Do labor unions affect firm payout policy?: Operating leverage and rent extraction effects

• Published in: Journal of corporate finance (Amsterdam, Netherlands) Vol. 41; pp. 156 - 178
• Main Author: Chino, Atsushi
• Format: Journal Article
• Language: English
• Published: Elsevier B.V 01.12.2016
• Subjects: Labor unions; Operating leverage; Payout policy; Rent extraction; Rent extraction; Payout policy; Operating leverage; Labor unions
• ISSN: 0929-1199; 1872-6313
• DOI: 10.1016/j.jcorpfin.2016.08.017

While previous literature documents weak effects of unionization on payout policy on average, we find that this average relationship hides significant heterogeneous effects of unionization on payouts across firms that depend on firm profitability. The effect of unionization on payouts is negative for low-profitability firms but positive for high-profitability firms. We posit that labor unions (i) increase operating risk, which negatively affects payouts, but (ii) increase potential for rent extraction from unions, which could induce shareholders to demand positive payouts. Higher profitability mitigates the negative effect while strengthening the positive effect, making the relation between unionization and payouts less negative or more positive. We provide evidence consistent with both the negative and positive effects of unionization on payouts. Our empirical design mitigates endogeneity concerns. Further, an instrumental variable analysis and a cross-sectional test using right-to-work laws confirm that endogeneity is unlikely to drive our results. •We investigate the effects of labor unions on firm payout policy.•We find that the relation between unionization and payouts is heterogeneous across firms and significantly depends on firm profitability.•Unionization induces low-profitability firms to make low payouts to hedge operating risk from unionization but it induces high-profitability firms to make high payouts to reduce internal funds that are vulnerable to union capture.•We provide evidence consistent with both the negative and positive effects of unionization on payouts.•A battery of tests suggests that our results are robust to potential endogeneity biases.