DIVIDEND REMITTANCE BEHAVIOR WITHIN THE INTERNATIONAL FIRM: A THEORETICAL AND EMPIRICAL ANALYSIS*

Abstract

IN THE RAPIDLY GROWING literature on the activities of the international firm, there is a notable absence of quantitative research directed at explaining the dividend remittance behavior of foreign subsidiaries toward domestic parent corporations, except for a few unsuccessful extensions of Lintner's stable payout hypothesis. The inadequacy of this hypothesis to account for the repatriation of foreign subsidiary earnings is not surprising. In the first place, foreign subsidiary dividends are equity transfers within the same international firm, rather than disbursements to individual shareholders who expect a steady dividend flow. Secondly, foreign subsidiaries tend to finance capital expansion through retained earnings. The present study integrates these two points into a well-defined optimizing behavior of the international firm. To be specific, a dividend behavior model is derived from the neoclassical theory of the international firm, subject to the constraint of internal financing. Maximization of global net worth determines the equilibrium stock of fixed assets of each foreign subsidiary in terms of the ratio of the value of output to capital costs. Subsequently, the subsidiary earmarks the portion of current earnings necessary to finance the desired capital accumulation. Any internal funds left over after satisfying capital requirements are remitted to the parent in the form of dividends. In sum, foreign subsidiary dividends are specified as a function of the supply and demand for internal funds, given by current earnings and changes in the ratio of the value of output to capital costs, respectively. Also, the dividend decision is contingent on several policy variables: implicitly, on domestic and foreign corporate tax rates, and explicitly, on capital controls and split foreign tax rates. For the U.S.-owned foreign subsidy, the relationship between dividends and taxes is further determined-on account of tax deferral-by the manner in which the international firm maximizes subsidiary earnings, namely, before or after repatriation to the parent. The model is estimated by fitting weighted least-squares regressions to cross-section data for 1962 on controlled foreign corporations, published recently by the Treasury Department. The dividend equation performs best for manufacturing controlled foreign corporations established in developed countries, when specified according to pre-repatriation view of subsidiary earnings: over four-fifths of the variation in dividend remittances is explained by the equation, and all predetermined variables exhibit correct signs and statistically significant coefficients. As for controlled foreign corporations located in less developed countries, the model fails the statistical tests primarily because of the risky investment climate faced by these subsidiaries as well as because of their heavy reliance on outside funds-contrary to the assumptions of certainty of expectations and internal financing. On the basis of the obtained parameter estimates, the impact of changes in various tax variables on dividends is measured for developed country manufacturing sub-