This paper presents an alternative theory of payout policy explaining why firms do not perfectly substitute share repurchases for dividends. Existing empirical findings have shown that individual investors tend to prefer high dividends, whereas institutional investors appear to prefer low dividends. Within our framework, when consumption-clientele effects dominate or accord with tax-clientele effects, the dividend pattern is expected to be consistent with the median shareholder’s intertemporal consumption allocation. Under these circumstances, if the free cash flow outweighs the dividend payment, then the firm uses “residual” share repurchases to reduce agency costs unless the firm’s stock is overvalued.