Cost Of Debt And Dividend Policy: Evidence From The MENA Region

Abstract

How does dividend policy effect cost of debt in emerging markets? Does it increase the perceived conflict of interests between creditors and shareholders or vice versa? This paper seeks to answer these questions by documenting the relationship between dividend payout ratios and cost of debt in emerging markets. Using a dataset from the MENA region, we document a significantly negative relationship between dividend payout ratios and cost of debt during the period between 2005 and 2011. We argue that high dividend payouts reduce information asymmetries. Consequently, creditors demand lower return for providing their capital to firms. We also show that the negative relationship between dividend payout ratios and cost of debt are more pronounced in firms with higher information asymmetries. It indicates that value relevance of high dividend payout ratios is more in firms that have higher information asymmetries. These firms have scarcity of information. Therefore, whenever information environment improves, it is highly valued by creditors.