Dividend policy and the stock market reaction to dividend announcements in Pakistan

  • Naimat Ullah Khan

    Student thesis: Doctoral ThesisDoctor of Philosophy


    Dividends are payments made to the shareholders (owners) out of firms? earnings. Numerous academics, adopting either a behavioural or empirical approach, have provided rationales to address the issue of why companies pay dividends and whether the market response to the announcements can be predicted. However, these endeavours have failed to achieve unanimity on either issue. Moreover, most of these studies have been conducted in countries with developed markets; relatively little research has been conducted in the emerging stock markets of (Southern) Asia, such as Pakistan. This thesis tries to fill the gap in the literature by investigating both the impact of dividend announcements on the share prices of Pakistani firms and the behavioural determinants of dividend policy. The Pakistani market was characterised by a unique tax system, with capital gains totally exempted from taxation before June 2010. This unique feature provides an additional motivation for the researcher to explore the reasons why Pakistani firms pay dividends despite the tax penalty associated with such disbursements. For the purposes of the research, a mixed-methods approach was employed involving, firstly, an event study to calculate any unexpected share returns around dividend announcements for a sample of 639 dividend events across 202 firms listed on the Karachi Stock Exchange (KSE) over the period 2005-09. Secondly, interviews were conducted with 23 company executives to ascertain their views about the determinants of dividend policy and its perceived impact on share prices. To gain an alternative – investor – perspective on the signalling impact of dividends, 16 financial analysts were also interviewed. The results of the event study indicate that dividend announcements do not convey information about Pakistani firms to the stock market; insignificant unexpected returns are documented for the announcement date. Nonetheless, the disaggregated results of the event study showed significant unexpected returns for the dividend increase and no-change sub-groups – usually before the actual dividend announcement date. However, consistent with results for developed countries with diverse shareholdings, this research suggests that earnings are the dominant signal in Pakistan, in the context of an interaction effect where earnings and dividends signals re-enforce each other. The results of the interviews indicated that Pakistani executives primarily base their dividend decisions on earnings, followed by liquidity. However, Pakistani firms do not appear have target payout ratios or employ a constant speed-of-adjustment to decide on payout levels. Indeed, most of the firms indicated that they decided the current payout ratio on an ad hoc basis. More importantly, both sets of interviewees (company officials and financial analysts) believed in the signalling effect, where dividends were sometimes used by investors as a signal of future earnings.
    Date of Award2011
    Original languageEnglish
    SponsorsHigher Education Commission, Islamabad & University of Peshawar
    SupervisorBruce Burton (Supervisor) & David Power (Supervisor)

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