The Hornets' new owners terminated Dyche's 12-month tenure in charge after he guided the club to an 11th-placed finish in the English second tier last season.
His replacement is likely to be former West Ham boss Zola after the Pozzo family, who completed their takeover from Laurence Bassini last week, suggested in a TV interview that he would take charge at Vicarage Road.
A statement from the new owners on the club's website read: "Watford football club confirms that it has terminated the contract of first-team manager Sean Dyche, with immediate effect.
"On behalf of the club, the Pozzo family acknowledges that Sean's positive contribution to Watford FC dates back long before his appointment as manager in June 2011.
"His achievements under difficult circumstances mean that he will rightly be held in high regard by Watford supporters.
"Everyone at the club extends their warmest wishes to Sean for the future."
Dyche, who made more than 230 appearances for Chesterfield as a centre-half in the 1990s and had spells at Bristol City and Millwall, joined Watford in 2002.
He went on to make 72 appearances in three years as a player and, after two years at Northampton, returned to Vicarage Road as youth-team coach in 2007.
Dyche was made assistant to Malky Mackay in 2009 and succeeded him as boss in 2011.
His departure paves the way for Zola to return to English football following his two-year spell with the Hammers in May 2010.
Giampaolo Pozzo had hinted at the 45-year-old's appointment on Monday, telling Sky Italia: "Zola? We are on the right path and hence, I believe he will be our new coach. We have a verbal agreement."
Source: AFP
Source: AFP