Factors influencing dividend payout decisions: Evidence from South Africa

Nyere, Lovemore; Wesson, Nicolene Article Factors influencing dividend payout decisions: Evidence from South Africa South African Journal of Business Management Provided in Cooperation with: University of Stellenbosch Business School (USB), Bellville, South Africa Suggested Citation: Nyere, Lovemore; Wesson, Nicolene (2019) : Factors influencing dividend payout decisions: Evidence from South Africa, South African Journal of Business Management, ISSN 2078-5976, African Online Scientific Information Systems (AOSIS), Cape Town, Vol. 50, Iss. 1, pp. 1-16, https://doi.org/10.4102/sajbm.v50i1.1302 This Version is available at: https://hdl.handle.net/10419/218709 Standard-Nutzungsbedingungen: Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden. Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen. 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South African Journal of Business Management ISSN: (Online) 2078-5976, (Print) 2078-5585 Page 1 of 16 Original Research http://www.sajbm.org Open Access Authors: Lovemore Nyere1 Nicolene Wesson1 Affiliations: 1University of Stellenbosch Business School, Cape Town, South Africa Corresponding author: Nicolene Wesson, nicolene.[email protected]a Dates: Received: 08 Nov. 2018 Accepted: 17 Apr. 2019 Published: 26 June 2019 How to cite this article: Nyere, L., & Wesson, N. (2019). Factors influencing dividend payout decisions: Evidence from South Africa. South African Journal of Business Management 50(1), a1302. https://doi.org/ 10.4102/sajbm.v50i1.1302 Copyright: © 2019. The Authors. Licensee: AOSIS. This work is licensed under the Creative Commons Attribution License. Introduction Dividend payout decisions remain one of the most fundamental finance problems that keep puzzling researchers. This has been a subject of debate in financial literature since Miller and Modigliani (1961) concluded that dividend payout is irrelevant in perfect capital markets. Despite extensive research and an increasing number of factors identified in the literature as determinants of dividend payout, there is no universal, conclusive explanation on how companies make dividend payout decisions (Al-Malkawi, Rafferty, & Pillai, 2010; Baker & Weigand, 2015). The determinants of dividend payout cannot be reduced to a single universal model because of varying sensitivities to country-, company- and market-specific characteristics (Baker & Weigand, 2015). South Africa is no exception to this corporate finance problem. An increasing number of companies in South Africa are still paying cash dividends and investors pay close attention to dividend payout announcements (Makka, 2014; Viviers, Firer, & Muller, 2013; Wesson, Bruwer, & Hamman, 2015). Generally, investors react negatively to dividend reductions by South African listed companies (Lentsoane, 2012). This is characteristic of contemporary financial markets that are distinguished by information asymmetry, and prudent and, often, irrational investors (Borges, 2008). The question that arises is the following: What are the factors that South African companies consider when making dividend payout decisions? This study answers this question by analysing dividend payout trends of industrial companies listed on the Johannesburg Stock Exchange (JSE) for the period 1999–2014. Factors influencing dividend payments have been extensively researched Background: Dividend payout is one of the most debated contemporary corporate finance issues. No universal theoretical model describes the factors that corporate managers consider in dividend payout decisions. This study extends previous South African empirical research on dividend payout trends and motivations for Johannesburg Stock Exchange (JSE)-listed industrial companies over the period 1999–2014. The study period coincides with the introduction of share repurchases as an alternative distribution method, covers multiple dividend distribution regulatory amendments and overlaps the global financial crisis of 2008. Objectives: The aim of this study was to ascertain whether the global financial crisis of 2008 affected dividend payouts and to identify factors that influenced dividend payout decisions of JSE-listed industrial companies over the period 1999–2014. Method: Descriptive statistics and a fixed-effects panel regression analysis were applied to dividend data extracted from published annual reports of JSE-listed industrial companies over the period 1999–2014. Results: Dividend distributions of JSE-listed industrial companies increased over the study period in contrast to declining global dividend distribution trends. A significant increase in dividend payout was found when comparing pre- and post-recession periods, in line with the positive impact of dividend distribution regulatory reforms. Company size (+), profitability (+), sales growth (-) and free cash flow (-) were identified as significant factors that influence dividend distributions of JSE-listed industrial companies. Conclusion: The results offer support for the company life cycle hypothesis, the taxes and clientele hypothesis and corporate managers’ preference for stable dividend policies. Keywords: Dividends; dividend payout; dividend trends; company life cycle hypothesis; taxes and clientele hypothesis. Factors influencing dividend payout decisions: Evidence from South Africa Read online: Scan this QR code with your smart phone or mobile device to read online. Page 2 of 16 Original Research http://www.sajbm.org Open Access in developed countries, but limited evidence from emerging markets such as South Africa exists (Forti, Peixoto, & Alves, 2015). On the African continent, efforts are continuing to deepen liquidity and to provide investment opportunities to foreign and domestic investors (PwC, 2017). Understanding the country-, company- and market-specific behaviour pertaining to dividend payout decisions is therefore pertinent to all capital markets’ participants. The timeframe of the present study was characterised by a number of regulatory changes (e.g. the introduction of share repurchases as an alternative distribution method, the strengthening of liquidity and solvency requirements pertaining to distributions and the change to a dividend withholding tax [DWT] regime) affecting dividend distributions in South Africa, as well as the impact of the global financial crisis of 2008. These changes offered research opportunities to understand the factors influencing corporate dividend distribution trends of JSE-listed industrial companies. This study is expected to provide greater insights for corporate managers, investors and government regulatory authorities into the dividend payout behaviour of JSE-listed industrial companies. Corporate managers may use the results of the study to formulate dividend payout policies based on the emerging dividend distribution trends. Investors seeking to construct dividend income investment portfolios will enhance their ability to select high-quality stocks within JSE-listed industrial companies. Compliance regulators, such as government authorities, will obtain an understanding of the impact of the regulatory changes on corporate dividend distribution behaviour and the operation of financial markets. The study is structured as follows: the next section provides a review of relevant global and South African theoretical dividend payout literature, followed by the research method, the reported results and finally the concluding remarks. Literature review When a company realises net profit after tax, it can reinvest the profit in current operations, distribute the profit to shareholders in the form of dividends, pay off existing debt or use the funds to repurchase its shares from the shareholders. Therefore, the decision to distribute available profits is a very important one because it can affect the value of the company (Firer, Ross, Westerfield, & Jordan, 2012). In this section, global and South African literature is reviewed with respect to dividend payout trends and the factors that influence dividend distribution decisions. Global dividend distributions The issue of corporate dividends dates back to the early 16th century in Holland and Great Britain when captains of sailing ships started selling financial claims to investors that entitled them to share in any proceeds of the voyages (Al-Malkawi et al., 2010). Over time, corporate managers realised the importance of dividend payments in satisfying the expectations of shareholders. They often smoothed dividends in order to avoid the potential negative impact of dividend reductions on share prices (Al-Malkawi et al., 2010). During the 19th and early 20th centuries, dividend distributions increased and contributed significantly to shareholder investment returns (Baker & Weigand, 2015; Straehl & Ibbotson, 2017). Today, however, global dividend distributions are in striking contrast to their historical levels. Since 1960, 81% of Standard & Poor’s 500 (S&P 500) index returns can be attributed to reinvested dividends and the power of compounding (Hartford Funds, 2016). However, dividend yields have declined over time. The median dividend yield for the period 1970–2015 was 4.33%, with yields peaking in the 1980s and bottoming in the 2000s (Multpl, 2017). Prior to the mid-1980s, companies in developed countries used cash dividends as the dominant means to distribute cash to shareholders. Since then, share repurchases have become popular as an alternative cash distribution method. As share repurchases grew, the proportion of profits paid out remained unchanged, suggesting that share repurchases supplanted dividends. The popularity of share repurchases can be attributed to their greater flexibility compared to a schedule of fixed quarterly or half-yearly dividends (Baker & Weigand, 2015). In Europe and Asia, where dividends have played a bigger role than in America, companies have greatly increased the use of share repurchases (The Economist, 2014). In addition to the flexibility advantages of share repurchases over dividends, taxes also account for the growing popularity of share repurchases relative to dividends. In many developed countries, dividend income has generally been taxed at higher rates than capital gains (Clayman, Fridson, & Troughton, 2012). Therefore, in cases where taxes on dividends are higher than taxes on capital gains, investors may prefer capital gains from investments such as share repurchases to dividend payments. Dividend distributions in South Africa The South African dividend distribution context has undergone a radical change with the promulgation of the Companies Amendment Act 37 of 1999 (RSA, 1999), allowing companies to repurchase their shares. Since 01 July 1999, companies could return cash to shareholders not only through dividends but also by repurchasing shares. Section 90 of the Companies Amendment Act 37 of 1999 (RSA, 1999) stipulates that companies may distribute dividends provided liquidity (ability to pay debts as they fall due) and solvency (total assets after dividend distribution exceeds total liabilities) requirements were met. Section 46 of the new Companies Act 71 of 2008 (RSA, 2008), effective from 01 May 2011, strengthens the requirements pertaining to all types of distributions made by a company by including more stringent Page 3 of 16 Original Research http://www.sajbm.org Open Access solvency and liquidity considerations prior to any distribution. The new Companies Act of 2008 (RSA, 2008) also stipulates that companies no longer need to have share premium accounts, and subsequently many companies have converted their share premium accounts to stated capital (and non-par shares). In addition to the Companies Act changes, there were also several changes to the South African Income Tax Act with respect to dividend distribution taxation during the study period (1999–2014). In terms of sections 64D to 64N of the Income Tax Act of 1962 (RSA, 1962), the main amendments entail the changing from a secondary tax on companies (STC) to a DWT regime, effective from 01 April 2012. Under the STC regime, a company distributing the dividend was taxed on dividend payments distributed from retained earnings, whereas dividends distributed from capital (namely, share premium and capitalised profits) generally did not attract STC (Wesson et al., 2015). The source of the distribution (i.e. retained earnings vs. share premium) was therefore important when ascertaining the tax effect of dividend payments (Wesson et al., 2015). As from 01 April 2012, STC was replaced by DWT in order to align South Africa with global distribution norms where dividend recipients, not the company paying dividends, were liable for the tax (SARS, 2017). Prior to 01 April 2012, the tax implications for share repurchases and dividend payments by South African companies were generally similar: STC was levied on the distribution made (excluding the repayment of share capital and capitalised profits). There was, however, no STC levied on share repurchases made by subsidiaries (Wesson et al., 2015), nor on share repurchases by the holding company from their subsidiaries during the period prior to 01 October 2007 (Wesson & Hamman, 2012). As from 01 April 2012 (under the DWT system), the tax treatment of share repurchases varies depending on the type of share repurchase used. There are two main types of share repurchases: (1) general (or open market) repurchases where a company buys back its own shares on the open market and (2) specific repurchases comprising pro rata tender offers and private offers to a specific group of shareholders (Wesson et al., 2015). Specific share repurchases are liable for DWT, whereas general share repurchases are DWT exempt (and taxable in terms of the capital gains tax regulations). Dividend withholding tax was introduced in order to make South Africa an attractive investment destination by eliminating double taxation of corporates (under the STC regime) and increasing corporate accounting profits (SARS, 2017). Therefore, the South African income tax reforms were expected to positively impact the dividend distributions by JSE-listed industrial companies and not to fully mirror the declining dividend yields in developed countries. South African studies incorporating share repurchases and dividends as a payout option found that dividends were still the preferred distribution method when compared to share repurchases for JSE-listed companies (excluding the basic resources and financial sectors) over the period 1999–2009 (Bester, 2008; Wesson et al., 2015). Aggregate dividend distributions were dominated by a few companies paying dividends every year. Dividends paid from profits were the favoured dividend type, representing 75% of total dividend payment value. Special dividends and dividends paid from share premium attributed only 13% and 11%, respectively (Wesson et al., 2015). De Vries, Erasmus, Hamman and Wesson (2012) examined whether the introduction of specific share repurchases in 1999 resulted in changes in the dividend payout of JSE-listed companies for the period 1990–2009 and also found that companies that participated in specific share repurchases did not lower their dividend payments in order to repurchase shares. Consistent with the study by Firer, Gilbert and Maytham (2008), share repurchases were found to complement, rather than substitute, dividends. Viviers et al. (2013) found that the number of JSE-listed companies paying dividends decreased substantially over the period 1977–2011. The results showed that young and small companies in the resources, financial and cyclical services sectors paid low dividends. Earnings and dividends proved to be highly concentrated among the larger listed companies, and significant differences were observed between sectors. Dividend payout theories The seminal paper of Lintner (1956) formed the foundation of contemporary theoretical attempts to explain the factors that corporate managers consider when making dividend payout decisions. Among other findings, the study concluded that dividend decisions are based on current earnings and the dividends of the previous year. In addition, Lintner (1956) found that managers first define dividend policies followed by other policies on issues such as investments, debts and cash holdings. Overall, Lintner (1956) found that American corporate managers view dividends as a reflection of profit growth sustainability. Lintner’s paper was followed by the controversial work of Nobel Prize winners Miller and Modigliani (1961). They argued that in perfect markets without taxes and transaction costs, the payment of dividends does not have an impact on the value of a company and is therefore irrelevant. Shareholders, they observed, hold the same value whether a company pays dividends or not. Contrary to the conclusions of Miller and Modigliani (1961), capital markets are neither frictionless nor perfectly efficient. To accommodate imperfect markets, researchers have since considered the role of taxes, asymmetric information, transaction costs, the desire to signal to the market the true worth of a company and the need to curb potential overinvestment by management. The work of Baker and Weigand (2015), presented in Table 1, provides s summary of the important dividend payout theories and explanations suggested by different researchers in response to Miller and Modigliani’s (1961) conclusions. Page 4 of 16 Original Research http://www.sajbm.org Open Access A striking feature of these theories and explanations is that the results are far from unanimous and elude any single theory. Convincing empirical support for the agency costs and asymmetric information explanations were found compared to the tax preference explanation (Baker & Weigand, 2015). Baker and Weigand (2015) also found that recent theories involving behavioural considerations, company life cycle theory and catering theory provided useful insights despite producing some mixed results. For the purpose of the present study, the effect of South African regulatory changes may warrant the taxes and clientele theory to be specifically relevant during the target period of this study. Global empirical studies Several studies in both developed and emerging economies have tested empirical evidence of the factors that influence dividend distributions. Table 2 summarises notable global studies that reported significant factors that influence dividend payout decisions and their positive (+) and negative (-) relationship with dividend payout. The review of global studies below highlights the dividend payout conundrum, that is, the factors that influence TABLE 2: Global studies on factors that influence dividend payout. Empirical study Country and significant dividend payout determinants Nizar Al-Malkawi (2007) Jordan: Insider shareholding (+), company size (+), company age (+) and profitability (+) Denis and Osobov (2008) United Kingdom, United States of America (USA), Canada, Germany, Japan and France: Company size (+), profitability (+) and retained earnings (+) Denis and Stepanyan (2009) North America: Company size (+), profitability (+), growth opportunities (-), company maturity (+), regulation (+), leverage (+), insider stock holdings (-) and institutional stock holdings (+) Al-Kuwari (2009) Gulf Arab States/Gulf Cooperation Council (GCC): Government ownership (+), company size (+), profitability (+) and debt (-) Musa (2009) Nigeria: Previous dividend (-), current earnings (+) and cash flow (+) Gill, Biger and Tibrewala (2010) USA: • Entire sample – profitability (+), corporate tax (+), sales growth (-) and debt-to-equity ratio (-) • Services industry – profitability (+), sales growth (-) and debt-to-equity ratio (-) • Manufacturing industry – profitability (-), corporate tax (+) and market-to-book value (+) Kapoor, Anil and Misra (2010) India: Fast Moving Consumer Goods (FMCG) sector – cash flows (-), investment opportunities (-), company size (+), profitability (+), retained earnings (-), capital expenditure (-), systematic risk (+), earnings variability (+), financial risk (+) and long-term solvency (+) Moradi, Salehi and Honarmand (2010) Iran: Profitability (+), price earnings ratio (-), beta rate (-) and debt ratio (-) Imran (2011) Pakistan: Previous dividend per share (+), earnings per share (+), profitability (+), cash flow (-), sales growth (+) and company size (+) Hellström and Inagambaev (2012) Sweden: • Large Cap companies – free cash flow (+), growth (-) and risk (-) • Medium Cap companies – free cash flow (-), leverage (-), risk (-) and size (+) Mehta (2012) United Arab Emirates: Profitability (+) and company size (+) Adu-Boanyah, Ayentimi and Osei-Yaw (2013) Ghana: Profitability (+), company size (+) and previous year’s dividend (-) Nnadi, Wogboroma and Kabel (2013) Twenty-nine stock exchanges in Africa: Profitability (+), company age (+), market capitalisation (+) and financial leverage (-) Uwuigbe (2013) Nigeria: Financial performance (+), company size (+) and board independence (+) Abor and Fiador (2013) Sub-Saharan Africa: • Other countries – board composition (+/-), board size (-), chief executive officer duality (-), institutional shareholding (+) • South Africa – institutional shareholding (+) Arko, Abor, Adjasi and Amidu (2014) Sub-Saharan Africa: • Other countries – profitability (+), investment opportunities (+), taxation (-), leverage (-), institutional shareholding (-) and risk (-) • South Africa – profitability (+), investment opportunities (+), company size (+), leverage (-) and risk (-) Baah, Tawiah and Opoku (2014) Ghana: Return on equity (+), profit after tax (+) and company size (+) Ahmed and Murtaza (2015) Pakistan: • Energy sector – earnings per share (+) and leverage (+) • Cement sector – liquidity (+) • Oil sector – earnings per share (+) • Sugar sector – earnings per share (-), firm size (+) and profitability (+) Forti et al. (2015) Brazil: Company size (+), returns (+), market-to-book value (+), liquidity (+), control (+), profit growth (+), leverage (-), corporate governance (-), risk (-) and information asymmetry (-) Note: Please see the full reference list of the article, Nyere, L., & Wesson, N. (2019). Factors influencing dividend payout decisions: Evidence from South Africa. South African Journal of Business Management 50(1), a1302. https://doi.org/10.4102/sajbm.v50i1.1302, for more information. TABLE 1: Major theories and explanations for paying dividends. Theories Description and implications Empirical evidence Bird-in-the-hand Gordon (1959) and Lintner (1962) argued that investors prefer the certainty of dividend payments to the possibility of substantially higher future capital gains. Therefore, corporates should keep dividend payments high in order to maximise shareholder value. Mixed Taxes and clientele Investors prefer that companies retain cash instead of paying dividends when tax rates are higher on dividends than on long-term capital gains (Black & Scholes, 1974; Miller & Modigliani, 1961). If the tax rate on dividends is higher than capital gains tax, corporate managers should reduce dividend payments in order to maximise the price of shares. Mixed Asymmetric information (signalling) A company’s announcements of an increase (or decrease) in dividend payouts act as an indicator of strong (or weak) future prospects (Grullon, Michaely, & Swaminathan, 2002). Investors can infer information about a company’s future earnings through the signal coming from dividend announcements, both in terms of the stability of and changes in dividends. Thus, managers should be aware of market reactions before they make dividend policy decisions. Mixed Agency costs Companies pay dividends to align the interests and mitigate the agency problems between managers and shareholders by reducing the discretionary funds available to managers (Jensen & Meckling, 1976). Holding excess cash balances increases managers’ degree of investment flexibility that can be detrimental to shareholders if the managers overindulge in expensive investment projects or pricey executive remuneration packages. Mixed Behavioural explanations Investors prefer dividends for psychological reasons relating to self-control, mental accounting and hedonic editing. Age, income and retirement status also influence investor preference (Coleman, 2016). Older and retired investors and low-income households show increased demand for dividends for purposes of consumption and risk reduction. Mixed Company life cycle theory The life cycle theory of dividends suggests that as a company matures, its ability to generate cash overtakes its ability to find profitable investment opportunities (Mueller, 1972). Therefore, the optimal choice is for the company to distribute its free cash flow to shareholders in the form of dividends. Generally supported Catering theory Prevailing investor demand for dividend payers influences the decision to pay dividends (Baker & Wurgler, 2004). Therefore, managers need to cater for investor demand for dividends by paying dividends when investors prefer dividend-paying companies and by not paying or reducing dividends when investors prefer non-dividend-paying companies (Baker & Weigand, 2015). Mixed Source: Baker, H. K., & Weigand, R. (2015). Corporate dividend policy revisited. Managerial Finance, 41(2), 126–144. https://doi.org/10.1108/MF-03-2014-0077 Page 5 of 16 Original Research http://www.sajbm.org Open Access dividend payout are inconclusive and vary considerably between countries and within different sectors of the same country. However, some factors such as profitability, current earnings, company size and cash flows show strong correlation with dividend payout decisions. South African studies In studying dividend payout decisions, researchers typically rely on two complementary approaches, that is, using statistical analysis of published financial data to test various hypotheses about dividend policy and using survey methodology to obtain primary data about dividend policy from corporate managers (Baker & Weigand, 2015). In South Africa, two comprehensive survey studies on factors influencing dividend payments were completed by Firer et al. (2008) and Sibanda (2016). A review of South African literature on the determinants of dividend payout since the introduction of share repurchases and DWT in 1999 and 2012, respectively, as well as the effect of the 2008 financial crisis, showed limited evidence of studies based on published financial data, one of the objectives the present study satisfied. Firer et al. (2008) and Sibanda (2016) conducted comprehensive surveys to establish the key factors that JSE- listed corporate executives consider when making dividend payout decisions. In both studies, the corporate executives indicated stability of future earnings, availability of good investment opportunities, availability of cash or liquid assets and maintaining smooth dividend payout as key considerations when making dividend payout decisions. Firer et al. (2008) and Sibanda (2016) reported that 74% and 67% of their study participants, respectively, agreed that the consequences of reducing dividends were severe, stressing the importance of dividend smoothing. Sibanda (2016) observed that a temporary change in earnings was a less important consideration. With respect to dividend taxation, Firer et al. (2008) found liability for corporate tax (STC) and floatation costs associated with issuing additional equity capital as less important considerations. Sixty-one per cent of respondents surveyed by Sibanda (2016) indicated the importance of dividend payout decisions relative to investing and financing decisions. Studies using statistical analysis of published financial data include the study of Arko et al. (2014) that examined the determinants of the dividend decisions of companies in sub-Saharan Africa over the period 1997–2007. The sample set was drawn from the financial services, mining, manufacturing, agriculture, food and confectionery and services sectors. The study found that South African companies set dividends to reflect improvements in their fundamental financial records (higher profitability levels, higher growth opportunities and larger company size), while dividend omissions and reductions reflected negative company fundamentals (increased risk, both earnings volatility and financial risk). In addition, South African companies maintained stable dividend distributions in response to both an active investor community and an information-efficient market. Mans-Kemp (2015) and Abor and Fiador (2013) investigated the relationship between corporate governance and dividend payout ratios (DPRs) of JSE-listed companies. Mans-Kemp covered the period 2002–2010, while Abor and Fiador examined sub-Saharan African companies over the period 1997–2006. Mans-Kemp (2015) found that companies exhibiting sound corporate governance compliance typically pay high dividends, and the mean annual corporate governance scores and dividend payout of the companies increased, except in 2008 and 2009, probably owing to the global financial crisis. Abor and Fiador (2013) found that only institutional shareholding (as a proxy for corporate governance) showed a significant positive relationship with dividend payout in South Africa during the period 1997–2006. Sibanda (2014) analysed the appropriateness of Lintner’s (1956) dividend smoothing model using a sample of 45 JSE- listed companies over the period 1995–2011. Despite a reduction in the number of dividend-paying companies, the results showed that JSE-listed companies tend to smooth their dividends over time. This conclusion was in contrast to an earlier study by Wolmarans (2003), who concluded that Lintner’s (1956) model was not an entirely appropriate fit for explaining South African dividend payments. However, Wolmarans (2003) used a very small sample size owing to data limitations, and this could have influenced the results. Vermeulen and Smit (2011) found that, contrary to conventional wisdom, South African companies with high DPRs tend to realise stronger future earnings growth. The study covered the period 1973–2009 and included companies from 10 industries: oil and gas, basic materials, industrial, consumer goods, healthcare, consumer services, telecommunications, utilities, financial and technology. Mtshali (2016), however, found a strong positive relationship between changes in dividends and current earnings, but no significant relationship with future earnings. The study covered the period 2003–2013 and analysed 226 dividendpaying companies. Consistent with Lintner’s (1956) model on dividend policy, companies that had increased their dividends were found less likely to experience a reduction in earnings, as opposed to the no-change or dividenddecrease groups. Wesson, Smit, Kidd and Hamman (2018) incorporated share repurchase and dividend behaviour of JSE-listed companies (excluding the basic resources and financial sectors) over the period 1999–2009 and investigated the factors influencing a company’s choice between open market share repurchases and special dividend payments. Shareholder heterogeneity, the size of the distribution and the level of company undervaluation were significant determinants affecting the payout choice in South Africa. Smaller companies, with Page 6 of 16 Original Research http://www.sajbm.org Open Access fewer shareholders and public investors, favoured open market share repurchases over special dividends. Higher directors’ ownership and debt levels were associated with open market share repurchases and companies already paying high dividends tended to favour special dividends. Study variables and hypotheses The choice of company-specific variables investigated in the present study is motivated by global and South African literature, as well as the availability of reliable JSE-listed industrial sector data. Table 3 presents a summary of the factors used in this study and their expected relationship with DPR, the dependent variable. Company size Large and mature companies tend to pay higher dividends than companies that are growing and consolidating in the market (Denis & Stepanyan, 2009; Forti et al., 2015; Nizar Al- Malkawi, 2007). Unlike large companies, small companies usually face relatively abundant investment opportunities with limited resources and they rely heavily on internally generated funds to fund capital requirements (DeAngelo, DeAngelo, & Stulz, 2006). Two measures were used in the present study as proxies for company size, that is, numerical variable market capitalisation (SIZE) and a categorical variable JSE index classification (CLS). Therefore, SIZE and CLS variables were expected to have a positive relationship with DPR in this study. Company risk This study employed two measures of business risk: company systemic risk (BETA) and debt to equity (LVRG). Global empirical evidence on the relationship between company risk and dividend payout has been found to be inconclusive. Some studies found that companies facing greater risks because of high debt levels are more reluctant to pay high dividends because of future uncertainty of cash flows (Forti et al., 2015; Hellström & Inagambaev, 2012; Makka, 2014). In order to minimise the risk of failing to service their debts or liquidation, companies with high debt levels tend to lower their dividend payout. In contrast, other studies found a positive relationship between dividend payout and the level of debt (Denis & Stepanyan, 2009). This is particularly true for large companies because they have better access to capital markets as they are usually able to provide collateral and can afford to pay higher dividends (Adu-Boanyah et al., 2013; Viviers et al., 2013). Therefore, it was expected that DPR could be either positively or negatively related to the LVRG variable and negatively related to the BETA variable. Investment opportunities The retention of internally generated funds is preferable to issuing shares mainly because of flotation costs associated with raising external capital. Companies investing in numerous projects typically retain profits to finance investments and are less likely to pay dividends (Forti et al., 2015; Kapoor et al., 2010; Nnadi et al., 2013). This implied that TABLE 3: Summary of study variables. Variable Proxy for Operational definition Data source Expected relationship Dependent variable Dividend payout ratio (DPR) Dividend payout (Dividends paid/shares in issue weighted average)/ (profit attributable to ordinary shareholders/shares in issue weighted average) Dividends data extracted from the annual financial reports, IRESS profit attributable to ordinary shareholders and shares in issue weighted average n/a Independent numerical variables Market capitalisation (SIZE) Company size Natural logarithm of the company’s JSE market capitalisation IRESS market capitalisation (+) Systemic risk (BETA) Company risk Company systemic risk measured by BETA IRESS BETA weekly leveraged (-) Debt-equity ratio (LVRG) Company risk (Long-term liabilities + current liabilities)/(ordinary shareholders interest + preference shares + outside shareholders’ interest + directors and shareholder loans - intangible assets) IRESS debt/equity ratio (+/-) Total assets growth (INVEST) Investment (Current year total assets [excluding intangible assets] – previous year total assets [excluding intangible assets])/ (previous year total assets [excluding intangible assets]) IRESS total assets ratio (-) Sales growth (GRWTH ) Growth (Current year sales revenue – previous year sales revenue)/(previous year sales revenue) IRESS net turnover ratio (-) Earnings ratio (PROF) Profitability Accounting profits distributed to shareholders, that is (investment income + operating profit + interest received + associate companies)/(total assets) IRESS return on assets ratio (+) Cash flows (FCF) Free cash flow Cash flow from operations more than capital expenditure requirements disclosed in the cash flow statement, that is (net cash from total activities)/(total capital employed) IRESS cash flow (Ncta) to capital investments ratio (+) Net assets ratio (SOLV) Liquidity Total assets (excluding intangible assets)/(total liabilities) IRESS total assets (excluding intangible assets) to total liabilities (+) Current ratio (LIQD) Liquidity (Total current assets)/(total current liabilities) IRESS current ratio (+) Independent categorical variables JSE index (CLS)Company size JSE Index classification Large companies comprised JSE Top 40 and Mid Cap indices and small companies comprised Small Cap and Fledgling indices (+) ICB sector (SECT) Company sector ICB industry classification of listed companies Bloomberg ICB sector data - Independent binary variable Paid dividend (PDIV) Paid dividend Binary variable to identify the company-years when dividends were paid (1) or not paid (0) Derived from dividend payout variable – if a company paid dividends (1) or not (0) - FCF, free cash flow; ICB, International Classification Board; JSE, Johannesburg Stock Exchange; n/a, not applicable; IRESS, Integrated Real-time Electronic Securities System. Page 7 of 16 Original Research http://www.sajbm.org Open Access an inverse relationship was expected between the INVEST and DPR variables. Sales growth Some global studies have concluded that a negative relationship exists between the sales growth rate of a company and the DPR (Gill et al., 2010), while other studies have found a positive relationship (Imran, 2011). Despite these contradictory results, companies with higher sales growth generally have working capital requirements more than cash flows from operations. Consequently, such companies retain current earnings in order to support future sales growth. In contrast, profitable companies with slow sales growth generally pay higher dividends to minimise potential agency cost problems when corporate managers overindulge in expensive investment projects (Arko et al., 2014; Jensen & Meckling, 1976). Therefore, a negative relationship was expected between sales growth (GRWTH) and dividend payout (DPR) in this study. Profitability Corporate profitability has been found to be a significant and consistent determinant of dividend payout (Firer et al., 2008; Forti et al., 2015; Kapoor et al., 2010). In rare instances, profitability was found to be insignificant (Hellström & Inagambaev, 2012). The present study employed return on assets (ROA) as a proxy for profitability because ROA captures the accounting profits that are available for distribution to shareholders (Fama & French, 2001). Companies with higher profitability can continue to finance growth while still making consistent payments to shareholders (Forti et al., 2015). A positive relationship was thus expected between the PROF and DPR variables. Free cash flows A company may be profitable and still be cash poor because cash, not profit, pays dividends. Therefore, it is expected that free cash flow has a direct impact on a company’s ability to pay dividends. Profitable companies with more stable earnings can expect larger free cash flows and thus pay larger dividends (Hellström & Inagambaev, 2012; Musa, 2009). Consequently, FCF was expected to be positively related with DPR in this study. Liquidity Legal restrictions may limit the amount of dividends that a company pays. The liquidity and solvency requirements specified in South African legislation are pertinent. Section 46 of the new Companies Act of 2008 (RSA, 2008), effective from 01 May 2011, strengthened the requirements pertaining to all types of distributions made by a company by including more stringent solvency and liquidity considerations prior to cash distributions. Therefore, net assets (SOLV) and current ratio (LIQD) constitute important determinants of dividend payout (Forti et al., 2015) and were expected to be positively related with DPR. Additional variables The following additional variables were included in order to perform the statistical analyses: Paid dividend (PDIV): This is a binary variable used to identify the company-years when dividends were paid (1) or not paid (0). International Classification Board sector (SECT): For the purposes of company sector analysis, companies were classified using International Classification Board (ICB) data extracted from Bloomberg by the middle of each calendar year. The JSE classifies all listed companies into three South African sectors, namely, resources, financial and industrial (JSE, 2017). In order to identify industrial sector companies, the following mapping of the South African sector classification to the global ICB methodology was applied in the present study: • Resources sector comprised ICB oil and gas producers (0530) and mining (1770) sectors. • Financial sector comprised ICB financial (8000) industry. • Industrial sector comprised companies in the remaining ICB sectors – therefore, comprising the industrial (2000), consumer goods (3000), healthcare (4000), consumer services (5000), telecommunications (6000), utilities (7000) and technology (9000) industries. Based on the expected relationship of the identified variables with DPR (Table 3) and the literature pertaining to dividend payout behaviour in South Africa, the following hypotheses were formulated: H1: The dividend payout of JSE-listed industrial companies increased from the pre-recession (1999–2007) to the postrecession (2008–2014) period. H2: The dividend payout of JSE-listed industrial companies is positively affected by company size (SIZE and CLS), profitability (PROF), free cash flows (FCF) and liquidity (SOLV and LIQD); negatively affected by company systemic risk (BETA), investment opportunities (INVEST) and sales growth (GRWTH); and either positively or negatively affected by company risk measured as debt to equity (LVRG). Research method The research method of this study mirrors the methodology applied in Wesson et al.’s (2015) study in that it is based on data extracted from published annual financial reports. The remainder of the section covers the research population, data sources and data collection methodology and the data analysis methods used. Research population Consistent with Wesson et al.’s (2015) study, the following categories of JSE-listed companies formed the population for the reporting periods from 01 July 1999 to the 2014 year-ends of the companies: • companies with listed ordinary and/or N-class shares Page 8 of 16 Original Research http://www.sajbm.org Open Access • companies with the JSE as their primary listing • companies listed on the JSE main board, except companies in the resources and financial sectors. Companies in the resources sector generally follow commodity prices rather than company-specific factors, whereas the financial sector companies are highly regulated and have capital structures with high, but acceptable, debt levels (Bester, 2008). Given these sector-specific differences, the factors influencing the dividend payout of industrial sector companies were likely to be different from those of the resources and financial sectors. Both dividend-paying and non-dividend-paying companies formed part of the population in order to eliminate selection bias or systematic exclusion of part of the population. Companies may find it optimal to reduce or pay no dividends at different times in response to internal or external factors. Excluding non-dividend-paying companies from empirical analysis would result in inconsistent estimates of the population parameters (Al-Malkawi et al., 2010). Additionally, the population included all industrial companies listed and/ or delisted during the study period. Excluding delisted companies could create survivorship bias that might influence the results of the study as only companies successful enough to survive are analysed. To ensure completeness of the population, the companies included in the population were verified using the JSE Profile Stock Exchange Handbooks from 01 July 1999 to December 2014, taking note of name changes, new listings and delistings, as well as movements between sectors (JSE, 1999–2014). The study period (1999–2014) was chosen to coincide with the amendment of the Companies Act in 1999 (RSA, 1999) to allow companies to repurchase their shares as an alternative cash distribution method. The period was long enough to average out results or smooth over any possible outliers, thus providing opportunities for rigorous analysis of differences in dividend payouts between pre-recession (1999–2007) and post-recession (2008–2014) periods across different sectors (Makka, 2014). To better understand the dividend distribution trends, the population was classified into large (Top 40 and Mid Cap indices) and small (Small Cap and Fledgling indices) categories using the JSE index classification variable (CLS). Prior to the introduction of JSE index classifications in 2002, companies were classified using the all share index (ALSI) market capitalisation. If a company was in the top 100 companies (proxy for Top 40 and Mid Cap), then it was classified as a large company; otherwise, it was classified as a small company. A total of 391 companies formed part of the population, resulting in 3194 company-years over the study period. Of the 391 companies, 66% (258 companies) paid dividends in at least 1 year during the study period and 34% (133 companies) did not pay dividends. The split between dividend-paying and non-dividend-paying companies was 1867 (58%) and 1327 (42%) company-years, respectively. Data sources and collection This study used dividend data extracted from published annual financial reports. The comprehensive dividend database created by Wesson et al. (2015), covering 1999–2009, formed the basis of the study. Additional dividend data for the remainder of the study period were obtained from annual financial reports (retrieved via IRESS: Product Library) using the same data collection method employed by Wesson et al. (2015). The dividend data collected were reconciled and verified using the directors’ report, statement of cash flows, statement of changes in equity and dividend notes. Dividends paid at company level were extracted from published annual financial reports and the necessary verification procedures were applied to ensure that dividend data comprised prior-year final dividend and current-year interim dividend paid in the current year, and to correctly distinguish between dividends paid from profits, share premium distributions and special dividends (Wesson et al., 2015). To establish statistical differences between periods and real dividend payout trends, all distributions from 2000 to 2014 were represented in terms of 1999 prices using deflation factors calculated from inflation values published by Statistics South Africa (2017). The IRESS database was used to extract data other than dividend data (Table 3). Where data errors were identified, published annual financial statements (retrieved via IRESS: Product Library) were used to verify the data. Data analysis methods Descriptive statistics and a fixed-effects panel regression analysis were used to explore the dividend payout trends and the explanatory power of the nine numerical independent variables. Data distributions for the dependent variable (DPR) and the independent variables were created and analysed. All variables, except market capitalisation (SIZE), which was represented as a natural logarithm, were adjusted (winsorised) by replacing outliers with a value representing three times the calculated standard deviation plus the calculated mean. By taking the natural logarithm of market capitalisation, the impact level of outliers was eliminated (Analysights, 2010). To identify the most appropriate regression analysis model, a fixed-effects test was completed. Ordinary least squares (OLS) regression was found to be appropriate. This was followed by a time-effect test to determine a one-way or twoway model, and a Hausman test for random effects to choose between a fixed- and random-effects model. Owing to the unbalanced nature of the data (companies do not have the same number of time points), a random-effects model could Page 15 of 16 Original Research http://www.sajbm.org Open Access empirical evidence of this study in making dividend policy decisions. Government regulatory institutions can also draw insights from the impact of the changes in the Companies Act and Income Tax Act on dividend distributions and the attractiveness of South Africa as an investment destination. Overall, the present study showed that solving the dividend puzzle remains a challenge and requires careful attention to country-specific, company-specific and market-specific characteristics, as well as emerging substitute forms of distributions, such as share repurchases. Acknowledgements This research is based on a recently submitted research assignment of L. Nyere, a Master of Business Administration (MBA) graduate of the Stellenbosch University Business School. Competing interests The authors declare that they have no financial or personal relationships that may have inappropriately influenced them in writing this article. Authors’ contributions L.N. was responsible for data gathering, data analysis and report writing, while N.W. was responsible for research design and supervision. Funding This research received no specific grant from any funding agency in the public, commercial or not-for-profit sectors. Data availability statement Data sharing is not applicable to this article as no new data were created or analysed in this study. Disclaimer The views and opinions expressed in this article are those of the authors and do not necessarily reflect the official policy or position of any affiliated agency of the authors. 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