Stock Life Insurer Shareholder Dividend Policy and Holding Company Affiliation

Abstract

This paper examines the impact of holding company affiliation on shareholder dividend payments of subsidiary stock life insurers. A model which has been used widely in dividend policy studies for nonfinancial firms is estimated for 68 stock life insurers, and the estimates are used to construct measures of abnormal dividend payments following holding company affiliation for the 38 insurers in the sample that became subsidiaries of holding companies during the sample period. The abnormal dividend measures, along with evidence of changes in dividend payout ratios, indicate that most of the insurers substantially increased shareholder dividend payments following their acquisition. Evidence of the impact of holding company affiliation on the surplus of the insurers also is presented. In addition, the results of the study indicate that dividend payments of insurers that are not owned by holding companies respond only slowly to changes in earnings. Normative financial theory posits that dividend, investment, and financing decisions made by the management of a publicly-held company should be governed by the desire to maximize the wealth of its shareholders. The dividend decision is important because of its potential effect on a firm's cost of capital and shareholder wealth. The dividend decision also may influence the investment and financing decisions of firms, and, thus, it may affect aggregate corporate investment and economic growth. Because of its importance, dividend policy has been analyzed in numerous studies. While most of this research has focused on dividend decisions of nonfinancial firms [e.g., 3, 4, 6, 7, 10, 19, 26], shareholder dividend decisions of financial intermediaries, including insurance companies, also have received attention [9, 13, 17, 18, 23, 24]. While the study of insurance company shareholder dividend decisions may be desirable because of the potential relationship between dividend policy and shareholder wealth, it also is important because the payment of dividends to shareholders may reduce an insurer's ability to survive adverse investment and underwriting experience. The possibility exists that policyowner and shareholder interests may conflict with respect to the shareholder dividend decision, particularly if the insurer is a subsidiary of a holding company. Concern has been expressed as to whether dividend distributions and other asset transactions between a holding company and subsidiary insurer could Scott E. Harrington is an Assistant Professor of Insurance at the University of Pennsylvania Wharton School. He earned his Ph.D. at the University of Illinois at Urbana-Champaign. While at Illinois Professor Harrington won the State Farm Companies Foundation Doctoral Dissertation Award. He is a member of the ARIA Risk Theory Seminar.