Factors Affecting Dividend Payout In Listed Commercial Banks In Kenya

Inhalt

ABSTRACT

1.0 Background of the study
1.1 Empirical Review
1.1.1 Profitability and Dividend Payout
1.1.2 Liquidity and Dividend Payout
1.1.3 Firm size and Dividend Payout
1.1.4 Past dividends and Dividend Payout

1.2 Critical Review of Empirical Studies
1.2.2 Knowledge gap

2.0 Statement of the problem

3.0 Objectives of the Study

4.0 Methodology
4.1 Data collection procedures
4.2 Data Analysis

5.0 Findings
5.1 Descriptive Statistics
5.2 Regression Analysis
5.3 correlation analysis
5.4 Discussion of the Study Findings
5.5 Interpretation of the Study Findings

6.0 Summary of findings and conclusions This study aimed at establishing the factors affecting dividend payout of listed commercial banks in Kenya.
6.1 Summary of the Findings
6.2 Conclusion

7.0 Suggestions for further Research

8.0 Limitations of the Study

REFERENCES

ABSTRACT

Various models have been developed to help firms analyze and evaluate the perfect dividend policy and there is no agreement between these schools of thought over the factors that affect dividend payout. The dividend policy decision is one of the most important decisions in any organization. This study sought to establish the factors that affect dividend payout of listed commercial banks in Kenya. Specifically profitability, liquidity, firm size and past dividend were determined if they affected dividend payout among listed commercial banks in Kenya. The study was based on the Bird in Hand Theory. A correlational research design was used to examine relationship among the variables. The target population for this study consisted of all listed commercial banks in Kenya. Purposive sampling procedure was used to select listed commercial banks for the study. The study employed secondary data which was obtained from the financial statements of the commercial banks for a period of five years ranging from 2012 to 2016.. The study showed that profitability, liquidity, firm size and past DPS accounted for 77.69% of variations in dividend payout for listed commercial banks. All the four factors were found to be significant in affecting dividend payout for the listed commercial banks. Profitability and past dividend per share were found to be positively correlated with dividend payout while liquidity and firm size were found to be negatively correlated with dividend payout. The researcher recommends more research to be done taking into consideration other factors. These include factors such as the commercial banks management, legal environment and competition within the banking industry.

Key words: Liquidity, Size of the Firm, Dividend Payout, Listed Commercial Banks

1.0 Background of the study

There is no agreement between schools of thought over the factors that affect dividend payout. One school consists of authors like James E. Walter and Myron J. Gordon, who believe that current cash dividends are less risky than future capital gains. Thus, they say that investors prefer those firms which pay regular dividends and such dividends affect the market price of the share. Another school linked to Modigliani and Miller holds that investors don't really choose between future gains and cash dividends (Baker, 2009; Miller and Franco, 1961). The firm paying out dividends is obviously generating incomes for an investor, however even if the firm takes some investment opportunity then the incomes of the investors rise at a later stage due to this profitable investment.

The attention of economists and scholars of management have been attracted by the field of dividend policy culminating into theoretical modeling and empirical examination. In finance dividend policy is a complex aspect and is among the top ten perplexing issues in finance as suggested by Brealey and Myers (2002) argues. The maximization of the wealth of shareholders is the ultimate goal of company’s management, which will result in maximizing firm’s value as measured by the price of the company’s common stock (Gordon, 1963). The expectations of dividends by shareholders helps them determine the share value, therefore, dividend policy is a significant decision taken by the financial managers of any company (Azhagaiah and Sabri, 2008). Coming up with a dividend policy is challenging for the directors and financial managers of a company, because different investors have different views on present cash dividends and future capital gains. (Afzal and Mirza, 2010).

In Kenya, fifty eight companies are listed in the Nairobi Securities Exchange (NSE), which is the only stock exchange firm in the country (Nairobi Securities Exchange, 2012). Listed companies fall into two main segments, that is, the main market segment and the alternative investment market segment. (NSE, 2012). Among the requirements that companies that want to be listed in the Nairobi Securities Exchange must fulfill, is that they should have a clear future dividend policy (Kenya Gazette Legal Notice No 60 May, 2002). This makes dividend policy worthy of serious management attention. According to a study done by Aduda and Kimathi (2011), most firms, 62% to be precise, on the Nairobi Securities Exchange (NSE) adopt a stable and predictable dividend policy where a specific amount of dividend per share is paid each year. In some years, there is a slight adjustment of the dividend paid after an increase in earnings, but only by a sustainable amount (Aduda, 2011).

Muriithi (2004) affirms that dividend policy is one of the most important financial decisions that corporate managers encounter. Omollo and Kimathi (2011) agree to the fact that a firm ought to pay dividends to shareholders if it cannot identify suitable investments which would bring higher returns than those expected by the shareholders. Furthermore, Maina (2002) argues that due to informational asymmetries, cuts in dividends will have a greater negative impact on shareholder’s wealth than will positive effects associated with dividend increases. Maina (2002) points out that in the mid-1990s retained earnings constituted 56% to 76% of the net growth in bank equity; currently, they represent about 30%. This study focuses on banks because volatility of earning series is assumed to be higher for banks than other industrial firms due to the accounting practices related reasons. This trend triggered a lot of competition in the banking industry. Banks have managed to weather stiff competition to stand out as among the most successful Kenyan businesses today.

1.1 Empirical Review

A dividend policy is an action plan adopted by a firm’s directors whenever dividend decisions are to be made. It determines the division of earnings between shareholders (dividend payment) and the company (reinvestment). Dividend policies in practice are designed to suit each firm’s requirements necessary to achieve firm specific goals.

The main approaches include: residual, stable predictable, constant payout or low regular plus extra policy. Dividend policies assist a firm to vary dividend payment from period to period and from year to year depending on the cash flows and the financing requirements (Pandey, 2005).

1.1.1 Profitability and Dividend Payout

Previous research explored the relationship between dividend payout and profitability. Amidua and Abor (2006) and Najjar (2009) found in his research that like in the developing countries, dividend payment in companies of Jordan is also effected by profitability. Kun Li and ChungHua (2012) asserted that firm’s profitability and size significantly affect the payout ratio.

Current earnings which are also known as profit after tax is representing the capacity of corporation to pay dividends and thus it has a positive relationship with dividends (Karam and Puja Goyal, 2007). Besides that, the level of profit is considered as an invariable starting point in the management’s consideration of whether dividend should be paid or not in any given year. (Barron, 2002). A study by Zhou &Ruland (2006) revealed that high dividend payout firms tend to experience strong future earnings but relatively low past earnings growth despite market observers having a contradicting view. The findings of another study done by Arnott&Asness (2003) also revealed that future earnings growth is associated with high rather than low dividend payout. They concluded that historical evidence strongly suggests that expected future earnings growth is fastest when current payout ratios are high and slowest when payout ratios are low.

Arnott&Asness (2003) suggests that the positive relationship between current dividend payout and future earnings growth is based on the free cash flow theory. Low dividend resulting in low growth may be as a result of suboptimal investment and less than ideal projects by managers with excess free cash flows at their disposal. This is consistent with the agency cost theory. Another explanation by Arnott&Asness (2003) for the positive relationship between dividend payout and growth in future earnings is that managers are reluctant to cut dividends. A high payout ratio indicates management’s confidence in the stability and growth of future earnings and a low payout ratio suggests the opposed. The positive relationship is also driven by sticky dividends combined with mean reversion in more volatile earnings (Arnott&Asness, 2003).

However, Farsio et al. (2004) argue that no significant relationship between dividends and profitability hold in the long run and studies that support this relationship are based on short periods and therefore misleading to investors. They proposed three scenarios that would render the long-term relationship of dividends and future earnings insignificant. Firms that pay high dividends without considering investment needs may therefore experience lower future earnings (Farsio et al., 2004). This is a case of rising dividends followed by declining earnings. An increase in dividends may be the result of good performance in previous periods which may continue into the future (Farsio et al., 2004). This supports the view of a positive causal relationship between current dividends and future earnings. From these scenarios, they argue that the overall long-term relationship is insignificant since there is a positive relationship between dividends and future earnings in some periods and a negative relationship in other periods. Nissim&Ziv (2001) showed that dividend increases were directly related to future increases in earnings in each of the two years after the dividend change. What therefore happens when there is a steady increase in dividends for a given number of years? Nissim&Ziv (2001) found that dividend increases and decreases are not symmetric.

Lie (2005) argues that firms that increase payouts have excess financial flexibility and exhibit positive concurrent income shocks and decreases in income volatility, but there is limited evidence of subsequent performance improvements. His study revealed that firms that increase payouts have lower past volatility of operating income than other firms.

1.1.2 Liquidity and Dividend Payout

Liquidity is one of the important factors being considered in dividend payout decisions because dividend payment generates cash outflow. Komrattanapanya and Suntrauk (2013) found that dividend payout ratio and liquidity have insignificant relation. While John and Muthusamy (2010) concluded that there is a significant relationship between dividend payout and liquidity. Ahmed and Javid (2009) elaborate that liquidity position is an important determinant of dividend payout.

Cash dividend distribution does not only depends on the profitability of firms but also depends on the free cash flow which is the amount of operating cash flow left over after the payment for capital expenditures (Amidu and Abor, 2006). Besides that, Chay and Suh (2005) also consider cash flow as a determinant of dividend payments where firms facing high levels of cash flow uncertainty are likely to pay low dividends fearing cash shortfalls in the future. This statement correlates to Njuguna (2004) in his research report which stated that more than two-third of Chief Finance Officers of dividend-paying firms stated that stability of future cash flow is an important factor affecting dividend decision.

1.1.3 Firm size and Dividend Payout

Companies with big size and good cash flows offer higher dividends than the companies of small size. As Najjar (2009) investigated in Jordan and concluded that in developing countries firm size affects the dividend payout decisions. Another research conducted by Perretti, Allen and Weeks (2013) and concluded that the firm size partially explains the dividend policies.

Keen (2003) found that the age and size of a business has a bearing on affiliates’ dividend practices. Older affiliates provide a greater share of their earnings to the parent company presumably because as the affiliate matures, it has less investment opportunities while at the same marginal rates elsewhere in the world in newer locations are greater.

1.1.4 Past dividends and Dividend Payout

Lintner (1956) was the first one to investigate the partial adjustment model of dividends. Lintner’s behavioural model suggests that the change in dividends is a function of the target dividends payout less the last period's dividends payout multiplied by the speed of an adjustment factor. The target dividends paid is a fraction of the current period's earnings. In addition he found that the most important factor of a company's dividends policy was a significant change in earnings. His model explained 85 percent of the changes in dividends for the sample of his research. Fama and French (2001) tested other models for explaining dividends behaviour and their findings also supported the view of Lintner which is shareholders prefer the stable dividends paid rather than a significant change in dividends.

1.2 Critical Review of Empirical Studies

The firm value is independent of its dividend policy because it is determined by selecting optimal investments (Modigliani and Miller, 1961). Thus a firm dividend policy does not influence the wealth of shareholder. The theory of the bird in the hand argues that because of minimum risk investors will always prefer dividends over capital gains (Gordon and Lintner, 1963). Thus researchers are puzzled by the question, “whether shareholder’s wealth is affected by dividend policy” for many years. A firm’s value is not necessarily influenced by the increase or decrease in dividend payouts. A survey conducted by Farrelly, Baker, and Edelman (2005) found out that, based on the view of managers, there is an optimal level of dividend payouts, and firm’ is influenced by dividend payouts. The same results were found by Powell (2000) in a survey on whether firm value and wealth of shareholder is affected by dividend policy. The future profitability of firms is assessed by the information regarding the announcements of cash dividends.

Baker, Farrelly and Edelman (2005) made a survey for 562 New York Stock Exchange (NYSE) firms about dividends polices in 2003. Multiple Regression Analysis was applied in the study. They received 318 responses from utility, manufacturing, and wholesale/retail firms; found that the important determinants of dividend payments were the expected future earnings and the pattern of past dividends. The view also matched with Fama and French (2001) since the research pointed out that the factor explaining the dividends should be important because the price of stock is the present value of its future dividends from the intrinsic model. The study further showed that these sophisticated investors believed that dividend policy affected stock prices.

Powell (2000) carried out a study titled “Determinants of Corporate Dividend Policy in the USA: and tested for 20 factors which were influencing the dividends policy and found that level of current and expected future earnings, continuity of past dividends, the concern about maintaining/increasing stock price, the change in dividends may provide a false signal and stability of cash flow, these five factors have a significant effect on dividends policy. Powell concluded that where the cash flow is uncertain and companies do not meet the target dividends, the share prices declined. Gill and Tibrewala (2010) analyzed the American service and manufacturing firms and found that the dividend payout ratio is a function of profit margin, sales growth, debt-to-equity ratio and tax.

Hussainey (2011) examined the relationship between share price volatility and dividend policy in UK. Size, level of debt, Earning volatility and level of growth as control variables were added to Baskin (2009) model. A firm’s common stock price is the discounted value of future cash flow, which is the expected stream of future dividends until the firm is liquidated. Ahmed and Javid (2009) find out the determinants of dividend payout policy of financial firms in the United Kingdom during the period of 2001 to 2006. The study supported Linter’s policy.

Nazir (2010) conducted a study on the determinants of stock price volatility in Karachi Stock Exchange. He reported that share price volatility has significant negative association with dividend yield and dividend payout. Size and leverage have non-significant negative effect on share price volatility also. Suleman (2011) studied the association of dividend policy with share price volatility in Pakistan. The findings showed that share price volatility has significant positive relationship with dividend yield. The findings of the study revealed that share price volatility has significant negative relationship with growth. Santhi and Lee (2011) carried out a study to examine the leading determinants that affected the dividend payment decision by the company management in Malaysia listed companies for food industries under the consumer products sector. The study confirmed the fact that debt equity ratio and past dividend per share were the important determinants of dividend payment.

Pruitt and Gitman (2011) did a survey 100 largest South African firms in terms of investment, financing, and dividends decisions in their firms. The study result showed that the important determinants of dividends policy are the current and past profit level, the volatility of earnings and the expected future earnings in terms of the growth in earnings. Pruitt and Gitman (2011) also found that prior years' dividends are the important influence on current dividends. The evidence proved the findings in Baker, Farrelly and Edelman (2005) and Lintner's (1956) behavioral model were consistent with each other. In a study that examines whether dividend policy influences firm performance in the Ghana Stock Exchange by use of causal research design, Amidu (2007) found that dividend policy affects firm performance especially the profitability measured by the return on assets. The results showed a positive and significant relationship between return on assets, return on equity, growth in sales and dividend policy. Olantundun (2008) studied the determinants of dividends in Nigeria using the Lintner-Brittain model and its variants on the pooled cross sectional / time series data for the full sample of observations from 2003-2008. The results of the study showed that there are no significant interactions between the conventional Lintner/Brittain model and dividend decisions of Nigerian firms. They concluded that the dividend behaviour of Nigerian firms depends on growth prospects, level of gearing and firm’s size.

Karanja (2007) studied dividend practices of publicly quoted companies in Kenya by collecting data through a questionnaire and obtained information about the kind of dividend policies managers of the quoted companies pursued. He found three factors to be the most important determinants of dividend policy i.e. cash, liquidity and the amount of earnings. The study concluded that liquidity is the most important factor in determining dividends. Karanja (2007) used a particular industry to determine the factors of dividends policy. However, there was no sign to show the difference obviously between cross section and particular sectors. Olweny (2012) carried out a study that investigated the extent to which dividend announcements had information content, its effect on firm value and what this implied on the semi strong efficiency of the Nairobi Stock Exchange (NSE). showed that, for the analyzed firms, dividend announcements did indeed convey useful information about the future value of a firm. This empirical investigation came up with the following findings: Past Dividend announcements have pertinent information, which is consistent with Modigliani and Miller (1958) information content hypothesis. Second, the information content in dividend announcements significantly affected the firm value as shown by large spikes in the graphs. Third the NSE is not semi strong from efficiency and therefore market participants can make abnormal profits by trading on public information, such as dividend announcements.

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