DETERMINANT OF DIVIDEND POLICY: EVIDENCE FROM SARAWAK PUBLIC LISTED COMPANIES

Wong Mee Nang

HG 4028 D5 W872

Corporate Master in Business Administration 2012 2012

Pusat Khidmat MakJumat Akademik UNIVERSm MALAYSIA SARAWAK

P.KHIDMAT MAKLUMAT AKADEMIK

1111' 1111 Ifliiill II III III 1000246002

DETERMINANT OF DIVIDEND POLICY: EVIDENCE FROM SARA WAK PUBLIC LISTED COMPANIES

WONG MEE NANG

A dissertation submitted in partial fulfillment of the requirements for the degree of Corporate Master in Business Administration

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Faculty of Economics and Business UNlVERSITI MALAYSIA SARA W AK

2012

APPROVAL PAGE

I certified that I have supervised and read this study and in my opinion it conforms to

acceptable standards of scholarly presentation and is fully adequate in scope and quality

as a research paper for the degree of Corporate Master in Business Administration.

Associate Professor Dr. Venus Khim-Sen Liew Supervisor

This research paper was submitted to the Faculty of Economics and Business, UNIMAS

and is accepted as partial fulfillment of the requirements for the degree of Corporate

Master in Business Administration.

\ Professor Dr. Shazali bin Abu Mansor Dean, Faculty ofEconomics and Business UNlMAS

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STATEMENT OF ORIGINALITY

The work described in this Research Paper, entitled

"DETERMINANT OF DIVIDEND POLICY: EVIDENCE FROM SARA W AK PUBLIC LISTED COMPANIES"

is to the best of the author's knowledge that of the author except

where due reference is made.

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Date WONG MEE NANG 10031733

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ABSTRACT

DETERMINANT OF DIVIDEND POLICY: EVIDENCE FROM SARAWAK PUBLIC LISTED COMPANIES

By

Wong Mee Nang

ividend policy is an important decisions and well researched areas of Financial

Management. However, there are very little research has been conducted in Malaysia,

----. especially for Sarawak public listed companies. This research study investigates the

detenninant driven dividend policy among Sarawak public listed companies in Main

Market This study examines the effect of cOIP.orate profitability, sales growth, leverage,

free cash flow, finn size, liquidity, market-to-book value and profit after tax toward

dividend policy among Sarawak public listed companies. The study used dividend

payout ratio as proxy of dividend policy. The 25 companies incorporated in Sarawak

listed on Main Market in Bursa Malaysia for year 2006-2010 is investigated. The study

conducts Kendall's tau b Correlation Test to test the relationship between independent • I ,;

and dependent variables. The findings revealed that there are significant negative

relationship between leverage and finn size toward dividend policy. The study provides

evidence that leverage is the most important considerations of dividend payout decisions

among Sarawak public listed companies .

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ABSTRAK

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PENENTU POLISI DIVIDEN: BUKTI DARIPADA SYARIKAT A W AM TERSENARAI SARAWAI(

Oleh

Wong Mee Nang

Polisi dividen adalah satu keputusan penting dan dikaji dengan banyak dalam bidang

Pengurusan Kewangan. Walau bagaimanapun,jarang penyelidikan yang dijalankan di

Malaysia, terutamanya ke atas syarikat awam tersenarai Sarawak. Kajian ini menyelidik

penentu dasar dividen di kalangan syarikat awam tersenarai Sarawak di Pasaran Utama.

Kajian-1'fii meneliti kesan keuntungan korporat, pertumbuhanjualan, leverage, aliran

tunai bebas, saiz firma, kecairan. pasaran-to-I!ilai buku dan keuntungan selepas cukai

terhadap dasar dividen di kalangan syarikat awam tersenarai Sarawak. Kajian digunakan

nisbah pembayaran dividen sebagai proksi polisi dividen. 25 syarikat yang

diperbadankan di Sarawak yang tersenarai di Pasaran Utama di Bursa Malaysia bagi

tabun 2006-2010 disiasat. Kajian menjalankan Ujian Korelasi Kendall tau b untuk

mengujli hubungan antara pembolehubah tidak bersandar dan pembolehubah bersandar.

I " Keputusan menunjukkan bahawa terdapat hubungan yang signifikan negatif antara

leverage dan saiz firma ke atas polisi dividen. Kajian membuktikan leverage adalah

pertimbangan yang paling penting dalam keputusan pembayaran dividen di kalangan

syarikat awam tersenarai Sarawak.

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ACKNOWLEDGEMENT

I would like to express my gratitude to my supervisor ofmy research project,

Associate Professor Dr. Venus Khim-Sen Liew for his patience, support and guidance

given on my research area on Determinant of Dividend Policy. I am glad to be able to

complete my research on time under the intellectual guidance and share of research

experiences by Associate Professor Dr. Venus Khim-Sen Liew.

Million of thanks to my beloved family for their unconditional supports and

understanding despite ofmy less time with them due to my busy schedule for both work

an/research project. Appreciation is also dedicated to my superior and colleagues at

work for their support and understanding during my entire CMBA course period.

Last but not least, I would also like to express my appreciation to my fellow

CMBA coursemates who have accompanied me for the whole CMBA course with joy

and unforgettable memories.

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Pusat Khidmat Maldumlt AkSidemik UNlVERSm MALAYSIA SARAWAK

TABLE OF CONTENTS

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Content Page

LIST OF TABLES IX

LIST OF FIGURE X

CHAPTER

1 INTRODUCTION

1.1 Overview 1 1.2 Background of the Study 4 1.3 Problem Statement 5 1.4 Objectives of the Study 7 1.5 Significance of Study 7 1.6 Scope of the Study 9 1.7 Outline of the Study 10

2. LITERATURE REVIEW

2.1 Dividend Theory . 11 2.1.1 Dividend Irrelevance Theory 11 2.1.2 The Bird-in-Hand Fallacy 12 2.1.3 Agency Theory 12 2.1.4 Clientele effect 13 2.1.5 Information asymmetry 14

2.2 Dividend Policy 15 2.3 Determinants ofDividend Policy 18

2.3.1 Profitability 18 2.3.2 Sales Growth 20 2.3.3 Leverage 21

12.3.4 Free Cash Flow 22•2.3.5 Firm Size 23 2.3.6 Liquidity 24 2.3.7 Market to book Ratio 25 2.3.8 Profit After Tax 25

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3 THEORETICAL FRAMEWORK AND METHODOLOGY

3.1 Theoretical Framework 26 3.2 Hypothesis 30 3.3 Research Design 32

3.3.1 Data Sampling 32 3.3.2 Data Collection Method 37 3.3.3 Data Analysis 38

3.4 Chapter Summary 38

4 RESULTS AND DISCUSSION

4.1 Comparison between Dividend Payer And non-dividend Payer 39

4.2 Normality Test 49 4.3 Correlation Analysis 49

4.3.1 Profitability 50 4.3.2 Sales Growth 51 4.3.3 Leverage 51 4.3.4 Free Cash Flow 52 4.3.5 Firm Size 52 4.3.6 Liquidity 53 4.3.7 Market to book Ratio 54 4.3.8 Profit After Tax 54

5 CONCLUSIONS AND LIMITATIONS

5.1 Conclusions 56 5.2 Recommendation 57 5.3 Limitations and Suggestions for Future Study 58

REFERENCES 60

APPENDICES I ",

A Summary of Sample for Non-dividend Paying Sarawak Listed Companies \

B Summary of Sample for Dividend Paying Sarawak Listed Companies

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LIST OF TABLES

Page

T¢le 3.1 Description of Independent Variables and Sources 35

Table 4.1 Dividend Payers versus non-dividend Payer for

Table 4.2 Dividend Payers versus non-dividend Payer for

Table 4.3 Descriptive Statistic for Dividend Paying Sarawak

Table 4.4 Descriptive Statistic for Non Dividend Paying

Sarawak Public Listed Companies 39

Sarawak Public Listed Companies 39

Public Listed Companies for year 2006-2010 42

Sarawak Public Listed Companies for year 2006-2010 46

Table 4.5 Tests ofNormality 49

Table 4.6 Kendall's tau_b Correlation coefficient between independent Variables and dependent variables 50

Table 4.7 Summary ofhypotheses 55

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LIST OF FIGURE J~

Figure Page

3.1 Theoretical Framework 26

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CHAPTER 1

INTRODUCTION

1.1 Introduction

Dividend policy is one of the most intriguing topics in fmancial research,

resulting in a large number of conflicting hypotheses, theories and explanations. Berldy

and Myers (2005) listed dividends issue as one of the top ten important unresolved

issues in the field of advanced corporate finance. Ross (2009) stated that interaction

between dividend policy determinants is difficult to justify.

Many dividend theories have been proposed to give the explanation on how the

dividend decisions are being undertaken and ",hether it has an influence on the value of

the firm. There are three different approaches in this regard. Firstly, the conservative

group proposed that increase in dividend payout will enhance the firm value while the

radical group believes a higher dividend payout will deteriorate the firm value. The

other groups which suggested irrelevance of dividend policy claims that dividend payout

policy make nQ difference (Meyers & Allen 2010). ; ,;

There are bulks of studies conduct to identify the determinant affecting dividend

payment. For example, Kania & Bacon (2005) studied the impact of profitability,

growth, risk, liquidity and expansion on the dividend policy of a corporation by

analyzing the financial data of over 10,000 publicly traded firms using Ordinary Least

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Squares (OLS). Subsequently, Malkawi (2007) studied the determinants of corporate

dividend policy in Jordan for a period 1989 to 2000 and verifies that size, age and

profitability of the firms have been found to be the detenninant factors of corporate

dividend policy in Jordan.

Similarly, Kuwari (2009) and Ahmed and Javid (2009) studied the detenninants of

the dividend policy among non-fmancial finn in Gee countries and Karachi Stock

Exchange respectively and concluded the significant positive relationship between

profitability, market liquidity and ownership on the dividend payout. Yet dividend

decision is negatively affected by leverage ratio. Additionally, Gill, Biger and Tibrewala

(2010) analyzed the American service and manufacturing finns and found that the

dividend payout ratio is a function of profit margin, sales growth, debt-to-equity ratio

and tax. Furthennore, Appannan and SiIl\ (2011) which emphasis on Malaysia listed

companies for food industries confinned the fact that debt-to-equity ratio and past

dividend per share were the important determinants ofdividend payment.

Dividend decision is initiated in the meeting of the board of directors and is

subsequently declared in the annual general meeting of the company. The corporate I

manager need to d~cide the amount of distribution .paid out to shareholder as dividend.

Many companies viewed dividend as the return of the investment for their shareholder.

Dividend can be regarded as any direct payment by the corporation to the shareholders.

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Dividend policy is important to create benchmark for doing well in future. The

greater the amount distributed to shareholder as dividend, more investor will be attracted

to invest in the company as the company is viewed as highly profitable and healthy

companies. Most of the investor prefers companies that pay high dividend in a stable

trend.

There are several dividend forms for the investor such as cash dividend, stock

dividend, stock split and stock repurchase. Among these options, the cash dividend

option is most desirable because cash dividend is direct transfer of asset to stockholder

and thus increases their wealth. A stock dividend represents a distribution of additional

shares to the existing shareholders while stock split result change in the number of

outstanding shares of stock achieved through a changes in the par value of the stock. In

addition, repurchase of share is treated as 4,ividend decision due to increase in earnings

per share and enjoy tax benefit in repurchase process.

Dividend policy in certain company can regard as guiding principle in the

company to pay dividend to its shareholder. The management unfavorable in changing

the existing dividend policy as the alteration would influence the investor perspective I ,

" toward company value. Hence, company generally have set a constant level of dividend

payment and sustained such level by declare dividend from the constant percentage of I

earning. Stable dividend policy is much more appreciated by both shareholders and

frrms. This is because the stable dividend policy acts as a sign of company stability

coupled with avoid wasting time for board of director in discussing the possible amount

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should be paid out as dividend. This let them more concentrate on other important

investment decision.

1.2 Background of Study

The dividend policy is a serious cause of concerned in corporate fmance and

corporate governance. Miller and Modigliani (MM) developed a theory which proved

that the dividend policy is irrelevant to value of share in perfect and efficient capital

markets. The investors create their own portfolio on the bases of capital gain rather than

the receipt from the company. Many researcher are disagree with their theory and

develop a new theory called "catering theory of dividends" (Baker and Wurgler, 2004).

Under this theory, managers are required to meet the expectation and demand of

investor in term ofpaying them dividend wh~n the investors set high prices on payers.

Corporate dividend policy is important in altering the market value of company

and may affect the new project value. In addition, the dividend policy could provide

important information to its shareholder such as new investment opportunity and

signaling the favorable development and also reflect full information to market.

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Researchers have primarily focused on developed markets and examination on

emerging markets is lacking. Emerging market such as Malaysia is dynamic and

differentiated from developed market such as United Stated. In Malaysia, there is no

standard policy or procedure governing dividend payments. As such, companies are free

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Pusat Khidmat Maklumlill Akademik VNlVERSm MALAYSIA SARAWAK

to decide timing and amount to payout as dividends for a specific financial business

year as long as they comply with Companies Act, 1965. Hence, a study on dividend

policy for emerging market such as Malaysia is important for providing a clear picture

to investor for investment decision on market timing and country selection. The study is

focus on Sarawak listed companies listed in Bursa Malaysia.

1.3 Prob'lem Statement

Although there are many research regarding dividend policy conduct in various

country by many academic researcher, yet the actual determinant affecting dividend

policy remained unsolved and puzzled the researcher and corporate manager (Warren,

2011). Most of the study is based on U.S.fmn while it is very few studies are conducted

on fmn outside U.S. According to Chay and Sub (2005), firms outside the U.S. are

operating under different economic and legal regime and thus may exhibit a different set

of behavior in their financial activities. Hence, it is a need for us to examine the

dividend policy determinant offrrm outside U.S as this will offer different insight on the

factors affecting fmancial decision. I .;

For example, Sarawak being located separate from peninsular Malaysia, which

major economy activities are different from other States in Malaysia. As the largest

states in Malaysia, Sarawak has an abundance of natural resources such as petroleum,

rainforest which is the main contribution of the state's economy. Most of the large

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corporation in Sarawak are engaged in logging, oil palm plantation and petroleum

activities. According to Pandey (2001), plantation and consumer products sectors in

Bursa Malaysia are paying highest dividends as they have less growth opportunities but

higher surplus cash. Thus, the main purpose of this study is to understand the dividend

policy in Sarawak listed companies and the factors that motivated the dividend decision

for the companies under study.

As a developing country, Malaysia is still lacking of research that investigated on

the leading determinants of the dividend policy for the listed companies especially those

Sarawak companies listed in main market of Bursa Malaysia. Hence, there is a need to

conduct a study regarding the dividend policy determinant among Sarawak public listed

companies.

Two questions are being addressed In the present study as follow:

I. How is the composition of dividend paying companies and non-paying

dividend companies among Sarawak public listed companies?

11. Does financial variable such as profitability, sales growth, free cash flow,

debt to equity, fmn size, liquidity, market to book value, profit after tax I ~

affect the dividend payout ratio?

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1.4 Objective of Study

The objectives of this study are as follow:

1. To examine the dividend-paying company and non dividend-paying company for

Sarawak public listed companies in Malaysia

2. To investigate the factor affecting dividend payout among Sarawak public listed

comparues.

1.5 Significance of the Study

Dividend policy has become one of the major areas of research amongst the

finance scholars since 1950s. Dividend "signals" infonnation to investor in the market.

The dividend decision of a company involves retaining a proportion of net earnings for

investment needs in the future while distributing the rest as dividend to shareholders. A

good dividend policy not only attracts investors and facilitates fund raising from the

stock market; it also meets the future investment needs of the company. The association

between dividend decision, earnings and future investment needs therefore makes I ;

dividend announcement a source of infonnation to the investors in accessing the future

prospects of a company.

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Researchers who support the theory of dividend signaling claimed that the

signaling effect from dividend announcements help to overcome informational

asymmetries between the management of a company and investors who are less

informed about the financial prospects of the company. Investors may view an increase

in dividend payout as a signal that the company has sufficient future cash flows to meet

its debt and dividend payment in the future. Such positive signal will stimulate positive

reaction from investors and further cause an increase in the share price, and hence attract

investor (Handjinicolaou and Kalay, 1984). However, there are also findings that

showed dividend signaling does not exist, especially in an efficient market.

Although many researcher studies on dividend policy with the different view and

theory explain why companies should payor not paying the dividend, the actual

rationale for paying dividend remains pup:le. It is important to investigate the dividend

policy issues in order to determine to what extent the corporate managers agree with the

various interpretation of dividend policy contained in the academic literature. The

research findings in the developed market may not applicable in Malaysia in view of

different firm characteristics such as ownership structure (Mancinelli and Ozkan, 2006),

investment decision of firms (Fama, 1974) as well as the industry and market I

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characteristics differentiated by industry classification.

This study is important in understanding the issue ofdividend policy in Malaysia, .

especially in Sarawak listed companies context from the view of corporate manager.

These will contribute to the study of dividend behavior in Sarawak, why manager tend

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to pay cash dividend. It is also important for a firm to understand the need for a best

dividend policy so that it can protect the investments and at the same time maximize its

shareholders' wealth. This will give guideline to manager in how they make dividend

decision and the factors should be considered before make any dividend decision. Hence,

the significance of this study is important in helping financial manager and financial

participant to gain understanding about dividend policy and their determinant in

Malaysia, especially in Sarawak listed companies as there are less study emphasize on

Sarawak companies.

1.6 Scope of the Study

The study covers all Sarawak. listed companies m Bursa Malaysia. The

companies under different industries such as industrial, consumer, construction, trading,

and plantation are included in this study. However, banks, insurance and unit trusts

companies are excluding due to different statutory requirements. In addition, utilities

companies were also excluded from the population of interest as they possess different

incentives and opportunities to manage earnings (Peasnell et ai, 2000). I ;­

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1.7 Outline ofthe Study

The study is organized into five chapters. Chapter 1 discusses the overview of

the subject such as the issue of the dividend policy, the objective, background,

significance, scope and limitation of study also introduced.

Chapter 2 presented the development of literature on the subject matter and the

definition of determinant. The literature review included the fmding and discussion

about prior study from different researcher for different point of view on the dividend

policy. In addition, the definition of financial variables used also included in this chapter.

While chapter 3 highlights the research methodology which discuss about

research design, hypotheses, data and variable, and the methodology used. In this

chapter, the companies audited annual report is used and extracted, collected, compile,

summarized and finally analyzed.

Chapter 4 will present the finding and result of the analysis for this study. The

comparison of dividend paying companies and non-dividend paying companies of I .;

Sarawak public listed companies is constructed. In addition, the descriptive analysis also

performed. Besides that, the Pearson Correlation Analysis is performed to indicate the

relationship between dependent variables and independent variables.

Finally, the conclusion and recommendation are present in chapter 5.

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CAHPTER2

LITERATURE REVIEW

2.1 Dividend theory

The following section elaborates on dividend related theories, namely the (1)

dividend irrelevance theory, (2) agency theory, (3) infonnation asymmetry, (4) Bird-in-

Hand fallacy and (5) clientele effect.

2.1.1 Dividend Irrelevance Theory

Under dividend irrelevance theory, dividend is insignificant in enhancing the

shareholder wealth in perfect capital market. According to Miller and Modigliani (1961),

the pattern of dividend is irrelevant and hence it does not affect company investment

decision in an efficient market and free tax and transaction cost environment. Under this

theory, the pattern of cash flows provided by a company through the payment of I rI

dividends is irrelevant as shareholders are free to adjust the dividend patterns to suit

their desired consumption patterns through the capital market (Lumby and Jones, 1981).

The research by Meyers & Allen (2010) also confonn this theory.

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2.1.2 The Bird-in-Hand Fallacy

Under the theory of Bird-in-Hand fallacy, risk-averse investors prefer dividends

as compared to capital gains due to the uncertainties inherent with capital gains. This

theory was developed by Myron Gordon and John Lintner as a response to Modigliani

and Miller's dividend irrelevance theory. They argued that Modigliani and Miller's

model lack of impact of dividend policy on firm's cost of capital as they fmd lower

payouts result in higher costs of capital They suggested that investors prefer dividend as

it is more certain than capital gains that might or might not appear if they let the finn

retain its earnings. They indicated that the higher capital gains/dividend ratio is, the

larger total return is required by investors due to increased risk. Most investors tend to

reinvest the dividend in the similar or ev~n the same company securities that have the

same risk characteristics as long as the stock paying the dividend.

2.1.3 Agency Theory

I " When there are differences in ownership .and control of the company, agency

problem occurs .. This will result in shareholder incur nontrivial monitoring cost in order

ensure manager has act in their best interest. However, pursuing such monitoring action

will create ''trade-off'' issue for both shareholders and managers. Shareholders will face

the trade-off between monitoring costs and the fonns of compensation involved to

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encourage the agents to act in the owners' interest. At the same time, managers also face

the trade-off between maximizing shareholders' value and its own personal interests by

pursuing non-pecuniary interest.

Some manager who focus on their own interest will retained the profit and utilize

the fund for their own personal benefit such as increase their compensation package

when the company has making profit. Therefore, increase in dividend payout can reduce

agency cost (Rozeff, 1982) as greater dividend payments serves as a mean in monitoring

the performance of managers. There is less need to payout the dividend when the

company is controlled by majority insider and hence reduce the agency cost. At the

contrary, agency cost will become higher when the shareholding structure of a company

is dispersed and hence higher dividend payout (Rozeff, 1982)

2.1.4 Clientele effect

The clientele effect theory exists due to imperfection of capital market and this is

contrary to the dividend irrelevance theory. The imperfection in capital market means

there are transaction cost and cost of capital involved. The imperfection in capital

market will impose certain costs to shareholders when adjustments in the dividend

patterns are made to fit his preferred consumption pattern.

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