EFFECT OF DIVIDEND ANNOUNCEMENT ON SECURITY PRICES

CHAPTER ONE

INTRODUCTION

1.1            BACKGROUND TO THE PROBLEM

The availability of information is crucial to the successful pursuance of virtually every human endeavor. However, Hirshleijer and Riley (1979) observed that in order for any particular piece of information to be beneficial to the user, it must have precise definition and value. While the definition relates to the message about the various events that may happen, the value is about the payoffs likely to be derived by acting on the message received. If a message is not understood by the people for whom it is meant, no action may be taken. If an action is taken at all, it may be a wrong one. Even when the message is understood by the people concerned, their reaction may differ from one another depending on the values perceived to be derived from acting on the message. The values derivable from the message may also be different among people depending on the message as well as the perceived net benefits or utility resulting from taking actions.

          Several actions may be taken after receiving an information. Some of the actions may be Optimal, while others may be sub-optimal. The optimal action was defined by Copeland & Weston (1983)2 as the product of the conditional probability of an event taken place given the receipt a message and the utility resulting from taking an action, given that a particular event has occurred. There is also the marginal probability of receiving a message, the optimal action taken on receiving the message and the expected utility to be derived, given the arrival of the message.

          Problems arise when economic agents fail to act on relevant information. Such in action may be due to lack of understanding of the message being put across or due to lack of resources to benefit from the information. For example, firms may release their dividend figures to the Capital market if the information contained in released dividend is not understood by the market participants and investors, appropriate portfolio adjustments may not be made through trading of shares. If on the other hand, investors react appropriately to dividend announcements by adjusting their portfolios, which in turn manifests in share price changes, firms may not understand why the market determined their firms’ share prices the way it has done, if they also do not understand the message being put across by investors. It is therefore important for both the firms and investors to understand information available in the capital market. The understanding of the available information will go a long way to enhance the quality of decision made by firms and investors.

There is no gain saying in the fact that firms take various decisions about their operation on daily basis. These decisions can however be classified into three broad categories. These are production, investment and finance decisions. These are decisions should be optimal if the intended results are to be attained. With regard to investments, firms face decisions on optimum combination of real and monetary assets to be invested with a view to establishing and maintaining the productive process necessary to produce the optimum level of output from the optimum combination of factor inputs. The third type of decision the finance decisions concern the optimum combination of resources of money capital required to finance the optimum assets investments. These three major decisions are interdependent. For instance, money capital is required to produce goods and services. Thus, the decision nexus, which should be optimal, confront firms from time to time.

Firms do not take decisions in isolation. Rather, they take cognizance of happenings in the stock markets where their long-term money capital is raised in the form of equities and / or bonds. Both the firms and investors operate in the stock markets, with the former playing the role of producers / borrowers, while the latter function as savers or investors. The adequate understanding of available information is particularly important in the stock markets where securities are traded. It is the understanding of publicly available information which determines to a large extent, whether or not securities will be appropriately priced.

The perceived value of information arising in the stock markets depends on whether or not it reveals any new thing to the market participants. If no new message is contained in the information, security prices may not be affected. It is also possible for the information arriving in the market to be underutilized. Fama (1976) aptly noted this obvious divergence between publicly available information and information utilized by the market in determining security prices in “Reply to Efficient Capital Market Comments”. Every corporation has the same goal in mind to maximize shareholder’s wealth. This goal is fulfilled in two different ways by re-investing cash into the business to stimulate its growth, or by paying dividends to shareholders. Arnold (2008) definition of dividend policy is to maximize shareholders wealth by maximizing their purchasing power. Dividends are usually described as the distribution of earnings (past and present) in actual assets among the shareholders of the sectors in ratio to their ownership. Dividends are paid from the sectors after tax income. A dividend is a periodic distribution of cash to the stockholders of a firm. In 1961, Miller and Modigliani (M&M) of the other opinion about the dividend policy; they said the dividend policy does not affect the value of the firm. The only thing that could affect the value of the firm is the investment policy.

1.2 STATEMENT OF THE PROBLEM

Corporate organization companies inclusive are faced with problem of whether to pay large small or zero percentage of their earning as dividend vis a vis financing future investment projects.

This problem is borne out of the desire to satisfy the various needs of shareholders, some shareholder have the need for income now and as such will prefer capital gain. due to the fact or having to deal with competing interest of various shareholders the kind of dividend policy the bank adopt could either lead to positive or negative effect on the security prices of the company. The managers are therefore unable to forecast with certainty to what extent the policy will affect the security price of the firms.

1.3 OBJECTIVE OF TE STUDY

The general objective of this study was to examine the impact of dividend announcement on security prices in Nigerian companies specifically this study sought to:

1. Ascertain if there is any significance relationship between dividend yield and share price of Nigeria companies.
2. Determine the effect of dividend announcement on security prices of Nigeria companies
3. determine whether the Nigeria capital market is efficient

1.4 RESEARCH QUESTION

Based on the objective of this study the following research questions guided the study:

1. What is the relationship between dividend yield and companies security price?
2. What is the effect of dividend announcement on security prices of Nigerian Companies?
3. Is Nigeria capital market is efficient?

1.5 RESEARCH HYPOTHESIS

In order to provide a framework for evaluating the effect of dividend announcement on security prices of Nigerian Companies, the following hypotheses were formulated in null form.

Ho1: There is no significant relationship between dividend announcement and security prices in Nigeria.

Ho2: There is no significant effect of dividend announcement on security prices of companies in Nigeria.

1.6 SIGNIFICANCE OF THE STUDY

The study is beneficial to many groups. It is important to note that the study provides an avenue for an in depth understanding of the topics by students, financial managers, board of directors and other decision makers in formulating optimum polices for their respective companies. The study also forms as a tool for assisting investors in making their investment decision as well as aiding to expose the various factors that may influence stock prices. The study further serves as research materials for future investors and also adds to the existing body of knowledge.

1.7 SCOPE OF THE STUDY

The scope of this study spanned a period from 2000-2004 having 5 years for the scope of this study. the study also focused on 5 Nigerian Companies. In an attempt to empirically analyses the effect of dividend announcement on security prices. This scope was expected to give an accurate analysis and findings on the subject matter.

1.8 DEFINITION OF TERMS

The following terms are operationally defined:

Dividend: this is defined as that portion of a company’s net earnings that accrues to shareholders as a result of the money invested in acquiring the stock of a given company. It is usually expressed as a percentage of nominal value of the company’s ordinary share capital or as a fixed amount per share.

Dividend policy: This is concerned with the division of net profit after taxes between payments to shareholders (Ordinary shareholders and retention for reinvestment on behalf of the shareholders. It is thus the trade-off between retained earnings on one hand and paying out cash on the other hand.

Dividend per share: this is the earning distributed to ordinary shareholders dividend by the number of ordinary share, outstanding.

Earnings per share: this is the ration showing the net profit per issued share or per shared entitled to a dividend.

Dividend yield: this ration indicates the earning (in form of dividend) on investment share. It is also called the dividend price ratio as it calculated by dividing dividend per share by the price per share.

Retention ratio: this is the ratio that shows the percentage of earning held back and not paid out as dividend. It is the opposite of dividend payout ratio.