result of a set of pressures that afflict the managers: agency problems, information asymmetry, and the scrutiny of public capital

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