Does Changing Accounting Standards Affect Dividend Policy?

Abstract

This study explores the impact of International Financial Reporting Standards (IFRS) mandatory adoption on aspects of dividend policy in Western Europe. We select the United Kingdom as a representative of common-law countries and France as a representative of code-law countries. These two countries are highly comparable economically, which allows us to implement a difference-in-differences methodology. The genesis of our theoretical argument is that IFRS adoption is expected to mitigate information asymmetry, a major reason behind corporate underinvestment and cash over-retention (Myers & Majluf, 1984). Our findings suggest that IFRS adoption is a major contributor in increasing dividend payouts among code-law firms through enhancing the corporate financial information environment and reducing asymmetric information. Improvements to the information environment reduce firms’ concerns about their ability to raise external funds and this in turn makes them more willing to pay dividends. The reduction in information asymmetry helps investors become more confident about using accounting measures in assessing firm financial performance, which causes a significant reduction in dividend value relevance with respect to the market valuation of code-law firms. On the other hand, common-law firms witness no significant change in dividend payouts and a lower reduction in dividend value relevance relative to code-law firms. We contribute to the financial reporting literature through showing some of the effects of an exogenous information shock on dividend policy and dividend value relevance. The main implication from this study is that the introduction of higher quality accounting standards serve to mitigate information asymmetry between managers and investors and, consequently, reduces the frictions affecting corporate financial decisions.