DESSERTATION REPORT

ON
THE STUDY OF DIVIDEND POLICIES OF
INDIAN COMPANIES
Submitted to

Birla School of Management

For partial fulfilment of the requirement of

Master of Business Administration (MBA)

By
Gundapuneedi Navya
Roll No- 22 PG101081
MBA (2022-24)

Faculty Mentor

Name: Swagat Mishra

Designation: Professor
Organisation: Birla Global University,
Bhubaneswar

DECLARATION
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I, Gundapuneedi Navya, a student of Birla School of Management, BGU, hereby declare that
I have worked on a Dissertation titled “ THE STUDY OF DIVIDEND POLICIES OF INDIAN
COMPANIES” in partial fulfilment of the requirement for the Master of Business
Administration (MBA) program.

I guarantee/underwrite my work to be authentic and original to the best of my knowledge in

all respects of the process carried out during the project tenure.

Gundapuneedi Navya
Roll No- 22PG101081
MBA 2022-24 Batch

ACKNOWLEDGEMENT

2
I would like to express my sincere gratitude to the individuals who have provided invaluable
support and assistance throughout the writing of this report. First and foremost, I would like
to thank my university faculty mentor Swagat Mishra for their guidance and contributions.

I would also like to acknowledge the contribution of my colleagues and friends who
generously shared their knowledge insights. This data provided a solid foundation for my
research.

Lastly, I would like to express my heartfelt thanks to my family for their constant
encouragement and understanding throughout this journey.

NAME – Gundapuneedi Navya

ROLL NO – 22PG101081
MBA 2022-24

TABLE OF CONTENTS

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SI. No. Chapter Title Page no.

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 1 Executive Summary
1.1 Introduction
2 Research Methodology
2.1 Primary Objective(s)
2.2 Problem definition
2.3 Approach to the Problem
2.4 Limitations
3 Review of Literature
4 Data
4.1 Collection
4.2 Primary Data
4.3 Secondary Data
5 Findings & Analysis
6 References

EXECUTIVE SUMMARY

When a company makes a profit, it has to decide what to do with this money.
Companies have three uses for its cash.
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• To fund working capital
• To finance investments in the company, where management have identified
and developed opportunities that have returns greater than the return on working
capital
• Distribute it to shareholders.
This research is intended to empirically Analyse the Dividend Policies of
companies.
This report answers various questions like:
• How and Why Do Companies Pay Dividends?
• What should be the Company’s dividend policy?
• How Do Firms View Dividend Policy?
• What factors should be considered when a company decides on its dividend
policy?
• What are the alternatives that a company has other than paying
dividends?
Before we begin describing the various policies that companies use to determine
how much to pay, let's look at different arguments for and against dividends
policies.
First, some financial analysts feel that the consideration of as dividend policy is
irrelevant because investors have the ability to create homemade dividends.
This is done by adjusting a personal portfolio to reflect the investor's own
preferences.
The second argument suggests that little to no dividend payout is more
favorable for investors. Supporters of this policy point out that taxation 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 no-dividend policy, a company's alternatives
to paying out excess cash as dividends are the following: undertaking more
projects, repurchasing the company's own shares, acquiring new companies and
profitable assets, and reinvesting in financial assets.

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In opposition to these two arguments is the idea that a high dividend payout is
more important for investors because the principle behind the attractiveness of a
company's ability to pay high dividends is that it provides certainty about the
company's financial wellbeing. Dividends are also attractive for investors
looking to secure current income.
Now, should the company decide to follow either the high or low dividend
method, it would use one of three main approaches:
• Residual
• Stability
• Hybrid of the above two.
So, we can say that, there are many reasons for paying dividends and there are
many reasons for not paying any dividends. As a result, `dividend policy' is
controversial.

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 CHAPTER 1

INTRODUCTION

INTRODUCTION
When a company makes a profit, it has to decide what to do with this money.
Companies have three uses for its cash.
• To fund working capital

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• To finance investments in the company, where management have identified
and developed opportunities that have returns greater than the return on working
capital
• Distribute it to shareholders as dividend.
There is, thus, a type of inverse relationship between retained earnings and cash
dividends. Larger retentions, lesser dividends and smaller retentions, larger
dividends. Thus, the alternative uses of the net earnings:-dividends and retained
earnings- are competitive and conflicting.
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 types:
• Regular: Regular dividends are those the company expects 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: Paid in shares of stocks. Similar to stock splits, both increase
the number of shares outstanding and reduce the stock price.
The procedure for paying dividends is as follows:
Declaration Date: Date at which the company announces it will pay a
dividend.
Holder-of-Record Date: Date at which the list of shareholders who will
receive the dividend is made.
Ex-Dividend Date: The convention is that the right to the dividend remains
with the stock until two business days before the holder-of-record date.
Whoever buys the stock on or after the ex-dividend date does not receive the
dividend.

How Do Firms View Dividend Policy?

One firm's policy might be to pay out 40% of earnings as dividends whereas
another company might have a target of 50%. This suggests that dividends
change with earnings. Empirically, dividends are slow to adjust to changes in

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earnings. It has been observed that more "conservative" companies are generally
slower to adjust to the target payout if earnings increased.
Given the objective of financial management of maximizing present values, the
firm should be guided by the consideration as to which alternative use is
consistent with the goal of wealth maximization. i.e., the firm would be well
advised to use the net profits for paying dividends to the share holders if the
payment will lead to the maximization of wealth of the owners. If not the firm
should rather retain them to finance investment programs. the relationship
between dividends and value of the firm should, therefore, be the decision
criterion.
There are however conflicting opinions regarding the impact of dividends on
the valuations of the firm. According to one school of thought, dividends are
irrelevant, so that the amount of the dividends paid has no effect on the
valuation of the firm. on the other hand certain theories consider the dividend
decision as relevant to the value of the firm measured in terms of the market
price of the shares.
Before discussing the 2 school of thoughts, let us first understand why a
company pays the dividend and in what form. In other words, what are the
factors which helps us in determining the dividend policy of a company.
These Factors can be classified as follows:
(1) Dividend Payout (D/P) ratio:
A major aspect of the dividend policy of a firm is its dividend payout (D/P)
Ratio i.e., the % share of the net earnings distributed to the shareholders as
dividends. The D/P Ratio of a firm should be determined with reference to two
basic objectives:-
• Maximizing the wealth of the firm’s owners and,
• Providing sufficient funds to finance growth.
These objectives are not mutually exclusive, but interrelated. In practice,
shareholders have a clear cut preference for dividends because of uncertainty
and imperfect capital markets. The payment of dividends can, therefore, be
expected to effect the price of a share; a low D/P Ratio may cause a decline in
share prices, while a high ratio may lead to a rise in the market price of the
share. Making a sufficient provision for financing growth can be considered a
secondary objective of dividend policy. The firm must forecast its future needs
for funds, and taking in to account the external availability if funds and certain
market considerations, determine both the amount of retained earnings needed
and the amount of retained earnings available after the minimum dividends have
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been paid. Thus, dividend payments should not be viewed as a residual, but
rather a required outlay after which any remaining funds can be reinvested in
the firm.
(2) Stability of dividends:
The term dividend stability refers to the consistency or to the lack of variability
in the stream of dividends.in more precise terms, it means that a certain
minimum amount of dividend is paid out regularly. The stability of dividends
can take any of the following 3 forms:
(i) Constant dividends per share,
(ii) Constant / stable D/P Ratio, and
(iii) Constant dividends per share plus extra dividend.
Constant dividend per share:
According to this form of stable dividend policy, a company follows a policy of
paying a certain fixed amount per share as dividend.
For instance, on a share of face value of Rs. 10, a firm may pay a fixed amount
of, say Rs. 2.50 as dividend. This amount will be paid year after year,
irrespective of the level of earnings. In other words, fluctuations in earnings
would not effect the dividend payments. In fact, when a company follows such
a dividend policy, it will pay dividends to its shareholders even if its suffering
losses. A stable dividend policy in terms of fixed amount of dividend per share
does not, however, means that the amount of dividend is fixed for all the time to
come. The dividend per share is increased over the years when the earnings of
the firm increase and it is expected that the new level of earnings can be
maintained.

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Fig: Stable Dividend Policy of Constant Rupee Dividends.
It can, thus, be seen that while the earnings may fluctuate from year to year. The
dividend per share is constant.
Constant payout Ratio:
With constant / payout ratio, a firm pays a constant % of net earnings as
dividend to the shareholders. In other words, a stable Dividend payout Ratio
implies that the percentage of earnings paid out per year is constant.
Accordingly, dividend would fluctuate proportionately with earnings and are
likely to be highly volatile in the wake of wide fluctuations in the earnings of
the company. As a result, when the earning of a firm decline substantially or
there is a loss in given period, the dividends, according to the target payout
ratio, would be low or nil.

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 Fig: Stable Dividend Policy under Target Payout Ratio
Stable Rupee Dividend Plus Extra dividend:
Under this policy the firm usually pays a fixed dividend to the shareholders and
in years of marked prosperity; additional or extra dividend is paid over and
above the regular dividend. As soon as, normal conditions return, the firm cuts
the extra dividend and pays the normal dividend per share.
Reasons to prefer stable dividend policy:
 Desire for current income by investors like retired person and widows. They
would place a positive utility on stable dividends.
 Informational contents regarding the changes in the dividends that will be paid
by the firm in the near or far future.
 Requirements of institutional investors like Life Insurance Corporation of India
and General Insurance Corporation of India and Unit Trust of India (mutual
funds). These companies have the legal obligation to invest its money in only
those firms which have a record of continuous and stable dividend.
(3) Legal, contractual and internal constraints and restrictions
The legal factors stem from certain statutory requirements, the contractual
restrictions arise from certain loan covenants and the internal constrains are the
result of the firm’s liquidity position.
Legal Requirements: Legal stipulations do not require a dividend declaration
but they specify the conditions under which dividend must be paid. Such
conditions pertain to
(i) Capital impairment,
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(ii) Net profits and
(iii) Insolvency.
Capital Impairment Rules:
Legal enactments limit the amount of cash dividends that a firm may pay. A
firm can not pay dividends out of its paid up capital, otherwise there would be a
reduction in the capital adversely affecting the security of its lenders. The
rationale of this rule lies in protecting the claims of the preference shareholders
and creditors on the firm’s assets by providing sufficient equity base since the
creditors have originally relied upon such an equity base while extending credit.
Any dividends that impair capital are illegal and the directors are personally
held reliable for the amount of illegal dividend.
Insolvency:
A firm is said to be insolvent in two situations: first, when the liabilities exceeds
the assets and second, when it is unable to pay its bills. If the firm is currently
insolvent in either sense, it is prohibited from paying dividends. Similarly a firm
would not pay dividends, if such a payment leads to the insolvency of the firm
of either type
The important provisions of company law pertaining to dividends are described
below.
1. Companies can pay only cash dividend (with the exception of bonus shares).
2. Dividend can be paid out of the profits earned during the financial year after
providing the depreciation and after transferring to reserves such percentage of
profits as prescribed by the law. The Companies (transfer to reserve) Rules,
1975, provides that before dividend declaration, a percentage of profits as
specified below should be transferred to the reserves of the company.

DIVIDEND PROPOSED AMOUNT TO BE TRANSFERRED TO

THE RESERVES

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 • Exceeds 10% but not 12.5%of the paid up • Should not be less then 2.5% of the current
capital. profits.

• Exceeds 12.5% but not 15%of the paid up • Should not be less then 5% of the current
capital. profits

• Exceeds 15% but not 20%of the paid up • Should not be less then 7.5% of the current
capital. profits.

• Exceeds 20% • Should not be less then 10% of the current

profits.

3. Due to inadequacy or absence of profits in any year, dividend may be paid

out of accumulated profits of the previous years. In this context, the following
conditions, as stipulated by the companies (Declaration of Dividend out of
Reserves) Rules, 1975, have to be satisfied.
(a) The rate of declared dividend should not exceed the average of the rates at
which the dividend was declared by the company in 5 years immediately
preceding that year or 10% of its paid up capital whichever is less.
(b) The total amount to be drawn from the accumulated profits earned in
previous years and transferred to the reserves should not exceed an amount
equal to 1/10t h of the sum of the paid up capital and free reserves and the
amount so drawn should first be utilized to set off the losses incurred in the
financial year before any dividend in respect of preference or equity shares is
declared.
(c) The balance of the reserves after such withdrawal should not fall below 15%
of its paid up capital.
4. Dividends can not be declared for the past years for which the accounts have
been closed.
Contractual requirements: Important restrictions on the payment of the
dividends may be accepted by a company when obtaining external capital either
by a loan agreement, a debenture indenture, a preference share agreement, or a
lease contract. such restrictions may cause the firms to restrict the payment of
cash dividends until a certain level of earnings have been achieved or limits the
amount of dividend paid to a certain amount or % of earnings. Since the
payment of dividends involves a cash outflow, firms are enforced to reinvest the
retained earnings within the firm. The restrictions of dividends may take 3
forms:

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In the first place, the firms may be prohibited from paying dividends in excess
of a certain percentage, say, 12 %. Alternatively, a ceiling in terms of maximum
amount of profits that may be used for dividend payment may be laid down, say
not more than 60% of the net profits, or a given absolute amount of such profits
can be paid as dividend. Finally dividends must be restricted by insisting upon
am minimum of earnings to be retained. Reinvestment leads to a lower debt /
equity Ratio and, thus, enhances the margin of cushion (safety) for the lenders.

Internal constraints: Such factors are unique to a firm and include

(i) Liquid assets,
(ii) Growth prospects,
(iii) Financial requirements,
(iv) Availability of funds
(v) Earning stability and
(vi) Control.
Liquid assets:
Once the payment of dividend is permissible on legal and contractual grounds,
the next step is to ascertain whether the firm has sufficient cash to pay cash
dividends. It may well be possible that firm’s earnings are substantial, but the
firm may be short of funds.
This situation is common for companies like
(a) Growing companies
(b) Companies which have to retire the past loans as their maturity year has
come
(c) Companies whose preference shares are to be redeemed. Such companies
may not like to borrow at exorbitant rates because of financial risk especially
when their existing leverage ratio is already very high. Moreover, the lenders
may be reluctant to lend the money for dividend payments since they produce
no tangible or operating benefits that will help the firm to repay the loans. Thus,
the firms ability to pay cash dividends is largely restricted by the level of its
liquid assets.
Growth prospects:

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Another set of factors which can influence the dividend policy relates to the
firm’s growth prospects. The firm is required to make plans for financing its
expansion programmes. In this context, the availability of external funds and its
associated cost together with the need for investment funds would have a
significant bearing on the firm’s dividend policy.
Financial Requirements:
Financial requirements of a firm are directly related to its investment needs. The
firm should formulate its dividend policy on the basis of its foreseeable
investment needs. If a firm has abundant investment opportunities, it should
prefer a low payout ratio, as it can reinvest the earnings at the higher rates than
the shareholder can. Moreover, the retention of money provides the base upon
which the firm can borrow some additional funds. Therefore, it provides
flexibility in the companies capital structure, that is, it makes room for unused
debt capacity.
Availability of funds:
The dividend policy is also constrained by the availability of funds and the need
for additional investment. In evaluating its financial position, the firm should
consider not only its ability to raise funds but also the cost involved in it and
promptness with which financing can be obtained. In general, large, mature
firms have greater access to new sources for raising funds than firms which are
growing rapidly. For this reason alone, the availability of external funds to the
growing funds may not be sufficient to finance a large number of acceptable
investments projects. Obviously such firms will have to depend on their retained
earnings so as to amount of maximum number of available profitable projects.
Therefore, large retentions are necessary for such firms.
Earnings stability:
The stability of earnings have also a significant bearing on the dividend
decisions of a firm. Generally, more stable the income stream, the higher is the
payout ratio. Such firms are more confident of maintaining a higher payout
ratio. public utility companies are classic example of firms that have relatively
stable earnings pattern and high dividend payout ratio.
Control:
Dividend policies may also be strongly influenced by the shareholders or the
management’s control objectives. That is to say, sometimes the management
employs dividend policy as an effective instrument to maintain its position of
command and control. The management, in order to retain control of the
company in its own hands, may be reluctant to pay substantial dividends and

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would prefer a small dividend payout ratio. This will particularly hold good for
the companies which require funds to finance profitable investment
opportunities when an outside group is seeking to gain control of the firm.
Added to this, if a controlling group of shareholders either can not or does not
wish to purchase a new shares of equity, under such circumstances, by the issue
of additional shares to finance the investment opportunities, management may
loose its existing control.

(4) Capital market considerations:

Yet another set of factors that can strongly effect dividend policy is the extent to
which the firm has access to the capital markets. In case the firm has an easy
access to the capital market, either because it is financially strong or large in
size, it can follow a liberal dividend policy. However, if a firm has limited
access to the capital market, it is likely to adopt a low dividend payout ratio.
Such firms are more likely to rely more heavily on retained earnings as a source
of financing their investments.
(5) Inflation:
Finally, inflation is another factor which effects the firm’s dividend decisions.
With rising prices, the funds generated from depreciation maybe inadequate to
replace obsolete equipments. These firms have to rely upon retained earnings as
a source of funds to make up the shortfall. This aspect becomes all the more
important if the assets are to be replaced in the near future. Consequently, their
dividend payout tend to be low during the period of inflation.
Now, should the company decide to follow either the high or low dividend
method, it would use one of three main approaches:
• Residual
Companies using the residual dividend policy choose to rely on internally
generated equity to finance any new projects. As a result, dividend payment can
only come out of the residual or leftover equity after all project capital
requirements are met. These company's usually attempt to maintain balance in
their debt/equity 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 expansion expenses are met.

• Stability

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The fluctuation of dividends created by the residual policy significantly
contrasts the certainty of the dividend stability policy The fluctuation of
dividends created by the residual policy significantly contrasts the certainty of
the dividend stability policy . With the stability policy, companies may choose a
cyclical policy that sets dividends at a fixed 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.
• Hybrid of the above two.
The final approach is a combination between the residual and stable dividend
policy. Using this approach, companies tend to view the debt/equity ratio as a
long-term rather than a short-term goal. In today's markets, this approach is
commonly used by companies that pay dividends.

(2) Research Methodology for Analysis of Trends

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To analyze the trends in dividend payment pattern, number of companies paying
dividend as percentage of total firms, average dividend paid, dividend per share,
payout ratio, and dividend yield are computed for the period 1990 to 2001.
Dividend per share (DPS) is calculated as
DPS(j,t) = Dividend(j,t)
Where, DPS(j,t) refers to dividend per share for company j in year t;
Dividend(j,t) refers to amount of dividend paid by company j in year t; and
EQCap(j,t) refers to paid -up equity capital for firm j in year t. Equity capital is
employed instead of the usual number of outstanding shares in the denominator
as it facilitates comparison of rupee dividend paid per share by removing the
impact of different face or par values. Dividend payout ratio (PR) is computed
as
PR(j,t) = Dividend(j,t)
PAT(j,t)
Where, PR(j,t) is dividend payout ratio, Dividend(j,t) refers to amount of
dividend paid by company j in year t; and PAT(j,t) refers to net profit or profit
after tax for firm j in year t.
Dividend Yield (DY) is computed as
DY(j,t) = DPS(j,t)
Price(j,t-1)
Where, DY(j,t) refers to dividend yield for firm j in year t, DPS(j,t) refers to
dividend per share for firm j in year t, and Pricej,t-1 is closing price of previous
year for firm j.
Further, the entire sample is categorized into payers and non-payers to examine
the trends in dividends across different subgroups.
Payers are those firms that have paid dividend in the current year, where as non
payers have not paid dividend in the current year. Payers are further classified
into regular payers, initiators and current payers. Regular payers are those firms
that have paid dividend regularly without ever skipping the payments. Initiators
on the other hand refers to those firms with a maiden dividend, where as current
payers are those firms who are neither regular payers nor initiators.
Non-payers are further categorized into never paid, former payers and current
non-payers. Never paid firms are those that have never paid even a single
dividend, where as former payers are those firms which at some previous point
had paid dividends. Current non-payers are those firms which are recently listed

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and that they are neither former payers nor are in the never paid category in any
of the previous years.

OBJECTIVE OF THE STUDY

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OBJECTIVES
 How and Why Do Companies Pay Dividends?
 What should be the Company’s dividend policy?
 How Do Firms View Dividend Policy?
 What factors should be considered when a company decides on its dividend policy?
 What are the alternatives that a company has other than paying dividends?
 Does losses leads to dividend reductions?

PROBLEM STATEMENT

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Management decision problem
• How and Why Do Companies Pay Dividends?
• What should be the dividend policy of a firm?
• Does losses leads to dividend reductions?
Marketing research problem
• How Do Firms View Dividend Policy?
• What factors should be considered when a company decides on its dividend
policy?
• what are the alternatives that a company has, other than paying dividends?

Approach to the Problem:

While deciding the dividend policies what are the factors that company should
take care of?
Do they have some special strategy? These were some of the questions that
struck me. I decide to get into this study to get answers to these questions and
see if I could learn something from there policies.
These problems can be studied by finding out the underlying dividend policies
of different firms and what is the reason behind the selection of such a policy.
I tried to keep my study in conjugation with the financial theories that were
taught to me in the class. What you see inside is a theoretical and comparative
study.

REVIEW OF LITERATURE

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DATA AND METHODOLOGY

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DATA COLLECTION:

1) Secondary Source

• Websites.
• Books, Newspapers, Fact Sheets of different firms.

DATA ANALYSIS

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FINDINGS

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LIMITATIONS OF THE STUDIES

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• Non-availability of latest database of Dividend Paying firms.
• Scale of research is small.
• The present study has considered only cash dividends and not share
repurchases. Share repurchases or buyback has been permitted in the Indian
context only recently and this may well have influenced the dividend behavior
of Indian companies, as some firms would have substituted share repurchases
for cash dividends
• In the present study only final cash dividends are considered and the stock
dividends by firms are not considered which may limit generalizations of the
findings
• Further, the present study has not considered the stock market reactions to
dividend events and has not examined at great depth the interrelations between
dividend and other corporate finance decisions

REFERENCES

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 “Fundamentals of corporate finance” by Ross Westerfield Jordan, 6th
edition, Tata McGraw Hills, New Delhi, pg no. 623-629
 “Corporate Finance” by M.Y. Khan and P.K. Jain,2000t h edition, Tata
McGraw Hills, New Delhi, pg no. 13.3-13.25 and 14.1- 14.17.
 “Does Dividend Policy Matter?” by Stern, J.M. and D.H. Chew
(eds.),Revolution in Corporate Finance, 2nd edition, Blackwell
Publishers Inc.
 “Dividend Decision: A Study of Managers’ Perceptions” by Bhat R. and
I.M. Pande, Vol. 21, chapter 1 & 2.
 “Dividend Policies of SoEs in India – An Analysis”, Finance India, Vol.
X, by Mishra, C. and V. Narender (1996), pg no. 633-645.

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