Dividend announcements signaling role in financial reporting certification

• Published date: 01 July 2020
• DOI: http://doi.org/10.1002/jcaf.22439
• Date: 01 July 2020

BLIND PEER REVIEW

Dividend announcements signaling role in financial

reporting certification

Sagi Akron

1

| Ronen Barak

2

| Roi D. Taussig

3

1

School of Business Administration,

Faculty of Social Sciences, University of

Haifa, Haifa, Israel

2

Faculty of Management, Lev Academic

Center in Jerusalem (Jerusalem College of

Technology), Jerusalem, Israel

3

Department of Economics and Business

Administration, Ariel University, Ariel,

Israel

Correspondence

Ronen Barak, Faculty of Management,

Lev Academic Center in Jerusalem

(Jerusalem College of Technology),

Jerusalem, Israel.

Email: ronen.barak@biu.ac.il

Abstract

This paper demonstrates a crucial signaling role for dividend announcements

in the certification of corporate financial reporting. In light of the great finan-

cial reporting scandals of the 2000s, we adjust a price-diffusion model to asym-

metric information friction, such that first-stage unexpected earnings

announcements are conditionally absorbed by the market, depending on the

corporate governance—level of the firm's transparency. In the second stage,

the firm undertakes a complement dividend announcement-signaling act, cer-

tifying the first-stage earnings surprise announcement, in light of the firm's

transparency. We conjecture theoretically and confirm empirically that the

dividend announcement's cumulative abnormal return (CAR) is negatively

and statistically significant, depending on the interaction between the unex-

pected earnings announcement's magnitude and the corporate transparency

level. Hence, the study demonstrates a key role of dividend announcement,

signaling the market about the initial financial reporting credibility. Specifi-

cally, low transparency level firms are incentivized to certify their preliminary

financial reporting by dividend announcements, to alleviate the market hesi-

tant absorption of their positive earnings surprise.

KEYWORDS

corporate value, dividend announcements, earning announcements, firm transparency, signaling

JEL CLASSIFICATION

G32; G34; G35

1|INTRODUCTION

One of the greatest puzzles in corporate finance is the

role and value implications of dividend policy in the con-

duct of a publically traded company (Black, 1976). It is

already common empirical knowledge that dividend

announcements induce abnormal stock returns (Aharony &

Swary, 1980; Asquith and Mullins, 1983; Brickley, 1983;

Beer, 1993; Healy & Palepu, 1988; Michaely, Thaler, &

Womack (1995)). Nevertheless, the exact reason for this

excess return remains obscure.

Miller and Modigliani (1961) argue that, given perfect

markets with full and symmetric information, dividend

policy is irrelevant, as it simply represents a change in

the location of funds from the company to its owners'

pockets, without any real impact on overall shareholders'

wealth. Hence, the vast majority of theories regarding the

confounding value impact of dividends rely heavily on

two real-world frictions: agency problem and asymmetric

information.

The agency problem in dividend theory, also known

as the free cash flow hypothesis, argues that insiders might

Received: 16 December 2019 Accepted: 17 January 2020

DOI: 10.1002/jcaf.22439

J Corp Acct Fin. 2020;31:135–149. wileyonlinelibrary.com/journal/jcaf © 2020 Wiley Periodicals, Inc. 135