DIVIDEND POLICY AS STRATEGIC TOOL OF FINANCING IN CORPORATE ORGANIZATIONS (A CASE STUDY OF FIRST BANK PLC AND ECO BANK NIGERIA PLC)
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DIVIDEND POLICY AS
STRATEGIC TOOL OF FINANCING IN CORPORATE ORGANIZATIONS (A CASE STUDY OF FIRST
BANK PLC AND ECO BANK NIGERIA PLC)
ABSTRACT
This study investigated dividend policy as a strategic tool
of financing in corporate organizations in Nigeria. Specifically, it examined
the nature of relationship between dividend payments and the value of the
firms.
The study employed secondary annual data, collected from two
selected commercial banks operating in Lagos State over a period of twenty
years from 1988 to 2008. The secondary annual data were sourced from annual
reports and statement of Accounts of the selected commercial banks and the
central Bank of Nigeria
(Various issues). The study employed ordinary Least squares
method to examine the effects of dividend policy on capital structure of corporate
organizations in Nigeria. Simple Regression Analysis was also employed to
analyze the relationship between dividend policy and capital structure of the
sample commercial banks.
The empirical results showed that there is a relationship
between earnings per share and dividend payout with co-efficient values of
138.200 (∞t= 8.120, P< 0.05). Also, the results revealed that payout ratio
has a positive relationship with profit after tax with coefficient value of
30708.728 (∞t= 6.297, P< 0.05).
The study concludes that dividend policy decision is not a
decision of the board of directors alone. The shareholders should be given
recognition in "a policy like this because they are directly affected by
the policy.
TABLE OF CONTENT
CHAPTER ONE
INTRODUCTION
1.1 Background of
the Study
1.2 Statement of
the problem
1.3 Research
Questions
1.4 Objective of
the study
1.5 Statement of
Hypothesis
1.6 Methodology of
the Study
1.7 Significance
of the Study
1.8 Limitation and
Scope of the Study
1.9 Definition of
Terms
References
CHAPTER TWO
LITERATURE REVIEW
2.0 Introduction
2.1 Concept of
Dividend and Dividend Policy
2.2 Forms of
Dividend
2.3 Theoretical
Viewpoint
2.3.1 Dividend
Relevant Theory: Walter's Model
2.3.2 Criticism of
Walter's Model
2.3.3 Dividend
Relevant: Gordon's Model
2.3.4 Dividend and
Uncertainty: The Bird-In-The Hand Argument
2.4 Dividend
Irrelevant Theory
2.4.1 Criticisms ofM
&M Theory of Dividend Irrelevance
2.5 Implication of
the Theories on Dividend Decision
2.6 Practical
Factors Determining Dividend Policy
2.7 Concept of
Capital Structure
2.8 Capital
Structure Theories
2.8.1 Modigliani and
Miller Approach to Capital Structure
2.8.2 Durand View on
the Effect of Capital StructureOn Firm's Value and Cost Of Capital
2.8.3 Traditional
Approach
2.9 Recent
Theories on Optimal Capital Structure
2.10 Empirical Tests
of Dividend Theories
Reference
CHAPTER THREE RESEARCH METHODOLOGY
3.1 Introduction
3.2 Variable and
Data Sources
3.3 Re- statement
of Research Hypothesis
3.4 Sources of
Data
3.5 Model
Specification
3.6 Model Estimation
Technique.
3.7 Analytical
Techniques
3.8 Limitation of
Methodology
CHAPTER FOUR
PRESENTATION AND ANALYSIS OF DATA
4.1 Introduction
4.2 Data
Presentation
4.3 Empirical
Result and Interpretation
4.4 Summary of
Findings
4.5 The
Implication of Findings
CHAPTER FIVE
SUMMARY, CONCLUSION AND RECOMMENDATIONS
5.1 Summary
5.2 Conclusion
5.3 Recommendations
Bibliography
CHAPTER - ONE
INTRODUCTION
1.1 BACKGROUND TO THE
STUDY
The topic of dividend policy continues as one of the most
challenging and controversial issues in corporate finance and financial
economies. Research into dividend policy has, shown not only that a general
theory of dividend policy remains elusive, but also that corporate dividend
varies over time between firms.
For a firm, which encounters financial difficulties, reliance
is placed on retained earnings and accordingly results in lower payout ratios.
However, shareholders have been enthusiastic interest in the
outcome of their investments. These outcomes are expressed in terms of earnings
and capital gains.
These two ingredients are in turn affected by the quality of
policies made by the management team of the enterprises. Among the most
important decisions that management of an enterprise must take which has direct
bearing on firm’s continuity, earning potentials, investors' satisfaction and
share price gain is the decision to withhold or distribute net earnings as
retained profit or dividends.
Pandey (1999), stated firmly that "Dividend policy is a
decision by the financial manager whether the firm should distribute all profit
or retain them or to distribute a portion and retain the balance. Payments made
to stockholders from a firms earnings, whether those earning were generated in
the current period or in previous periods. Dividend policy is an important
aspect of corporate finance and dividends are major cash outlays for many
corporations.
Garrison (1999) defined dividend policy as payments made to
stockholders from a firm's earnings', whether those earnings were generated in
the current period or in the previous period. Dividend could also be referred
to as that part of the enterprise earning that is given to shareholders as
interest on' their investment. Also, itrepresents the return to investors who
put their money at risk in the company.
Company pays dividend to reward existing shareholders and
encourage others that are prospective shareholders to buy new issues of the
common stock at high price.
However, many seem obvious that a firm would always want to
give as much as possible to its shareholders by paying dividends. It might seem
equally obvious that a firm can always invest the money for its shareholders
instead of paying itout. The heart of dividend policy question is should the
firm payout money to its shareholders or should the firm take the money and
invest it for shareholders into the enterprise business.
Valuation is considered the heart of finance, understanding
what determines the value of a firm, and how to estimates that value seems to
be a prerequisite for making sensible decisions (Damodaran, 2006). Company
valuation is a delicateconcoction of both science and art. The former takes the
shape of quantitative risk- return model, and latter, experience and judgment
on the part of the appraiser - intuitive elements that belong to the artistic
realm (Pereiro, 2002). In general, there are four approaches to valuation
(Damodaran, 2006). Quantitatively oriented valuation techniques include the
discountedcash flow based method (DCF) and the real options model. The
traditional fundamental valuation technique is the discounted' cash flow (DCF)
based method, which relies on the capital asset pricing (CAPM) to compute the
cost of capital. And attractive technique for valuing future opportunities is
the real options framework. This method is used when there is a reasonable
chance of reserving the rights of exploration for the investments undertaken
(Pereiro, 2002). A third model for valuation is based in relative valuation and
involves computing value multiples for a representative sample of comparable
companies or transactions similar to the target under appraisal
(Pereiro, 2002). Excess return models have their roots in
capital budgeting and the net present value rule with its widely used variant,
the Economic Value Added (EVA (R).
(EVA (R) is a registered trade mark of stem steward &co.
EV A (R) is a measure of the surplus value created by an investment or a
portfolio of investments. It is computed as the product of the "excess
return" made on an investment(s) and the capital invested in
thatinvestments) (Damodaran, 2006).
Moreover, it has been discovered that the .dividend policy of
a firm always have short term or long term effect on the market price of its
shares. It shall be found out in the course of this research, the actual relationship
between the dividend payout and dividend policy of companiesi.e payout ratio of
the firm is a percentage of dividends to earnings.
It is quite difficult to clearly identify the· effects of
payout on firm's valuation. The valuation of a firm is a reflection of so many
factors that the long run effect of payout is quite difficult to separate. J.S.
Kehinde (2001) viewed dividend policy as "the dividend policy of a firm
accounts for how a firm divides its income between retained earnings and dividends.
It states the policy measure of how much dividend to the declared, in what form
should the dividend be declared- either as a cash dividend or as stock
dividends. By dividend .policy the corporate organization, strike a balance
between current income tothe shareholders and a future income.
Income can be retained and reinvested' into available
profitable investment opportunities. The retained earnings provide the cheapest
source of financing. This research is to examine empirically the dividend
policy of all quoted companies (banks) in Nigeria and to present evidence on
what determines corporate payout policy this market. In addition, it tends to
identify the impact of dividend policy on company valuation and the various
approaches to dividend payment to stakeholders as against retaining it for
re-investment.
1.2 STATEMENT OF
PROBLEM
Maximization of shareholder's wealth appears to be the
cardinal objective of most firms. The value of wealth to the shareholders is
represented by the market price of the firm's common stock, which is tum is a
reflection of the firm's investment, financing and dividend decision.
Dividend policy is thus assumed to have an influence on the
value of firm's common stock and hence its value. Despite the above statement,
the impact of dividend policy, especially dividend payout on the valuation of
firm's common stock is still open to academic debate.
This study thus intends to empirically investigate whether
the dividend pay-out ratios of firms quoted in the Nigerian Stock Exchange,
influence the process at which the stocks of these firms are being sold. Also
to be examined empirically is the extent to which the received theory about
traditional determinants of dividend decisions of business firms serves in
explaining the dividend behaviour of Nigerian companies (Van-Home, 1983).
Both Gordon and Miller-Modiglinai developed theoretical
models with which they argued their respective positions. These models apart
from being applicable under very restrictive conditions also lead to estimated
prices which mayor may not correspond with the actual prices obtainable in the
market. This study hence intend to specifically test for relationship between
market prices as contrasted with estimated prices of stock quoted in the
Nigerian stock exchange and the dividend payout ratios of the respective firms.
1.3 RESEARCH
QUESTIONS
This research tends to investigate the following questions:
i. To which extent
can dividend policy affect price of shares?
ii. To which extent
can retained earnings, affect the growth rate of a firm?
iii. What portion of total earning should a firm distribute
or retain?
1.4 OBJECTIVES OF THE
STUDY
The broad objective of this study is to analyze the effects
of dividend policy on the value of the firm while its specific objectives
include the following:
i. To examine the
nature of the' relationship between dividend payments and the value of the firm.
ii. To examine the
long-term relationship between retained earnings and growth rate of the
selected banks.
1.5 STATEMENT OF THE
HYPOTHESIS
The hypothesis tested in this study is stated below:
Hypothesis 1
Ho: Payout ratio has no significant influence on the value of
the firm.
Hi: Payout ratio has significant influence on the value of
the firm.
Hypothesis II
Ho: Dividend policy of a firm is not determined by its
long-term payout ratio.
Hi: Dividend policy of a firm is determined by its long-term
payout ratio.
1.6 METHODOLOGY OF
THE STUDY
The data used were gathered from secondary sources. Secondary
data are reliable easy to understand and are of descriptive models. These
secondary data for this essay topic includes; Journal of Central Bank of
Nigeria (CBN), Economic and Financial Review (EFR) and the Nigerian Stock
Exchange Facebook (NSEF).
The variable on which data was collected includes; Dividend
per share, profit after tax, payout ratio and earnings per share. The earnings
per share are used as a proxy for value of the firm while profit after tax
captures the firm's dividend policy. Thevariables identified would be
integrated into models to test the impact of dividend policy on the value of
the firm. The data covered periods of 1988 to 2008.
1.7 SIGNIFICANCE OF
THE STUDY
This study will be of great benefit to individuals, society,
corporate organizations, government etc.
To individual, it would be of benefit in deciding' on which
company to invest - either to invest in a firm where higher dividend are paid
with a corresponding increase in the number of investors which tends to
increase the company's value or to invest in a firm with lower dividends and
returns inform of capital gain in the future.
To the society, the effect of higher dividend will influence
the number of individuals who are ready to subscribe for the firm’s shares. It
thus helps to increase investment in the economy and maximization of the wealth
of the society.
This study will also provide empirical evidence to prove the
relationship between firm values and dividend 'policy in terms of
inter-dependence that exist between them also, the fundamentals and importance
of dividend in maximizing shareholders’ value will be exposed.
1.8 LIMITATION AND
SCOPE OF THE STUDY
This study of the effect of dividend policy on company
valuation will be restricted to the listed bank in the economy. The study will
focus on the relationship between dividend policies and the value of the firm.
Out of the various listed banks, two banks have been chosen
in the view of limitation and resource available.
These banks were chosen from a benchmark of a minimum of 20
years quotation at the stock exchange as well as its spread across the country.
The banks to be used as case study of this project are First Bank of Nigeria
PIc and Union Bank of Nigeria PIc(UBN).
1.9 DEFINITION OF TERMS.
Dividend: This is defined as the payment 'made to
shareholders from .firm earnings, which serve as an interest income, to their
investment. Pandey, I. M. (1999).
Dividend Policy: This involves the decision to payout
earnings or to retain them for re-investment in the firm. It determines whether
the firms should payout dividend as current earnings or retain them as capital
gains.
Dividend Pay Out Ratio: The percentage of retained earnings,
payment in the form of a cash dividend.
Optimal Policy: This is the policy that strikes a perfect
balance between current dividends and future growth and thereby maximizes the
price of the firms cost.
Dividend Yield: The ratio of the current dividend to the
current price of a share of stock. That is, the firms expected dividend payment
per share dividend by its current share price.
Dividend Re- Investment Plan: This is a plan, which enables a
stockholder to automatically re-invest dividends received - back into the stock
of the paying corporation.
Wealth Maximization: This has to do with-maximizing the Net
present value to a course of action. The net present value ofa course of action
is the difference between the Gross Present Value of the benefit of that action
and the amount of investment required to achieve those benefits.
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