R&D Investments and Dividend Payout: Evidence concerning the Semi-Mandatory Dividend Policy in China

Since 2001, the China Securities Regulatory Commission has implemented a series of policies to ensure that dividend payments constitute a prerequisite of equity financing. This is known as the semi-mandatory dividend policy. Using a sample of Chinese listed firms from 2007 to 2015, we document that firms with more R&D investments tend to pay more dividends. While this is not consistent with the classical dividend theorem, it can be explained by the semi-mandatory dividend policy and the unique features of R&D investments. R&D firms are more likely to have equity financing needs and they have strategic incentives to pay dividends in order to access external capital markets. Such pay-for-financing incentives are stronger for firms with lower cash holdings and less financial constraints. By examining future seasoned equity offerings, we further demonstrate equity financing needs as the underlying mechanism for R&D investments to positively affect dividend payout. In addition, we show that such semi-mandatory dividend payments adversely affect firm value and sustainable growth and our findings hold after controlling for endogeneity issues.