Cash flow permanence and payout policy in the Norwegian market

Abstract

We investigate the relationship between cash flow shocks, its permanence and its link to payout policy for publicly listed firms in Norway. We reject the “permanence hypothesis” suggested by Guay and Harford (2000) treating dividend increases and share repurchases as complimentary. We find evidence that substantial dividend increases are used to distribute cash flow shocks that contain a permanent component, whereas we find indications that special dividends are used to distribute cash flow shocks that are somewhat transient in comparison. In extension, we find that share repurchases are not used to distribute cash flow shocks in this market, but firms that execute substantial repurchases experience a significant increase in average cash flow/assets in the coming two-year period lending support to the earnings signaling hypothesis and possibly supporting the market timing hypothesis. When examining the market reaction to payout announcements, we find support that substantial dividend increases are viewed as carrying a more permanent cash flow shock also by the market. On the other hand, we find no evidence that announcement of share repurchases are viewed as a sign of a more transient cash flow shock by the market. Altogether we find evidence pointing to dividend increases and special dividends being complimentary distribution methods of cash flow shocks in this market. 2