The Relationship Between Dividend Changes and Cash Flow: An Empirical Analysis


Kathleen Simons

Document Type



Published by Wiley-Blackwell in the Journal of Business, Finance, and Accounting, volume 21 issue 4, 1994. Bryant users may access this article here.


Wiley Blackwell


This article evaluates the incremental information content of cash flow over Profits and Previous Year's Dividends in explaining changes in cash dividends. The seminal study of dividend policy found the existing rate of dividends was the benchmark for declaring dividends, making the change in rate the focus of the decision. It was found that current net earnings the most highly correlated with dividend policy. This study looks at cash flow as a variable in the dividend-change model, considering different circumstances and different measures. The relationship is allowed to vary for increases versus decreases in cash, and also depending on the firm's recent dividend history. The appropriateness of a Cash Flow from Operations (CFOP) variable in the dividend model is examined, and compared with alternative measures. For firms with dividend increases a measure of sustainable funds represents a broader concept of liquidity than cash alone. For firms with dividend decreases, it is likely that cash beyond that from operations is considered before making a decision to decrease dividends. Thus, three measures of Cash-Availability (CA) are tested: CFOP, Net Current Operating Funds and Total Cash Flow before dividends (TCF). NCOF is an indication of those sustainable funds which may be considered as available cash before increasing dividends. TCF is intended to capture the 'extended' definition of CA considered before decreasing dividends.