Earnings, Book Values, and Dividends in a Stewardship Setting with Moral Hazard*

Abstract

AbstractThe paper addresses the following question: in a multiple‐date agency setting, under what conditions will the dividend policy be of no incentive relevancy? It is shown that if the accounting data—earnings, book values, and dividends — satisfy standard owners' equity accounting constructs, and if these indicate that paying dividends is a zero NPV activity, then dividend policy incentive irrelevancy applies. The basic idea is to ensure that the (history of) abnormal (residual) earnings summarize the relevant information and the solution to the incentive problem. The paper also compares classical value irrelevancy with incentive irrelevancy, and the analysis shows that conditions for incentive irrelevancy are more stringent.