coefficient on franking credits that arises from these studies as U; however, this is not correct, and the result is to underestimate both U and its standard error. To demonstrate this, suppose that a dividend drop-off study involves the following regression: (4) where Pit-1 is the cum-dividend price, is the ex-dividend price corrected for the market movement, Di is the cash dividend, FCi is the franking credit, and ui is the regression residual. Furthermore, there is no distinction between a cash dividend and a franking credit to the extent that the latter can be used. For example, if a franking credit can be fully used, a cash dividend of $10 plus a franking credit of $2 is as good as a cash dividend of $12; in both cases, the gross dividend is $12 and the investor’s post-tax dividend is $12(1 – t) where t is their marginal ordinary tax rate. If all investors could fully utilise the credits, the regression model should then be framed as (5) where δ would recognise that the expected price change might differ from the gross dividend (because the tax rate on gross dividends differs from that on capital gains for many investors). However some investors cannot use the credits at all and this should be dealt with by multiplying FC by a coefficient U that represented some kind of average utilisation rate. Equation (5) would then become (6) Comparison of equation (6) with equation (4) above then reveals that rather than θ = U. This distinction is also recognised by Handley (2008, page 11). To illustrate the effect here, SFG (2013a, para 85) conclude with an estimate of 0.85-0.90 for δ and 0.35 for θ, and they equate the latter with U. However, since , the implied estimate for U is 0.35/0.875 = 0.40 rather than 0.35. Even more significantly, Beggs and Skeels (2006, Table 5) estimate δ at 0.80 and θ at 0.57 for 2000-2004, which implies that U is 0.57/0.80 = 0.72 rather than 0.57.
and therefore that and therefore that In this equation, the benefits of imputation credits are now transferred to the cost of equity and this formulation of the cost of equity corresponds to equation (11). REFERENCES ACT, 2010, Application by Energex Limited (No 2) [2010] ACompT 7 (). ACT, 2011, Application by Energex Limited (Gamma) (No 5) [2011] ACompT 9 (). AER, 2009, Final Decision: Electricity Transmission and Distribution Network Service Providers: Review of the WACC Parameters (). ____ 2013, Better Regulation: Explanatory Statement Draft Rate of Return Guideline (). Al-Yahyaee, K., Pham, T., and Walter, T., 2008, ‘Ex-Dividend Day Behaviour in the Absence of Taxes and Price Discreteness’, International Review of Finance, vol. 8, pp. Australian Bureau of Statistics, 2007, Feature Article: Foreign Ownership of Equity (). Beggs, D., and Skeels, C., 2006, ‘Market Arbitrage of Cash Dividends and Franking Credits’, Australian Economic Papers, vol 82, pp. 239-252. Bell, L., and Jenkinson, T., 2002, ‘New Evidence on the Impact of Dividend Taxation and on the Identity of the Marginal Investor’, The Journal of Finance, vol. 57, pp. 1321-1346. Berk, J., and DeMarzo, P., 2007, Corporate Finance, Pearson Addison Wesley, Boston. Black, S., and Kirkwood, J., 2010, ‘Ownership of Australian Equities and Corporate Bonds’, RBA Bulletin - September (). Brown, P., and Walter, T., 1986, ‘Ex-Dividend Day Behaviour of Australian Share Prices’, Australian Journal of Management, vol. 11, pp. 139-152.