FACTORS AFFECTING DIVIDEND DECISION

Transcription

1 FACTORS AFFECTING DIVIDEND DECISION 5 Dividend is a widely researched arena but still its fathom has to be explored as numerous questions remains unanswered. The question of Why do corporations pay dividends? has puzzled researchers for many years. Despite the extensive research devoted to solve the dividend puzzle, a complete understanding of the factors that influence dividend policy and the manner in which these factors interact is yet to be established. Allen et al. (2000) 1 stated that: Although a number of theories have been put forward in the literature to explain their pervasive presence, dividends remain one of the thorniest puzzles in corporate finance. The dividend decision is taken after due considerations to number of factors like legal as well as financial. This is so because one set of dividend policy cannot be evolved that can be applied to all firms rather the dividend decision vary from firm to firm in light of the firm specific considerations. Lintner (1956) 2 suggested that dividend depends in part on the firm's current earnings and in part on the dividend for the previous year. He found that major changes in earnings with existing dividend rates were the most important determinants of the firm's dividend policy. Ramcharran (2001) 3 observed that: 168

2 dividend policy in the equity emerging markets from a corporate finance perspective has not been empirically examined to date Continuing financial reforms in emerging markets, together with the validity of more published data, will encourage further research on other determinants of dividend policy, including the impact of agency costs, information, and taxes as well as the capital structure of firms. This suggested that much more research needed to be undertaken on dividend policy in developing economies. 5.1 FACTORS AFFECTING DIVIDEND DECISION Dividend decision, one of the important aspects of company s financial policy, is not an independent decision. Rather, it is a decision that is taken after considering the various related aspects and factors. There are various factors influencing a firm's dividend policy. For example, some studies suggest that dividend policy plays an important role in determining firm capital structure and agency costs. Many studies have provided arguments that link agency costs with the other financial activities of a firm. Easterbrook (1984) 4 argued that firms pay out dividends in order to reduce agency costs. Dividend payout keeps firms in the capital market, where monitoring of managers is available at lower cost. If a firm has free cash flows, it is better to share them with shareholders in the form of dividend in order to reduce the possibility of these funds being wasted on unprofitable (negative net present value) projects (Jensen, 1986)

3 Crutchley and Hansen (1989) 6 examined the relationship between ownership, dividend policy, and leverage and concluded that managers make financial policy tradeoffs to control agency costs in an efficient manner. More recently, researchers have attempted to establish the link between firm dividend policy and investment decisions. Smith and Watts (1992) 7 investigated the relations among executive compensation, corporate financing, and dividend policies and concluded that a firm's dividend policy is affected by its other corporate policy choices. Also, Jensen, Solberg and Zorn (1992) 8 linked the interaction between financial policies and insider ownership to informational asymmetries between insiders and external investors. Despite this rich literature, most prior work recognizes differences in determinants of financial decisions between different firms Basic Factors Affecting Dividend Decision Theoretically, over the past number of years, it has been believed by the academicians that the dividend decision is influenced by number of factors. Some of the factors that affect the dividend decision of a firm are listed as follows: 1. Legal Provisions: Indian Companies Act, 1956 has given the guidelines regarding legal provisions as to dividends. Such guidelines are required to be followed by the companies whenever the dividend policy is to be formulated. As per the guidelines, a company is required to transfer a certain percentage of profits to reserves in case the dividend to be paid is more than 10 percent. Further, a 170

4 company is also required to pay dividend only in cash but only with the exception of bonus shares. 2. Magnitude of Earnings: Another important aspect of dividend policy is the extent of company s earnings. It serves as the introductory point for framing the dividend policy. This is so because a company can pay dividends either from the current year s profit or the past year s profit. So, if the profits of a company increase, it will directly influence the dividend declaration as the latter may also increase. Thus, the dividend is directly linked with the availability of the earnings with the company. 3. Desire of Shareholders: The decision to declare the dividends is taken by Board of Directors but they are also required to consider the desire of the shareholders, which depend on the latter s economic condition. The shareholders, who are economically weak, prefer regular dividend policy while the rich shareholders may prefer capital gains as compared to dividends. However, it is very difficult for the board to reconcile the conflicting interests of different shareholders yet the dividend policy has to be framed keeping in view the interest of all the interested parties. 4. Nature of Industry: The nature of industry in which a company is operating, influences the dividend decision. Like the industries with stable demand 171

5 throughout the year are in a position to have stable earnings, thus, should have the stable dividend policy and vice-versa. 5. Age of the Company: A company s age also determine the quantum of profits to be declared as dividends. A new company should restrict itself to lower dividend payment due to saving funds for the expansion and growth as compared to the already existing companies who can pay more dividends. Grullon et al. (2002) 9 suggested that as firms mature, they experience a contraction in their growth which results in a decline in their capital expenditures. Consequently, these firms have more free cash flow to pay as dividends. Similarly, Brav et al. (2005) 10 suggested that more mature firms are more likely to pay dividends. In contrast, younger firms need to build up reserves to finance the future growth opportunities, thus, making them to retain the earnings. 6. Taxation Policy: The tax policy of a country also influences the dividend policy of a company. The rate of tax directly influences the amount of profits available to the company for declaring dividends. 7. Control Factor: Yet another factor determining dividend policy is the threat to loose control. If a company declares high rate of dividend, then there is the possibility that a company may face liquidity crunch for which it has to issue new shares, resulting in dilution of control. Keeping this threat in view, a company 172

6 may go for lower level of dividend payments and more ploughing back of profits in order to avoid any such threat. 8. Liquidity Position: A company s liquidity position also determines the level of dividend. If a company does not have sufficient cash resources to make dividend payment, then it may go for issue of bonus shares. 9. Future Requirements: A company while faming dividend policy should also consider its future plans. If it foresees some profitable investment opportunities in near future then it may go for lower dividend and vice-versa. 10. Agency Costs: The separation of ownership and control results in agency problems. Agency costs can be reduced by distributing dividends (Rozeff, , Easterbrook, , Jensen et al., ). In this stratum, dividends are paid out to stockholders in order to prevent managers from building unnecessary empires to be used in their own interest. In addition, dividends reduce the size of internally generated funds available to managers, forcing them to go to the capital market to obtain external funds (Easterbrook, ). As explained in Rozeff (1982) 15, firms with a larger percentage of outside equity holdings are subject to higher agency costs. The more widely spread is the ownership structure, the more acute the free rider problem and the greater the need for outside monitoring. Hence, these firms should pay more dividends to control the impact of widespread ownership. 173

7 11. Business Risk: Business risk is a potential factor that may affect dividend policy. High levels of business risk make the relationship between current and expected future profitability less certain. Consequently, it is expected that firms with higher levels of business risk will have lower dividend payments. Many researchers argued that the uncertainty of a firm s earnings may lead it to pay lower dividends because volatile earnings materially increase the risk of default. In addition, field studies using survey data (e.g., Lintner, ) reported compelling evidence that risk can affect dividend policy. In these surveys, managers explicitly cited risk as a factor that influences their dividend choice Financial Factors Affecting Dividend Decision The above mentioned factors are not limited and many more can be there that affect the determination of dividend. Keeping in view the above-mentioned factors and the review of literature, some variable has been identified within the arena of the theoretical factors. Those variables include both the dependent and independent variables. However, their interpretation depends upon their measurement. The present study covers the following set of variables: 1. DPS to Face Value: This ratio evaluates the relationship between dividend per share and face value of the share. It is calculated as: Dividend Yield ratio= Dividend per share/face value per share 174

8 2. DPS to Market Value (Yield ratio): This ratio evaluates the relationship between dividend per share and market value of the share. It is calculated as: Dividend Yield ratio= Dividend per share/market value per share 3. Dividend Payout Ratio: It indicates the extent to which the earnings per share have been retained by a company. It enables the company to plough back the profits which will result in more profits in future and hence, more dividends. It is calculated as: Dividend Pay-Out Ratio= Dividend per equity share/earnings per share The higher the ratio, lower is the dividend payment and vice-versa. 4. Current Ratio: It is a measure of firm s liquidity and is basically used for measuring the short-term financial position or liquidity of the firm. It indicates the ability of the firm to meet its current liabilities. It is calculated as: Current Ratio= Current assets/current liabilities A high ratio indicates that firm s liquidity position is good and it has the ability to honor its obligations while a low ratio implies that firm s liquidity position is not 175

9 so good so as to honor all its obligations. However, a ratio of 2:1 is considered satisfactory. The expected relation between current ratio and dividend payment is positive. 5. Net Profit Ratio: This ratio establishes the relation between net profits and sales and indicates the management s efficiency. It is calculated as: Net Profit ratio= (Net Profit/Net sales)*100 As dividends are declared from the net profits of a firm, so higher the net profit ratio, higher will be the expected dividend payment. 6. Net Profit to Net worth: This ratio indicates the relation between net profits earned by a company and the net worth which is represented by shareholder s capital. It is composed of equity share capital, preference share capital, free reserves and surpluses, if any. It is also referred to as return on investment and is calculated as: Return on shareholder s investment= Net Profit/Net Worth This ratio is an indication of company s ability to earn profits. If the earning capacity of the company is more, more dividend payment can be expected and vice-versa. 176

10 7. Debt Equity Ratio: This ratio measures the claims of outsiders and owners against the firm s assets. It indicates the relation between outsider funds and shareholders funds. It is calculated as: Debt-equity ratio= Outsiders funds/shareholders funds This ratio tells the solvency position of the firm. Higher the ratio, better will be the solvency as well as the ability of firm to pay dividends. The vice-versa will hold true in case of low ratio. 8. Lagged Profits: The dividend is not only influenced by the past year s dividend but also by the past year s profits. This is so because a company can follow the stable dividend policy if it has sufficient current year s profit or the past year s profit. 9. Behavior of Share Prices: The prevailing share prices also influence the dividend payment by a company. If the share prices of a company are unfavorable, then it may increase the dividend in order to boost up the share prices. It can be calculated as: Behavior of share prices= Higher share price - Lower share price Higher share price + Lower share price 10. Growth in Earnings: If the earnings of a company increase, then the chances of 177

11 increase in dividend payment are also there. Growth is must for the survival of a company. This ratio can be calculated as: Growth in Earnings= EPS t - EPS t-1 / EPS t-1 Where, EPS t = Current earnings per share EPS t-1 = Previous earnings per share 12. Growth in Working Capital: This ratio indicates increase in the working capital of a company. Growth in Working Capital= WC t - WC t-1 / WC t-1 Where, WC t = Current working capital WC t-1 = Previous working capital Higher ratio indicates the increase in the capacity of a company to pay dividends but this is interrelated with other factors also. Like, if a company has increase the working capital to match the increased level of operations, then this ratio will not be useful in studying the impact on the dividend payments. 178

12 14. Lagged Dividends: A company may consider the past year s dividend as a benchmark. If a company prefers stability of dividend payments, it may consider the past year s dividend rate and can act accordingly. 15. Tobin s Q: This variable represents the investment opportunities for a company. It is measured as (MV of equity-bv of equity +Total Assets)/Total Assets 16. Investment Opportunity Set (Market to Book Value): It represents the availability of investment opportunities to the company and generally is believed to have negative relationship with dividend payout. 17. Free Cash Flow: This variable is used to measure the availability of cash with the company. It is calculated as (Cash flow from Operations-Cash flow from investment activities)/total assets 18. Cash Holdings: It is another financial variable to analyse the liquidity position of the firm. It is calculated as (Cash + Short-term investment)/total assets 179

13 19. Uncertainty in Earnings: It refers to the variation in the earnings from one year to another. Some companies might witness irregular earnings and thus, may not have stable dividend policy. Uncertainty in earnings can be measured as σ = ( x 2 /N) A small value of standard deviation means high degree of uniformity in the earnings and vice-versa. 20. Solvency Ratio: This ratio is a small variant of equity ratio. It indicates the relationship between total liabilities to outsiders to total assets of a firm. It can be calculated as: Solvency ratio= Total Liabilities to Outsiders/Total Assets 21. Return on Net worth: This ratio is also termed as return on investment. This ratio indicates the relationship between net profits (after interest and tax) and the shareholders funds. It can be calculated as Net profit (after interest and taxes)/shareholders funds 22. Return on Capital Employed: This ratio establishes the relationship between profits and capital employed. It can be calculated as 180

14 (Adjusted Net Profits/Gross Capital Employed)*100 (Adjusted Net Profits/Net Capital employed)*100 or 5.2 DATA ANALYSIS AND INTERPRETATIONS In the present chapter, the Principal Component Analysis approach has been used in order to obtain a set of variables pertaining to dividends. The major emphasis was in deriving the exclusive cluster of the aforesaid group of variables for each of the four industrial groups: Engineering, FMCG, Information Technology and Textiles; and for the combined group of all the four industries separately for the years 2007and For the same purpose, the following financial variables have been used: DPS to Face Value, DPS to Market Value, Payout Ratio, Lagged Dividend, Lagged Profits, Current Ratio, Solvency Ratio, Debt-Equity Ratio, Free Cash Flow, Cash Holdings, Share Price Behavior, Growth in EPS, Growth in Working Capital, Return on Capital Employed, Return on Net worth, Age of the Company, Net Profit to Net worth, Net Profit ratio, Market to Book value, Tobin s Q and Uncertainty in EPS. The analysis has been made carried out with the help of Factor Analysis. The following steps were followed in order to extract the factors. The principal component analysis using VARIMAX rotation of twenty one variables pertaining to Engineering, FMCG, IT and Textiles industrial sector has led to the 181

15 extraction of numerous factors. After a meaningful set of variables have been obtained, the next task is to group the variables under particular factor and label them in order to assign some meaning to the factor loadings. Variables with higher loadings are considered more important and have greater influence on the label selected to represent the factor. For this purpose, the sampling adequacy tests have been conducted to know that whether the sample is adequate or not. KMO recommends accepting value greater than.5 as barely acceptable (value below this leads either to collect more data or to rethink which variable should be included or excluded). And Bartlett recommends the accepting value less than.05. Bartlett s test finds that the correlations, when taken collectively are significant at.0001 level whereas measure of sampling adequacy looks at the patterns between the variables. Derivation of the factors is based on the perusal of correlation matrix results in retaining only those components that fulfill the same criteria. The decision to choose the factor loadings has been based on the criteria of sample size (factor loading between.3-.4 if the sample ranges between 150 and 350). Since the sample size for the current study is 172, so only the loadings above.30 have been considered for the study. For obtaining the rotated factor matrix, Orthogonal rotation method viz. VARIMAX rotation has been used which shows factor loadings for each variable onto each factor. In this matrix, only the main factors have been displayed which are reliable & whose value is more than.3 and the rest have been eliminated. After identifying the significant factor loadings, next step is to study the communalities of the variables, representing the amount of variance accounted for by the factor solution for each variable. It is generally assumed that 182

16 variable with communalities>.50 should be retained for the study. In the present analysis, no variable could be found having communality <.50. Hence, finally, the structure of the factors for the variables has been well-defined and the significant factors have been selected and grouped together for labeling ) FACTOR ANALYSIS RESULTS FOR INDIVIDUAL INDUSTRIAL SECTORS FOR THE YEAR 2007 A) Engineering Industry For the Engineering industrial sector, the overall MSA value falls in the acceptable range (above.50) with a value of.656 for KMO and.000 for Bartlett s test (less than.5), these measures indicate that the set of variables are appropriate for factor analysis. Table 5.1: KMO and Bartlett's Test for Engineering Industry Kaiser-Meyer-Olkin Measure of Sampling Adequacy.656 Approx. Chi-Square Bartlett's Test of Sphericity df 210 Sig..000 Factor analysis has yielded eight factors for Engineering Industry which represented % of the variance, of 21 variables deemed sufficient in terms of total variance explained (solution should account for >60% variance). Table 5.2 summarises the orthogonal solution resulting from VARIMAX rotation of the original twenty one measures for Engineering industrial sector for the year

17 Table 5.2: Factor Analysis for Factors Affecting Dividend in Engineering Industry for the Year 2007 Factors Factor Loadings Eigen Value Percentage of Variance Explained Cumulative Variance Profitability and Investment Set Net Profit Ratio.864 Return on Net worth.961 Return on Capital.871 Employed Market to Book Value.650 Free Cash flow.549 Net Profit to Net worth.956 Ratio Dividend Rate Dividend Per Share.952 Dividend Per Share to.876 Market Value Dividend Per Share to.930 Face value Dividend Payout.948 Financial Soundness Current Ratio.828 Debt Equity Ratio.725 Cash Holding.713 Solvency Ratio.858 Liquidity Growth in Working.785 Capital Company s Age Age.892 Earnings and Share Price Behavior Share Price Behavior.694 Profit After Tax.569 Growth in EPS.512 Investment Opportunity Tobin s Q.893 Risk and Uncertainty EPS Uncertainty.814 The factor 1 variables: Net Profit Ratio, Return on Net worth, Return on Capital Employed, Market to Book Value, Free Cash Flow and Net profit to Net worth ratio are interpreted under the construct Profitability and Investment Set. Factor 2 was named as Dividend Rate and includes the variables Dividend per Share, Dividend 184

18 Per share to Market Value, Dividend per share to Face Value and Dividend Payout. Factor 3 was named as Financial Soundness and includes variables Current Ratio, Debt Equity, Cash Holding and Solvency Ratio. Factor 4 was named as Liquidity and includes variables Growth in Working Capital. Factor 5 was named as Company s Age and includes variables Age. Factor 6 was named as Earnings and Share Price Behavior and includes variables Share Price Behavior, Profit after Tax and Growth in Earnings per Share. Factor 7 was named as Investment Opportunity and includes variables Tobin s Q. Factor 8 was named as Risk and Uncertainty and includes variables Earnings per Share Uncertainty. B) FMCG Industry For the FMCG industrial sector, the overall MSA value falls in the acceptable range (above.50) with a value of.504 for KMO and.000 for Bartlett s test (less than.5), these measures indicate that the set of variables are appropriate for factor analysis. Table 5.3: KMO and Bartlett's Test for FMCG Industry Kaiser-Meyer-Olkin Measure of Sampling Adequacy.504 Approx. Chi-Square Bartlett's Test of Sphericity df 210 Sig..000 Factor analysis has yielded seven factors for FMCG sector which represented 75.5% of the variance, of 21 variables deemed sufficient in terms of total variance explained (solution should account for >60% variance). Table 5.4 summarises the orthogonal 185

19 solution resulting from VARIMAX rotation of the original twenty one measures for FMCG industrial sector for the year Table 5.4: Factor Analysis for Factors Affecting Dividend in FMCG Industry for the Year 2007 Factors Factor Loadings Eigen Value Percentage of Variance Explained Cumulative Variance Profitability and Investment Set Net Profit Ratio.538 Return on Net worth.944 Return on Capital.955 Employed Market to Book Value.797 Free Cash flow.688 Net Profit to Net worth.939 Ratio Dividend Rate Dividend Per Share.551 Dividend Per Share to.536 Market Value Dividend Per Share to Face.911 value Dividend Payout.544 Financial Soundness EPS Uncertainty.855 Age.611 Debt-Equity Ratio.735 Profit After tax.710 Growth in Working Capital.527 Solvency Ratio.718 Investment Opportunity Tobin s Q.905 Liquidity Current Ratio.542 Cash Holdings.836 Growth Rate Growth in EPS.822 Share Price Movement Share Price Behavior.525 The factor 1 variables: Net Profit Ratio, Return on Net worth, Return on Capital Employed, Market to Book Value, Free Cash Flow and Net profit to Net worth Ratio are interpreted under the construct Profitability and Investment Set. Factor 2 186

20 was named as Dividend Rate and includes the variables Dividend per Share, Dividend Per share to Market Value, Dividend per share to Face Value and Dividend Payout. Factor 3 was named as Financial Soundness and includes variables EPS Uncertainty, Age, Debt Equity, Profit after Tax, Growth in Working Capital and Solvency Ratio. Factor 4 was named as Investment Opportunity and includes variable Tobin s Q. Factor 5 was named as Liquidity and includes variables Current Ratio and Cash Holdings. Factor 6 was named as Growth Rate and includes variables Growth in EPS. Factor 7 was named as Share Price Movement and includes variables Share Price Behavior. C) IT Industry For the IT industrial sector, the overall MSA value falls in the acceptable range (above.50) with a value of.554 for KMO and.000 for Bartlett s test (less than.5), these measures indicate that the set of variables are appropriate for factor analysis. Table 5.5: KMO and Bartlett's Test for IT Industry Kaiser-Meyer-Olkin Measure of Sampling Adequacy.554 Approx. Chi-Square Bartlett's Test of Sphericity df 210 Sig..000 Factor analysis has yielded seven factors for IT sector which represented % of the variance, of 21 variables deemed sufficient in terms of total variance explained (solution should account for >60% variance). Table 5.6 summarises the orthogonal solution 187

21 resulting from VARIMAX rotation of the original twenty one measures for IT industrial sector for the year Table 5.6: Factor Analysis for Factors Affecting Dividend in IT Industry for the Year 2007 Factors Factor Loadings Eigen Value Percentage of Variance Explained Cumulative Variance Profitability Position Net Profit Ratio.940 Return on Net worth.629 Return on Capital Employed.670 Free Cash Flow.846 Net Profit to Net worth Ratio.650 Growth in Working Capital.778 Dividend Rate Dividend Per Share.494 Dividend Per Share to Market.419 Value Dividend Per Share to Face.852 value Dividend Payout.418 Financial Soundness Current Ratio.836 Cash Holding.746 Debt Equity.873 Solvency Ratio.593 Company s Age Age.764 Investment Opportunity Market Value to Book Value.846 Tobin s Q.891 Share Prices and Uncertainty EPS Uncertainty.505 Share Price Behavior.720 Earnings and Growth Rate Profit After Tax.864 Growth in EPS.898 The factor 1 variables: Net Profit Ratio, Return on Net worth, Return on Capital Employed, Market to Book Value, Free Cash Flow, Net profit to Net worth ratio and Growth in Working Capital are interpreted under the construct Profitability Position. Factor 2 was named as Dividend Rate and includes the variables Dividend 188

22 per Share, Dividend Per share to Market Value, Dividend per share to Face Value and Dividend Payout. Factor 3 was named as Financial Soundness and includes variables Current Ratio, Cash Holding, Debt Equity and Solvency Ratio. Factor 4 was named as Company s Age and includes variables Age. Factor 5 was named as Investment Opportunity and includes variables Market Value to Book Value and Tobin s Q. Factor 6 was named as Share Prices and Uncertainty and includes variables EPS Uncertainty and Share Price Behavior. Factor 7 was named as Earnings and Growth Rate and includes variables Profit after Tax and Growth in Earnings per Share. D) Textile Industry For the Textiles industrial sector, the overall MSA value falls in the acceptable range (above.50) with a value of.546 for KMO and.000 for Bartlett s test (less than.5), these measures indicate that the set of variables are appropriate for factor analysis. Table 5.7: KMO and Bartlett's Test for Textiles Industry Kaiser-Meyer-Olkin Measure of Sampling Adequacy.546 Approx. Chi-Square Bartlett's Test of Sphericity df 210 Sig..000 Factor analysis has yielded seven factors for Textiles sector which represented % of the variance, of 21 variables deemed sufficient in terms of total variance explained (solution should account for >60% variance). Table 5.8 summarises the orthogonal 189

23 solution resulting from VARIMAX rotation of the original twenty one measures for Textiles industrial sector for the year Table 5.8: Factor Analysis for Factors Affecting Dividend in Textiles Industry for the Year 2007 Factors Factor Loadings Eigen Value Percentage of Variance Explained Cumulative Variance Profitability Position Return on Net worth.928 Return on Capital Employed.851 Net Profit to Net worth Ratio.905 Profit After Tax.880 Growth in EPS.666 Financial Soundness Growth in Working Capital.820 Net Profit Ratio.947 Cash Holdings.826 Solvency ratio.958 Investment and Risk EPS Uncertainty.886 Tobin s Q.762 Market Value to Book value.943 Dividend Rate Dividend Per Share.890 DPS to Market Value.811 DPS to Face Value.713 Dividend Payout.780 Capital Structure and Share Price Behavior Debt Equity.743 Share Price Behavior.754 Company s Age Age.798 Liquidity Position Current Ratio.732 Free Cash Flow.581 The factor 1 variables Return on Net worth, Return on Capital Employed, Net Profit to Net worth, Market to Book Value, Profit after Tax and Growth in Earnings per Share are interpreted under the construct Profitability Position. Factor 2 was named as Financial Soundness and includes the variables Growth in Working Capital, Net 190

24 profit Ratio, Cash Holdings and Solvency Ratio. Factor 3 was named as Investment and Risk and includes variables EPS Uncertainty, Tobin s Q and Market Value to Book Value. Factor 4 was named as Dividend Rate and includes variables Dividend per Share, Dividend to Market Value, Dividend to Face Value and Dividend Payout. Factor 5 was named as Capital Structure and Share Price Behavior and includes variables Debt Equity Ratio and Share Price Behavior. Factor 6 was named as Company s Age and includes variables Age. Factor 7 was named as Liquidity Position and includes the variables Current Ratio and Free Cash Flow ) FACTOR ANALYSIS RESULTS FOR GROUPED DATA FOR THE YEAR 2007 The sampling adequacy tests have been conducted to know that whether the sample is adequate or not. For the grouped data, the overall MSA value falls in the acceptable range (above.50) with a value of.648 for KMO and.000 for Bartlett s test (less than.5), these measures indicate that the set of variables are appropriate for factor analysis. Table 5.9: KMO and Bartlett's Test for Grouped Data Kaiser-Meyer-Olkin Measure of Sampling Adequacy.648 Approx. Chi-Square Bartlett's Test of Sphericity df 210 Sig..000 Factor Analysis has resulted in retaining seven factors for the grouped data which retained represented % of the variance, of 21 variables deemed sufficient in terms of total variance explained (solution should account for >60% variance). Table

25 summarises the orthogonal solution resulting from VARIMAX rotation of the original twenty one measures for the grouped data for the year Table 5.10: Factor Analysis for Factors Affecting Dividend for Grouped Data for the Year 2007 Factors Factor Loadings Eigen Value Percentage of Variance Explained Cumulative Variance Profitability and Investment Set Return on Net worth.956 Return on Capital Employed.887 Market Value to Book Value.644 Net Profit to Net worth Ratio.946 Profit After Tax.356 Dividend Rate Dividend Per Share.902 Dividend per Share to Market Value.735 Dividend per Share to Face Value.735 Dividend Payout.916 Financial Soundness Net Profit Ratio.917 Current Ratio.730 Cash Holdings.622 Free Cash Flow.553 Solvency Ratio.926 Share Price Movement Share Price Behavior.728 Capital Structure and Investment Opportunity Debt-Equity Ratio.569 Tobin s Q.709 Growth Rate Growth in EPS.829 Growth in Working Capital.414 Company s Age and Uncertainty EPS Uncertainty.614 Age.769 The factor 1 variables Return on Net worth, Return on Capital Employed, Market to Book Value, Net Profit to Net worth and Profit after Tax are interpreted under the construct Profitability and Investment Set. Factor 2 was named as Dividend Rate and includes variables Dividend per Share, Dividend to Market Value, Dividend to Face 192

26 Value and Dividend Payout. Factor 3 was named as Financial Soundness and includes the variables Net profit Ratio, Current Ratio, Cash Holdings, Free Cash Flow and Solvency Ratio. Factor 4 was named as Share Price Movement and includes variables Share Price Behavior. Factor 5 was named as Capital Structure and Investment Opportunity and includes variables Debt-Equity Ratio and Tobin s Q. Factor 6 was named as Growth Rate and includes the variables Growth Rate in EPS and Growth Rate in Working Capital. Factor 7 was named as Company s Age and Uncertainty and includes the variables EPS Uncertainty and Age ) FACTOR ANALYSIS RESULTS FOR INDIVIDUAL INDUSTRIAL SECTORS FOR THE YEAR 2008 A) Engineering Industry For the Engineering industrial sector, the overall MSA value falls in the acceptable range (above.50) with a value of.671 for KMO and.000 for Bartlett s test (less than.5), these measures indicate that the set of variables are appropriate for factor analysis. Table 5.11: KMO and Bartlett's Test for Engineering Industry Kaiser-Meyer-Olkin Measure of Sampling Adequacy.671 Approx. Chi-Square Bartlett's Test of Sphericity df 210 Sig..000 Factor analysis has yielded six factors for Engineering sector which represented % of the variance, of 21 variables deemed sufficient in terms of total variance explained (solution should account for >60% variance). Table 5.12 summarises the orthogonal 193

27 solution resulting from VARIMAX rotation of the original twenty one measures for the Engineering sector for the year Table 5.12: Factor Analysis for Factors Affecting Dividend in Engineering Industry for the Year 2008 Factors Factor Loadings Eigen Value Percentage of Variance Explained Cumulative Variance Profitability Position Net Profit Ratio.876 Return on Net worth.873 Return on Capital.785 Employed Free Cash flow.649 Net Profit to Net worth.907 Ratio Financial Soundness Current Ratio.885 Debt Equity Ratio.613 Cash Holding.854 Growth in Working.582 Capital Solvency Ratio.910 Dividend Rate Dividend Per Share.818 Dividend Per Share to.768 Market Value Dividend Per Share to.734 Face value Dividend Payout.462 Company s Age and Profitability Age.623 Profit After Tax.488 Investment Opportunity Market Value to Book.776 Value Tobin s Q Earnings and Share Price Behavior Share Price Behavior.489 Growth in EPS.467 The factor 1 variables: Net Profit Ratio, Return on Net worth, Return on Capital Employed, Free Cash Flow and Net profit to Net worth ratio are interpreted under 194

28 the construct Profitability Position. Factor 2 was named as Financial Soundness and includes variables Current Ratio, Debt Equity, Cash Holding, Growth in Working Capital and Solvency Ratio. Factor 3 was named as Dividend Rate and includes the variables Dividend per Share, Dividend Per share to Market Value, Dividend per share to Face Value and Dividend Payout. Factor 4 was named as Company s Age and Profitability and includes variables Age and Profit after Tax. Factor 5 was named as Investment Opportunity and includes variable Market Value to Book Value and Tobin s Q. Factor 6 was named as Earnings and Share Price Behavior and includes variables Share Price Behavior, and Growth in Earnings per Share. B) FMCG Industry For the FMCG industrial sector, the overall MSA value falls in the acceptable range (above.50) with a value of.556 for KMO and.000 for Bartlett s test (less than.5), these measures indicate that the set of variables are appropriate for factor analysis. Table 5.13: KMO and Bartlett's Test for FMCG Industry Kaiser-Meyer-Olkin Measure of Sampling Adequacy.556 Approx. Chi-Square Bartlett's Test of Sphericity df 210 Sig..000 Factor analysis has yielded eight factors for FMCG sector which represented % of the variance, of 21 variables deemed sufficient in terms of total variance explained (solution should account for >60% variance). Table 5.14 summarises the orthogonal 195

29 solution resulting from VARIMAX rotation of the original twenty one measures for the FMCG sector for the year Table 5.14: Factor Analysis for Factors Affecting Dividend in FMCG Industry for Factors Factor Loadings the Year 2008 Eigen Value Percentage of Variance Explained Cumulative Variance Profitability and Investment Opportunity Net Profit Ratio.612 Return on Net worth.947 Return on Capital Employed.950 Market to Book Value.763 Net Profit to Net worth Ratio.951 Capital Structure and Risk Debt-Equity Ratio.839 Solvency Ratio.771 Liquidity Current Ratio.710 Cash Holding.758 Growth in Working Capital.850 Dividend Rate Dividend Per Share.594 Dividend Per Share to Market.698 Value Dividend Per Share to Face.911 value Dividend Payout.907 Earnings and Uncertainty EPS Uncertainty.830 Profit After tax.789 Company s Age and Risk Age.513 Tobin s Q.908 Financial Soundness Free Cash Flow.448 Growth in EPS.862 Share Price Movement Share Price Behavior.552 The factor 1 variables: Net Profit Ratio, Return on Net worth, Return on Capital Employed, Market to Book Value and Net profit to Net worth Ratio are interpreted under the construct Profitability and Investment Opportunity. Factor 2 was named as 196

30 Capital Structure and Risk and includes the variables Debt-Equity Ratio, Solvency Ratio, Dividend per share to Face Value and Dividend Payout. Factor 3 was named as Liquidity and includes variables Current Ratio, Cash Holdings and Growth in Working Capital. Factor 4 was named as Dividend Rate and includes the variables Dividend per Share, Dividend Per share to Market Value, Dividend per share to Face Value and Dividend Payout. Factor 5 was named as Earnings and Uncertainty and includes variables EPS Uncertainty and Profit after Tax. Factor 6 was named as Company s Age and Risk and includes variables Age and Tobin s Q. Factor 7 was named as Financial Soundness and includes variables Free Cash Flow and Growth in EPS. Factor 8 was named as Share Price Movement and includes variables Share Price Behavior. C) IT Industry For the IT industrial sector, the overall MSA value falls in the acceptable range (above.50) with a value of.616 for KMO and.000 for Bartlett s test (less than.5), these measures indicate that the set of variables are appropriate for factor analysis. Table 5.15: KMO and Bartlett's Test for IT Industry Kaiser-Meyer-Olkin Measure of Sampling Adequacy.616 Approx. Chi-Square Bartlett's Test of Sphericity df 210 Sig..000 Factor analysis has yielded seven factors for IT sector which represented % of the variance in IT sector, of 21 variables deemed sufficient in terms of total variance 197

31 explained (solution should account for >60% variance). Table 5.16 summarises the orthogonal solution resulting from VARIMAX rotation of the original twenty one measures for the IT sector for the year Table 5.16: Factor Analysis for Factors Affecting Dividend in IT Industry for the Year 2008 Factors Factor Loadings Eigen Value Percentage of Variance Explained Cumulative Variance Profitability Position Net Profit Ratio.954 Return on Net worth.912 Return on Capital Employed.729 Free Cash Flow.581 Net Profit to Net worth Ratio.901 Dividend Rate Dividend Per Share.735 Dividend Per Share to Market.897 Value Dividend Per Share to Face value.821 Dividend Payout.637 Liquidity Cash Holding.921 Financial Soundness Current Ratio.879 Growth in Working Capital.559 Solvency Ratio.518 Leverage and Risk EPS Uncertainty.921 Debt Equity.572 Earnings and Investment Opportunity Tobin s Q.730 Market Value to Book Value.610 Growth in EPS.799 Share Prices and Profits Share Price Behavior.685 Profit After Tax.778 The factor 1 variables: Net Profit Ratio, Return on Net worth, Return on Capital Employed, Free Cash Flow and Net profit to Net worth Ratio are interpreted under the construct Profitability Position. Factor 2 was named as Dividend Rate and includes the variables Dividend per Share, Dividend Per share to Market Value, 198

32 Dividend per share to Face Value and Dividend Payout. Factor 3 was named as Liquidity and includes variable Cash Holding. Factor 4 was named as Financial Soundness and includes variables Current Ratio, Growth in Working Capital and Solvency Ratio. Factor 5 was named as Leverage and Uncertainty and includes variables Debt-Equity Ratio and EPS Uncertainty. Factor 6 was named as Earnings and Investment Opportunity and includes variables Tobin s Q, Market Value to Book Value and Growth in Earnings per Share. Factor 7 was named as Share Prices and Profits and includes variables Share Price Behavior and Profit after Tax. D) Textile Industry For the Textile industrial sector, the overall MSA value falls in the acceptable range (above.50) with a value of.512 for KMO and.000 for Bartlett s test (less than.5), these measures indicate that the set of variables are appropriate for factor analysis. Table 5.17: KMO and Bartlett's Test for Textile Industry Kaiser-Meyer-Olkin Measure of Sampling Adequacy.512 Approx. Chi-Square Bartlett's Test of Sphericity df 210 Sig..000 Factor analysis has yielded seven factors for Textile sector which represented % of the variance, of 21 variables deemed sufficient in terms of total variance explained (solution should account for >60% variance). Table 5.18 summarises the orthogonal solution resulting from VARIMAX rotation of the original twenty one measures for the Textile sector for the year

33 Table 5.18: Factor Analysis for Factors Affecting Dividend in Textiles Industry for Factors the Year 2008 Factor Loadings Eigen Value Percentage of Variance Explained Cumulative Variance Company s Age and Profitability Position Net Profit Ratio.956 Return on Net worth.932 Return on Capital Employed.756 Age.810 Net Profit to Net worth Ratio.923 Profit After Tax.911 Financial Soundness Current Ratio.807 Debt-Equity Ratio.622 Solvency Ratio.882 Dividend Rate Dividend Per Share.926 DPS to Market Value.590 DPS to Face Value.919 Dividend Payout.593 Liquidity Growth Growth in Working Capital.854 Earnings and Uncertainty EPS Uncertainty.809 Growth in EPS.627 Liquidity Position Cash Holding.645 Free Cash Flow.830 Investment Opportunity and Share Price Movement Share Price Behavior.908 Market Value to Book Value.651 Tobin s Q The factor 1 variables Net Profit Ratio, Return on Net worth, Return on Capital Employed, Age, Net Profit to Net worth and Profit after Tax are interpreted under the construct Company s Age and Profitability Position. Factor 2 was named as Financial Soundness and includes the variables Current ratio, Debt-Equity Ratio, and Solvency Ratio. Factor 3 was named as Dividend Rate and includes variables Dividend per Share, Dividend to Market Value, Dividend to Face Value and 200

34 Dividend Payout. Factor 4 was named as Liquidity Growth and includes variable Growth in Working Capital. Factor 5 was named as Earnings and Uncertainty and includes variables EPS Uncertainty and Growth in EPS. Factor 6 was named as Liquidity Position and includes the variables Cash Position and Free Cash Flow. Factor 7 was named as Investment Opportunity and Share Price Movement and includes the variables Share Price Behavior, Market Value to Book Value and Tobin s Q ) FACTOR ANALYSIS RESULTS FOR GROUPED DATA FOR THE YEAR 2008 The principal component analysis using VARIMAX rotation of twenty one variables pertaining to the grouped data for the four industrial sectors viz. Engineering, FMCG, IT and Textiles, has led to the extraction of numerous factors. The tests of sampling adequacy have been conducted to know that whether the sample is adequate or not. For the grouped data, the overall MSA value falls in the acceptable range (above.50) with a value of.703 for KMO and.000 for Bartlett s test (less than.5), these measures indicate that the set of variables are appropriate for factor analysis. Table 5.19: KMO and Bartlett's Test for Grouped Data Kaiser-Meyer-Olkin Measure of Sampling Adequacy.703 Approx. Chi-Square Bartlett's Test of Sphericity df 210 Sig

35 Factor Analysis has resulted in retaining seven factors for the grouped data which represented % of the variance, of 21 variables deemed sufficient in terms of total variance explained (solution should account for >60% variance). Table 5.20 summarises the orthogonal solution resulting from VARIMAX rotation of the original twenty one measures for the grouped data for the year Table 5.20: Factor Analysis for Factors Affecting Dividend for Grouped Data for the Year 2008 Factors Factor Loadings Eigen Value Percentage of Variance Explained Cumulative Variance Profitability Position Net Profit Ratio.656 Return on Net worth.899 Return on Capital Employed.823 Net Profit to Net worth Ratio.909 Financial Soundness Current Ratio.850 Debt-Equity Ratio.487 Cash Holding.791 Solvency Ratio.808 Dividend Rate and EPS EPS Uncertainty.689 Dividend Per Share.694 Dividend per Share to Market Value.790 Dividend per Share to Face Value.546 Dividend Payout.623 Investment Opportunity Market Value to Book Value.557 Tobin s Q.724 Liquidity Free Cash Flow.558 Growth in Working Capital.321 Share Price Movement Share Price Behavior.750 Growth in EPS.795 Company s Age and Profitability Age.511 Profit After Tax

36 The factor 1 variables Return on Net worth, Return on Capital Employed, Net Profit to Net worth and Profit after Tax are interpreted under the construct Profitability Position. Factor 2 was named as Financial Soundness and includes the variables Net profit Ratio, Current Ratio, Debt-Equity Ratio, Cash Holdings and Solvency Ratio. Factor 3 was named as Dividend Rate and EPS and includes variables EPS Uncertainty, Dividend per Share, Dividend to Market Value, Dividend to Face Value and Dividend Payout. Factor 5 was named as Investment Opportunity and includes variables Market Value to Book Value and Tobin s Q. Factor 5 was named as Liquidity and includes the variables Free Cash Flow and Growth Rate in Working Capital. Factor 6 was named as Share Price Movement and includes variables Share Price Behavior. Factor 7 was named as Company s Age and Profitability and includes the variables Age and Profit after Tax. 5.3 MAIN FINDINGS The results of the study presented above show that the determinants of dividend identified in the literature apply equally to Indian industries under study. More importantly, the results are an important first step in consolidating our understanding of the factors affecting dividend decision of industries in India in general. The Profitability factor is related to the extent of profits that accrue to the industry in order to take a decision on declaration of dividend. Further, it also influences the opportunities for future investments. The Dividend Rate factor is related to the dividend declared by the companies. The determinants in this group include the dividend per share, dividend payout, and relationship of dividend with market value and face value of shares. The 203

37 Financial Soundness factor is related with the creditworthiness of the industries which is influenced by solvency position and cash position. Further Liquidity factors are also one of the major factors affecting dividend in terms of free cash holdings and current ratio. An important factor Share Price Movement also influences the dividend decision in terms of the relationship of dividend with behavior of the share prices. Further, Investment Opportunity factor also has emerged as an important factor presenting the trade-off between the dividend declaration and the future investment opportunities set. The key implication of these findings is that the Indian industries decision of dividend is influenced by these factors. REFERENCES 1 Allen, F., Bernardo, A. and Welch, I., 2000, A Theory Of Dividends Based On Tax Clienteles, Journal of Finance, Vol. 55, pp Lintner, J., 1956, Distribution of Income of Corporation among Dividends Retained Earning and Taxes, American Economic Review, Vol. 46, pp Ramcharran, H., 2001, An Empirical Model of Dividend Policy in Emerging Equity Markets, Emerging Markets Quarterly, Vol. 5, pp Easterbrook, F.H., 1984, Two Agency-Cost Explanations of Dividends, American Economic Review, Vol. 74, Issue-4, pp Jensen, M., 1986, Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers, American Economic Review, Vol. 76, pp Crutchley, C. E. and Hansen, R., 1989, A Test of Agency Theory of Managerial Ownership, Corporate Leverage, and Corporate Dividends, Financial Management, Vol. 18, No. 4 7 Smith, C. W., and Watts, R., "The Investment Opportunity Set and Corporate Financing, Dividend, and Compensation," Journal of Financial Economics, Vol. 32, 204