The seminal contribution to research on dividend policy is that of Miller and Modigliani (1961).Prior to their paper,most economists believed hat the more dividends a firm paid,the more valuable the firm would be.This view was derived from an extension of the discounted dividends approach to firm valuation,which says that the value Vo of the firm at date 0,if the first dividends are paid one period from now at date 1,is given by the formula: Vo=D (1) 名(1+r) where D,=the dividends paid by the firm at the end of period t r=the investors'opportunity cost of capital for period t Gordon(1959)argued that investors'required rate of return rt would increase with retention of earnings and increased investment.Although the future dividend stream would presumably be larger as a result of the increase in investment (i.e.,Dt would grow faster),Gordon felt that higher rt would overshadow this effect.The reason for the increase in r would be the greater uncertainty associated with the increased investment relative to the safety of the dividend. Miller and Modigliani(1961)pointed out that this view of dividend policy incomplete and they developed a rigorous framework for analyzing payout policy.They show that what really counts is the firm's investment policy.As long as investment policy doesn't change, altering the mix of retained earnings and payout will not affect firm's value.The Miller and Modigliani framework has formed the foundation of subsequent work on dividends and payout policy in general.It is important to note that their framework is rich enough to encompass both dividends and repurchases,as the only determinant of a firm's value is its investment policy. The payout literature that followed the Miller and Modigliani article attempted to reconcile the indisputable logic of their dividend irrelevance theorem with the notion that both 5The seminal contribution to research on dividend policy is that of Miller and Modigliani (1961). Prior to their paper, most economists believed hat the more dividends a firm paid, the more valuable the firm would be. This view was derived from an extension of the discounted dividends approach to firm valuation, which says that the value V0 of the firm at date 0, if the first dividends are paid one period from now at date 1, is given by the formula: (1+ r ) D = t t t t=1 0 ∑ ∞ V (1) where Dt = the dividends paid by the firm at the end of period t rt = the investors' opportunity cost of capital for period t Gordon (1959) argued that investors’ required rate of return rt would increase with retention of earnings and increased investment. Although the future dividend stream would presumably be larger as a result of the increase in investment (i.e., Dt would grow faster), Gordon felt that higher rt would overshadow this effect. The reason for the increase in rt would be the greater uncertainty associated with the increased investment relative to the safety of the dividend. Miller and Modigliani (1961) pointed out that this view of dividend policy incomplete and they developed a rigorous framework for analyzing payout policy. They show that what really counts is the firm’s investment policy. As long as investment policy doesn’t change, altering the mix of retained earnings and payout will not affect firm’s value. The Miller and Modigliani framework has formed the foundation of subsequent work on dividends and payout policy in general. It is important to note that their framework is rich enough to encompass both dividends and repurchases, as the only determinant of a firm’s value is its investment policy. The payout literature that followed the Miller and Modigliani article attempted to reconcile the indisputable logic of their dividend irrelevance theorem with the notion that both 5