The Choice of Capital-Reduction Payout Methods in Taiwan

Abstract

We investigate how Taiwanese listed firms’ choice over direct cash distributions or open-market repurchases as their capital-reduction payout method. We propose three hypotheses to explain their choice: the supply inelasticity of stock hypothesis, the market-timing hypothesis and the flexibility hypothesis. The supply inelasticity of stock hypothesis suggests that capital-reduction firms are more likely to choose the direct cash distribution as their payout method when the size of capital reduction is relatively large to firms’ average trading volume. We find support for this hypothesis. The market-timing hypothesis posits that firms will choose the open-market repurchase when their shares have recently plunged in the market, while they will choose the direct cash distribution when their shares move in the opposite direction. We find strong support for this hypothesis. The flexibility hypothesis argues that as open-market repurchases are not a commitment as direct cash distributions, firms with a greater volatility of their cash flows and/or a lower level of their excess cash are more likely to choose the open-market repurchase as their payout methods. We find weak evidence for this hypothesis.