Abstract
We investigate how a firm’s decision to hold excessive cash or to over-invest could influence its dividend payout policy in Indonesia. Additionally, we examine the association between corporate ownership structure and cash dividends. Using a data set of Indonesian listed firms for the period from 1995 to 2014, we find that excessive cash holding (over-investment) positively (negatively) affects a firm’s likelihood of paying dividends. Also, we find that family, foreign, state and institutional ownership have significantly negative links with dividends, which suggests the signals of expropriation of firms’ wealth by major shareholders. These findings strongly support the expropriation hypothesis that commonly applies to firms with higher level of concentration or to firms in a weak legal environment by which the rights of minority interests are put at risk by large shareholders.
Highlights
Agency theory indicates that there are some potential problems when firms hold overcash which can be related to managerial overcompensation and overinvestment (Jensen 1986; Fairchild 2010)
Overcompensation and overinvestment can be intertwined as corporate managers could use cash flows to be invested in negative net present value (NPV) projects, which leads to managerial private benefits and to enhance managerial overcompensation due to the increasing scale of duty, firm size, and responsibility (Jensen and Meckling 1979)
Holder et al (1998), Mikkelson and Partch (2003), and Dittmar and Mahrt-Smith (2007) use overcash to measure cash holdings, while we relied on the residuals from the excess cash regression produced by fitting Opler et al.’s (1999) model, where we report different results from that of Mikkelson and Partch (2003) who find that high cash firms do not pay high dividends
Summary
Agency theory indicates that there are some potential problems when firms hold overcash (i.e., excessive cash holding) which can be related to managerial overcompensation and overinvestment (Jensen 1986; Fairchild 2010). One explanation is that managers are risk averse and holding overcash is intended to avoid the firm’s default and avoid market discipline (Opler et al 1999); another explanation is that overcash gives managers greater flexibility to pursue their own objectives (Pinkowitz et al 2006) These reasons are consistent with the free cash flow hypothesis (Easterbrook 1984) arguing that managers endowed with overcash could invest in projects having negative NPV rather than making payouts to shareholders (Lang et al 1995). Foreign investors and managerial ownership tend to have positive impacts on the propensity to pay dividends These findings strongly support the hypothesis which commonly applies to firms with higher level of concentration or to firms in a weak legal environment by which firms use cash to be shifted to other businesses among their groups.
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