The Effect of Earnings on Dividend Policy of Cyclical Firms Listed at the Nairobi Securities Exchange

Abstract

One of the central issues in corporate finance has been the dividend decision of a firm, which has always been studied in relation to a firm’s financing and investment decisions. Many studies have been done in an attempt to provide answers to the many questions arising from dividend policy but mystery still surrounds the dividend decision. Earnings are one of the key determinants of dividend policy of firms since they determine the level of payout and whether to pay or not. When earnings swing due to economic downturn, this turbulence is felt in dividend policy, hence economic cycles cannot be divorced from the dividend decisions of firms. It therefore becomes more difficult when earnings are not stable; hence managers are in a dilemma on how to handle dividend policy in cyclical conditions. The objective of this study was to find out the effect of earnings on dividend policy of cyclical firms listed at the NSE. The study employed cross-sectional research design with a quantitative research approach to give accurate results. Regression analysis was used to analyse the relationship the Dividend payout ratio and earnings. Sales growth, Liquidity and leverage were taken as control variables. To test for possible auto correlation, Durbin Watson t- test was used. From the correlation result of the study, Earnings and Sales growth strongly influence dividend payout of cyclical firms; Leverage influences payout to a moderate extent whereas Liquidity has an insignificant influence on payout of cyclical firms. Regression result of the study identifies Earnings, Sales growth, Liquidity and Leverage as critical factors influencing dividend payout of cyclical firms. Therefore this study finds earnings cycles as a critical factor that influences dividends, hence it recommends that firms should continuously manage their accounting practices to ensure that earnings variables i.e. sales growth, liquidity and leverage are properly handled to improve the payout of cyclical firms, since the results show that they critically influence dividend payout.