THE MONITORING RATIONALE FOR DIVIDENDS AND THE INTERACTION OF CAPITALSTRUCTURE AND DIVIDEND DECISIONS

This paper develops an agency-cost framework for the simultaneous dete rmination of a firm's capital structure and dividend decisions. In the model, simultaneity is contingent on the applicability of Easterbrook 's (1984) monitoring rationale for paying dividends, which, in turn, i s hypothesized to depend on the existence of alternative sources of mo nitoring. Estimations of the Rozeff (1982) specification for dividend payout for subsamples stratified according to the prevalence of non-di vidend monitoring mechanisms and growth-induced capital market monitor ing, confirm the sample-specific validity of the monitoring rationale. A simultaneous system of equations is then estimated and, consistent with our hypothesis, simultaneity between capital structure and divide nd decisions is observed only for the subsample in which the monitorin g rationale for dividends is found applicable.