New research shows that firms pay dividends because they would generate much more cash than they’d know what to do with than if they didn’t.

The conclusion from a new paper by Harry DeAngelo and Linda DeAngelo, both of the University of Southern California’s Marshall School of Business. “If [firms didn’t pay dividends] their asset and capital structures would eventually become untenable as the earnings of successful firms outstrip their investment opportunities,” their research found.

For example, they looked at the 25 largest long-standing dividend payers in 2002, concluding that, had they not paid dividends, they would have cash holdings of US$1.8 trillion (51% of total assets), up from US$160 billion (6% of assets), and US$1.2 trillion in excess of their collective US$600 billion in long-term debt.

“Their dividend payments prevented significant agency problems since the retention of earnings would have given managers command over an additional US$1.6 trillion without access to better investment opportunities and with no additional monitoring,” they say.

The research also revealed a “highly significant” relation between the decision to pay dividends and the ratio of earned equity to total equity or total assets, controlling for firm size, profitability, growth, leverage, cash balances, and dividend history. “In our regressions, earned equity has an economically more important impact than does profitability or growth. Our evidence is consistent with the hypothesis that firms pay dividends to mitigate agency problems,” they conclude.