Dividends reduce managerial discretionpower

In examining debt policy, we noted that one reason for increasing debt levels was to induce managers to be more disciplined in their project choice. Implicit in this free cash flow argument is the assumption that cash accumulations, if left to the discretion of the managers of the firm, would be wasted on poor projects. If this is true, then forcing a firm to make a commitment to pay dividends would be an alternative to forcing managers to be disciplined in project choice and to reducing the cash that is available for discretionary uses. If this is the reason stockholders want managers to commit to paying larger dividends, then in firms where there is a clear separation between ownership and management, managers should pay larger dividends than in firms with substantial insider ownership and involvement in managerial decisions.

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