Dividend_Policy__Growth__and_the_Valuation_of_Shar

DividendPolicy,Growth,andtheValuationofSharesMertonH.Miller;FrancoModiglianiTheJournalofBusiness,Vol.34,No.4.(Oct.,1961),pp.411-433.StableURL:=0021-9398%28196110%2934%3A4%3C411%3ADPGATV%3E2.0.CO%3B2-ATheJournalofBusinessiscurrentlypublishedbyTheUniversityofChicagoPress.YouruseoftheJSTORarchiveindicatesyouracceptanceofJSTOR'sTermsandConditionsofUse,availableat://@jstor.org.:192007-------THEJOURNALOFBUSINESSTheGraduateSchoolofBusinessoftheUniversityofChicagoVOL.XXXIVOCTOBER1961No.4DIVIDENDPOLICY,GROWTH,ANDTHEVALUATIONOFSHARES*THEeffectofafirm'sdividendpolicyonthecurrentpriceofitssharesisamatterofconsiderableimportance,notonlytothecorporateofficialswhomustsetthepolicy,buttoinvestorsplanningportfoliosandtoeconomistsseekingtounderstandandappraisethefunctioningofthecapitalmarkets.Docompanieswithgenerousdistributionpoliciesconsistentlysellatapremiumoverthosewithniggardlypayouts?Isthereverseevertrue?Ifso,underwhatcon-ditions?Isthereanoptimumpayoutratioorrangeofratiosthatmaximizesthecurrentworthoftheshares?Althoughthesequestionsoffacthavebeenthesubjectofmanyempiricalstud-iesinrecentyearsnoconsensushasyetbeenachieved.Onereasonappearstobetheabsenceintheliteratureofacom-pleteandreasonablyrigorousstatementofthosepartsoftheeconomictheoryofvaluationbearingdirectlyonthematter*TheauthorswishtoexpresstheirthankstoallwhoreadandcommentedonearlierversionsofthispaperandespeciallytoCharlesC.Holt,nowoftheUniversityofWisconsin,whosesuggestionsledtoconsiderablesimplificationofanumberoftheproofs.tProfessorofhanceandeconomics,UniversityofChicago.1Professorofeconomics,NorthwesternUniver-sity.ofdividendpolicy.Lackingsuchastate-ment,investigatorshavenotyetbeenabletoframetheirtestswithsufficientprecisiontodistinguishadequatelybe-tweenthevariouscontendinghypothe-ses.Norhavetheybeenabletogiveaconvincingexplanationofwhattheirtestresultsdoimplyabouttheunderlyingprocessofvaluation.Inthehopethatitmayhelptoover-cometheseobstaclestoeffectiveempiri-caltesting,thispaperwillattempttofilltheexistinggapinthetheoreticallitera-tureonvaluation.Weshallbegin,inSec-tionI,byexaminingtheeffectsofdiffer-encesindividendpolicyonthecurrentpriceofsharesinanidealeconomychar-acterizedbyperfectcapitalmarkets,ra-tionalbehavior,andperfectcertainty.StillwithinthisconvenientanalyticalframeworkweshallgooninSectionsI1andI11toconsidercertaincloselyrelatedissuesthatappeartohavebeenrespon-sibleforconsiderablemisunderstandingoftheroleofdividendpolicy.Inparticu-lar,SectionI1willfocusonthelong-standingdebateaboutwhatinvestorsreallycapitalizewhentheybuyshares;andSectionI11onthemuchmootedrela-tionsbetweenprice,therateofgrowthof412THEJOURNALOFBUSINESSprofits,andtherateofgrowthofdivi-dendspershare.Oncethesefundamen-talshavebeenestablished,weshallpro-ceedinSectionIVtodroptheassump-tionofcertaintyandtoseetheextenttowhichtheearlierconclusionsaboutdivi-dendpolicymustbemodified.Finally,inSectionV,weshallbrieflyexaminetheimplicationsforthedividendpolicyproblemofcertainkindsofmarketim-perfections.I.EFFECTOFDIVIDENDPOLICYWITHPER-FECTMARKETS,RATIONALBEHAVIOR,ANDPERFECTCERTAINTYThemeaningofthebasicassumptions.-Althoughthetermsperfectmarkets,rationalbehavior,andperfectcer-taintyarewidelyusedthroughouteco-nomictheory,itmaybehelpfultostartbyspellingouttheprecisemeaningoftheseassumptionsinthepresentcontext.1.In'(perfectcapitalmarkets,nobuyerorseller(orissuer)ofsecuritiesislargeenoughforhistransactionstohaveanappreciableimpactonthethenrulingprice.Alltradershaveequalandcostlessaccesstoinformationabouttherulingpriceandaboutallotherrelevantcharac-teristicsofshares(tobedetailedspe-cificallylater).Nobrokeragefees,trans-fertaxes,orothertransactioncostsareincurredwhensecuritiesarebought,sold,orissued,andtherearenotaxdif-ferentialseitherbetweendistributedandundistributedprofitsorbetweendivi-dendsandcapitalgains.2.Rationalbehaviormeansthatinvestorsalwaysprefermorewealthtolessandareindifferentastowhetheragivenincrementtotheirwealthtakestheformofcashpaymentsoranincreaseinthemarketvalueoftheirholdingsofshares.3.Perfectcertaint