EXECUTIVE SUMMARY

The topic of the research is impact of dividend on the value of the firm.
This study shows that to pay or not to pay dividend is a critical decision any
management takes. Maximizing the value of the firm or maximizing the
shareholders wealth is the ultimate objective of any firm. So any decision of
the management has to be valued on the basis of its effect on the value of
the firm.

Dividends are payments made to shareholders from a firms earning,

whether those earnings were generated in the current period or in previous
year. The dividend may be as fixed annual percentage of paid up capital as in
the case of preference shares or it may vary according to the prosperity of
company as in the case of ordinary shares.

Dividends are commonly defined as the distribution of earnings (past or

present) in real assets among the shareholders of the firm in proportion to
their ownership. Managements primary goal is shareholders wealth
maximization, which translates into maximizing the value of the company as
measured by the price of the companys common stock. This goal can be
achieved by giving a fair payment on their investment. However, the
impact of the firms dividend policy on shareholders wealth is still
unresolved.

Aim of the study is to understand impact of dividend policies on the value of

the firm. Along with dividend other variables such as retained earnings, Debt
equity and the return on equity share policies of the Indian public limited
companies are studied to understand the relationship between the dividend
and the share prices. The main objective of the study were;

To find out whether decisions affect the share prices.

To find the extent to which the debt equity ratio affects the share
prices.

To describe the samples in terms of its pattern of dividend distribution

and debt and to find out the relationship between the dividend and
debt and the return on the equity shares.

A descriptive research, which is quantitative in nature, was conducted.

convenient sample of 25 companies, shares of which are traded in Bombay
stock exchange and National stock exchange was studied. The historical data
were collected from the websites of the Bangalore stock exchange, Bombay
stock exchange and National stock exchange. The relationship between the
value of the firm and dividend policies of the firm and the capital structure of
the firm is studied using Multiple Regression Model.

Results of the study show that there is no evidence of significant association

between dividend policies on the value of the firm(significance at 5% level
t test.) the findings include both cross-sectional interpretation for the
entire sample companies for five years(2007/8 to 2012/13) and time series
interpretation for each of the sample companies separately for five
years(2007/8 to 2012/13). The findings also include the dividend distribution
and debt patterns of the samples under study.
The salient findings of the study are:

There is no significant effect of dividend/retention and debt equity ratio

on share prices.

Out of the variables under study it can be noticed that dividend and
share prices does not have a notable relationship between each other.

Out of the sample under study the software companies showed a

deviation from others by having least debt equity some even 0 for
more than 5 years and least dividend payout ratio and still maintaining
a good of return on share prices.

In conclusion, the study was conducted in three stages:

Collection of the required data namely the income statement, balance

sheet and the share prices for ten years of the samples under study

Calculation and tabulation of the variables under study.

Analysis and interpretation.

INTRODUCTION
Dividend policy has been in issue of interest in financial literature since joint
stock companies came into existence. Dividends are commonly defined as
the distribution or earnings ( past or present) in real assets among the
shareholders of the firm in proportion to their ownership. Dividend policy
connotes to the payout policy, which managers pursue in deciding the size
and pattern of cash distribution to shareholders overtime. Managements
primary goal is shareholders wealth maximization, which translates into
maximizing the value of the firm as measured by the price of the firms
common stock. This goal can be achieved by giving the shareholders a
fair payment on their investments. However, the impact of firms dividend
policy on shareholders wealth is still unresolved.
The area of corporate dividend policy has attracted attention of management
scholars and economics culminating into theoretical modeling and empirical
examination. Thus, dividend policy is one of the most complex aspects in
finance. three decades ago, black(1976)in his study on dividend wrote, the
harder we look at the dividend picture the more it seems like a puzzle, with
pieces that just dont fit together why shareholders like dividends and why
they reward managers who pay regular increasing dividends is still
unanswered.
According to Brealey and Myers (2002) dividend policy has been kept as the
top ten puzzles in finance the most pertinent question to be answered here is
that how much cash should firms give back to their shareholders through
dividends or by repurchasing their shares, which is the least costly form of
payout from tax perspective? Firms must take these important decisions
period after period (must be repeated and some need to be revaluated each
period on regular basis.)
Dividend policy can be two types: managed and residual. In residual dividend
policy the amount of dividend is simply the cash left after the firm makes

desirable investments using NPV rule. In this case the amount of dividend is
going to be highly variable and often zero. If the manager believes dividend
policy is important to their investors and it positively influences share price
valuation<they will adopt managed dividend policy. The optimal dividend
policy is the one that maximizes the companys stock price, which leads to
maximization of shareholders wealth. Whether or not dividend decisions can
contribute to the value of firm is a debatable issue.
Firms generally adopt dividend policies that suit the stage of life cycle they
are in. for instance, high- growth firms with larger cash flows and fewer
projects tend to pay more of their earnings out as dividends. The dividend
policies of firms may follow several interesting patterns adding further to the
complexity of such decisions. Firstly, dividends tend to lag earnings, that is,
increases in earnings are followed by increases in dividends and decreases in
earnings sometimes by dividend cuts. Second, dividends are sticky
because firms are typically reluctant to change dividends; in particular, firms
avoid cutting dividends even when earnings drop. Third, dividends tend to
follow a much smoother path than do earnings. Finally, resulting from
changes in growth rates, cash flows, and macroeconomic vicissitudes, such
as those in cyclical industries, are less likely to be tempted to set a relatively
low maintainable regular dividend so as to avoid the dreaded consequences
of a reduced dividend in a particularly bad year.
Shareholders wealth is represented in the market price of the companys
common stock, which, in turn, is the function of the companys investment,
financing and dividend decisions. Among the most crucial decisions to be
taken for efficient performance and attainment of objectives in any
organization are the decisions relating to dividend. Dividend decisions are
recognized as centrally important because of increasingly significant role of
finances in the firms overall growth strategy. The objective of the finance
manager should be to find out an optimal dividend policy that will enhance
value of the firm. It is often argued that the share prices of a firm tend to be
reduced whenever there is a reduction in the dividend payments.
Announcements of dividend increases generate abnormal positive security
returns, and announcements of dividend decreases generate abnormal
negative security returns. A drop in share prices occur because dividends
have signaling effect. According to the signaling effect mangers have private
and superior information about future prospects and choose a dividend level
to signal that private information. Such a calculation, on the part of the
management of the firm may lead to a stable dividend payout ratio.

Dividend policy of a firm has implication for investors, mangers and lenders
and other stakeholders (more specifically the claimholders). For investors,
dividends- whether declared today or accumulated the provided at a later
date are not only a means of regular income, but also an important input in
valuation of a firm. Similarly, managers flexibility to invest in projects is also
dependent on the amount of dividend that they can offer to shareholders as
more dividend may mean fewer funds available for investment. Lenders may
also have interest in the amount of dividend a firm declares, as more the
dividend paid less would be the amount available for servicing and
redemption of their claims. The dividend payments present an example of
the classic agency situation as its impact is borne by various claimholders.
Accordingly dividend policy can be used as a mechanism to reduce agency
costs. The payment of dividend reduces the discretionary funds available to
managers for perquisite consumption and investment opportunities and
require managers to seek financing in capital markets. This monitoring by
external capital markets may encourage the managers to be more
disciplined and act in owners best interest.
Companies generally prefer a stable dividend payout ratio because the
shareholders expect it and reveal a preference for it. Shareholders may want
a stable rate of dividend payment for a variety of reasons. Risk averse
shareholders would be willing to invests only in those companies which pay
high current returns on shares. The class of investors, which includes
pensioners and other small savers, are partly or fully dependent on dividend
to meet their day-to-day needs. Similarly, educational institutions and charity
firms prefer stable dividends, because they will not be able to carry on their
current operations otherwise. Such investors would therefore, prefer
companies, which pay a regular dividend every year. This clustering of
stockholders in companies with dividend policies that match their preference
is called clientele effect.
In an ever increasing Indian economy, globalization, liberalization and
privatization together with rapid strides made by information technology,
have brought intense competition in every field of activity. so Indian
companies at present are dazed confused, and apprehensive. to maintain the
competiveness of , and value to the companies, todays finance manager
have to make critical business and financial decisions which will lead to long
run perspective with the objective of maximizing the shareholders wealth.
shareholders wealth is represented in the market price of the companys
common stock, which, in turn is the function of the companys investment,
financing and dividend decision. managements primary goal is shareholders

wealth maximization. which translate in to maximizing the value of the

company as measured by the price of the companys common stock.
shareholders like cash dividends ,but they also like the growth in EPS that
result from ploughing earning back in to the business. The optimal dividend
policy is one that maximizes the companys stock price which leads to
maximization of shareholders wealth and there by ensures more rapid
economic growth. the present study is intended to study how far the
dividend payout has impact on the value of the firm in general: and in
particular to study the relationship between the firms value and dividend
payout to analyze whether the level of dividend payout affects to the wealth
of the shareholders
The dividend decision of the firm is the crucial area of financial management.
the important aspect of dividend policy is to determine the amount of
earnings to be retained and the amount to be distributed to shareholders
retained earnings are most significant internal source of financing .on the
other hand, dividends may be considered desirable from shareholders point
of view as they tend to increase their current return. during the first part of
the 20th century, dividends were the primary reason investors purchased
stocks .it was literally said, the purpose of the company is to pay dividends
today the investors view is a bit more refined; it could be stated , instead
,as, the purpose of a company is to increase my wealth. indeed, todays
investor looks to dividends and capital gains as a source of increase.
The objective of any dividend policy should be to increase the shareholders
returns so that the value of his investment is maximized. shareholders return
has two components; dividend and capital gains. there are many reasons for
paying dividends and there are many reasons for not paying dividends. As a
result, dividend policies controversial. A higher payout of dividend means
lower retained earnings which may affect the growth of the firm and perhaps
a lower market price per share. the decisions became more critical than their
exists and investment opportunity to the firm. if the profits earned is
distributed to investors then the retained earnings to that extent will be
reduced which will result in increase in debt to finance the investment
opportunity. on the other hand the investments requirement must be
satisfied by providing the optimal dividend. All these factors which go
through the minds of shareholders will be reflected in the market price of the
shares. The dividend decision is very vital to any organization.

2.1 BACKGROUND OF THE STUDY

How share prices differ from each other? To what extent financial decisions of
the management have a bearing on the shareholders wealth? These are
some of the several arose in the minds of investors and other stakeholder of
the firm. No matter what type of industry, growth prospective ,capital
structure etc.. of a firm the ultimate objective is maximizing the
shareholders wealth. shareholders wealth is the total value of the firm being
the final goal, all the decisions of the management is directed towards it. The
next question arises is how to value of these decisions. it is always believed
that the market value of the share reflects the emotion and exactions of the
investors to each and every decision the management takes.
The major decision of financial management is dividend decision, in the
sense that the firm has to choose between distributing the profit to the
shareholders and ploughing back the profits in the business. the choice
would obviously hinge on the affect of the decision on the maximization of
shareholders wealth. given these objectives firm should guide by the
consideration has to which alternative use is consistent with the goal of
wealth maximization. Affirm will be well advised to distribute the net profits
of dividends in such a distribution results in maximizing the shareholders
wealth; if not it would be better to plough back the profits in the business for
future investments on growth. there are however conflicting view regarding
impact of dividend on the value of the firm. on the relationship between the
dividend policy and value of the firm different theories have been
advanced .one school of thought treats it as relevant and other is irrelevant.
there are two extreme views that are; a) dividends are good as it increases
the shareholders value; b)dividends are bad as it decreases the shareholders
value. the crux of the arguments is whether to distribute the earnings or
retained earnings.
Another point financial decision is capital structure decision. under normal
conditions the earnings per share increases when the leverage is more. more
debt or leverage also increases the risk of a firm. thus it cannot be clearly
said whether the value of the firm, the capital structure or leverage, decision
should be examined from the point of view of its impact if the capital
structure affects the value of the firm, then every firm will try achieve the
optimal capital structure which maximizes the value of the firm. there exists
conflicting theories on the relation between the capital structure and the
value of the firm. Thus there exists a research gap and the purpose of the
current study is therefore to describe whether the dividend decisions really

influence the value of the firm or not. in the study an attempt has also been
made to understand the relationship between the capital structure and value
of the firm.

2.2 REVIEW OF LITERATURE

A dividend is a part of a corporations cash flow that is distributed to its
owners. A corporation can do several things with its free cash flow.
companys can take their cash flows and save it, reinvest it, purchase their
own stock, payback that, and/or pay it out to its shareholders in the form of
dividends.
Previous empirical studies have focused mainly on developed economies the
study undertaken looks at the issue from emerging markets perspective by
focusing exclusively on Indian information technology, FMCG and service
sector. Respectively. The major objective of his research is to empirically
examine rationale for stable dividend payments by finding the applicability of
Lintner model in Indian scenario. The present research work also seeks to
examine and identify the relative importance of some of known determinants
of dividend policy in Indian context. the research work also has made an
endeavor to bring to light the influence of ownership groups of a company on
dividend payout behavior of a firm. This research tries to unfold the
relationship between the shareholders wealth and the dividend payout and
analyze whether the dividend payout announcements affects the wealth of
the shareholders.
Given the diversity in corporate objectives and environments, it is
conceivable to have divergent dividend policies that are specific to firms,
industries, markets or regions. through the research an attempt has been
made to suggest how dividend policy can be set at micro level. finance
mangers would be able to examine how the various market frictions such as
a symmetric information, agency, costs, taxes, and transaction costs affect
their firms, as well as their current claimholders, to arrive at reasonable
dividend policies. Previous research studies have focused on dividend
payment pattern and policies of developed markets, which may not hold trye
of emerging markets like India. In Indian context, few studies have analyzed
the dividend behavior of corporate firms and focused on Indian cotton textile
industry and manufacturing sector. However, it is still not apparent what the
dividend behavior of corporate firms in India is. very few studies have
analyzed the dividend behavior of corporate firms in the Indian context . to

date, most studies have paid attention on influence of cash flows or earnings
on the dividend payment of a firm.

RELEVANCE OF DIVIDENDS
These approach supports that the value of the firm is affected by the
dividend policy and optimal dividend policy is the one, which maximizes the
firms value. These variable consider dividend decisions to be an active
variable n determining the value of a firm, two famous models in support of
these are explained below.
Walters Model (James and Walter,1963)
Walter model supports that the dividend policy of the firm is relevant. the
investment policy of the management cannot be separated from its dividend
policy and both are interrelated. thus the choice of dividend policy does
affect the value of the firm. Walter model is built around assumptions such as
constant return, constant cost of capital, constant earning and dividend. he
also made an assumption that financing of new investment is done through
retained earnings and debt and no new equity shares are being issued.
Walter in his argument explains three situations
. if the return on investment exceeds the cost of capital then the firm has to
retain the earnings and should not be distributed as dividends.
. if the cost of capital exceeds the return on investment then the firm has to
pay entire earning as dividend.
. if the return on investment and the cost of capital is same then rate of
dividend payout can be 0 to 100
According to this model if the firm retain the earnings it gives a single that
the investment opportunities are more and it increases the shares prices.
Similarly when the firm distributes the entire earnings as dividends, share
prices will automatically increase, as the income on the shares are more. The
Walter model is criticized on the unrealistic assumptions on which it is made
such as no debt financing ,constant return, cost of capital and earnings
etcare not practically possible.
Gordon Model (Gordon Myron j,1962)

Myron Gordon (1962) came up with a dividend relevance model which is

popularly known as the bird in the argument. The crux of the argument is
that the

. Investors are risk averse and

.They put a premium on the certain return and discount or penalize the
uncertain returns.
Gordon says that the current dividends are certain and the reinvestment of
current dividend for future returns is uncertain. Thus the investors would be
inclined to pay higher prices of shares on which dividends are post pond.ths
model is based on the belief that a bird in the hand worth two in the bush.
Thus incorporating the uncertainty in to the model Gordon concludes that
the dividend policy affects the value of the firm. his model, justifies the
behavior of investors who value a rupee of dividend income more than a
rupee of capital gains. However this model is also not free of criticism
because of the assumptions on which it is based.

CAPITAL STRUCTURE vs. FIRMS VALUE

The two principal sources of finance for a company are equity and debt.
What should be the proportion of equity and debt in the capital structure of
the firm? One of the key issues in the capital structure decision is the
relationship between the capital structure and the value of the firm. There
are several views on how this decision affects the value of the firm.

Optimal capital structure Theory

Optimal capital structure theory of Modigliani-Miller (1958) suggest there
exist optimal leverage at which the firm obtains a maximum value by
minimizing its weighted leverage costs of capital, given the market
imperfections and tax deductibility of interest costs from pre-tax income
firms. The proposition asserts that the value of the firm with tax-deductible
interest is equal to the value of an all-equity firm as enhanced by the tax
savings. According to this approach, the capital structure decision of a firm is

irrelevant. This approach supports the NOI approach and provides a behavior
justification for it. This approach indicates that the capital structure is
irrelevant because of the arbitrage process which will correct any imbalance
i.e expectations will change and a stage will be reached where further
arbitrage is not possible.
Durand D (1959) identified two views; Net income approach and Net
operating approach. Under the net income approach the cost of debt equity
are assumed to be independent to the capital structure . this approach says
that the weighted average cost of capital of the firm declines and the total
value of the firm rise with increased use of leverage. Under the net operating
income approach, the cost of the equity is assumed to increase linearly with
leverage. As a result, the weighted average cost of capital remains constant
and the total value of the firm also remains constant as the leverage is
changed.
Davidson N W,(1994) in their report on the effect of firm and industry debt
ratios on market value analyzed 183 firms and studied the effect of debt
ratios to the market value of the firm. Overall conclusion of the study is that
the relationship of the firms debt level and that of its industry does not
appear to be of concern to the market. Arsiraphoongphisit O and Ariff
M(2003) in their report on optimal capital structure and firm value an
Australian evidence,1991-2003 (corporate finance) analyzed 654
observations for a period of 1991 to 2003 in Australia market on the effect
of capital structure change and firms value. The findings indicate that the
market reacts positively to announcements of financing that lead to capital
structure moving closer to their relative industrial debt-equity ratio has an
impact on market value of the firm.
From an overall review of the literature it is clear that there exist certainly a
contradicting view on the impact of the dividend policy on the value of the
firm.
The studies on the effect of debt equity combination on share price show
that the relationship is almost zero. But theoretically as the debt increases
because of the tax shield available the earnings must also increase in
earnings always increase the market price of the shares. Thus we can see
that there exists a knowledge gap in the subject.

To examine whether the dividend policies has any impoact on the stock
reaction

To explain the dividend distribution/retention and the debt equity

patterns of the samples.

To understand the relationship between the dividend policies of the

company and the value of the firm.

To study the effect of capital structure decisions on the value of the

firm.

2.3 DIFFERENT TYPES OF DIVIDEND POLICIES

1) REGULAR DIVIDEND
By dividend we mean regular dividend paid annually, proposed by the board
of directors and approved by the shareholders in general meeting. it is also
known as final dividend because it is usually paid after the finalization of
accounts it is generally paid in cash as a percentage of paid up capital, say
10% or 15% of the capital. sometimes, it is paid per share. No dividend is
paid on calls in advance or calls in arrears, the company is, authorized to
make provisions in Articles prohibiting the payment of dividend on shares
having calls in arrears.
2) INTERIM DIVIDEND
If articles so permit, the directors may decide to pay dividend at any time
between the two annual general meeting before finalizing the accounts. It is
generally declared and paid when company has earned heavy profits or
abnormal profits during the year and directors which to pay the profits to
shareholders. Such payment of dividend in between the two annual general
meeting before finalizing the accounts is called interim dividend. No interim
dividend can be declared or paid unless depreciation for the full year (not
proportionately) has been provided for. It is, thus, an extra dividend paid the
year requiring no need of approval of the annual general meeting. It is paid
in cash.
3) STOCK DIVIDEND
Companies , not having good cash position, generally pay dividend in the
form of shares by capitalizing the profits of current year and of past years.
Such shares are issued instead of paying dividend in cash and called Bonus
shares. Basically there is no change in the equity of shareholders. Certain

guidelines have been used by the company Law Board in respect of Bonus
shares.
4) SCRIP DIVIDEND
Scrip dividends are used when earnings justify a dividend, but the cash
position of the company is temporarily weak. So, shareholders are issued
shares and debentures of other companies. Such payment of dividend is
called scrip dividend. Shareholders generally do not like such dividend
because the shares or debentures , so paid are worthless for the
shareholders as directors would use only such investment is which were not.
Such dividend was allowed before passing of the companies (Amendment)
Act 1960, but there after this unhealthy ptactice was stopped.
5) BOND DIVIDEND
In rare instances, dividends are paid in the form of debentures or bonds or
notes for a long term period. The effect of such dividend is the same as that
of paying dividend in scrip. The shareholders become the secured creditors
are the bonds has a lien on assets.

6) PROPERTY DIVIDEND
Sometimes, dividend is paid in the form of assets instead of payment of
dividend in cash. The distribution of dividend is made whenever the assets is
no longer required in the business such as investment or stock of finished
goods.

2.4 FACTORS EFFECTING DIVIDEND POLICY.

1. STABILITY OF EARNINGS.
The nature of business has an important bearing on the dividend policy.
Industrial units having stability of earnings may formulate a more
consistent dividend policy than those having an uneven flow of incomes
because they can predict easily their savings and earnings. Usually,
enterprises dealing in necessities suffer less from oscillating earnings than
those dealing in luxuries or fancy goods.
2. AGE OF CORPORATION.

Age of the corporation counts much in deciding the dividend policy. A

newly established company may require much of its earnings for
expansion and plant improvement and may adopt a rigid dividend policy
while, on the other hand, an older company can formulate a clear cut and
more consistent policy regarding dividend.

3. LIQUIDITY OF FUNDS.
Availability of cash and sound financial position is also an important factor in
dividend decisions. A dividend represents a cash outflow, the greater the
funds the liquidity of the firm the better the ability to pay dividend. The
liquidity of a firm depends very much on the investment and financial
decisions of the firm which in turn determines the rate of expansion and the
manner of financing. If cash position is weak, stock dividend will be
distributed and if cash position is good, company can distribute the cash
dividend.
4. EXTENT OF SHARE DISTRIBUTION.
Nature of ownership also affects the dividend decisions. A closely held
company is likely to get the assent of the shareholders for the suspension of
dividend or for following a conservative dividend policy. On the other hand, a
company having a good number of shareholders widely distributed and
forming low or medium income group would face a great difficulty in securing
such assent because they will emphasize to distribute higher dividend
5. NEEDS FOR ADDITIONAL CAPITAL.
Companies retain a part of their profits for strengthening their financial
position. The income may be conserved for meeting the increased
requirements of working capital or of future expansion. small companies
usually find difficulties in raising finance for their needs of increased working
capital for expansion Programs. They having no other alternative, use their
ploughed back profits. Thus, such companies distribute dividend at low rates
and retain a big part of profits.

6. TRADE CYCLES
Business cycles also exercise influence upon dividend policy. Dividend policy
is adjusted according to the business oscillations. During the boom, prudent

management creates food reserves for contingencies which follow the

inflationary period. Higher rates of dividend can be used as a tool for
marketing the securities in an otherwise depressed market. The financial
solvency can be proved and maintained by the companies in dull years if the
adequate reserves have been built up.
7. GOVERNMENT POLICIES.
The earnings capacity of the enterprise is widely affected by the change in
fiscal, industrial, labor, control and other government policies. Sometimes
government restricts the distributon of dividend beyond a certain percentage
in a particular industry or in all spheres of business activity as was done in
emergency. The dividend policy has to be modified or formulated accordingly
in those enterprises.
8. TAXATION POLICY.
High taxation reduces the earnings of the companies and consequently the
rate of dividend is lowered down. Sometimes government levies dividend-tax
of distribution of dividend beyond a certain limit. It also affects the capital
formation. N India, dividends beyond 10% of paid up capital are subject to
dividend tax at 7.5%.
9. LEGAL REQUIREMENTS.
In deciding on the dividend, the directors take the legal requirement too into
consideration. In order to protect the interests of creditors an outsiders, the
companies Act 1956 prescribes certain guidelines in respect of the
distribution and payment of dividend. Moreover , a company is required to
provide for depreciation on its fixed and tangible assets before declaring
dividend on shares. It proposes that dividend should not be distributed out of
capital, in any case. Likewise, contractual obligation should also be fulfilled.
For example, payment of dividend on preference shares in priority over
ordinary dividend
10.

PAST DIVIDEND RATES.

While formulating the dividend policy, the directors must keep in mind the
dividend paid in past years. The current rate should be around the average
past rat. if it has been abnormally increased the shares will be subjected to
speculation, in a new concern, the company should consider the dividend the
dividend policy of the rival organization.

11.

ABILITY TO BORROW.

Well established and large firms have better access to the capital market
than the new companies and may borrow funds from the external sources if
there arises any need. Such companies may have a better dividend pay-out
ratio. Whereas smaller firms have to depend on their internal sources and
therefore they will have to built up good reserves by reducing the dividend
payout ratio for meeting any obligation requiring heavy funds.
12.

POLICY OF CONTROL.

Policy of control is another determining factor is so far as dividends are

concerned. If the directors want to have control on company, they would not
like to add new shareholders and therefore, declare a dividend at low rate.
Because by adding new shareholders they fear dilution of control and
diversion of policies and programs of the existing management. So they
prefer to meet the needs through retained earnings. If the directors do not
bother about the control of affairs they will follow a liberal dividend policy.
Thus control is an influencing factor in framing the dividend policy.
13.

REPAYMENTS OF LOAN.

A company having loan indebtedness are vowed to a high rate of retention

earnings, unless one other arrangements are made for the redemption of
debt on maturity. It will naturally lower down the rate of dividend.
Sometimes, the lenders (mostly institutional lenders) put restrictions on the
dividend distribution still such time their loan is outstanding. Formal loan
contracts generally provide a certain standard of liquidity and solvency to be
maintained. Management is bound to hour such restrictions and to limit the
rate of dividend payout.
14.

TIME FOR PAYMENT OF DIVIDEND.

When should the dividend be paid is another consideration. Payment of

dividend means outflow of cash. It is, therefore, desirable to distribute
dividend at a time when is least needed by the company because there are
peak times as well as lean periods of expenditure. Wise management should
plan the payment of dividend in such a manner that there is no cash outflow
at a time when the undertaking is already in need of urgent finances.
15.

REGULARITY AND STABILITY IN DIVIDEND PAYMENT.

Dividends should be paid regularly because each investor is interested in the

regular payment of dividend. The management should, in spite of regular
payment of dividend, consider that the rate of dividend should be all the
most constant. for this purpose sometimes companies maintain dividend
equalization in funds.

MAJOR PLAYERS
The major players in this study are of 25 companies as follows;
Associated Cement Company Ltd.
Bajaj Auto Ltd.
Cipla Ltd.
Dr.Reddys Lab Ltd.
Grasim Industries Ltd.
Ambuja Cement Ltd.
HDFC
Hero Honda Ltd.
Hindalco Ltd.
Hindustan Unilever Ltd.
Infosys Technology Ltd.
Ranbaxy Laboratories Ltd.
Reliance Energy Ltd.
Reliance Industries Ltd.
Tata Motors Ltd.
Tata Power Ltd.
Wipro Ltd.
ABB Ltd.

Bharat Petroleum Corporation Ltd.

Britannia Industries Ltd.
Colgate-Palmolive Ltd.
Mahindra & Mahindra Ltd.
Steel Authority of India Ltd.
Mahanagar Telecom Nigam Ltd.

2.5 OPERATIONAL DEFINITIONS CONCEPTS

1.

DIVIDEND PAYOUT RATIO

A ratio showing the percentage of net profits paid out in dividends on

common stock,after reducing net profits by the amount of dividends paid on
preferred stock.it calculated as the percentage of dividend paid on profit
after tax. In this study dividend payout ratio is expressed as the ratio of
dividend paid to the net profit after tax.
=yearly dividend per share/Earnings per share
Or equivalent:
=Dividend/Net income

2.

RETENTION RATIOS

Retention ratio shows the rate of earnings retained by the company for
financing the investments needs. Retained earnings are the main internal
source of finance for the company. This explains to what extent the earnings
of the firm are ploughing back to the business. Technically it is one minus the
dividend paid out ratio.
Retention ratio=1-D/P Ratio

3.

DEBT EQUITY RATIO

Debt equity shows capital structure of the firm. This represents the capital
structure of the company. It is defined as the ratio of debt to equity of the
firm.

4.

RETURN ON SHARES

Return on shares is calculated by dividend the previous years price from the
current year price and the log natural of the resultant figure is calculated as
it gives a continuously compounded rate of return.
Ln (P1/Po)

5.

VALUE OF THE FIRM

The effect on the value of the firm is analyzed by studying the return on
equity shares. Return on equity shares=P1/P0, where P1 is the market price
of equity share for current year and Po is the market price of the equity share
of the equity share for previous year.

6.

DIVIDEND COVERAGE RATIO

The ratio between a companys earnings and net dividend paid to

shareholders- known as dividend coverage- remains a well-used for
measuring whether earnings are sufficient to cover dividend obligation. The
ratio is calculated as earnings per share dividend by the dividend per share.
When coverage is getting thin, odds are good that there will be a dividend
cut, which can have a dire impact on valuation. Investors can feel safe a
coverage ratio of 2 or 3. In practice, the coverage ratio becomes a pressing
indicator when coverage slips below 1.5, at which point prospects start to
look risky. If the ratio is under 1, the company is using its retained earnings
from last year to pay this years dividend.

KEY TERMS
DIVIDEND POLICY; The policy a company uses to decide how much it will
pay out to shareholders in dividends.
SHAREHOLDERS VALUE: The value delivered to shareholders because of
managements ability to grow earnings, dividends and share price. In other

words, shareholder value is the sum of all strategic decisions that affect the
firms ability to efficiently increase the amount of free cash flow over time.
LINTNER MODEL:A model stating that dividend policy has two
parameters(1) the target payout ratio and (2) the speed at which current
dividends adjust to the target.
AGENCY COST: A type of internal cost that arises from, or must be paid to,
an agent acting on behalf of a principal. Agency costs arise because of core
problems such as conflicts of interest between shareholders and
management. Shareholders wish for Management to run the company in a
way that increases shareholder value. But management may wish to grow
the company in ways that maximize their personal power and wealth that
may not be in the best interests of Shareholders.
DIVIDEND SMOOTHING: A concept that has its genesis in the dividend
model proposed by John Lintner (1956). It states that the firms strive
towards dividend stability and consistency .the dividend paid during current
year is governed by dividend paid during previous year and variations in the
earnings should not be reflected in the dividend payout.
INFORMATION ASSYMETRY: A situation in which one party in a transaction
has more or superior information compared to another. This often happens in
transactions where the seller knows more than the buyer, although the
reverse can happen as well. Potentially, this could be a harmful situation
because one party can take advantage of the other partys lack of
knowledge.
EVENT STUDY: An empirical study performed on a security that has
experienced a significant catalyst occurrence, and has subsequently changed
dramatically in value as a result of that catalyst. The event can have either a
positive or negative effect on the value of the security. Event studies can
reveal important information about how a security is likely to react to a
given event, and can help predict how other securities are likely to react to
different events.
PECKING ORDER HYPOTHESIS: This hypothesis states that a company
which prefers retention of profits for financing the capital expenditure from
internal resources distributes fewer dividends compared to a firm which
finances the investment expenditure from external sources. Thus, a negative
relationship exists between CAPEX and dividend payout.

ENTRENCHMENT HYPOTHESIS: The hypothesis suggests a inverted U

shaped relationship between dividends and level of insider ownership.
Dividend may act as a substitute for corporate governance below the
entrenchment level insider ownership leading to a negative relationship
between these two variables. After such critical entrenchment level,
however, when insider ownership increases are associated with additional
entrenchment related agency costs, dividend policy may become a
compensating monitoring force and accordingly a positive relationship with
insider ownership would be observed.
DIVIDEND SIGNALING: A theory that suggests company announcements of
an increase in dividend payouts act as an indicator of the firm possessing
strong future prospects. The rationale behind dividend signaling models
stems from game theory. A manager who has good investment opportunities
is more likely to signal than one who doesnt because it is in his or her best
interest to do so.
ABNORMAL RETURNS: A term used to describe the returns generated by a
given security or portfolio over a period of time that is different from the
expected rate of return. The expected rate of return is the estimated return
based on an asset pricing model, using a long run historical average or
multiple valuations.
FACTOR ANALYSIS: Factor analysis is a statistical procedure used to
uncover relationships among many variables. This allows numerous intercorrelated variables to be condensed into fewer dimensions, called factors.
PANEL DATA: Panel data is data from a (usually small)number of
observations over time on a (usually large) number of cross- sectional units
like individuals, households, firms, or government.
MULTIPLE REGRESSION ANALYSIS: Statistical procedure that attempts to
assess the relationship between a dependent variable and two or more
independent variables. Example: sales of a popular soft drink(the dependent
variable) is a function of various factors, such as its price, advertising, taste,
and the prices of its major competitors(the independent variables)

CHAPTER 2
TITLE OF THE PROJECT:
A CRITICAL ANALYSIS ON THE IMPACT OF DIVIDEND
POLICY ON THE VALUE OF THE FIRM.

STATEMENT OF THE PROBLEM

There exist conflicting views with regard to the impact of dividend
decisions on the value of the firm. Some are of the opinion that
dividends do affect the market price of the shares while other argues
it does not. Thus there exists a knowledge gap. There search problem
under consideration is as follows. to what extent does the dividend
decision affect the value of the widely held public limited companies
in India?

OBJECTIVES OF THE STUDY

To find the extent to which the debt equity ratio affects the
share prices.

To find out whether decisions affect the share prices.

SCOPE OF THE STUDY.

In this study an attempt is made to understand increase or
decrease in the share price due to the difference payout ratios.
Here the ratios such as dividend payout, retention ratio, debt
equity ratios, and return on the shares are studied. The findings
of the study can be used to understand the influence of dividend
decisions and capital structure on the value of the firm

METHODOLOGY
The methodology is the major phase of research in which the
investigator makes a number of decisions about the methods and
materials to be used to study the research problem , basically through
collection of data. The methodological decision generally has control
implications for the validity of the findings.

3.1 TYPE OF RESEARCH

Type of research is Descriptive research, which is Quantitative in
nature.

3.2 STUDY SETTING

*

Indian public Limited companies.

* The equity shares of companies are traded in Indian stock

exchanges. (BSE&NSE)

3.3 POPULATION
A population is a group whose members possess specific
characteristics that a researcher is interested in studying. In this study
the population includes all widely held public companies whose shares
are publically traded through a stock exchange.

3.4 SAMPLING FRAME WORK

This study includes analysis of public limited companies, which are listed in
Bombay stock exchange and national stock exchange of India.

3.5 SAMPLING TECHNIQUE

A sample is a portion of the population that has been selected to represent

the population of interest. Here in this study 25 companies are selected
which are listed in Bombay stock exchange and National stock exchange,
India. Sampling technique used here is convenient sampling.

3.6 HYPOTHESIS
Ho: Dividend policies do not affect the value of the firm
H1: Dividend policies do affect the value of the firm.

3.7 SAMPLE
The sample size is 25 companies listed in BSE and NSE. The companies
studied are the followings.
Associated Cement Company Ltd.
Bajaj Auto Ltd.
Cipla Ltd.
Dr.Reddys Lab Ltd.
Grasim Industries Ltd.
Ambuja Cement Ltd.
HDFC
Hero Honda Ltd.
Hindalco Ltd.
Hindustan Unilever Ltd.
Infosys Technology Ltd.
Ranbaxy Laboratories Ltd.
Reliance Energy Ltd.
Reliance Industries Ltd.
Tata Motors Ltd.
Tata Power Ltd.

Wipro Ltd.
ABB Ltd.
Bharat Petroleum Corporation Ltd.
Britannia Industries Ltd.
Colgate-Palmolive Ltd.
Mahindra & Mahindra Ltd.
Steel Authority of India Ltd.
Mahanagar Telecom Nigam Ltd.
The shares of the above companies are commonly traded in the stock
exchange for the period under study i.e,; 2000/01-2009/10

3.8 DATA COLLECTION

Secondary Data

Income statement of companies under study

Balance sheet

Historical stock prices

Data obtained

Figures and facts

Unclassified raw data

3.9 Method of data collection and steps

The data required for the study has been collected from the data base
maintained in the Bangalore Stock Exchange, Bangalore and from the data
base of the Bombay stock Exchange and National stock Exchange through
their web sites. The raw data collected were converted in to the ratios and
classified according to the requirement of the study.

3.10 STATISTICAL ANALYSIS

Descriptive statistical is used to describe the pattern of dividend payout,

Debt equity and the return on shares.
Five Year Moving Average is used to estimate the expected Dividend
payout, Retention Ratio of the successive years. This approach is used to
estimate the values incorporating its behavior for the past five years.
Expected Value for the year 6=(Y5+Y4 +Y3+ Y2+Y1)/5
Statistical model used: the model used here is multiple-regression
model.
The regression equation for the study is as under.
Y=a+b1X1+b2X2
A=Y-intercept
Y=Actual Return on Equity (For the year)
X1=Expected Debt-Equity Ratio(Moving Average for five years)
X2=Expected Dividend payout(moving average for five years)
B 1&b2=slopes associated with X1 and X2
Normal equation used is

For cross sectional regression analysis the above variables X1 and X2 for ten
years are converted into five year moving averages. For time series analysis
the actual data for the years are taken. As there exist high correlation
between the dividend payout and retention ratio there will be Multi Colinearly effect on the regression analysis to avoid this retention ratio is not
included in the regression model. t test significance at 5% level is used to
accept or reject the hypothesis.
R- square (R^2) is the proportion of variation in the dependent variable(Y)
that can be explained by the predictors (X variables) in the regression model.
As predictors (X variables) are added to the model, each predictor will
explain some of the variance in the dependent variable(Y) simply due to

chance. One could continue to add predictors to the model which would
continue to improve the ability of the predictors to explain the dependent
variable, although some of this increase in R- square would be simply due to
chance variation. The adjusted R-square attempts to yield a more honest
value to estimate R- square. Adjusted R-square is computed using the
formula 1-(1-R^2)*(N-1)/(N-K-1)
The F statistic or the F-observed value is used to determine whether the
observed relationship between the dependent and independent variables
occurs by chance.
3.11 LIMITATIONS OF THE STUDY.
1. The sampling technique used is a convenient sampling technique, which
limits the generalization of the findings.
2. the time span for the study was short and hence only major aspects are
considered.

CHAPTER 3
ANALYSIS AND INTERPRETATION OF DATA.
CHAPTER 4
FINDINGS , RECOMMENDATIONS AND
CONCLUSSIONS
SUMMARY AND FINDINGS
The study started with reviewing the previous research papers explaining the
impact of the dividend decisions on the value of the firm. Among them the
most popular research paper is that of Modigliani and Miller. It proves that
dividend is irrelevant. As against this theory Walter and Gordon through
their model explained that dividend is very relevant. Here the study
focused on finding out whether dividend affects the value of the firm
or not.

Through convenient sampling 25 Indian Public Limited companies actual

data were analyzed. Here under the study the effect on the return on
equity is considered as an attempt is made to establish the
relationship between the return on equity & debt and dividend of the
companies selected for the study. Here the expected values of the
dividend payout and debt to equity are regressed with actual return
to find out the association, if any.

The results of the study show that the impact of the dividend on the
value of the firm is not significant. Out of the 25 sample companies
studied only two companies showed a significant association between
the dividend and the return on equity. Where as none of the company
showed any evidence of significant relation between debt and return on
shares. thus it can be observed that in cross sectional analysis of the
companies the return on equity shares does not show any significant
relationship with debt equity and dividend payout. But in case of company
wise time series analysis certain companies as explained above ,shows
relationship between the variables. thus we infer that investor do not give
importance to capital structure and the dividend policy of the companies as a
whole. they give importance of the structure of selected companies.

FINDINGS OF THE STUDY

CROSS SECTIONAL REGRESSION ANALYSIS

The results of the cross regression for the five years from 2007/2008 to
2012/2013(Table no.16) show that for the selected samples there is no
evidence of any significant relationship between Return and Equity &the debt
equity ratio and dividend payout.
TIME SERIES REGRESSION ANALYSIS
The results of the time series Regression for five year data(2007/2008 to
2012/2013)as per the Table no.II26 shows that there does not exist any
significance relationship between the Return on equity and debt equity and
dividend payout other than for the following.

Samples:
BAJAJ AUTO LTD;
The regression analysis shows that the t value calculated for the variable
X2.i.e; dividend payout ratio is 2.499. thus shows that it is significance at 5%
level. The coefficient of the variable of dividend payout ratio (b2) is 4.52; it
also shows that to Bajaj Auto Ltd. There exist a significant relationship
between the Return on equity and capital structure.
WIPRO;
This sample also shows that there exist a significant relationship between the
return on the equity and the dividend payout ratio. The t calculated value
is 66.645 and the coefficient is 0.094, for dividend payout ratio.
Hypothesis Testing
H0; Dividend policies do not affect the value of the firm.
H1; Dividend policies do affect the value of the firm.
The hypothesis is tested by using t test significant at 5%. The cross
regression results as per table N0 16 show the t value calculated for the
period of analysis i.e 2007/2008 to 2012/2013. It can be seen that the t
values calculated show no significance relationship between the return on
equity & dividend payout. The time series regression results as per table
N0.II26 shows the t value calculated for each share prices and h sample for
five years(2007/2008 to 2012/2013). Here also there is no evidence of
relationship between return on equity share prices and dividend payout. Thus
at 5% level of significance using t tests HO IS ACCEPTED, which implies
there is no effect.
DIVIDEND AND DEBT PATTERNS
The descriptive cross sectional tables and time series tables explain the
trend in the various ratios of the companies under study for the various
periods. Software companies such as Infosys Technologies Ltd. Pay
comparatively very low rate of dividend and most of the earnings are
retained for investment in the business where as Wipro pay high rate
dividend. FMCG companies like Hindustan Lever Ltd, and Colgate Palmolive
Ltd. Pay high rate of dividend and retained earnings are less, it shows that

the investment opportunities in this sector shows a decreasing trend and the
growth rate is limited. The cement industries like Ambuja cement pay very
less dividend and earnings are retained in business. The dividend payout of
the Automobile companies under study ranges from 25 to 1. The
pharmaceutical companies under study have a dividend of less than 0.5 the
payout ratios are almost consistent for each company in this group. It has
more growth prospective, as the retention ratio is high.

RECOMMENDATIONS

The company may not be bother to borrow the debt to the market
value of the share.

The dividend policy can be designed keeping the growth concept into
consideration.

Software companies can improve debt equity ratio and bring into
standard.

In the present scenario dividend impact on the firm is negligible;

hence dividend payout ratio can be fixed based on the economic
factor.

Software companies should be conscious while declaring the dividend

as it has a big impact of market value of the firm.

CONCLUSION
The main objective of the study were

To find out whether decisions affect the share prices.

To find the extent to which the debt equity ratio affects the share
prices.

To describe the companies under study in terms of their payout ratio,

retention ratio and debt equity ratios.
The study was conducted in these stages

1. Collection of the required data namely the income statement,

balance sheet and the share prices for ten years (2002-2012) of the
samples under study.
2. Calculation and tabulation of the variables under study namely
Dividend payout ratio, retention ratio, debt equity ratio and return
on equity share prices.
3. Analysis and interpretation
The study was focused on finding the relationship existing between
the dependent variable; return on equity share prices and the
independent variables, dividend and debt equity ratio. The data
were collected through verification of financial statement of the
company and the historical price data available in the NSE and BSE
websites. The data were interpreted using descriptive statistics and
multiple Regression Analysis.
The salient findings of the study are;

There is no significant effect of dividend/retention and debt equity ratio

on share prices.

Out of the variables under study it can be noticed that dividend and
share prices does not have a notable relationship between each other.

Out of the sample under study the software companies showed a

deviation from others by having least debt equity some even 0 for
more than 5 years and least dividend payout ratio and still
maintaining a good of return on share prices.

BIBLIOGRAPHY
BOOKS

Khan M Y and Jain P K(2004). FINANCIAL MANAGEMENT. Tata

McGraw Hill Publications, Bangalore, pp 259.

Prasanna Chandra,(2004) FINANCIAL MANAGEMENT. Tata

McGraw Hill Publications. Bangalore, pp 340

Gupta. S.P, (2001) STATISTICAL METHODS. Sultan Chand & Sons,

Bangalore, pp 340

Pandey I M (2000), FINANCIAL MANAGEMENT. Vikas Publications

pvt Ltd. Bangalore, pp 92.
WEBSITES
www.finance24.com
www.edelweiss.co.in
www.moneycontrol.com
www.yahoofinance.com

www.studyfinance.c

EXECUTIVE

SUMMARY

The topic of the research is impact of dividend on the value of the firm.
This study shows that to pay or not to pay dividend is a critical decision any
management takes. Maximizing the value of the firm or maximizing the
shareholders wealth is the ultimate objective of any firm. So any decision of
the management has to be valued on the basis of its effect on the value of
the firm.

Dividends are payments made to shareholders from a firms earning,

whether those earnings were generated in the current period or in previous
year. The dividend may be as fixed annual percentage of paid up capital as in
the case of preference shares or it may vary according to the prosperity of
company as in the case of ordinary shares.

Dividends are commonly defined as the distribution of earnings (past or

present) in real assets among the shareholders of the firm in proportion to
their ownership. Managements primary goal is shareholders wealth
maximization, which translates into maximizing the value of the company as
measured by the price of the companys common stock. This goal can be

achieved by giving a fair payment on their investment. However, the

impact of the firms dividend policy on shareholders wealth is still
unresolved.

Aim of the study is to understand impact of dividend policies on the value of

the firm. Along with dividend other variables such as retained earnings, Debt
equity and the return on equity share policies of the Indian public limited
companies are studied to understand the relationship between the dividend
and the share prices. The main objective of the study were;

To find out whether decisions affect the share prices.

To find the extent to which the debt equity ratio affects the share
prices.

To describe the samples in terms of its pattern of dividend distribution

and debt and to find out the relationship between the dividend and
debt and the return on the equity shares.

A descriptive research, which is quantitative in nature, was conducted.

convenient sample of 25 companies, shares of which are traded in Bombay
stock exchange and National stock exchange was studied. The historical data
were collected from the websites of the Bangalore stock exchange, Bombay
stock exchange and National stock exchange. The relationship between the
value of the firm and dividend policies of the firm and the capital structure of
the firm is studied using Multiple Regression Model.

Results of the study show that there is no evidence of significant association

between dividend policies on the value of the firm(significance at 5% level
t test.) the findings include both cross-sectional interpretation for the
entire sample companies for five years(2007/8 to 2012/13) and time series
interpretation for each of the sample companies separately for five
years(2007/8 to 2012/13). The findings also include the dividend distribution
and debt patterns of the samples under study.
The salient findings of the study are:

There is no significant effect of dividend/retention and debt equity ratio

on share prices.

Out of the variables under study it can be noticed that dividend and
share prices does not have a notable relationship between each other.

Out of the sample under study the software companies showed a

deviation from others by having least debt equity some even 0 for
more than 5 years and least dividend payout ratio and still maintaining
a good of return on share prices.

In conclusion, the study was conducted in three stages:

Collection of the required data namely the income statement, balance

sheet and the share prices for ten years of the samples under study

Calculation and tabulation of the variables under study.

Analysis and interpretation.

INTRODUCTION
Dividend policy has been in issue of interest in financial literature since joint
stock companies came into existence. Dividends are commonly defined as
the distribution or earnings ( past or present) in real assets among the
shareholders of the firm in proportion to their ownership. Dividend policy
connotes to the payout policy, which managers pursue in deciding the size
and pattern of cash distribution to shareholders overtime. Managements
primary goal is shareholders wealth maximization, which translates into
maximizing the value of the firm as measured by the price of the firms
common stock. This goal can be achieved by giving the shareholders a
fair payment on their investments. However, the impact of firms dividend
policy on shareholders wealth is still unresolved.
The area of corporate dividend policy has attracted attention of management
scholars and economics culminating into theoretical modeling and empirical

examination. Thus, dividend policy is one of the most complex aspects in

finance. three decades ago, black(1976)in his study on dividend wrote, the
harder we look at the dividend picture the more it seems like a puzzle, with
pieces that just dont fit together why shareholders like dividends and why
they reward managers who pay regular increasing dividends is still
unanswered.
According to Brealey and Myers (2002) dividend policy has been kept as the
top ten puzzles in finance the most pertinent question to be answered here is
that how much cash should firms give back to their shareholders through
dividends or by repurchasing their shares, which is the least costly form of
payout from tax perspective? Firms must take these important decisions
period after period (must be repeated and some need to be revaluated each
period on regular basis.)
Dividend policy can be two types: managed and residual. In residual dividend
policy the amount of dividend is simply the cash left after the firm makes
desirable investments using NPV rule. In this case the amount of dividend is
going to be highly variable and often zero. If the manager believes dividend
policy is important to their investors and it positively influences share price
valuation<they will adopt managed dividend policy. The optimal dividend
policy is the one that maximizes the companys stock price, which leads to
maximization of shareholders wealth. Whether or not dividend decisions can
contribute to the value of firm is a debatable issue.
Firms generally adopt dividend policies that suit the stage of life cycle they
are in. for instance, high- growth firms with larger cash flows and fewer
projects tend to pay more of their earnings out as dividends. The dividend
policies of firms may follow several interesting patterns adding further to the
complexity of such decisions. Firstly, dividends tend to lag earnings, that is,
increases in earnings are followed by increases in dividends and decreases in
earnings sometimes by dividend cuts. Second, dividends are sticky
because firms are typically reluctant to change dividends; in particular, firms
avoid cutting dividends even when earnings drop. Third, dividends tend to
follow a much smoother path than do earnings. Finally, resulting from
changes in growth rates, cash flows, and macroeconomic vicissitudes, such
as those in cyclical industries, are less likely to be tempted to set a relatively
low maintainable regular dividend so as to avoid the dreaded consequences
of a reduced dividend in a particularly bad year.

Shareholders wealth is represented in the market price of the companys

common stock, which, in turn, is the function of the companys investment,
financing and dividend decisions. Among the most crucial decisions to be
taken for efficient performance and attainment of objectives in any
organization are the decisions relating to dividend. Dividend decisions are
recognized as centrally important because of increasingly significant role of
finances in the firms overall growth strategy. The objective of the finance
manager should be to find out an optimal dividend policy that will enhance
value of the firm. It is often argued that the share prices of a firm tend to be
reduced whenever there is a reduction in the dividend payments.
Announcements of dividend increases generate abnormal positive security
returns, and announcements of dividend decreases generate abnormal
negative security returns. A drop in share prices occur because dividends
have signaling effect. According to the signaling effect mangers have private
and superior information about future prospects and choose a dividend level
to signal that private information. Such a calculation, on the part of the
management of the firm may lead to a stable dividend payout ratio.
Dividend policy of a firm has implication for investors, mangers and lenders
and other stakeholders (more specifically the claimholders). For investors,
dividends- whether declared today or accumulated the provided at a later
date are not only a means of regular income, but also an important input in
valuation of a firm. Similarly, managers flexibility to invest in projects is also
dependent on the amount of dividend that they can offer to shareholders as
more dividend may mean fewer funds available for investment. Lenders may
also have interest in the amount of dividend a firm declares, as more the
dividend paid less would be the amount available for servicing and
redemption of their claims. The dividend payments present an example of
the classic agency situation as its impact is borne by various claimholders.
Accordingly dividend policy can be used as a mechanism to reduce agency
costs. The payment of dividend reduces the discretionary funds available to
managers for perquisite consumption and investment opportunities and
require managers to seek financing in capital markets. This monitoring by
external capital markets may encourage the managers to be more
disciplined and act in owners best interest.
Companies generally prefer a stable dividend payout ratio because the
shareholders expect it and reveal a preference for it. Shareholders may want
a stable rate of dividend payment for a variety of reasons. Risk averse
shareholders would be willing to invests only in those companies which pay
high current returns on shares. The class of investors, which includes

pensioners and other small savers, are partly or fully dependent on dividend
to meet their day-to-day needs. Similarly, educational institutions and charity
firms prefer stable dividends, because they will not be able to carry on their
current operations otherwise. Such investors would therefore, prefer
companies, which pay a regular dividend every year. This clustering of
stockholders in companies with dividend policies that match their preference
is called clientele effect.
In an ever increasing Indian economy, globalization, liberalization and
privatization together with rapid strides made by information technology,
have brought intense competition in every field of activity. so Indian
companies at present are dazed confused, and apprehensive. to maintain the
competiveness of , and value to the companies, todays finance manager
have to make critical business and financial decisions which will lead to long
run perspective with the objective of maximizing the shareholders wealth.
shareholders wealth is represented in the market price of the companys
common stock, which, in turn is the function of the companys investment,
financing and dividend decision. managements primary goal is shareholders
wealth maximization. which translate in to maximizing the value of the
company as measured by the price of the companys common stock.
shareholders like cash dividends ,but they also like the growth in EPS that
result from ploughing earning back in to the business. The optimal dividend
policy is one that maximizes the companys stock price which leads to
maximization of shareholders wealth and there by ensures more rapid
economic growth. the present study is intended to study how far the
dividend payout has impact on the value of the firm in general: and in
particular to study the relationship between the firms value and dividend
payout to analyze whether the level of dividend payout affects to the wealth
of the shareholders
The dividend decision of the firm is the crucial area of financial management.
the important aspect of dividend policy is to determine the amount of
earnings to be retained and the amount to be distributed to shareholders
retained earnings are most significant internal source of financing .on the
other hand, dividends may be considered desirable from shareholders point
of view as they tend to increase their current return. during the first part of
the 20th century, dividends were the primary reason investors purchased
stocks .it was literally said, the purpose of the company is to pay dividends
today the investors view is a bit more refined; it could be stated , instead
,as, the purpose of a company is to increase my wealth. indeed, todays
investor looks to dividends and capital gains as a source of increase.

The objective of any dividend policy should be to increase the shareholders

returns so that the value of his investment is maximized. shareholders return
has two components; dividend and capital gains. there are many reasons for
paying dividends and there are many reasons for not paying dividends. As a
result, dividend policies controversial. A higher payout of dividend means
lower retained earnings which may affect the growth of the firm and perhaps
a lower market price per share. the decisions became more critical than their
exists and investment opportunity to the firm. if the profits earned is
distributed to investors then the retained earnings to that extent will be
reduced which will result in increase in debt to finance the investment
opportunity. on the other hand the investments requirement must be
satisfied by providing the optimal dividend. All these factors which go
through the minds of shareholders will be reflected in the market price of the
shares. The dividend decision is very vital to any organization.

2.1 BACKGROUND OF THE STUDY

How share prices differ from each other? To what extent financial decisions of
the management have a bearing on the shareholders wealth? These are
some of the several arose in the minds of investors and other stakeholder of
the firm. No matter what type of industry, growth prospective ,capital
structure etc.. of a firm the ultimate objective is maximizing the
shareholders wealth. shareholders wealth is the total value of the firm being
the final goal, all the decisions of the management is directed towards it. The
next question arises is how to value of these decisions. it is always believed
that the market value of the share reflects the emotion and exactions of the
investors to each and every decision the management takes.
The major decision of financial management is dividend decision, in the
sense that the firm has to choose between distributing the profit to the
shareholders and ploughing back the profits in the business. the choice
would obviously hinge on the affect of the decision on the maximization of
shareholders wealth. given these objectives firm should guide by the
consideration has to which alternative use is consistent with the goal of
wealth maximization. Affirm will be well advised to distribute the net profits
of dividends in such a distribution results in maximizing the shareholders
wealth; if not it would be better to plough back the profits in the business for
future investments on growth. there are however conflicting view regarding
impact of dividend on the value of the firm. on the relationship between the

dividend policy and value of the firm different theories have been
advanced .one school of thought treats it as relevant and other is irrelevant.
there are two extreme views that are; a) dividends are good as it increases
the shareholders value; b)dividends are bad as it decreases the shareholders
value. the crux of the arguments is whether to distribute the earnings or
retained earnings.
Another point financial decision is capital structure decision. under normal
conditions the earnings per share increases when the leverage is more. more
debt or leverage also increases the risk of a firm. thus it cannot be clearly
said whether the value of the firm, the capital structure or leverage, decision
should be examined from the point of view of its impact if the capital
structure affects the value of the firm, then every firm will try achieve the
optimal capital structure which maximizes the value of the firm. there exists
conflicting theories on the relation between the capital structure and the
value of the firm. Thus there exists a research gap and the purpose of the
current study is therefore to describe whether the dividend decisions really
influence the value of the firm or not. in the study an attempt has also been
made to understand the relationship between the capital structure and value
of the firm.

2.2 REVIEW OF LITERATURE

A dividend is a part of a corporations cash flow that is distributed to its
owners. A corporation can do several things with its free cash flow.
companys can take their cash flows and save it, reinvest it, purchase their
own stock, payback that, and/or pay it out to its shareholders in the form of
dividends.
Previous empirical studies have focused mainly on developed economies the
study undertaken looks at the issue from emerging markets perspective by
focusing exclusively on Indian information technology, FMCG and service
sector. Respectively. The major objective of his research is to empirically
examine rationale for stable dividend payments by finding the applicability of
Lintner model in Indian scenario. The present research work also seeks to
examine and identify the relative importance of some of known determinants
of dividend policy in Indian context. the research work also has made an
endeavor to bring to light the influence of ownership groups of a company on
dividend payout behavior of a firm. This research tries to unfold the
relationship between the shareholders wealth and the dividend payout and

analyze whether the dividend payout announcements affects the wealth of

the shareholders.
Given the diversity in corporate objectives and environments, it is
conceivable to have divergent dividend policies that are specific to firms,
industries, markets or regions. through the research an attempt has been
made to suggest how dividend policy can be set at micro level. finance
mangers would be able to examine how the various market frictions such as
a symmetric information, agency, costs, taxes, and transaction costs affect
their firms, as well as their current claimholders, to arrive at reasonable
dividend policies. Previous research studies have focused on dividend
payment pattern and policies of developed markets, which may not hold trye
of emerging markets like India. In Indian context, few studies have analyzed
the dividend behavior of corporate firms and focused on Indian cotton textile
industry and manufacturing sector. However, it is still not apparent what the
dividend behavior of corporate firms in India is. very few studies have
analyzed the dividend behavior of corporate firms in the Indian context . to
date, most studies have paid attention on influence of cash flows or earnings
on the dividend payment of a firm.

RELEVANCE OF DIVIDENDS
These approach supports that the value of the firm is affected by the
dividend policy and optimal dividend policy is the one, which maximizes the
firms value. These variable consider dividend decisions to be an active
variable n determining the value of a firm, two famous models in support of
these are explained below.
Walters Model (James and Walter,1963)
Walter model supports that the dividend policy of the firm is relevant. the
investment policy of the management cannot be separated from its dividend
policy and both are interrelated. thus the choice of dividend policy does
affect the value of the firm. Walter model is built around assumptions such as
constant return, constant cost of capital, constant earning and dividend. he
also made an assumption that financing of new investment is done through
retained earnings and debt and no new equity shares are being issued.
Walter in his argument explains three situations

. if the return on investment exceeds the cost of capital then the firm has to
retain the earnings and should not be distributed as dividends.
. if the cost of capital exceeds the return on investment then the firm has to
pay entire earning as dividend.
. if the return on investment and the cost of capital is same then rate of
dividend payout can be 0 to 100
According to this model if the firm retain the earnings it gives a single that
the investment opportunities are more and it increases the shares prices.
Similarly when the firm distributes the entire earnings as dividends, share
prices will automatically increase, as the income on the shares are more. The
Walter model is criticized on the unrealistic assumptions on which it is made
such as no debt financing ,constant return, cost of capital and earnings
etcare not practically possible.
Gordon Model (Gordon Myron j,1962)
Myron Gordon (1962) came up with a dividend relevance model which is
popularly known as the bird in the argument. The crux of the argument is
that the

. Investors are risk averse and

.They put a premium on the certain return and discount or penalize the
uncertain returns.
Gordon says that the current dividends are certain and the reinvestment of
current dividend for future returns is uncertain. Thus the investors would be
inclined to pay higher prices of shares on which dividends are post pond.ths
model is based on the belief that a bird in the hand worth two in the bush.
Thus incorporating the uncertainty in to the model Gordon concludes that
the dividend policy affects the value of the firm. his model, justifies the
behavior of investors who value a rupee of dividend income more than a
rupee of capital gains. However this model is also not free of criticism
because of the assumptions on which it is based.

CAPITAL STRUCTURE vs. FIRMS VALUE

The two principal sources of finance for a company are equity and debt.
What should be the proportion of equity and debt in the capital structure of
the firm? One of the key issues in the capital structure decision is the
relationship between the capital structure and the value of the firm. There
are several views on how this decision affects the value of the firm.

Optimal capital structure Theory

Optimal capital structure theory of Modigliani-Miller (1958) suggest there
exist optimal leverage at which the firm obtains a maximum value by
minimizing its weighted leverage costs of capital, given the market
imperfections and tax deductibility of interest costs from pre-tax income
firms. The proposition asserts that the value of the firm with tax-deductible
interest is equal to the value of an all-equity firm as enhanced by the tax
savings. According to this approach, the capital structure decision of a firm is
irrelevant. This approach supports the NOI approach and provides a behavior
justification for it. This approach indicates that the capital structure is
irrelevant because of the arbitrage process which will correct any imbalance
i.e expectations will change and a stage will be reached where further
arbitrage is not possible.
Durand D (1959) identified two views; Net income approach and Net
operating approach. Under the net income approach the cost of debt equity
are assumed to be independent to the capital structure . this approach says
that the weighted average cost of capital of the firm declines and the total
value of the firm rise with increased use of leverage. Under the net operating
income approach, the cost of the equity is assumed to increase linearly with
leverage. As a result, the weighted average cost of capital remains constant
and the total value of the firm also remains constant as the leverage is
changed.
Davidson N W,(1994) in their report on the effect of firm and industry debt
ratios on market value analyzed 183 firms and studied the effect of debt
ratios to the market value of the firm. Overall conclusion of the study is that
the relationship of the firms debt level and that of its industry does not
appear to be of concern to the market. Arsiraphoongphisit O and Ariff
M(2003) in their report on optimal capital structure and firm value an
Australian evidence,1991-2003 (corporate finance) analyzed 654
observations for a period of 1991 to 2003 in Australia market on the effect
of capital structure change and firms value. The findings indicate that the

market reacts positively to announcements of financing that lead to capital

structure moving closer to their relative industrial debt-equity ratio has an
impact on market value of the firm.
From an overall review of the literature it is clear that there exist certainly a
contradicting view on the impact of the dividend policy on the value of the
firm.
The studies on the effect of debt equity combination on share price show
that the relationship is almost zero. But theoretically as the debt increases
because of the tax shield available the earnings must also increase in
earnings always increase the market price of the shares. Thus we can see
that there exists a knowledge gap in the subject.

To examine whether the dividend policies has any impoact on the stock
reaction

To explain the dividend distribution/retention and the debt equity

patterns of the samples.

To understand the relationship between the dividend policies of the

company and the value of the firm.

To study the effect of capital structure decisions on the value of the

firm.

2.3 DIFFERENT TYPES OF DIVIDEND POLICIES

7) REGULAR DIVIDEND
By dividend we mean regular dividend paid annually, proposed by the board
of directors and approved by the shareholders in general meeting. it is also
known as final dividend because it is usually paid after the finalization of
accounts it is generally paid in cash as a percentage of paid up capital, say
10% or 15% of the capital. sometimes, it is paid per share. No dividend is
paid on calls in advance or calls in arrears, the company is, authorized to
make provisions in Articles prohibiting the payment of dividend on shares
having calls in arrears.
8) INTERIM DIVIDEND

If articles so permit, the directors may decide to pay dividend at any time
between the two annual general meeting before finalizing the accounts. It is
generally declared and paid when company has earned heavy profits or
abnormal profits during the year and directors which to pay the profits to
shareholders. Such payment of dividend in between the two annual general
meeting before finalizing the accounts is called interim dividend. No interim
dividend can be declared or paid unless depreciation for the full year (not
proportionately) has been provided for. It is, thus, an extra dividend paid the
year requiring no need of approval of the annual general meeting. It is paid
in cash.
9) STOCK DIVIDEND
Companies , not having good cash position, generally pay dividend in the
form of shares by capitalizing the profits of current year and of past years.
Such shares are issued instead of paying dividend in cash and called Bonus
shares. Basically there is no change in the equity of shareholders. Certain
guidelines have been used by the company Law Board in respect of Bonus
shares.
10)

SCRIP DIVIDEND

Scrip dividends are used when earnings justify a dividend, but the cash
position of the company is temporarily weak. So, shareholders are issued
shares and debentures of other companies. Such payment of dividend is
called scrip dividend. Shareholders generally do not like such dividend
because the shares or debentures , so paid are worthless for the
shareholders as directors would use only such investment is which were not.
Such dividend was allowed before passing of the companies (Amendment)
Act 1960, but there after this unhealthy ptactice was stopped.
11)

BOND DIVIDEND

In rare instances, dividends are paid in the form of debentures or bonds or

notes for a long term period. The effect of such dividend is the same as that
of paying dividend in scrip. The shareholders become the secured creditors
are the bonds has a lien on assets.

12)

PROPERTY DIVIDEND

Sometimes, dividend is paid in the form of assets instead of payment of

dividend in cash. The distribution of dividend is made whenever the assets is
no longer required in the business such as investment or stock of finished
goods.

2.4 FACTORS EFFECTING DIVIDEND POLICY.

16.

STABILITY OF EARNINGS.

The nature of business has an important bearing on the dividend policy.

Industrial units having stability of earnings may formulate a more
consistent dividend policy than those having an uneven flow of incomes
because they can predict easily their savings and earnings. Usually,
enterprises dealing in necessities suffer less from oscillating earnings than
those dealing in luxuries or fancy goods.
17.

AGE OF CORPORATION.

Age of the corporation counts much in deciding the dividend policy. A

newly established company may require much of its earnings for
expansion and plant improvement and may adopt a rigid dividend policy
while, on the other hand, an older company can formulate a clear cut and
more consistent policy regarding dividend.

18.

LIQUIDITY OF FUNDS.

Availability of cash and sound financial position is also an important factor in

dividend decisions. A dividend represents a cash outflow, the greater the
funds the liquidity of the firm the better the ability to pay dividend. The
liquidity of a firm depends very much on the investment and financial
decisions of the firm which in turn determines the rate of expansion and the
manner of financing. If cash position is weak, stock dividend will be
distributed and if cash position is good, company can distribute the cash
dividend.
19.

EXTENT OF SHARE DISTRIBUTION.

Nature of ownership also affects the dividend decisions. A closely held

company is likely to get the assent of the shareholders for the suspension of
dividend or for following a conservative dividend policy. On the other hand, a

company having a good number of shareholders widely distributed and

forming low or medium income group would face a great difficulty in securing
such assent because they will emphasize to distribute higher dividend
20.

NEEDS FOR ADDITIONAL CAPITAL.

Companies retain a part of their profits for strengthening their financial

position. The income may be conserved for meeting the increased
requirements of working capital or of future expansion. small companies
usually find difficulties in raising finance for their needs of increased working
capital for expansion Programs. They having no other alternative, use their
ploughed back profits. Thus, such companies distribute dividend at low rates
and retain a big part of profits.

21.

TRADE CYCLES

Business cycles also exercise influence upon dividend policy. Dividend policy
is adjusted according to the business oscillations. During the boom, prudent
management creates food reserves for contingencies which follow the
inflationary period. Higher rates of dividend can be used as a tool for
marketing the securities in an otherwise depressed market. The financial
solvency can be proved and maintained by the companies in dull years if the
adequate reserves have been built up.
22.

GOVERNMENT POLICIES.

The earnings capacity of the enterprise is widely affected by the change in

fiscal, industrial, labor, control and other government policies. Sometimes
government restricts the distributon of dividend beyond a certain percentage
in a particular industry or in all spheres of business activity as was done in
emergency. The dividend policy has to be modified or formulated accordingly
in those enterprises.
23.

TAXATION POLICY.

High taxation reduces the earnings of the companies and consequently the
rate of dividend is lowered down. Sometimes government levies dividend-tax
of distribution of dividend beyond a certain limit. It also affects the capital
formation. N India, dividends beyond 10% of paid up capital are subject to
dividend tax at 7.5%.
24.

LEGAL REQUIREMENTS.

In deciding on the dividend, the directors take the legal requirement too into
consideration. In order to protect the interests of creditors an outsiders, the
companies Act 1956 prescribes certain guidelines in respect of the
distribution and payment of dividend. Moreover , a company is required to
provide for depreciation on its fixed and tangible assets before declaring
dividend on shares. It proposes that dividend should not be distributed out of
capital, in any case. Likewise, contractual obligation should also be fulfilled.
For example, payment of dividend on preference shares in priority over
ordinary dividend
25.

PAST DIVIDEND RATES.

While formulating the dividend policy, the directors must keep in mind the
dividend paid in past years. The current rate should be around the average
past rat. if it has been abnormally increased the shares will be subjected to
speculation, in a new concern, the company should consider the dividend the
dividend policy of the rival organization.
26.

ABILITY TO BORROW.

Well established and large firms have better access to the capital market
than the new companies and may borrow funds from the external sources if
there arises any need. Such companies may have a better dividend pay-out
ratio. Whereas smaller firms have to depend on their internal sources and
therefore they will have to built up good reserves by reducing the dividend
payout ratio for meeting any obligation requiring heavy funds.
27.

POLICY OF CONTROL.

Policy of control is another determining factor is so far as dividends are

concerned. If the directors want to have control on company, they would not
like to add new shareholders and therefore, declare a dividend at low rate.
Because by adding new shareholders they fear dilution of control and
diversion of policies and programs of the existing management. So they
prefer to meet the needs through retained earnings. If the directors do not
bother about the control of affairs they will follow a liberal dividend policy.
Thus control is an influencing factor in framing the dividend policy.
28.

REPAYMENTS OF LOAN.

A company having loan indebtedness are vowed to a high rate of retention

earnings, unless one other arrangements are made for the redemption of
debt on maturity. It will naturally lower down the rate of dividend.

Sometimes, the lenders (mostly institutional lenders) put restrictions on the

dividend distribution still such time their loan is outstanding. Formal loan
contracts generally provide a certain standard of liquidity and solvency to be
maintained. Management is bound to hour such restrictions and to limit the
rate of dividend payout.
29.

TIME FOR PAYMENT OF DIVIDEND.

When should the dividend be paid is another consideration. Payment of

dividend means outflow of cash. It is, therefore, desirable to distribute
dividend at a time when is least needed by the company because there are
peak times as well as lean periods of expenditure. Wise management should
plan the payment of dividend in such a manner that there is no cash outflow
at a time when the undertaking is already in need of urgent finances.
30.

REGULARITY AND STABILITY IN DIVIDEND PAYMENT.

Dividends should be paid regularly because each investor is interested in the

regular payment of dividend. The management should, in spite of regular
payment of dividend, consider that the rate of dividend should be all the
most constant. for this purpose sometimes companies maintain dividend
equalization in funds.

MAJOR PLAYERS
The major players in this study are of 25 companies as follows;
Associated Cement Company Ltd.
Bajaj Auto Ltd.
Cipla Ltd.
Dr.Reddys Lab Ltd.
Grasim Industries Ltd.
Ambuja Cement Ltd.
HDFC
Hero Honda Ltd.
Hindalco Ltd.

Hindustan Unilever Ltd.

Infosys Technology Ltd.
Ranbaxy Laboratories Ltd.
Reliance Energy Ltd.
Reliance Industries Ltd.
Tata Motors Ltd.
Tata Power Ltd.
Wipro Ltd.
ABB Ltd.
Bharat Petroleum Corporation Ltd.
Britannia Industries Ltd.
Colgate-Palmolive Ltd.
Mahindra & Mahindra Ltd.
Steel Authority of India Ltd.
Mahanagar Telecom Nigam Ltd.

2.5 OPERATIONAL DEFINITIONS CONCEPTS

7.

DIVIDEND PAYOUT RATIO

A ratio showing the percentage of net profits paid out in dividends on

common stock,after reducing net profits by the amount of dividends paid on
preferred stock.it calculated as the percentage of dividend paid on profit
after tax. In this study dividend payout ratio is expressed as the ratio of
dividend paid to the net profit after tax.
=yearly dividend per share/Earnings per share

Or equivalent:
=Dividend/Net income

8.

RETENTION RATIOS

Retention ratio shows the rate of earnings retained by the company for
financing the investments needs. Retained earnings are the main internal
source of finance for the company. This explains to what extent the earnings
of the firm are ploughing back to the business. Technically it is one minus the
dividend paid out ratio.
Retention ratio=1-D/P Ratio

9.

DEBT EQUITY RATIO

Debt equity shows capital structure of the firm. This represents the capital
structure of the company. It is defined as the ratio of debt to equity of the
firm.

10.

RETURN ON SHARES

Return on shares is calculated by dividend the previous years price from the
current year price and the log natural of the resultant figure is calculated as
it gives a continuously compounded rate of return.
Ln (P1/Po)

11.

VALUE OF THE FIRM

The effect on the value of the firm is analyzed by studying the return on
equity shares. Return on equity shares=P1/P0, where P1 is the market price
of equity share for current year and Po is the market price of the equity share
of the equity share for previous year.

12.

DIVIDEND COVERAGE RATIO

The ratio between a companys earnings and net dividend paid to

shareholders- known as dividend coverage- remains a well-used for
measuring whether earnings are sufficient to cover dividend obligation. The
ratio is calculated as earnings per share dividend by the dividend per share.
When coverage is getting thin, odds are good that there will be a dividend

cut, which can have a dire impact on valuation. Investors can feel safe a
coverage ratio of 2 or 3. In practice, the coverage ratio becomes a pressing
indicator when coverage slips below 1.5, at which point prospects start to
look risky. If the ratio is under 1, the company is using its retained earnings
from last year to pay this years dividend.

KEY TERMS
DIVIDEND POLICY; The policy a company uses to decide how much it will
pay out to shareholders in dividends.
SHAREHOLDERS VALUE: The value delivered to shareholders because of
managements ability to grow earnings, dividends and share price. In other
words, shareholder value is the sum of all strategic decisions that affect the
firms ability to efficiently increase the amount of free cash flow over time.
LINTNER MODEL:A model stating that dividend policy has two
parameters(1) the target payout ratio and (2) the speed at which current
dividends adjust to the target.
AGENCY COST: A type of internal cost that arises from, or must be paid to,
an agent acting on behalf of a principal. Agency costs arise because of core
problems such as conflicts of interest between shareholders and
management. Shareholders wish for Management to run the company in a
way that increases shareholder value. But management may wish to grow
the company in ways that maximize their personal power and wealth that
may not be in the best interests of Shareholders.
DIVIDEND SMOOTHING: A concept that has its genesis in the dividend
model proposed by John Lintner (1956). It states that the firms strive
towards dividend stability and consistency .the dividend paid during current
year is governed by dividend paid during previous year and variations in the
earnings should not be reflected in the dividend payout.
INFORMATION ASSYMETRY: A situation in which one party in a transaction
has more or superior information compared to another. This often happens in
transactions where the seller knows more than the buyer, although the
reverse can happen as well. Potentially, this could be a harmful situation
because one party can take advantage of the other partys lack of
knowledge.

EVENT STUDY: An empirical study performed on a security that has

experienced a significant catalyst occurrence, and has subsequently changed
dramatically in value as a result of that catalyst. The event can have either a
positive or negative effect on the value of the security. Event studies can
reveal important information about how a security is likely to react to a
given event, and can help predict how other securities are likely to react to
different events.
PECKING ORDER HYPOTHESIS: This hypothesis states that a company
which prefers retention of profits for financing the capital expenditure from
internal resources distributes fewer dividends compared to a firm which
finances the investment expenditure from external sources. Thus, a negative
relationship exists between CAPEX and dividend payout.
ENTRENCHMENT HYPOTHESIS: The hypothesis suggests a inverted U
shaped relationship between dividends and level of insider ownership.
Dividend may act as a substitute for corporate governance below the
entrenchment level insider ownership leading to a negative relationship
between these two variables. After such critical entrenchment level,
however, when insider ownership increases are associated with additional
entrenchment related agency costs, dividend policy may become a
compensating monitoring force and accordingly a positive relationship with
insider ownership would be observed.
DIVIDEND SIGNALING: A theory that suggests company announcements of
an increase in dividend payouts act as an indicator of the firm possessing
strong future prospects. The rationale behind dividend signaling models
stems from game theory. A manager who has good investment opportunities
is more likely to signal than one who doesnt because it is in his or her best
interest to do so.
ABNORMAL RETURNS: A term used to describe the returns generated by a
given security or portfolio over a period of time that is different from the
expected rate of return. The expected rate of return is the estimated return
based on an asset pricing model, using a long run historical average or
multiple valuations.
FACTOR ANALYSIS: Factor analysis is a statistical procedure used to
uncover relationships among many variables. This allows numerous intercorrelated variables to be condensed into fewer dimensions, called factors.

PANEL DATA: Panel data is data from a (usually small)number of

observations over time on a (usually large) number of cross- sectional units
like individuals, households, firms, or government.
MULTIPLE REGRESSION ANALYSIS: Statistical procedure that attempts to
assess the relationship between a dependent variable and two or more
independent variables. Example: sales of a popular soft drink(the dependent
variable) is a function of various factors, such as its price, advertising, taste,
and the prices of its major competitors(the independent variables)

CHAPTER 2
TITLE OF THE PROJECT:
A CRITICAL ANALYSIS ON THE IMPACT OF DIVIDEND
POLICY ON THE VALUE OF THE FIRM.

STATEMENT OF THE PROBLEM

There exist conflicting views with regard to the impact of dividend
decisions on the value of the firm. Some are of the opinion that
dividends do affect the market price of the shares while other argues
it does not. Thus there exists a knowledge gap. There search problem
under consideration is as follows. to what extent does the dividend
decision affect the value of the widely held public limited companies
in India?

OBJECTIVES OF THE STUDY

To find the extent to which the debt equity ratio affects the
share prices.

To find out whether decisions affect the share prices.

SCOPE OF THE STUDY.

In this study an attempt is made to understand increase or
decrease in the share price due to the difference payout ratios.
Here the ratios such as dividend payout, retention ratio, debt
equity ratios, and return on the shares are studied. The findings
of the study can be used to understand the influence of dividend
decisions and capital structure on the value of the firm

METHODOLOGY
The methodology is the major phase of research in which the
investigator makes a number of decisions about the methods and
materials to be used to study the research problem , basically through
collection of data. The methodological decision generally has control
implications for the validity of the findings.

3.1 TYPE OF RESEARCH

Type of research is Descriptive research, which is Quantitative in
nature.

3.2 STUDY SETTING

*

Indian public Limited companies.

* The equity shares of companies are traded in Indian stock

exchanges. (BSE&NSE)

3.3 POPULATION
A population is a group whose members possess specific
characteristics that a researcher is interested in studying. In this study
the population includes all widely held public companies whose shares
are publically traded through a stock exchange.

3.4 SAMPLING FRAME WORK

This study includes analysis of public limited companies, which are listed in
Bombay stock exchange and national stock exchange of India.

3.5 SAMPLING TECHNIQUE

A sample is a portion of the population that has been selected to represent
the population of interest. Here in this study 25 companies are selected
which are listed in Bombay stock exchange and National stock exchange,
India. Sampling technique used here is convenient sampling.

3.6 HYPOTHESIS
Ho: Dividend policies do not affect the value of the firm
H1: Dividend policies do affect the value of the firm.

3.7 SAMPLE
The sample size is 25 companies listed in BSE and NSE. The companies
studied are the followings.
Associated Cement Company Ltd.
Bajaj Auto Ltd.
Cipla Ltd.
Dr.Reddys Lab Ltd.
Grasim Industries Ltd.
Ambuja Cement Ltd.
HDFC

Hero Honda Ltd.

Hindalco Ltd.
Hindustan Unilever Ltd.
Infosys Technology Ltd.
Ranbaxy Laboratories Ltd.
Reliance Energy Ltd.
Reliance Industries Ltd.
Tata Motors Ltd.
Tata Power Ltd.
Wipro Ltd.
ABB Ltd.
Bharat Petroleum Corporation Ltd.
Britannia Industries Ltd.
Colgate-Palmolive Ltd.
Mahindra & Mahindra Ltd.
Steel Authority of India Ltd.
Mahanagar Telecom Nigam Ltd.
The shares of the above companies are commonly traded in the stock
exchange for the period under study i.e,; 2000/01-2009/10

3.8 DATA COLLECTION

Secondary Data

Income statement of companies under study

Balance sheet

Historical stock prices

Data obtained

Figures and facts

Unclassified raw data

3.9 Method of data collection and steps

The data required for the study has been collected from the data base
maintained in the Bangalore Stock Exchange, Bangalore and from the data
base of the Bombay stock Exchange and National stock Exchange through
their web sites. The raw data collected were converted in to the ratios and
classified according to the requirement of the study.

3.10 STATISTICAL ANALYSIS

Descriptive statistical is used to describe the pattern of dividend payout,
Debt equity and the return on shares.
Five Year Moving Average is used to estimate the expected Dividend
payout, Retention Ratio of the successive years. This approach is used to
estimate the values incorporating its behavior for the past five years.
Expected Value for the year 6=(Y5+Y4 +Y3+ Y2+Y1)/5
Statistical model used: the model used here is multiple-regression
model.
The regression equation for the study is as under.
Y=a+b1X1+b2X2
A=Y-intercept
Y=Actual Return on Equity (For the year)
X1=Expected Debt-Equity Ratio(Moving Average for five years)
X2=Expected Dividend payout(moving average for five years)
B 1&b2=slopes associated with X1 and X2
Normal equation used is

For cross sectional regression analysis the above variables X1 and X2 for ten
years are converted into five year moving averages. For time series analysis
the actual data for the years are taken. As there exist high correlation
between the dividend payout and retention ratio there will be Multi Colinearly effect on the regression analysis to avoid this retention ratio is not
included in the regression model. t test significance at 5% level is used to
accept or reject the hypothesis.
R- square (R^2) is the proportion of variation in the dependent variable(Y)
that can be explained by the predictors (X variables) in the regression model.
As predictors (X variables) are added to the model, each predictor will
explain some of the variance in the dependent variable(Y) simply due to
chance. One could continue to add predictors to the model which would
continue to improve the ability of the predictors to explain the dependent
variable, although some of this increase in R- square would be simply due to
chance variation. The adjusted R-square attempts to yield a more honest
value to estimate R- square. Adjusted R-square is computed using the
formula 1-(1-R^2)*(N-1)/(N-K-1)
The F statistic or the F-observed value is used to determine whether the
observed relationship between the dependent and independent variables
occurs by chance.
3.11 LIMITATIONS OF THE STUDY.
1. The sampling technique used is a convenient sampling technique, which
limits the generalization of the findings.
2. the time span for the study was short and hence only major aspects are
considered.

CHAPTER 3
ANALYSIS AND INTERPRETATION OF DATA.
CHAPTER 4
FINDINGS , RECOMMENDATIONS AND
CONCLUSSIONS

SUMMARY AND FINDINGS

The study started with reviewing the previous research papers explaining the
impact of the dividend decisions on the value of the firm. Among them the
most popular research paper is that of Modigliani and Miller. It proves that
dividend is irrelevant. As against this theory Walter and Gordon through
their model explained that dividend is very relevant. Here the study
focused on finding out whether dividend affects the value of the firm
or not.

Through convenient sampling 25 Indian Public Limited companies actual

data were analyzed. Here under the study the effect on the return on
equity is considered as an attempt is made to establish the
relationship between the return on equity & debt and dividend of the
companies selected for the study. Here the expected values of the
dividend payout and debt to equity are regressed with actual return
to find out the association, if any.

The results of the study show that the impact of the dividend on the
value of the firm is not significant. Out of the 25 sample companies
studied only two companies showed a significant association between
the dividend and the return on equity. Where as none of the company
showed any evidence of significant relation between debt and return on
shares. thus it can be observed that in cross sectional analysis of the
companies the return on equity shares does not show any significant
relationship with debt equity and dividend payout. But in case of company
wise time series analysis certain companies as explained above ,shows
relationship between the variables. thus we infer that investor do not give
importance to capital structure and the dividend policy of the companies as a
whole. they give importance of the structure of selected companies.

FINDINGS OF THE STUDY

CROSS SECTIONAL REGRESSION ANALYSIS

The results of the cross regression for the five years from 2007/2008 to
2012/2013(Table no.16) show that for the selected samples there is no
evidence of any significant relationship between Return and Equity &the debt
equity ratio and dividend payout.
TIME SERIES REGRESSION ANALYSIS
The results of the time series Regression for five year data(2007/2008 to
2012/2013)as per the Table no.II26 shows that there does not exist any
significance relationship between the Return on equity and debt equity and
dividend payout other than for the following.

Samples:
BAJAJ AUTO LTD;
The regression analysis shows that the t value calculated for the variable
X2.i.e; dividend payout ratio is 2.499. thus shows that it is significance at 5%
level. The coefficient of the variable of dividend payout ratio (b2) is 4.52; it
also shows that to Bajaj Auto Ltd. There exist a significant relationship
between the Return on equity and capital structure.
WIPRO;
This sample also shows that there exist a significant relationship between the
return on the equity and the dividend payout ratio. The t calculated value
is 66.645 and the coefficient is 0.094, for dividend payout ratio.
Hypothesis Testing
H0; Dividend policies do not affect the value of the firm.
H1; Dividend policies do affect the value of the firm.
The hypothesis is tested by using t test significant at 5%. The cross
regression results as per table N0 16 show the t value calculated for the
period of analysis i.e 2007/2008 to 2012/2013. It can be seen that the t
values calculated show no significance relationship between the return on
equity & dividend payout. The time series regression results as per table
N0.II26 shows the t value calculated for each share prices and h sample for
five years(2007/2008 to 2012/2013). Here also there is no evidence of
relationship between return on equity share prices and dividend payout. Thus

at 5% level of significance using t tests HO IS ACCEPTED, which implies

there is no effect.
DIVIDEND AND DEBT PATTERNS
The descriptive cross sectional tables and time series tables explain the
trend in the various ratios of the companies under study for the various
periods. Software companies such as Infosys Technologies Ltd. Pay
comparatively very low rate of dividend and most of the earnings are
retained for investment in the business where as Wipro pay high rate
dividend. FMCG companies like Hindustan Lever Ltd, and Colgate Palmolive
Ltd. Pay high rate of dividend and retained earnings are less, it shows that
the investment opportunities in this sector shows a decreasing trend and the
growth rate is limited. The cement industries like Ambuja cement pay very
less dividend and earnings are retained in business. The dividend payout of
the Automobile companies under study ranges from 25 to 1. The
pharmaceutical companies under study have a dividend of less than 0.5 the
payout ratios are almost consistent for each company in this group. It has
more growth prospective, as the retention ratio is high.

RECOMMENDATIONS

The company may not be bother to borrow the debt to the market
value of the share.

The dividend policy can be designed keeping the growth concept into
consideration.

Software companies can improve debt equity ratio and bring into
standard.

In the present scenario dividend impact on the firm is negligible;

hence dividend payout ratio can be fixed based on the economic
factor.

Software companies should be conscious while declaring the dividend

as it has a big impact of market value of the firm.

CONCLUSION

The main objective of the study were

To find out whether decisions affect the share prices.

To find the extent to which the debt equity ratio affects the share
prices.

To describe the companies under study in terms of their payout ratio,

retention ratio and debt equity ratios.
The study was conducted in these stages
4. Collection of the required data namely the income statement,
balance sheet and the share prices for ten years (2002-2012) of the
samples under study.
5. Calculation and tabulation of the variables under study namely
Dividend payout ratio, retention ratio, debt equity ratio and return
on equity share prices.
6. Analysis and interpretation
The study was focused on finding the relationship existing between
the dependent variable; return on equity share prices and the
independent variables, dividend and debt equity ratio. The data
were collected through verification of financial statement of the
company and the historical price data available in the NSE and BSE
websites. The data were interpreted using descriptive statistics and
multiple Regression Analysis.
The salient findings of the study are;

There is no significant effect of dividend/retention and debt equity ratio

on share prices.

Out of the variables under study it can be noticed that dividend and
share prices does not have a notable relationship between each other.

Out of the sample under study the software companies showed a

deviation from others by having least debt equity some even 0 for
more than 5 years and least dividend payout ratio and still
maintaining a good of return on share prices.

BIBLIOGRAPHY
BOOKS

Khan M Y and Jain P K(2004). FINANCIAL MANAGEMENT. Tata

McGraw Hill Publications, Bangalore, pp 259.

Prasanna Chandra,(2004) FINANCIAL MANAGEMENT. Tata

McGraw Hill Publications. Bangalore, pp 340

Gupta. S.P, (2001) STATISTICAL METHODS. Sultan Chand & Sons,

Bangalore, pp 340

Pandey I M (2000), FINANCIAL MANAGEMENT. Vikas Publications

pvt Ltd. Bangalore, pp 92.
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