Impact of Dividend On Stock Prices

Impact of Dividend on Stock Prices
THESIS TOPIC IMPACT OF DIVIDEND ON STOCK PRICES
UNDER THE GUIDANCE OF:

Mr. HARISH PATEL
ASSISTANT MANAGER BAJAJ CAPITAL LTD
SUBMITTED BY: AVINASH KHANDELWAL PGP/FW/2005-0
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ABSTRACT
The project aims to establish the impact of dividend on market price of a share. This has been done for individual companies in Steel sector. After studying the basic concepts of dividends and dividend policy I am able to get a proper perspective of the requirements of the project and also gain a better understanding of the results obtained. I have looked to find the relation between pre dividend price change and the dividend using regression analysis. Similarly, I have analy ed the relation between the post dividend price change and the dividend. It is a matter of fact that dividends are declared by a company primarily to generate capital and also at certain times to maintain the market sentiment. It is in the best interests of the company to ma!imi e the market value of its share and companies use dividend as a tool to maintain their corporate image. "owever, the degree of correlation between the dividend and the market price is low which implies that several other internal and e!ternal factors affect the market value of shares. To gain a holistic picture, I also did a comparative study of two peers in a sectors to better understand how the specific requirements of each sector also impact the dividend policy of a company. The conclusions derived from the analysis performed further consolidated theoretical knowledge and deviations were better understood.
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T"#SIS S$%&'SIS
Thesis Topic:
Impact of Dividend on Stock Prices Introduction
The term (dividend( usually refers to a cash distribution of earnings. It is nothing but a part of profit )earning per share* which company decides to share with its shareholders in form of cash on a regular basis, usually annually )sometimes semiannually*. &nce a company makes a profit, they must decide on what to do with those profits. They could continue to retain the profits within the company, or they could pay out the profits to the owners of the firm in the form of dividends. &nce the company decides on whether to pay dividends, they may establish a somewhat permanent dividend policy, which may in turn impact on investors and perceptions of the company in the financial markets. +hat they decide depends on the situation of the company now and in the future. It also depends on the preferences of investors and potential investors. ,y study is all about the -I.I-#%-S and its effect on the price fluctuations of the stock, i.e. how individual investor perceives dividends and how corporate world perceive their payouts. The controversy is that there are two school of thoughts with respect of -ividends, one shows that dividends has no effect on market pricing and other e!plains that how dividends positively influence the market pricing of particular stock.
O !ective
The 'rimary objective is to study all about -I.I-#%-S and its effect on the price fluctuation of the stock. Tried to e!plore the payout mechanism and tried to
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scrutini e the consequence on stock pricing with respect to dividend paid by the companies. The Secondary objective is to understand why dividends are used by some companies and not by others.
"ethodo#o$%
&nce understanding the topic and the objectives of the thesis, the proceedings of thesis would involve secondary research. Secondary research would include analysis from newspapers, journals, research papers in this field and also reference of books and websites related to this topic. &nce the data compilation is over, the data would be analy ed followed by the recommendations and conclusion.
Draft Report &ormu#ation

After data is analy ed and interpretation is done a draft report will be formulated in order to get validation from the mentor for the final report. All aspects will be checked and in order to have an errors free report.
&ina# Report &ormu#ation

After all the errors are removed and the draft report gets a clearance from the guide, the final report will be formulated for the final submission.
ACKNOWLEDGEMENT
%o task can be achieved alone. It took many special people to facilitate it and support it. "ence, I would like to acknowledge all for their valuable support and convey my humble gratitude to them. /ast but not the least, I would like to thank ,r "arish 'atel, Assistant ,anager0 I12 )1A3A3 4A'ITA/, ,umbai* who spared his valuable time in imparting relevant information without which the study would have never been completed. I am very thankful to all who helped me throughout my thesis and have shown the right way that we say the /I2"T &5 T"# -A$.
TABLE OF CONTENTS
TOPICS
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LIST OF FIG?RES @ TABLES

T,#0/4
1) Dividend changes: publicl o!ned firm-1"#1-1""$ 2) India%s crude steel production &'() historic trends 3) *pparent +inished Steel ,onsumption &m() )) +inished Steel Production 2$$--$. -) Sail%s /ro!th Plans .) Pro1ected per ,apita consumption of +inished Steel in India &kg) 0) /ro!th Scenarios #) 2istorical Scrip-!ise Price 3olume Data )0 )" )" -.
P"2% N,
12 )$ )1 )1
Chapter '
I(TROD)CTIO(
There are many reasons for paying dividends and there are many reasons for not paying any dividends. As a result, `dividend policy' is controversial. The term (dividend( usually refers to a cash distribution of earnings. It is nothing but a part of profit )earning per share* which company decides to share with its shareholders in form of cash on a regular basis, usually annually )sometimes semiannually*. ,y study is all about the -I.I-#%-S and its effect on the price fluctuations of the stock, i.e. how individual investor perceives dividends and how corporate world perceive their payouts. The controversy is that there are two school of thoughts with respect of -ividends, one shows that dividends has no effect on market pricing and other e!plains that how dividends positively influence the market pricing of particular stock. In 6.S, earnings are doubled ta!ed i.e. firstly company pays the corporate ta! on its earnings and secondly when the same amount is distributed among the members it is ta!ed as their personal income. The rate of ta! in 6.S on capital gain is less than income from dividends. Thus to avoid this double ta!ation, generally investor are reluctant towards dividends and hold the shares for long term prospective. 1ut what if the dividends are not ta!able in the hand of investor and capital gains is ta!able at higher rates than that of dividends, as in case of India. Taking these views, in Indian scenario, I have started this project, and tried to e!plore the payout mechanism and tried to scrutini e the consequence on stock pricing with respect to the dividends paid by the companies. +hy companies paying dividends is still a controversy. In Indian scenario if we take some top traded 78 companies in 1ombay Stock #!change, there is hardly
any company which is not paying dividends, moreover a thorough study shows that even those companies which were making losses, also paying some nominal dividends, using their prior reserves )subject to The 4ompanies )Transfer to reserves* 9ules 0:;<7*. +ipro ltd is one of the renowned IT company in India but still if we compare the stock price of +ipro and Infosys we find that +ipro is lagging behind owing to conservative dividend policy )= >7? continuously* unlike as Infosys Technologies ltd, having an e!cellent payout )continuous growth in dividends*. The market risk of any security depends on its 1eta, which shows the relationship between the Sense! 9eturns and Security returns and measure the relative risk associated with the security with respect to market. "igher the beta, greater the risk associated with the security. Theoretically if the 1eta of security is less than one, the security will be affected lesser than proportion with market Sense!. The investors make equity investments with the e!pectation of capital gains irrespective of whether they are short term or long term investors. Typically there is no company, which can ensure capital gains to investors with out declaring continuously dividends. In other words the investors do care about dividends how ever small its impact on their wealth. It@s not only the investors care about dividends, but also growth in dividends and profitability of the companies in which they maid investments. The technical analysis and the survey conducted amply prove this point. 6nlike 6.S markets where treatment of ta! is a major concern for the investors for accepting dividends, Indian investors do not give greater weightage for the ta! matters since the dividends are ta!ed in the hands of the companies but not in the hands of investors.
Back$round on Dividends
A dividend is a cash payment from a companyAs earnings, announced by a companyAs board of directors and distributed among stockholders. In other words, dividends are an investorAs share of a companyAs profits, given to him or her as a part0owner of the company. Aside from option strategies, dividends are the only way for investors to profit from ownership of stock without eliminating their stake in the company. +hen a company earns profits from operations, management can do one of two things with the profits. It can choose to retain them 0 essentially reinvesting them into the company with the hopes of creating more profits and thus further stock appreciation. The other alternative is to distribute a portion of the profits to shareholders in the form of dividends. ,anagement can also opt to repurchase some of its own shares 0 a move that would also benefit shareholders. A company must keep growing at an above0average pace to justify reinvesting in itself rather than paying a dividend. 2enerally speaking, when a companyAs growth slows, its stock wonAt climb as much, and dividends will be necessary to keep shareholders around. This growth slowdown happens to virtually all companies after they attain a large market capitali ation. A company will simply reach a si e at which it no longer has the potential to grow at annual rates of B80 C8? like a small cap, regardless of how much money is plowed back into it. At a certain point, the law of large numbers makes a mega0cap company and outperforming growth rates which outperform the market an impossible combination. The changes witnessed in ,icrosoft in the last few years are a perfect illustration of what can happen when a firmAs growth levels off. In 3an >88B, the company
finally announced that it would pay a dividendD ,icrosoft had so much cash in the bank that it simply couldnAt find enough worthwhile projects in which to invest 0 you canAt be a high0flying growth stock foreverE The fact that ,icrosoft started to pay dividends did not signal the companyAs demiseF it simply indicated that ,icrosoft had become a huge company and had entered a new stage in its life cycle, which meant it probably would not be able to double and triple at the pace it once did.
Dividends *on+t "is#ead ,ou

1y choosing to pay dividendsF management is essentially conceding that profits from operations are better off being distributed to the shareholders than being put back into the company. In other words, management feels that reinvesting profits to try to achieve further growth will not offer the shareholder as high a return as a distribution in the form of dividends. There is another motivation for a company to pay dividendsD a steadily increasing dividend payout is viewed as a strong indication of a companyAs continuing success. The great thing about dividends is that they canAt be faked. They are paid or not paid, increased or not increased. This isnAt the case with earnings, which are basically an accountantAs best guess of a companyAs profitability. All too often, companies must restate their past reported earnings because of aggressive accounting practices, and this can cause considerable trouble for investors, who may have already based future stock price predictions on these )unreliable* historical earnings. #!pected growth rates are also unreliable. A company can talk a big game about wonderful growth opportunities that will pay off several years down the road, but there are no guarantees that it will make the most of its reinvested earnings.
+hen a companyAs robust plans for the future )which impact its share price today* fail to materiali e, your portfolio will very likely take a hit. "owever, you can rest assured that no accountant can restate dividends and take back your dividend check. ,oreover, dividends canAt be squandered away by the company on business e!pansions that donAt pan out. The dividends you receive from your stocks are :88? yours. $ou can use them to do anything you likeD pay down your mortgage, spend it as discretionary income or buy the stock of a company you think has better growth prospects.
*ho Determines Dividend Po#ic%The companyAs board of directors decides what percentage of earnings will be paid out to shareholders, and then puts the remaining profits back into the company. Although dividends are usually dispersed quarterly, it is important to remember that the company is not obligated to pay a dividend every single quarter. In fact, the company can stop paying a dividend at any time, but this is rare, especially for a firm with a long history of dividend payments. If people were used to getting their quarterly dividends from a mature company, a sudden stop in payments to investors would be akin to corporate financial suicide. 6nless the decision to discontinue dividend payments was backed by some kind of strategy shift, say investing all retained earnings into robust e!pansion projects, it would indicate that something was fundamentally wrong with the company. 5or this reason, the board of directors will usually go to great lengths to keep paying at least the same dividend amount.
.o/ Stocks That Pa% Dividends Resem #e Bonds
+hen assessing the pros and cons of dividend0paying stocks, you will also want to consider their volatility and share price performance as compared to those of outright growth stocks that pay no dividends. 1ecause public companies generally face adverse reactions from the marketplace if they discontinue or reduce their dividend payments, investors can be reasonably certain they will receive dividend income on a regular basis, for as long as they hold their shares. Therefore, investors tend to rely on dividends in much the same way that they rely on interest payments from corporate bonds and debentures. Since they can be regarded as quasi0bonds, dividend0paying stocks tend to e!hibit pricing characteristics that are moderately different from those of growth stocks. This is because they provide regular income, similar to a bond, but still provide investors with the potential to benefit from share price appreciation if the company does well. Investors looking for e!posure to the growth potential of the equity market, combined with the safety of the )moderately* fi!ed income provided by dividends, should consider adding stocks with high dividend yields to their portfolio. A portfolio with dividend0paying stocks is likely to see less price volatility than a growth stock portfolio.
I"PORTA(T DAT0S
There are four important dates to remember about dividendsD
-eclare dividend
#!0div. date
9ecord date
'ayment date
'1 Dec#aration Date: the board of directors declares the dividend, determines the amount of the dividend, and decides on the payment date. 21 034Dividend Date: To receive the dividend, you have to buy the stock before the e!0dividend date. &n this date, the stock begins trading Ge!0dividendH and the stock price falls appro!imately by the amount of the dividend. This date usually falls > I C days before the 9ecord -ate. This date allows for the completion of all pending transactions, since it usually takes three days to settle a regular stock sale. The #!0-ividend -ate is the most important date as far as owning the stock if one wants to receive the dividend. 51 Date of Record: C days after the e!0dividend date, the firm receives the list of stockholders eligible for the dividend. &ften, a bank trust department acts as registrar and maintains this list for the firm. 61 Pa%ment Date: This is the date the company mails the checks, often two weeks or so after the record date. &n the #!0-ividend -ate, the market discounts stock@s price since the dividend is no longer available to buyers.
T,P0S O& DI7ID0(DS

-ividends come in two typesD fi!ed and variable. -ividends that pay at a fi!ed rate go to owners of preferred stock, while variable dividends go to common stock holders. There are also regular dividends, which are paid at regular
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intervals )quarterly, semiannually or annually*, or special dividends which are paid in addition to the regular dividends. The term (dividend( usually refers to a cash distribution of earnings. If it comes from other sources, it is called (liquidating dividend(. It mainly has the following typesD Regular 9egular dividends are those the company e!pects to maintain, paid quarterly )sometimes monthly, semiannually or annually*. Extra Those that may not be repeated. Special Those that are unlikely to be repeated. Stock Dividend 'aid in shares of stocks. Similar to stock splits, both increase the number of shares outstanding and reduce the stock price.
CAS. DI7ID0(DS
9egular cash dividends are those paid out of a company@s profits to the owners of the business )i.e., the shareholders*. A company that has preferred stock issued must make the dividend payment on those shares before a single penny can be paid out to the common stockholders.
PROP0RT, DI7ID0(DS
A property dividend is when a company distributes property to shareholders instead of cash or stock.
SP0CIA8 O(04TI"0 DI7ID0(DS
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In addition to regular dividends, there are times a company may pay a special one0time dividend. These are rare and can occur for a variety of reasons such as a major litigation win, the sale of a business or liquidation of an investment. They can take the form of cash, stock or property dividends. -ue to the temporarily lower rates of ta!ation on dividends, there has been an increase in special dividends paid in recent years. To add sugar to spice, there are times when these, special one0time dividends are classified as a Greturn of capitalH. In essence, these payments are not a payout of the company@s profits but instead returns of money shareholders have invested in the business. As a result, returns of capital dividends are ta!0free.
I(T0RI" DI7ID0(DS
It is a dividend declared part way through a companyAs financial year, authori ed solely by the directors. A dividend that is declared and paid before annual earnings are determined. The amount of profit paid out by a company in anticipation of the profit e!pected to be earned during a particular accounting period.
8I9)IDATI(: DI7ID0(DS
These are dividends that are paid in e!cess of the retained earnings that are shown in the books of the company. They are viewed as a return on capital rather than ordinary income. They are a distribution out of paid in capital when a corporation permanently reduces its operations or winds up its affairs completely i.e., it is the declared dividend in the closing of a firm to dispose off the assets of the organi ation to qualified stockholders.
STOC; DI7ID0(DS
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A stock dividend is a pro0rata distribution of additional shares of a company@s stock to owners of the common stock. A company may opt for stock dividends for a number of reasons including inadequate cash on hand or a desire to lower the price of the stock on a per0share basis to prompt more trading and increase liquidity )i.e., how fast an investor can turn his holdings into cash*. /owering the price of the stock increases liquidity because on the whole, people are more likely to buy and sell an 9s >78 stock than an 9s 7,888 stockF this usually results in a large number of shares trading hands each day. A stock split is, in essence, a very large stock dividend. In cases of stock splits, a company may double, triple or quadruple the number of shares outstanding. The value of each share is merely loweredF economic reality does not change at all.
R0ASO(S &OR ISS)I(: SP8IT STOC;

8I9)IDIT, Some companies believe that their stock should be ine!pensive so more people can buy it. This creates a condition where more of the companyAs stock is bought and sold )this is called (increased liquidity(*. The problem, in theory, is that the increased activity will also leads to bigger gains and drops in the stock, making it more volatile. ,any investors believe splits are a good thing. They believe that the stock will regain its original price. This is wrong. The stock is where it was...each share now represents half of the equity in the company that it did before the split. That means that each share is entitled to half the dividend, half the earnings, and half of the assets that it once was.
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SO"0 &ACTS ABO)T DI7ID0(D PO8IC,

< Dividends are stick%= &irms are much more re#uctant to cut dividends than increase them
Dividend Po#icies:
'1 Constant Pa%out Ratio Po#ic%: if directors declare a constant payout ratio of, for e!ample, B8?, then for every amount of earnings available to stockholders, B8 cents would be paid out as dividends. The ratio remains constant over time, but the money value of dividends changes as earnings change.
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21 Sta #e Rupee Dividend Po#ic%: the firm tries to pay a fi!ed rupee dividend each quarter. 5irms and stockholders prefer stable dividends. -ecreasing the dividend sends a negative signal. 51 Sma## Re$u#ar Dividend p#us ,ear40nd 03tras: The firm pays a stable quarterly dividend and includes an e!tra year0end dividend in prosperous years. 1y identifying the year0end dividend as Ge!tra,H directors hope to avoid signaling that this is a permanent dividend
"easures of Dividend Po#ic%

J -ividend 'ayoutD measures the percentage of earnings that the company pays in dividends K -ividends L #arnings J -ividend $ieldD measures the return that an investor can make from dividends alone K -ividends L Stock 'rice
DI7ID0(D PA,O)T RATIO The percentage of net income that is paid out in the form of dividend is known as the dividend payout ratio. This ratio is important in projecting the growth of company because it@s inverse, the retention ratio )the amount not paid out to shareholders in the form of dividends*, can help project a company@s growth.
DI7ID0(D ,I08D
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The dividend yield tells the investor how much he is earning on a common stock from the dividend alone based on the current market price. -ividend yield is calculated by dividing the actual or indicated annual dividend by the current price per share.
&ACTORS T.AT D0T0R"I(0 T.0 DI7ID0(D PO8IC,

-ividend policy of a firm depends largely on future needs for growth and e!pansion. 5irms which have substantial investment opportunities and consequently considerable funding needs tend to keep their payout ratio low to conserve resources for growth. &n the other hand, firms which have rather limited investment avenues usually pursue a more generous payout policy. Some of the important factors that generally determine the dividend policy of a firm areD a. dividend payout ratio b. stability of dividends c. ta! consideration d. legal, contractual, internal constraints and restrictions. e. 4apital market consideration f. Inflation, etc. Stability of dividend is another major aspect of dividend policy. The term dividend stability refers to the consistency or lack of variability in the stream of future dividend. 'recisely, it means that a certain minimum amount of dividend is paid out regularly. Shares of companies are not only purchased by individuals but also by financial institutions like I4I4I, I-1I, I54I and 6TI. Such institutions and unit trusts are some of the largest investors in corporate securities. Also companies are always interested to have these financial institutions in the list of their investors. ,oreover, any institution would like to invest in the shares of
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those companies, which have a record of paying regular dividends. As such, a company which does not adhere to stable dividend policy would always be disliked by these institutional investors and unit trusts, which aspires for regular flow of income from their investment portfolio. Therefore, considering the needs of their premiere investors, a company would always prefer to follow a stable dividend policy. 4apital market consideration is important because if the firm has an access to capital market for fund raising, it may follow a policy of declaring liberal dividend. "owever, if the firm has only limited access to capital market, it is likely to adopt low dividend payout ratio. Such firms are likely to rely more heavily on retained earnings. Inflation is also one of the factors to be reckoned with at the time of formulating the dividend policy. +ith rising prices, accumulated depreciation may be inadequate to replace obsolete requirement. These firms have to rely upon retained earnings as a source of funds to make up the deficiency. This consideration becomes all the more important if the assets are to be replaced in the near future. 4onsequently, the dividend payout ratio tends to be low during the period of inflation.
.o/ Do &irms 7ie/ Dividend Po#ic%

In a classic study, /intner surveyed a number of managers in the :;78As and asked how they set their dividend policy. ,ost of the respondents said that there were a target proportion of earnings that determined their policy. &ne firmAs policy might be to pay out C8? of earnings as dividends whereas another company might have a target of 78?. This would suggest that dividends change with earnings. #mpirically, dividends are slow to adjust to changes in earnings. /intner suggested an empirical model whereby changes in dividends are linked to the level of the earnings, the target payout and the adjustment rate. "e
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asserts that more (conservative( companies would be slower to adjust to the target payout if earnings increased. The following, from 1realey and ,yers, details his research. Suppose that a firm always stuck to a target payout ratio. Then the dividend payment in the coming year )-I.M:* would equal a constant proportion of earnings per share )#'SM:*. -I.M: K target dividend K target ratio ! #'SM: The dividend change would equal -I.M: 0 -I.M8 K target change K target ratio ! #'SM: 0 -I.M8 A firm that always stuck to its payout ratio would have to change its dividend whenever earnings changed. 1ut the managers in /intnerAs survey were reluctant to do this. They believed that shareholders prefer a steady progression in dividends. Therefore, even if circumstances appeared to warrant a large increase in their companyAs dividend, they would move only partway toward their target payment. Their dividend changes therefore seemed to conform to the following modelD -I.M: 0 -I.M8 K adjustment rate ! target change K adjustment rate ! )target ratio ! #'SM: 0 -I.M8* The more conservative the company, the more slowly it would move toward its target and, therefore, the lower would be its adjustment rate.
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-irection of earnings changes 4urrent $ear N N N 0 N 0 0 0 'revious $ear N N 0 N 0 N 0 0 >0$ears $ear N 0 N N 0 0 N 0 Increasing -ividend ? O: P< 7O 7C C; C7 B7 >7
'roportion of 4ompanies ,aintaining -ividend ? O :7 :< :7 :O :; :< >7 9educing -ividend ? :: :O >7 B> BC BP CO 78
Summar% of &actors That Cou#d Affect Dividend Po#ic%

2iven that the firmAs investment policy is fi!ed, ,, shows that the dividend policy is irrelevant. "owever, if capital market imperfections )e.g., ta!es* are important or if dividend announcements signal new information, dividend policy will be relevant. In fact, there are important factors in dividend policy decision that are against high dividend payout and factors are in favor of high dividend payout and those that may affect dividend payout either way. A list of them isD &actors A$ainst .i$h Dividend Pa%out 'ersonal Ta!es. )-ividends are ta!ed, but capital gains are deferredF The latter ta! rate used to be lowerF Since Ta! 9eform Act of :;OP, equal treatment.*
Impact of Dividend on Stock Prices Transaction 4osts )5rom reinvesting and firmAs financing.* &actors &avorin$ .i$h Dividend Pa%out Ta! 9easons )O8? dividend e!clusion ruleF institutional investors* /egal and Institutional 9easons )e.g. Q'rudent manA rule* -esire for 4urrent Income Other &actors The 4lientele #ffect Information 4ontent of -ividends
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Other than pa%in$ dividends> a compan% has a#ternatives Select Additional 4apital 1udgeting 'rojects Share 9epurchase Acquire &ther 4ompanies 'urchase 5inancial Assets
03p#anation of &actors
Persona# Ta3es 1efore the Ta! 9eform Act of :;OP, dividends and capital gains were ta!ed at different rates. 6nder the old laws, dividends were ta!ed as ordinary income )ta! rate TMd of 78?* but you were only ta!ed on C8? of the capital gains )TMcg ta! rate of >8?*. 6nder the old system, it seemed like individuals should prefer capital gains because TMcg R TMd. Second, you are not ta!ed on the capital gain until it is reali ed. So you can defer your ta!ation.
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6nder the Ta! 9eform Act of :;OP dividends and capital gains are treated symmetrically. 1eginning in the :;OO ta! year, the rate of ta!ation on both dividends and capital gains is a ma!imum of >O?. +ith the new legislation, it is more difficult to make the argument that corporations should not pay dividends because investors prefer capital gains. &ne should also note that there are many large institutional investors that are ta! e!empt 00 like pension funds. 5or these institutions, it is not even possible to tell a story about ta! deferral. The institutions should be indifferent between a high dividend paying stock and a low dividend paying stock. The only way to determine whether there is a ta! effect makes dividend policy relevant is to empirically e!amine the data to see which group dominates the data. 5or e!ample, 1lack and Scholes ):;<C* formed portfolios of stocks based on dividend payout ratios. #ach of these portfolios was adjusted for risk with the 4apital Asset 'ricing ,odel. 1lack and Scholes wanted to see if there was any significant difference in total rates of return across portfolios that were related to dividend policy. There results showed that there was no significant difference. This implies that the market does not reward any particular dividend policy. The bottom line on the ta! issue depends on who the marginal investor is in the market. If the marginal investor is large ta! e!empt institutions )which is likely to be the case*, then they will eliminate any ta! effect. If one stock is somehow rewarded for a particular dividend policy, the pension funds will buy in and drive the price up until that particular firm is no different from any other firm in the same risk class. Transaction Costs 5irst, the investor must incur the transactions costs of reinvesting the dividend income. Second, the firm may have to pay for floatation costs )if dividend is financed by new equity* or some fees for borrowing.
Impact of Dividend on Stock Prices Ta3 Reasons
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The main item here is the fact that large pools of investors are institutions which are ta!0e!empt. The C#iente#e 0ffect There are groups of individuals with different preferences for how they get the cash flows from the firm. Some shareholders may prefer stocks that do not pay dividends. &ther shareholders may prefer stocks that pay a regular dividend. Although we have seen how people can construct their own dividend policy, there are some that (prefer( 00 for whatever reason 00 a certain type of dividend policy. Investors will form their well0diversified portfolios of stocks to have the desired dividend policy. In equilibrium, no firm can affect its value by changing its dividend policy. If a firm did change the policy, it would be dropped by one clientele and picked up by another. 4learly, one clientele is as good as another. All clienteles would prefer not to be constantly rebalancing their portfolios as firm switch policies. 9ebalancing is e!pensive due to transactions costs. "ence, all investors@ transactions costs are minimi ed if the firm maintains a stable dividend policy. Information Content of Dividends There may be information content to dividends. The dividend may be a signal to the public of the managementAs anticipations for future policy of the firm and prospects. If there is new good information, then managers may signal this information to the public by raising dividends. There is reluctance to lower dividends because managers want the dividends to represent e!pectations of the future value of the firm.
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An obvious question is why donAt the managers inform the public about new prospects by press releases or other non0dividend related methodsS In fact, the managers do make use of the press to announce new prospects. The problem is credibility. +hy should the public believe themS 5urthermore, there is an obvious bias because it is unlikely that they will phone a reporter to tell them bad news. The dividend is a more credible means of conveying information because it is costly to the firm. The more costly the signal the more believable it is.
Dividend Reinvestment P#an ?DRIP1 A -9I' )-ividend 9einvestment 'lan* is a plan that enables a stockholder to automatically reinvest dividends received back into the stock of the paying firm. The plan may either involve the firm repurchasing e!isting shares or it may involve newly issued shares.
PRACTICA8 ASP0CTS O& DI7ID0(D PO8IC,

+hile deciding on the dividend policy, firms face two questionsD :. +hat should be the average pay ratioS >. "ow stable should the dividends be over timeS 5irms consider the following factors to determine the payout ratio I :. &unds re@uirement A The dividend pay out ratio of firms depends on the firm@s future requirements for funds. /ong term financial forecasting of funds can assess this requirement. 6sually firms, which have plans for substantial financial investment, need funds to e!ploit the available opportunities. Thus, they keep their dividend payout ratio low. &n the
22
other hand, firms, which have very few investment avenues have larger dividend pay out ratio. >. 8i@uidit% A It is another factor which influences the dividend payout ratio as dividends involved cash payment. 5irms, which desire to pay dividends, may not do so, because of insufficient liquidity. This usually happens in the case of profitable and e!panding firms, which have very low liquidity because of substantial investments. B. Avai#a i#it% of e3terna# sources of financin$ A 5irms which have easy access to e!ternal sources of funds enjoy a great deal of fle!ibility in deciding the dividend payout ratio. 5or such firms, dividend payout decision is somewhat independent of its investment decision as well as its liquidity position. Such firms are usually more generous in their dividend policies. +hile on the other hand, firms, which do not have easy access to e!ternal sources of funds, have to rely on the internal sources of funds or investment purposes. Such firms are usually very conservative in their dividend policy decisions. C. Shareho#der preference A 'references of shareholder are another major factor, which influence dividend payout. If shareholders prefer current income to capital gains, then the firm may follow the liberal dividend policy. +hile on the other hand if they prefer capital gain to dividend income, then firms follow the conservative dividend policy. 7. Difference in the cost of e3terna# e@uit% and retained earnin$s A The cost of equity in all cases e!cept for those raised by way of rights issue is higher than the cost of retained earnings. -epending on the e!tent of this difference in cost, firms decide the relative proportion of e!ternal equity and retained earnings to be used. This affects the dividend policy decision of the company.
23
P. Contro# A 9aising money from e!ternal resources may lead to dilution of control, in case money is raised by issuing public equity. Internal financing on the other hand does not lead to any dilution of control. "ence, if management and shareholders are averse to dilution of control, then firms prefer to rely more on retained earnings. Thus, such companies may adopt the conservative dividend policy. <. Ta3es A In India dividend income for the individuals is free, however capital gains are ta!able. Thus, in that case shareholders who are in high ta! bracket may prefer dividend income rather than capital gains. "owever, if ta! on dividends is viewed from point of view of corporate, they have to pay dividend ta!. Thus, this may influence the companies@ dividend policy.
Dividend4Pa%in$ "ethods
%ow, should the company decide to follow either the high or low dividend method, it would use one of three main approachesD residual, stability, or a compromise between the two. Residua# 4ompanies using the residual dividend policy choose to rely on internally generated equity to finance any new projects. As a result, dividend payments can come out of the residual or leftover equity only after all project capital requirements are met. These companyAs usually attempt to maintain balance in their debtLequity ratios before making any dividend distributions, which demonstrates that such a company decides upon dividends only if there is enough money leftover after all operating and e!pansion e!penses are met.
2)
Sta i#it% The fluctuation of dividends created by the residual policy significantly contrasts the certainty of the dividend stability policy. +ith the stability policy, companies may choose a cyclical policy that sets dividends at a fi!ed fraction of quarterly earnings, or they may choose a stable policy whereby quarterly dividends are set at a fraction of yearly earnings. In either case, the aim of the dividend stability policy is to reduce uncertainty for investors and to provide them with income. .% rid The final approach is a combination between the residual and stable dividend policy. 6sing this approach, companies tend to view the debtLequity ratio as a long0term rather than a short0term goal. In todayAs markets, this approach is commonly used by companies that pay dividends. As these companies will generally e!perience business cycle fluctuations, they will generally have one set dividend, which is set as a relatively small portion of yearly income and can be easily maintained. &n top of this set dividend, these companies will offer another e!tra dividend paid only when income e!ceeds general obtained levels.
I"PACT O& DI7ID0(DS

AR:)"0(TS A:AI(ST DI7ID0(DS
5irst, some financial analysts feel that the consideration of a dividend policy is irrelevant because investors have the ability to create (homemade( dividends. These analysts claim that this income is achieved by individuals adjusting their personal portfolio to reflect their own preferences.
2-
The second argument claims that little to no dividend payout is more favorable for investors. Supporters of this policy point out that ta!ation on a dividend is higher than on capital gain. The argument against dividends is based on the belief that a firm who reinvests funds )rather than pays it out as a dividend* will increase the value of the firm as a whole and consequently increase the market value of the stock. According to the proponents of the no0dividend policy, a companyAs alternatives to paying out e!cess cash as dividends are the followingD undertaking more projects, repurchasing the companyAs own shares, acquiring new companies and profitable assets, and reinvesting in financial assets.
AR:)"0(TS &OR DI7ID0(DS

In opposition to these two arguments is the idea that a high dividend payout is more important for investors because dividends provide certainty about the companyAs financial well beingF dividends are also attractive for investors looking to secure current income. Also, there are many e!amples of how the decrease and increase of a dividend distribution can affect the price of a security. 4ompanies that have a long0standing history of stable dividend payouts would be negatively affected by lowering or omitting dividend distributionsF these companies would be positively affected by increasing dividend payouts or making additional payouts of the same dividends. 5urthermore, companies without a dividend history are generally viewed favorably when they declare new dividends.
ID0A8 TI"0 TO PA, DI7ID0(D

In the days of falling stock prices, 1oard of -irectors will often begin to pay dividends to help stabili e the company@s stock. ,any investors consider these
2.
dividends as a sign of safety and financial conservatism )which they are in many cases*. -ividends in and of themselves, however, do not necessarily make the company a better investment. 4ompanies that earn high returns on equity, have little or no debt, and large room to e!pand in their current industry would best serve their shareholders by paying no dividends. Instead, they should opt to reinvest all of the company@s available resources into growing the value of the underlying business. The shareholders will be rewarded through appreciation in the stock price. In other words, a company should only pay dividends if it is unable to reinvest its cash at a higher rate than the shareholders )owners* of the business would be able to if the money was in their hands. If company A14 is earning >7? on equity with no debt, management should retain all of the earnings because the average investor probably wonAt find another company or investment that is yielding that kind of return. The factors that may be considered by the 1oard before making any recommendations for the dividend include, but are not limited to, future e!pansion plans and capital requirements, profits earned during the financial year, cost of raising funds from alternate sources, cash flow position and applicable ta!es including ta! on dividend as well as e!emptions under ta! laws available to various categories of investors from time to time, and money market conditions, subject to the 2overnment guidelines described belowD As per the guideline dated 5ebruary ::, :;;O from the 2overnment of India, all profit0making 'S6s which are essentially commercial enterprises should declare the higher of a minimum dividend of >8 percent on equity or a minimum dividend payout of >8 percent of post0ta! profit. The minimum dividend pay0out in respect of enterprises in the oil, petroleum, chemical and other infrastructure sectors should be B8 percent of post0ta! profits.
20
Di#emma: Shou#d the firm use retained earnin$s for:

a* 5inancing profitable capital investmentsS b* 'aying dividends to stockholdersS
Stock Returns
Return BP' 4 Po C D' Po BP' 4 Po C D' Po B P'4PD PD B D' PD Dividend ,ie#d Capita# :ain Po
Return BP' 4 Po C D' Po Po
If we retain earnings for profitable investments, Return BP' 4 Po C D' Po Po
2#
If we retain earnings for profitable investments, dividend yield will be ero, Return B P' 4 Po C D' Po Po
If we retain earnings for profitable investments, dividend yield will be ero, but the stock price will increase, resulting in a higher capital gain. Return BP' 4 Po C D' Po Po
If we pay dividends,
Return BP' 4 Po C D' Po Po
If we pay dividends, stockholders receive an immediate cash reward for investing, Return B P' 4 Po C D' Po Po
If we pay dividends, stockholders receive an immediate cash reward for investing, but the capital gain will decrease, since this cash is not invested in the firm.
2"
Conc#usion: So, dividend policy really involves > decisions "ow much of the firm@s earnings should be distributed to shareholders as dividends, and "ow much should be retained for capital investment.
Is Dividend Po#ic% ImportantThree vie/points:

'1 Dividends are Irre#evantE If we assume perfect markets )no ta!es, no If we pay a dividend,
transactions costs, etc.* dividends do not matter.
shareholders@ dividend yield rises, but capital gains decrease. Po B D' ;c4$ Po B D' ;c4$ In perfect markets, an increase in dividends Po B D'
Impact of Dividend on Stock Prices ;c4$
3$
In perfect markets, an increase in dividends means less money will be invested, so the growth rate declines. The increase in -: is offset by the decrease in g. 4onsequently, dividend policy does not affect stock price. Return BP' 4 Po C D' Po Po
Dividend irre#evance: In perfect markets, investors do not care if returns come in the form of dividend yields or capital gains. Return B P' 4 Po C D' Po Return B Po
P' 4 Po C D' Po Po
21 .i$h Dividends are est Some investors may prefer a certain dividend now over a risky e!pected capital gain in the future. 51 8o/ Dividends are Best -ividends are ta!ed immediately. 4apital gains are not ta!ed until the stock is sold. Therefore, ta!es on capital gains can be deferred indefinitely.
31
Do Dividends "atterOther Considerations: '1 Residua# Dividend Theor%: The firm pays a dividend only if it has retained earnings left after financing all profitable investment opportunities. This would ma!imi e capital gains for stockholders and minimi e flotation costs of issuing new common stock. 21 C#iente#e 0ffects: -ifferent investor clienteles prefer different dividend payout levels. Some firms, such as utilities, pay out over <8? of their earnings as dividends. These attract a clientele that prefers high dividends. 2rowth0oriented firms which pay low )or no* dividends attract a clientele that prefers price appreciation to dividends. 51 Information 0ffects: 9aising a firm@s dividend usually causes the stock price to rise and decreasing the dividend causes the stock price to fall.
32
-ividend changes convey information to the market concerning the firm@s future prospects. 61 A$enc% Costs: 'aying dividends may reduce agency costs between managers and shareholders. 'aying dividends reduces retained earnings and forces the firm to raise e!ternal equity financing. 9aising e!ternal equity subjects the firm to scrutiny of regulators )S#4* and investors and therefore helps monitor the performance of managers. F1 03pectations Theor%: Investors form e!pectations concerning the amount of a firm@s upcoming dividend. #!pectations are based on past dividends, e!pected earnings, investment and financing decisions, the economy, etc. The stock price will likely react if the actual dividend is different from the e!pected dividend.
33
Stock Dividends and Stock Sp#its

Stock dividendD stockholders. #!ampleD A company announced a 7? stock dividend to all shareholders of record. 5or each :88 shares held, shareholders received another 7 shares. -id the shareholders@ wealth increaseS Stock Sp#it: the firm increases the number of shares outstanding and reduces the price of each share. #!ampleD 3oule, Inc. announced a B0for0> stock split. 5or each :88 shares held, shareholders received another 78 shares. -oes this increase shareholder wealthS Are a stock dividend and a stock split the sameS payment of additional shares of stock to common
Stock Sp#its and Stock Dividends are economica##% the same:

the number of shares outstanding increases and the price of each share drops. The value of the firm does not change. #!ampleD A B0for0> stock split is the same as a 78? stock dividend. 5or each :88 shares held, shareholders receive another 78 shares.
0ffects on Shareho#der *ea#th: these will cut the company GpieH into
more pieces but will not create wealth. A :88? stock dividend )or a >0for0:
3)
stock split* gives shareholders > half0si ed pieces for each full0si ed piece they previously owned. 5or e!ample, this would double the number of shares, but would cause a TP8 stock price to fall to TB8.
+hy botherS 'roponents argue that these are used to reduce high stock prices to a Gmore popularH trading range )generally T:7 to T<8 per share*. &pponents argue that most stocks are purchased by institutional investors who have Tmillions to invest and are indifferent to price levels. 'lus, stock splits and stock dividends are e!pensiveE
Stock Repurchases
Stock 9epurchases may be a good substitute for cash dividends. If the firm has e!cess cash, why not buy back common stockS 9epurchases drive up the stock price, producing capital gains for shareholders. 9epurchases increase leverage, and can be used to move toward the optimal capital structure. 9epurchases signal positive information to the market 0 which increases stock price.
Impact of Dividend on Stock Prices 9epurchases may be used to avoid a hostile takeover.
3-
#!ampleD T. 1oone 'ickens attempted raids on 'hillips 'etroleum and 6nocal in :;O7. 1oth were unsuccessful because the target firms undertook stock repurchases.
Methods:
1uy shares in the open market through a broker. 1uy a large block by negotiating the purchase with a large block holder, usually an institution. )targeted stock repurchase* Tender offerD offer to pay a specific price to all current stockholders.
The a#anced vie/point
If a company has e cess cash, and few good pro!ects "#$%&'(, returning money to stoc)holders "dividends or stoc) repurchases( is *OO+. If a company does not have e cess cash, and,or has several good pro!ects "#$%&'(, returning money to stoc)holders "dividends or stoc) repurchases( is -A+.
DI7ID0(D PO8IC, A(D S.AR0 7A8)0

The dividend policy of a company determines what proportion of earnings is distributed to the shareholders by way of dividends, and what proportion is ploughed back for reinvestment purposes. Since the main objective of financial
3.
management is to ma!imi e the market value of equity shares, one key area of study is the relationship between the dividend policy and market price of equity shares. There are four mode#s avai#a #e to show the above relationship, these are briefly described as followsD
TRADITIO(A8 "OD08:
According to this model founded by 2raham and -odd, the market price of the shares will increase when a company declares a dividend rather than when it does not. Uuantitatively 'Km )-N#LB* +hereD ' is the market price per share , is a multiplier - is the dividend per share # is the earning per share
*A8T0R "OD08:
According to this model founded by 3ames +alter, the dividend policy of a company has an impact on the share valuation. Uuantitatively 'K )-N )#0-* rLk*Lk
Impact of Dividend on Stock Prices +hereD
30
', -, # has the same connotations as above and r is the internal rate of return on the investments and k is the cost of capital. The impact of dividend payment on the share price is studied by comparing the rate of return with the cost of capital.
+hen rVk, the price per share increases as the payout ratio decreases )optimal payout ratio is nil* +hen rKk, the price per share does not vary with the changes in the payout ratio )optimal payout ratio does not e!ist* +hen rRk, the price per share increases as the payout ratio increases )optimal payout ratio is :88?*
:ORDO( "OD08:
According to this model founded by ,yron 2ordon, the dividend policy of the company has an impact on share valuation. Uuantitatively 'K $ ):0b*L )k0br* +here ' is the price per share $ is the earnings per share b is the retention ratio :0b is the payout ratio br is the growth rate r is the return on investment
Impact of Dividend on Stock Prices k is the rate of return required by shareholders
3#
&n comparing r and k, the relationship between market price and the payout ratio is e!actly the same as compared to the +alter model.
"" "OD08: According to this model, as founded by ,iller and ,odigliani, the market price of the share does not depend on the dividend payout, i.e. the dividend policy is irrelevant. This model e!plains the irrelevance of the dividend policy in the following mannerD +hen profits are used to declare dividends, the market price increases. 1ut at the same time there is a fall in the reserves for reinvestment. "ence for e!pansion, the company raises additional capital by issuing new shares. Increase in the overall number of shares, will lead to a fall in the market price per share. "ence the shareholders would be indifferent towards the dividend policy.
3"
Chapter 2
)$
Indian Stee# Industr% A An Overvie/

Oth largest steel producer in the world 'roduction of 5inished steel in >88708P, C>.< mT, a growth of ::?. Apparent 4onsumption of 5inished Steel in >88708P 0 BO.:mT, growth of :8.O?. Apparent consumption of /ongs 0:P.> mT, 5lats 0 >:.O mT. /argest producer of Sponge Iron 0 :>.O mT in >88708P )a growth of >7?*. India@s e!ports of 5inished Steel in >88708P, C.C mT, Imports B.< mT "uge Iron &re reserves I >B bn. tonnes 'rivate Steel 'roducers are opting for 5orward as well as 1ackward Integration Indian Steel 'roducers are increasingly looking for overseas acquisitions in steel as well as raw materials.
<5 <0 (5 (0 25 20 '5 '0 5
'.25
5T 0+ ';< )
I(DIAGS CR)D0 ST008 PROD)CTIO( ?"T1 =.= .ISTORIC 5T TR0(DS

0+ '; (
0+ ';< )
India gains
0+ ';< )
0+ ';< 0 ) ';< 1")" 1"-3 1"-0 1".1 1".- 1"." 1"03 1"00 1"#1 1"#- 1"#" 1""3 1""0 2$$1 2$$) ';<
0+ independence ';<in 1")0 )
'=.2 5T 0+ ';;'
<'.( 5T 0+ 2005
)1
MODEST GROWTH SLOW GROWTH
HIGH GROWTH
Indian Steel Industr

* Year indicates FY
* Year indicates FY
4nabled b India%s 4conomic liberali5atio n
Apparent &inished Stee# Consumption ?mT1
6D 5F
CAGR A .0B
5IE6 55E5 5'E2 2IEK 2JE6 2HEF
mT
5D 2F 2D 'F 2F 25EF 22EH 2'EJ22E' 'IEJ '6EI'F 'FE5 K54K6 KF4KH KJ4KI KK4DD
'D K'4K2
D'4D2
D54D6
DF4DH
Indian Stee# Industr% A An Overvie/ "a!or P#a%ers Others

6DL
SAI8 22L
&inished Stee# Production 2DDF4DH

RI(8 JL Tata Stee# KL MS*8 IL
0ssar IL
Ispat HL
)2
C,5#"+6 05-0= CMT* SAIL ;.'5 T"$" S$%%9 (.) RINL (.0 ESSAR (.( ISPAT 2.= JSWL (.5 OTHERS ' .2 T,$"9 <2.
Source !"C
Indian Steel Industr S67( *nal sis
)3
S*OT A(A8,SIS O& I(DIA( ST008 I(D)STR,

STR0(:T.S
8 8 8 8 Abundant resources of iron ore /ow cost and efficient labour force Strong managerial capability Strongly globalised industry and emerging global competitiveness
Impact of Dividend on Stock Prices 8 8 8 ,odern new plants W moderni ed old plants Strong -9I production base 9egionally dispersed merchant rolling mills
))
*0A;(0SS0S
8 8 8 8 8 8 8 "igh cost of energy "igher duties and ta!es Infrastructure Uuality of coking coal /abour laws -ependence on imports for steel manufacturing equipments W technology Slow statutory clearances for development of mines
OPPORT)(ITI0S
8 8 8 8 8
"uge Infrastructure demand 9apid urbanisation Increasing demand for consumer durables 6ntapped rural demand Increasing interest of foreign steel producers in India
T.R0ATS
)-
8 8 8
Slow growth in infrastructure development ,arket fluctuations and 4hina@s e!port possibilities 2lobal economic slow down
(ationa# Stee# Po#ic%

Addressing the +eaknesses W "arnessing the &pportunities
OBM0CTI70
To have modern and efficient steel industry of world standards, catering to diversified steel demand.
).
To achieve global competitiveness in cost, quality, product0mi!, efficiency and productivity
To attain 5inished Steel production of ::8 mT pa by >8:;0>8
20';-20
Pr,-./$0,+ ''0
I5#,r$4 = .'B
E>#,r$4 2= '(.(B
C,+4.5#$0,+ ;0 =.;B
CAGR .(B CB"4% A 0<05*
STRAT0:,
Demand Side 9 9 9 Strengthening of delivery chain Interface between producers, designers of steel intensive products, fabricators and ultimate user 4reating awareness about cost0effective and technically efficient end0use of steel Supp#% side 9 9 9 9 #nhanced and easy access to critical inputs I iron ore W coking coal #!pansion and improvement in quality of infrastructure +ell developed financial market Increased focus on 9W-, training of manpower and integrated information services
)0
Strate$ies &or &ue##in$ Demand

8 8 5acilitate 9ural 4onsumption Increased usage in 1ridges, 4rash 1arriers, 5lyovers and 1uilding 4onstructions 8 4loser interaction between I%S-A2 L /arge 'roducers and ArchitectsL #ngineersL Students
H.2% #,$%+$0"9 .#40-% 0+ P%r C"#0$" C,+4.5#$0,+
SAI8GS :RO*T. P8A(S

mT 2DDF4DH .ot "eta# Crude Stee# Sa#ea #e Stee# '6EHD '5E6J '2EDF 2D''4'2 22EF 2'EH 2D
-Planned Investments o !S" #$# %n$ - Includes onl& gro'th in existing !nits
)#
&)T)R0 O& I(DIA( ST008 I(D)STR,
)"
Pro!ected per Capita consumption of &inished Stee# in India ?k$1

,ear
2D''4'2 2D'K42D 2D2642F 2D2K45D 2D5645F
Per Capita Stee# Consumption

6I ID ''D '5F 'JF
Impact of Dividend on Stock Prices IndiaGs current popu#ation is 4 'DFD mi##ion It is assumed that ti## 2DF'> popu#ation /ou#d e a out : 'E6 nE
-$
:RO*T. SC0(ARIOS
Optimistic Case "edium :ro/th Conservative 5in. Steel 4onsum0 4ons. ption 2rowth )mTpa* 9ate FEF? 6EF? 5? 5? JH ''I 'FI 2'2
5in. Steel 4onsum0 5in. Steel 4onsum0 4ons. ption 4ons. ption 2rowth )mTpa* 2rowth )mTpa* 9ate 9ate 2DDF4 2D2D 2D2D4 2D5D 2D5D4 2D6D 2D6D4 2DFD JEH? HEF? FED? FED? 'DD 'II 5DF 6KI HEK? FEF? 6ED? 6ED? KD < '6J 2'J 522
J - (lso pro)ected %& *ational Steel Polic&
I(DIA( ST008 I(D)STR, A BRI:.T &)T)R0

R0SO)RC0S
Abundant Iron &re reserves Strong ,anagerial skills in Iron and Steel making /arge pool of skilled ,an0power #stablished steel players with strong skills in steel making
-1
OPPORT)(ITI0S
"igh economic growth driven increasingly by industry 5aster 6rbanisation Increased 5i!ed Asset 1uilding Automobiles and component industry growth
PO8IC,
'ro0active stance of 2ovt. #ncouragement for overseas investments
-2
Chapter 5
*.AT *0 I(T0(D TO 0NP8OR0 The impact of dividend on the share prices. Intra and Inter sectorial analysis.
.O* *0 I(T0(D TO 0NP8OR0:
-3
(OT0: The dashed line shows the e!0dividend date. The line at the left indicates a span of :7 days prior to the e!0dividend date. The line at the right indicates a span of :7 days post the e!0 dividend date. 5or establishing the impact of dividend on market share price, we chose. the steel sector. The sector was deliberately chosen to bring in diversity in our analysis. The steel sector is a capital intensive industry which historically had been paying less dividend. The price fluctuation around the e!0dividend date is considered for our study. 'rior to the e!0dividend date, the market reacts to the dividend declared. The same is true for the market price fluctuation after the e!0dividend date. +e found out the market share price for various companies under the mentioned sectors. The difference between the market share price on the e!0dividend date and :7 days prior to date gives us the fluctuation in anticipation of the e!0 dividend. Similarly, the difference between the e!0dividend and the market share price on :7 days later to the e!0dividend gives us the fluctuation as the market@s reaction to e!0dividend. +e ran a regression to establish the coefficient of correlation between the anticipatory fluctuation and the -'S )dividend per share* and also between the post fluctuation and -'S. That apart a separate correlation is run between -'S and 'AT to establish whether companies declares dividend based on their net earnings.
S0CTORS C.OS0(
-)
ST008 SAI/ TATA ST##/ 3I%-A/
ASS)"PTIO(S:
:* -ividend the main reason behind the market price fluctuation pre and post the e!0dividend date. It is important to note here that market price fluctuates based on various quantitative andLor qualitative factors. It also depends on the speculation or future earnings. -ividend is just one factor that may )yet to be established in our project* affect the market share price. $et it is important
--
to assume that other factors here do not play a very important role in affecting the market share price. This assumption is possible because we took a very small time span of :7 days either way. >* -ividend is paid from 'AT. It can be assumed that dividend is paid by the net earnings after ta! and retaining some reserves for future investment which is decided by the company management and approved by the board of directors. 1ut this is not always the case. 5or instance, we find several instances where company paid dividend even though it had a negative earnings i.e. it made loss. This is done by shelling out money from the reserves or surplus so that the market sentiment of the investors does not turn sour. In our analysis we assumed that whatever 'AT is paid, it is through the net earnings that year.
-.
Chapter 6
Series #U #U #U #U #U #U #U
-ate >703ul08P >P03ul08P ><03ul08P >O03ul08P B:03ul08P :0Aug08P >0Aug08P
Data for SAI8 4 A88 from 2F4J42DDH to 2F4I42DDH 'rev 4lose &pen "igh /ow 4lose PP.: PO.B PO.; P;.77 <:.C7 <8.>7 P;.: P< P; P;.> P;.; <>.<7 <8.>7 P;.7 PO.P7 <8 <8.O <>.;7 <>.<7 <:.> <8.O7 P< P<.C P; P;.< P;.7 PO.C PO.P7 PO.B PO.; P;.77 <:.C7 <8.>7 P;.: <8.P
Total Trd Uty CP7B:;O 7C:C;>P P;7>OO> :7>:8>B7 7>7C8C7 7>:77>> CP>8PB:
Turnover in /acs B,:P<.B: B,<C7.:P C,O7<.:B :8,;87.:: B,<7;.<; B,P:<.OC B,>BO.BO

#U #U #U #U #U 09 #U #U #U #U #U #U #U #U #U #U B0Aug08P C0Aug08P <0Aug08P O0Aug08P ;0Aug08P ?e3 div1'D4Au$4DH )e! div :8 Aug*OL::L>88P :C0Aug08P :P0Aug08P :<0Aug08P :O0Aug08P >:0Aug08P >>0Aug08P >B0Aug08P >C0Aug08P >70Aug08P <8.P <:.C7 <:.; <8.:7 <B.O7 JHE' <P.> <<.C7 <<.P7 <<.; <P.:7 <P.; <7.P7 <<.P7 <8 PO PP PC P>
-0
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Series #U #U #U I/ #U #U #U
-ate ::0,ay08P :>0,ay08P :70,ay08P :70,ay08P :P0,ay08P :<0,ay08P :O0,ay08P
l0 8 :0 P A u g 08 P C 0A u g 08 P ; 0A u g 08 :C P 0A u g 08 : P O 0A u g 08 > P B 0A u g 08 P
> < 03 u
Data for TATAST008 4 A88 from ''4F42DDH to ''4H42DDH 'rev Total Trd 4lose &pen "igh /ow 4lose Uty PPO.: PB;.87 PCB.O7 P>:.7 7OP.P7 7<C.>7 P::.; P<7 PB;.; PCC PC8 7OB.O 7;8 P:8 P<7.C P7O PC< PC8 7;> P:O.7 P:8 PBC.> P>7.C 7<>.B7 PC8 7>7.7 7OB 7B8.> PB;.87 PCB.O7 7OP.P7 PC8 7<C.>7 P::.; 7C7.87 C7O7>:P C;C8PP8 ;C:8B>8 >88888 :8B:C:;; P;:C<>; ;7BB<PO
Turnover in /acs >;,;78.BB B:,;P>.P8 7<,PB7.PB :,>O8.88 7<,C8:.7: C:,;CC.C; 7C,878.;C

#U #U I/ #U #U #U 09 #U #U #U #U #U #U #U #U #U #U :;0,ay08P >>0,ay08P >>0,ay08P >B0,ay08P >C0,ay08P >70,ay08P e3 div 2H ma% >;0,ay08P B80,ay08P B:0,ay08P :03un08P >03un08P 703un08P P03un08P <03un08P O03un08P ;03un08P 7C7.87 78C.B PC8 C<8.; 7:8.<7 COB.; F'FEIF 7BO.;7 7P>.:7 7C< 7:<.> COO.;7 7:<.O C;C.C CO8.B7 CP8.; C>C.; 7<8 7:8 7>8 C<> 7:;.; C<O.< F'H 7C7 7PO.O 7BO 7B8 C;8 7B:.: CO8.87 C<B.:7 CP8 C>7
4lose <88 P88 788 C88 B88 >88 :88 8
-#
7<8 7:> 7>8 7:C 7>< 7>C.< FFJ 7<8 7PO.O 7BO 7B>.C 7>> 7C8 78:.7 CO<.C7 CP8 CP8.; C;7 CB8 7>8 CCB C<P.7 CPC F'D 7B; 7C8 C;>.P7 CO8.>7 CO: C;8.C C<>.B C78 C:O.: C>: 78C.B C<8.; 7>8 7:8.<7 COB.; 7:7.O7 F5IEKF 7P>.:7 7C< 7:<.> COO.;7 7:<.O C;C.C CO8.B7 CP8.; C>C.; C7P.87 O<:<C8P C;<BB:B ><88888 CBBC7OB CC<8OPC 7;C7CC; JI6HI52 7;8;<OC C:BB7;B PP88;O> 77O;C>8 777;B<; C7OPBCC 7B8><7P 7PCBB88 7:O77C8 CC87P>8 C7,PB7.:> >B,<PO.:; :C,8C8.88 >:,:P<.8; >>,PPB.7P >;,PPO.P8 62>6IFEIK B>,PCP.C7 >B,8BP.P7 BB,O8O.OP >O,PB<.O: ><,;8P.<: >B,78;.B; >7,O8:.<; >P,C:P.8O >>,P<;.;< :;,<<;.P>
price
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:;0,ay08P
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>C0,ay08P
B80,ay08P
:>0,ay08P
:70,ay08P
:03un08P
703un08P
<03un08P
Series #U #U #U #U #U #U #U
-ate B:0Aug08P :0Sep08P C0Sep08P 70Sep08P P0Sep08P <0Sep08P O0Sep08P
Data for MI(DA8ST008 4 A88 from 5'4I42DDH to 2K4K42DDH 'rev Total 4lose &pen "igh /ow 4lose Trd Uty :,78O.C7 :,CO>.87 :,788.<8 :,78O.>7 :,7>;.;8 :,7OC.O8 :,PC8.>7 :,7>B.88 :,CO8.:8 :,7>>.;7 :,78:.88 :,7P7.88 :,7<7.77 :,PC8.>7 :,7>7.88 :,78P.;7 :,7>>.;7 :,7BC.78 :,7;;.<7 :,PC;.O8 :,PP7.88 :,C<O.88 :,CO8.:8 :,788.88 :,78:.88 :,7B7.88 :,778.:8 :,P87.88 :,CO>.87 :,788.<8 :,78O.>7 :,7>;.;8 :,7OC.O8 :,PC8.>7 :,P>B.>8 :8>:BC >7;C> C8:8 :O:PP BP<87 P8<>7 B::OP
;03un08P
Turnover in /acs :,7B8.P> BO;.> P8.PB ><<.B< 7<P.> ;O;.<> 78;.C;

#U #U #U 09 #U #U #U #U #U #U #U #U #U #U #U ::0Sep08P :>0Sep08P :B0Sep08P e3 div '6 sep )e! div :C sept*;L:7L>88P :O0Sep08P :;0Sep08P >80Sep08P >:0Sep08P >>0Sep08P >70Sep08P >P0Sep08P ><0Sep08P >O0Sep08P >;0Sep08P :,P>B.>8 :,7B8.>7 :,7C;.<7 '>H'2EJD :,PCB.:8 :,P:C.<8 :,P8P.B8 :,7<:.;8 :,7<7.>7 :,P>;.O7 :,PP:.:7 :,PP7.C8 :,PPC.>8 :,P>O.;8 :,PC8.C7 :,P>:.78 :,7<8.88 :,7;8.88 '>H2DEDD :,P:>.88 :,P88.88 :,C;<.O7 :,777.88 :,7P8.78 :,P8>.88 :,P<8.88 :,P7P.:8 :,PP7.88 :,7PB.77 :,P7:.88 :,PBB.88 :,7<8.88 :,PB8.88 '>HF'EDD :,P>O.:8 :,PB7.88 :,P;8.88 :,7;;.O8 :,PBO.88 :,PO>.88 :,POP.<7 :,POC.O8 :,P;;.88 :,P;B.88 :,<>O.78 :,788.88 :,CO8.88 :,7P8.:8 '>FIFE2F :,7;8.88 :,P88.88 :,C;<.O7 :,7B8.:8 :,7P8.78 :,P8:.88 :,PP8.88 :,P>7.>8 :,P>7.88 :,7PB.77 :,P7:.88 :,7B8.>7 :,7C;.<7 :,P:>.<8 '>H65E'D :,P:C.<8 :,P8P.B8 :,7<:.;8 :,7<7.>7 :,P>;.O7 :,PP:.:7 :,PP7.C8 :,PPC.>8 :,P>O.;8 :,PC8.C7 :,<:>.88 CP7>B CO;B8 7<;;> 62J'F :PP7B :BO7P P::>B :CBB8 <7C:O 7>P8: ><CPC ><OBO COBBC PO>>O OOPBO
-"
<BO.>< <7:.PO ;B:.:C HKJE6H >PO.P; >>B.:P ;O;.:C >>P.> :,>:O.BB OP8.BC C7O.O< CPB.;< <;7.CC :,::8.P; :,7:C.;>
4lose :<78 :<88 :P78 :P88 :778 :788 :C78 :C88 :B78
price
4lose
:B0Sep08P )e! div :C sept*;L:7L>88P
::0Sep08P
:;0Sep08P
>:0Sep08P
>70Sep08P
><0Sep08P
DPS SAI8 TATA ST008 Minda# Stee# :.;CB> :>.P> :C.O:
Return?pre e3 dividend1 8.:7:>O7;B 08.>><OO78C< 8.8P;::8P<<
Return?post e3dividend1 8.88P7P:PO 08.:7BO:<P8O 8.8C:;B>;B>
These are the return which ST##/ sector is getting before and after e! dividend date.
>;0Sep08P
:0Sep08P
70Sep08P
<0Sep08P
.$
"ere the company Tata Steel is getting negative return of 08.>><O before e! dividend date and 08.:7BO after e! dividend date. &n the other side SAI/ and 3indal Steel are getting positive return both before and after e! dividend date, but the return of both the companies after e! dividend is lesser then what they are getting before e! dividend date. &verall the return pattern of different companies is fluctuating. One thin$ is to e noted hereE If you study the "istorical price volume data )given above* of the three companies carefully, you will find that the market price of all the three companies is increasing on that particular e! dividend day. This shows that there is some positive role of dividend in affecting the market price.
.1
Chapter F
SAI8
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COMPAND
SAI/ TATA ST##/ 3I%-A/ ST##/
DPS 34. PAT

8.;7<: 8.;;;; 8.PB><
:RAP. D0PICTI(: CORR08ATIO( B0T*00( DPS A(D PAT
.-
-'S vs 'AT :.> : 8.O 8.P 8.C 8.> 8 SAI/ TATA ST##/ 3I%-A/ ST##/ -'S vs 'AT
(he degree of correlation bet!een DPS and P*( is :uite fluctuating; <et the value is generall high for all !ith the lo!est being $;.320 of =indal Steel and highest being $;"""" of (ata Steel; It does conve the message that companies take into consideration the P*( before declaring the dividend;
CORR08ATIO( B0T*00( DPS 7S Anticipator% f#uctuation and DPS 7s Post f#uctuation

DPS A+$0/0#"$,r6 F9./$."$0,+ $;3." $;122 $;$$)
3I%-A/ ST##/
34. DPS 34. P,4$ F9./$."$0,+ $;2)1 $;$1$;$$2
COMPAND
SAI/ TATA ST##/
:RAP. D0PICTI(: CORR08ATIO( Anticipator% f#uctuation
B0T*00(
DPS
A(D
..
-'S vs Anticipatory 5luctuation 8.C 8.B7 8.B 8.>7 8.> 8.:7 8.: 8.87 8 SAI/ TATA ST##/ 3I%-A/ ST##/
-'S vs Anticipatory 5luctuation
(he degree of correlation bet!een dividend paid and the market%s anticipator fluctuation is :uite ver lo!; 2o!ever S*I> sho!s a little bit correlation of $;3." bet!een the DPS &Dividend per share) and *nticipator fluctuation i;e; pre market fluctuation; (ata Steel and =indal Steel sho! correlation of $;122 and $;$$) !hich !as ver lo!; It sho!s that the market had no anticipation before the e?-dividend date;
:RAP. D0PICTI(: CORR08ATIO( B0T*00( DPS A(D Post &#uctuation

-'S vs 'ost 5luctuation 8.B 8.>7 8.> 8.:7 8.: 8.87 8 SAI/ TATA ST##/ 3I%-A/ ST##/ -'S vs 'ost 5luctuation
.0
(he degree of correlation bet!een DPS and the post e?-dividend market price fluctuation is :uite lo! indicating that market did not respond either !a @ post the e?dividend date;
.#
Chapter H
."
CO(C8)SIO(
:. -ividend has a positive impact on the share price according as per our finding. "owever, the effect is not very profound and is rather low. >. The low degree of correlation especially when we compared the long term market share price with the dividend indicates that there e!ists Gother factorsH which affects the market share price. The impact of these Gother factorsH increase as the time consideration increases. B. +e also found out through our study that prices rose faster in case of those shares where dividends were declared in form of stock options rather than cash payments. C. -ividend is related to cash flow and not reported earnings. This was a certain e!tent corroborated in our project also where we found out that the amount of dividend paid is not in direct proportion to the profits. In certain cases companies paid dividend even though it reported loss. 7. +e also found out that in the long run the market share price rose fast for a company which paid low dividend in the past. #!cluding e!traneous circumstances we assume that the market values dividend payout less than the capital gains it accrues due to retention and reinvestment of surplus funds. P. 5or companies having high percentage of institutional investors, market price of stock rose faster. This can be partly e!plained by the fact that
0$
unlike retail investors, institutional investors are more interested in capital appreciation and seek lesser dividend.
Recommendation
It is a matter of fact that dividends are declared by a company primarily to generate capital and also at certain times to maintain the market sentiment. It is in the best interests of the company to ma!imi e the market value of its share and companies use dividend as a tool to maintain their corporate image. "owever, the degree of correlation between the dividend and the market price is low which implies that several other internal and e!ternal factors affect the market value of shares. ,y study over the topic XImpact of -ividend on Stock 'rices@ shows that dividend has a positive impact on the share price according as per our finding. "owever, the effect is not very profound and is rather low. There are other factors which also play an important role to effect market price of the share. -ividends are declared at the annual general meeting of our shareholders, based on recommendations of the board of directors. The board recommends dividends at its discretion. 2enerally, the factors that the board may consider before making any recommendation include )but are not limited to* future e!pansion plans and capital requirements, profit earned during the financial year, overall financial conditions, the cost of raising funds from alternative sources, liquidity, applicable ta!es )including ta! on dividend* as well as e!emptions under ta! laws available to various categories of investors from time to time, and money market conditions. +hatever the reason of different companies for issuing dividend, but the main purpose behind it was to have a positive impact on their shares.
01
As far as my knowledge is concerned dividend are the right of the shareholders and if the companies have surplus money then they must issue dividends. The investor would not be able to know the inner position of the company, if the company doesn@t want to disclose it. They normally judge the position of the company whether it is good or bad, whether it is advisable to invest in that particular company or not, on the bases of the companies@ dividend policies. -ifferent companies have different dividend policiesF it depends on company which policy is good for them. The low degree of correlation especially when we compared the long term market share price with the dividend indicates that there e!ists Gother factorsH which affects the market share price. The impact of these Gother factorsH increase as the time consideration increases. Therefore I would like to recommend that in above case where companies who are not in good position to give high dividend should not go for it. It may be possible that because of issuing dividend, these types of companies would be able to increase the market value of their shares, but the effect of such increase in share value will be for a short period only. In long term market will definitely correct itself and return to its actual position. I just want to say that this effect in market price will be for a short span of time. If you really want to take the benefit in the long term then it@s better to look for other options. /ike in the case of the Steel Sector, there are lots of options available for this sector. 9ight now this sector is on booming side. It is better for this sector to invest its profit for further growth, which will increase its value in the future )in long term*. After such investment if still they left with enough surplus then they can distribute it in their shareholders as the dividend. I also found out through my study that prices rose faster in case of those shares where dividends were declared in form of stock options rather than cash payments. Therefore those companies who don@t have enough reserve
02
to pay dividend, it@s better for them to give stock dividend instead of cash dividend.
8I"ITATIO(S
:. +e ignored the effect of other factors on market share price. #ven though a short time span of around :7 days ensures that the effect of other factors is minimal, yet it cannot be ruled out. >. +e have considered only one sectors and three companies for our analysis and thus generali ation is not easy or recommended. B. +e have not considered e!traneous factors like the impact of e!pansion plans or possible strife between management and ownership in the intervening period which would have a major impact on the share prices. C. +e have not taken into account the declaration of dividend date and this is a very important factor that we have overlooked, due to which our analysis may be flawed. As based on the declaration of the amount of dividend, the price of the share may go up or low and we may not have factored in this all important change due to be short of data and time .As a result our true base may be flawed on which we are basing our calculations and we may not be able to capture the true results. 7. 'AT need not necessarily be paid from the net earnings. It sometime is paid from the reserves and surpluses. This we failed to capture.
03
Chapter J
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Bi #io$raph%
www. moneycontrol.com www.moneypore.com www.indiainfoline.com www.sail.org www.jindalsteel.co.in www.tatametaliks.co.in www.investorwords.comL:78;Ldividend.html www.teenanalyst.comLglossaryLdLdividend.html www.atlanticfinancial.comLdictionaryL dividend.htm www.answers.comLtopicLcumulative0dividend www.nseindia.com www.bseindia.com www.google.com www. finance.yahoo.com 5undamenals &f 4orporate 5inance Y9oss0+eterfield03ordanZ 4orporate 5inance Y[han W 3ainZ 5inancial Staement Analysis YI.,. 'andeyZ 5inancing W -ividend -ecisions
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Chapter I
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Impact of Dividend On Stock Prices

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THESIS TOPIC IMPACT OF DIVIDEND ON STOCK PRICES

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SUBMITTED BY: AVINASH KHANDELWAL PGP/FW/2005-0