Professional Documents
Culture Documents
Impact of Dividend
Distribution Tax (DDT)
on Dividend Payout Ratio
(DPR)
Submitted By
We would like to offer a sincere thanks to Prof. Himanshu Joshi, Faculty at FORE School of
Management, New Delhi, for his support and guidance for the fulfillment of this term paper.
Thank you.
Group-3
Radhika Gupta
Shivi Aggarwal
Sweta Agarwal
Saket Kumar Singh
Madhusudan Partani
Though the results are somewhat mixed, it can be largely inferred that there is a
significant difference in average dividend payout ratio in the two different tax
regimes for medium sized companies
There are wide industry-wise and size-wise variations in empirical findings visible
over the period of study.
As a result of the introduction of DDT in the year 1997, two sectors namely “Metal
and Mining” and “Finance” had significant change in the average DPR. This may be
because Metal and Mining sector is primarily controlled by the public sector
undertakings wherein there is large employee and management ownership of shares
and preference for dividends. After introducing DDT, the management cadre who fall
in the high income group benefitted from lower tax on their dividend income. For the
finance sector it can be reasoned that the East Asia crisis of 1997 may a played some
3 role. Finance companies might be trying to restore the confidence of HNIs who
benefit from the introduction of DDT more than investors in lower income brackets.
To study the impact of implementation of Dividend Distribution Tax in the year 1997
on Payout Policy of Indian companies
To study the impact of an increase in Dividend Distribution Tax to 15% in the year
2007 on the payout policies of Indian companies.
Data Collection
For studying the impact of Dividend Distribution Tax on the trend of Payout Ratios of Indian
corporate sector, we have collected data on the Payout Ratios of some selected companies
for which data was available.
For the study, from all the companies listed in BSE, the companies which are part of Sensex,
BSE TECk, BSE-PSU, Sectoral, Bankex, BSE-Midcap were taken for further consideration.
Initially, we had 512 companies. After deleting the companies which reoccurred, being part
of more than one index, 345 Companies belonging to various sectors were shortlisted.
For the shortlisted companies, data on Dividend Payout Ratio from the year 1995 to 2009
was collected. For the purpose of study only the data from 1995 to 2000 and from 2006 to
2009 was used (DPR for year ending March 2009 is regarded as 2009). Also the Market
Capitalization as on 24th February, 2010 was collected. Finally, 211 companies were
selected. The companies for which the data was not available even for a single year were
rejected.
Classification
Since, a sector wise analysis is being done, the sector of each selected company was found
out. There were a total of 38 different sectors. For ease of calculation and analysis, sectors
which had less than 5 companies were clubbed under one common head. Finally 12 sectors
were arrived at. The sector heads before and after clubbing and the composition of each
sector after clubbing are provided in appendix.
The objective of the study also includes determining the impact of DDT on different sizes of
firms namely-small, medium and large. The Market Capitalisation as on 24 th February 2010
5 was used as sorting criteria. The companies having M-Cap less than Rs.5000 crore were
termed as small sized companies, between Rs.5000 Crore and Rs.20000 Crore termed as
medium sized and more than Rs.20000 Crore are termed as large sized companies.
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In certain cases DPR arrives at negative figure, since the formula used is DPR = . In
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certain cases Companies tend to pay Dividends even though they have made losses. Thus,
even though DPS is positive, EPS turns out to be negative and finally DPR turns out to be
negative. In this case absolute value of DPR has been taken ignoring the sign.
Statistical Tools
For analysing the impact of introduction and enhancement of DDT on the DPR, it is
necessary to use some scientific methods and tools. The implementation of DDT, making
dividend taxable in hands of companies, will change the behaviour of companies and their
dividend payout policy. Thus to validate its influence, Paired T-test (Student’s test) has been
used. The test has been used twice, once, to study the impact of the implementation of DDT
in the year 1997 and secondly to study the influence of an increase in DDT to 15% in the
year 2007. Thus, the Null Hypothesis is that there is no change in DPR i.e. payout policy of
selected companies due to Implementation of DDT and also due to increase of DDT. Thus
H0: Average DPR for the years 1995, 1996 and 1997 and Average DPR for years 1998, 1999
and 2000 are same. (DPR1=DPR2)
H1: Average DPR for the years 1995, 1996 and 1997 and Average DPR for years 1998, 1999
and 2000 are not same. (DPR1≠DPR2)
Also,
H0: Average DPR for the years 2006 and 2007 and Average DPR for years 2008 and 2009
are same. (DPR1=DPR2)
H1: Average DPR for the years 2006 and 2007 and Average DPR for years 2008 and 2009
are not same. (DPR1≠DPR2)
6
The level of Confidence is at 90%
The period of study is from the year 1995 to 2000 and from 2006 to 2009. The data related
to year ending March 1995 (December 1994 in some cases) to year ending March 2009
(December 2008 in some cases) has been taken. The scope was restricted to the companies
listed on the BSE (Bombay Stock Exchange). The study is done for a total of 215 companies
belonging to 38 different Industries (sectors) and for ease of study the number of sectors
was reduced to 12, and rest were clubbed into related sectors or “Others”.
Limitations:
The use of paired t-Test will just depict whether there was significance difference in
payout trend o companies before and after introduction of DDT, but the positive
impact or negative impact cannot be determined. Thus Graphs are used to depict the
same.
Many companies which are though significant for study were ignored on the basis of
non-availability of data.
Dividend decision has been a subject of enquiry for the financial analysts, academicians, and
researchers for about five decades now. The objective of such a decision is to determine the
extent to which the earnings of a company should be distributed as ‘dividend’ among the
shareholders and thereby also ascertain the retained earnings. The dividend decision is an
integral part of a company’s financial decision-making as it is explicitly related to the other
two major decisions — investment and financing decision.
Corporate taxation influences the dividend decision in more than one way. On the one
hand, it influences the net income-after-tax of the company, which, in turn, determines the
capacity of the company to pay dividends, and, on the other hand, it may have implications
for the net value received by the shareholders. In this sense, the structure and the rate of
corporate tax play an important role in determining the dividend policy.
Corporate tax is levied on the income of the company and corporate dividend tax, which is a
form of corporate tax, is levied on the amount of dividend declared, distributed or paid by
the company. In most of the countries, corporate tax has been in the form of tax levied on
net profits/earnings of the company. However, in India, tax is also levied on the dividend
paid by the company or what is termed as dividend tax. A zero-dividend payout is not
uncommon for young rapidly growing companies with good investment opportunities
(Hindustan Times, 2003).
On an average, dividend payout in the US1 has decreased to 30 per cent at present from 60
per cent 30 years ago. However, companies may also be discouraged from paying higher
dividends when these are doubly taxed once in the hands of the company and again in the
8 hands of the shareholders. Tax exemption is desirable on both dividends and capital gains
that reflect primarily the retained earnings of the company.
This logic is challenged on two grounds. First, there is a legal and logical distinction between
the corporation as an entity and the individual shareholders who own the company. Second,
the tax rates currently in place were set with the knowledge that there was taxation both at
the corporate and the individual level. This means that if there was a moral objection to
‘double taxation,’ then, the remedial action would also require an increase in the corporate
tax rate.
On the first point, a corporation is an entity apart from its shareholders for reasons that
have historically been quite important. The law has, in effect, recognized corporations as
legal entities that are distinct from the individuals who happen to own its stock. This is an
important privilege granted by the government for many reasons. First, the limited liability
provided to shareholders means that a corporation might end up imposing damage to
others in pursuit of profit without the individual shareholders being held accountable.
Without the privilege of limited liability granted by the government, every shareholder
could be held fully responsible for all claims against the company.
A second important benefit associated with the corporate form is that the corporation can
act as a legal individual without directly involving its owners. This can be advantageous to
individuals who may wish to earn profit from activities that they would prefer not to be
publicly associated with such as manufacturing guns, selling tobacco, etc. The corporate
form allows individuals to profit from actions that may be viewed by some as otherwise
questionable while preserving their anonymity.
9
There are other benefits associated with the legal privilege of incorporation but the best
evidence of the value to the individual shareholders of having corporations as separate
entities is the fact that corporations exist. Individuals choose to set up corporations (with
Since the corporation is legally and logically a separate legal entity from its shareholders,
there is no logic in the claim that the taxation of dividends amounts to double taxation. The
corporation is subject to taxation in exchange for the privileges granted to it by the
government. The shareholders are subject to tax on their dividend income just as
employees are subject to tax on their salary income. The same income— that is, income to
the same people or entity — is not being taxed twice. Beyond this logical point on double
taxation, there is the obvious practical point that while setting the corporate tax rate, the
government has been well aware of the fact that dividends are subject to taxation. In other
words, the corporate tax rate was set at its current level with the expectation that the
portion of profits paid out as dividends would also be subject to taxation. If there is a
concern now that the taxation of dividends is an inappropriate form of double taxation,
then the remedy should include raising the corporate tax rate. If the purpose of a cut in the
tax rate on dividends was simply to eliminate the ‘double taxation’ of dividends, then it
would be coupled with an increase in the corporate tax rate. If there is no accompanying
increase in the corporate tax rate, then the intention must be to increase the amount of
money going to the relatively small number of families who have a significant dividend
income.
Thus, the claim that dividends are subject to double taxation is questionable. In the Indian
context, the imposition of corporate dividend tax on companies making payment of
dividends has in a way resulted in the increase of the corporate tax rate on that portion of
the corporate profit which is distributed among the shareholders. In other words, corporate
10
profits which are retained are subjected to a lower rate of corporate tax as compared to the
corporate profits that are distributed.
Both the investors and the corporate sector were expecting the abolition of double taxation
on dividend income ever since the Government of India had initiated financial reforms in
1991. In the budget of 1997, the Finance Minister announced the abolition of tax on
dividend income in the hands of the shareholders. However, the budget proposed a new tax
on the companies when they declared, distributed or paid dividend. While proposing this
new ‘corporate dividend tax,’ or dividend distribution tax, the government had stated that
the objective of this tax was to discourage companies from increasing the dividend outflow
significantly leading to lower capital formation. While the new tax system exempted the
investors from direct payment of any tax on dividend, it required an indirect payment of tax
on dividend at a prescribed rate. It is difficult to determine whether the tax department
collected a higher amount from dividend distribution tax compared to the earlier regime.
There is no published data available on the amount raised by the government through tax
on dividend income when the recipient shareholders paid tax on it. But, because of the
exemption limits for tax payers in the lower income levels and poor personal tax
administration, the revenue under the earlier system of taxation would be lower than that
collected under the new system. Since the new tax system shifted the responsibility of
paying tax to the companies, administration of the tax on dividend has now become more
efficient and effective. While double taxation of dividends is pervasive, partial to full relief
from this is prevalent in some countries. In most countries, the shareholders have to pay
taxes on the dividends received. The corporate dividend tax aimed to improve economic
growth and flexibility by eliminating the tax bias against equity-financed investments
thereby promoting saving and investment. The new system aimed at reducing the tax bias
against capital gains in the earlier tax system encouraging investment and enhancing the
long term growth potential of the Indian economy. Dividend exclusion, combined with the
elimination of the double taxation of retained earnings, 5 provides an important step
toward reducing tax-based distortions of economic decisions. The change in dividend
12
taxation has implications for dividend payout policy, debt versus equity financing,
organizational form (including corporate governance), and current versus future
consumption (i.e., saving). A neutral tax policy toward dividends would also provide
In addition, higher investment due to the lower tax on capital income would promote higher
wages in the long run. The proposal would also be expected to enhance near-term
economic growth. While the earlier policy called for tax payments to be made by investors
based on the marginal tax rates applicable to them, the new policy taxed the dividends of
the companies at a uniform rate. The investors now received their dividends ‘tax-free’ in the
sense that they need not declare their income from dividends in their tax returns or pay a
tax on them. In fact, the investors are implicitly paying a tax since the company pays the
dividend tax and this reduces the amount of funds available for dividend payment by the
company.
13
The following are the salient features of corporate dividend tax as per Section 115-0 of the
Income Tax Act, 1961:
Corporate dividend tax is in addition to the corporate tax paid by the company on its
profits.
Such taxes are levied on any amount declared, distributed or paid by the domestic
company (in India by way of dividends in cash).
The dividend may be declared out of current or accumulated profits.
Corporate dividend tax is payable even if no corporate tax is payable by a company
or its income.
The principal officer of the domestic company and the company shall be liable to pay
the tax on distributed profits to the credit of the central government within 14 days
from the date of declaration, distribution or payment of any dividend whichever is
the earliest.
The tax on distributed profits so paid by the company shall be treated as the final
payment of tax in respect of the amount declared, distributed or paid as dividends
and no further credit, therefore, shall be claimed by the company or by any other
person in respect of the amount of tax so paid.
No deduction under any other provision of Income Tax Act, 1961, shall be allowed to
the company or a shareholder in respect of the amount which has been charged to
tax or the tax thereon.
Thus, the above provisions are mandatory and binding on the companies in order to
avoid payment of penal interest and other stringent aspects of law.
14
Irrelevance of Dividends
In a world with no taxes, the Miller and Modigliani (1961) proposition suggests that dividend
policy is irrelevant to the value of the company. However, when personal taxes are
introduced with a capital gains rate, which is less than the rate on ordinary income, the
picture changed. Friend and Puckett (1964) use cross section data to test the effect of
dividend payout on share value and find that the value of the company is independent of
dividend yield. The Black and Scholes (1974) study presents strong empirical evidence that
the before tax returns on common stocks are unrelated to corporate dividend payout policy.
They adjust for risks by using the capital asset pricing model (CAPM) and come up with a
strong conclusion that it is not possible to demonstrate, even by using the best empirical
15
methods that the expected returns on high yield common stocks differ from the expected
returns on low yield common stocks either before or after taxes.
Relevance of Dividends
Before 1997, there was double taxation of profit earned by the companies once in the hands
of the company through corporate tax and then in the hands of the investors in the form of
income tax. In such a case, the investor should prefer to get less dividend paid and the
earnings to be retained by the company as they can always get the amount by selling the
shares in the equity market in the form of ‘home made dividend’ (Black, 1976). Taking this
argument, the taxation policy is considered a key determinant of dividend payout in the
developed countries and the dividend decision is a relevant decision (Short, Keasey and
Duxbury, 2002).
Three important studies (Bhattacharya, 1979; Miller and Rock, 1985; and John and William,
1985) focusing on the relationship between dividend payout and corporate tax questioned
the rationale of the old view that dividend taxation affects the shareholders’ optimal
dividend payout ratios. Dividend results in an immediate tax liability for shareholders. These
studies emphasized the need to distribute dividend even if it leads to higher tax liabilities for
shareholders. The primary explanation for this was that dividend sends a signal to the
shareholders about the future prospects of the company. Another study (Hakansson, 1982)
strengthened the view that “the raising and lowering of dividends communicates
16 information (to shareholders) over and beyond what is provided by earnings reports,
forecasts, and other announcements.” However, no study seems to have any explanation as
to why dividends are better (and more expensive!) signals regarding future prospects (Black
However, a few studies have been carried out including those of Majumdar (1959), Nigam
and Joshi (1961), Purnanandam (1966), Rao and Sharma (1971), Gupta (1973),
Krishnamurthy and Shastry (1975), Dhameja (1976), Murty (1976), Bhat and Pandey (1994),
Ojha (1978), Khurana (1980), and Mishra and Narender (1996). Most of these studies have
primarily focused on identifying the factors influencing dividend payouts in the Indian
corporate sector and only indirect references have been made to the impact of tax on
dividend policy. However, Narasimhan and Asha (1997) discuss the impact of dividend tax
on dividend policy of companies. They observe that the uniform tax rate of 10 per cent on
dividend as proposed by the Union Budget, 1997-98, alters the demand of investors in
favour of high payouts rather than low payouts as the capital gains are taxed at 20 per cent
in the said period. A study by Reddy (2002) has shown that the trade-off or tax preference
theory does not appear to hold true in the Indian context. Another study by Narasimhan
and Krishnamurti (2004) finds no clear evidence that companies altered their dividend
payout policy in response to the introduction of corporate dividend tax in India. Being able
to precisely spell out the relation between corporate tax and dividend policy would be
advantageous to most of the diverse groups which are likely to be affected in the process.
For instance, the shareholders may be able to understand the dividend behaviour of a
company in response to any proposed change in corporate taxation. In addition, the
shareholders may be able to anticipate the amount which they are likely to receive as
dividend. It will also help the management in identifying and evaluating potential growth
strategies, expansion opportunities or prepare a defence against possible future adverse
developments. As far as the policy-makers are concerned, the study may provide the much
needed respite that introduction of corporate dividend tax in India in 1997 has contributed
positively towards the declaration of dividends. The change in tax policy with respect to
dividends can be considered as an interesting experiment in corporate finance with few
parallels. The policy change may have a bearing on the wealth of investors on the one hand
18
and the cost of equity of the companies on the other. This may, in turn, influence dividend
payout policy and capital structure of the companies.
Of the total 211 Companies selected for the study, these have been divided into 12 sectors,
namely Auto, Capital Goods, Consumer Durables, Finance, FMCG, Health care, IT, Metal and
Mining, Oil and Gas, Others, Power and Realty. The composition of each sector is as follows
Sector Composition
Power, 6 Realty, 9
Auto,
15 Capital
Others, 50 Goods, 31 Consumer
Durables, 6
Finance, 34
IT, 9 FMCG, 14
Oil & Gas, 11
Metal &
Mining, 12
Healthcare, 14
The “Others” Sector has 50 companies because many sectors are clubbed into that. The
details of clubbing are provided in appendix.
19
Capital Goods
50%
40%
30%
20%
DPR(%)
10%
0%
1996
1995
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
One of the basic features of capital goods sector is that it has large growth opportunities.
Thus The DPR seems to be in a range of 18% to maximum of 47% in year 2002. The steep
increase is due to special dividends declared by Shree Cements. This has lead to increase in
DPR to 644%. This implies the company has paid 6.44 times the earnings it has actually
made, as dividends to its shareholders. This signifies that there was no investment
20 opportunity, so the management decided to go for huge dividends. Also abolishment of DDT
could also be the reason.
Finance
140%
120%
100%
80% DPR-Large
60%
DPR-Medium
40%
20% DPR-Small
0%
2009
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
The average DPR in all the three sectors is more or less consistent at 20%. There has been
steep increase in Large Companies DPR; this is because of IFCI paying out 557% as its DPR.
Also in the case of Medium companies, the steep increase in DPR in the year 2003 is
21 because of JM Financials paying 1037% of its earnings as dividends.
FMCG
60%
50%
40%
30%
DPR(%)
20%
10%
0%
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
The average DPR of this sector, unlike other sectors like Capital goods, Auto etc, is high. The
reason is simple that, the FMCG is not a growth sector and also the capital investment
requirement is low. Thus the average DPR is in range of 37% to 57%. In the year 2001, FMCG
firms were regarded as the top dividend paying firms. Companies like Nestle India Ltd,
Colgate Palmolive (India) Ltd. paid DPR of as high as 118% and 219% respectively.
22
IT
250%
200%
150%
100% DPR(%)
50%
0%
2004
1995
1996
1997
1998
1999
2000
2001
2002
2003
2005
2006
2007
2008
2009
Information Technology, which is regarded as one of the growing sector with very attractive
investment opportunities, has a very low average DPR. This is also visible from the DPR of
23 the companies. It is in the range of 6% to 34%. In the year 2006, there has been steep
increase in the DPR. This is because Moser Bear had DPR of 359%, GTL had 486% and
TechMahindra also had a DPR of 500%. Thus, leading to an overall sector average of 200%.
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
There have been no steep increases or falls. The DPR has been consistent and ranging from
15% to 25%. This signifies that the fixed dividend payout policy is in practice. But the
implementation of DDT has no impact on the sector. In fact no other sector has the impact.
The fall in the year 2003 could be credited to the fact that the DDT after its abolishment in
2002 was re-introduced by Finance Act, 2003.
Oil&Gas
35%
30%
25%
20%
15%
DPR(%)
10%
5%
0%
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
No steep increases in this sector. The range of DPR is 13% to 28%. Since there is necessity to
24 maintain reserves for unseen uncertainties, these companies prefer paying low dividends
and have a high retention ratio.
Power
40%
35%
30%
25%
20%
15% DPR(%)
10%
5%
0%
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
Being a high growth sector, the DPR of this sector is ranging between 18% and 36%. But in
this sector too there has been no impact of either implementation of DDT and increase in
25
DDT rate.
26
To determine the impact of the introduction of the Dividend Distribution Tax in the Union
Budget of 1997, the paired sample T-test was conducted on 211 firms categorized in 12
sectors. On the basis the comparison between the calculated and the critical T-values, any
significant impact of Dividend Distribution Tax on the Dividend Payout Ratio (DPR) can be
seen.
General rule:
If P-value>α; Accept the null hypothesis
If P-value<α; Reject the null hypothesis
P-
Sector 1997 N Mean SD T-value T-value(critical) value
Before 15 25.63 13.54 -1.761 to
Auto -0.82 0.426
After 15 29.09 20.6 +1.761
Before 31 24.31 13.15 -1.697 to
Capital Goods -1.03 0.312
After 31 30.04 29.28 +1.697
Consumer Before 6 23.6 21.6 -2.015 to
-1.64 0.162
Durables After 6 34.3 36.9 +2.015
Before 34 17.82 15.37 -1.694 to
Finance -1.83* 0.076*
After 34 27.56 31.85 +1.694
Before 14 39.29 23.18 -1.771 to
FMCG -0.15 0.882
After 14 39.91 26.86 +1.771
Before 14 22 13.49 -1.771 to
Healthcare -1.55 0.145
After 14 33.96 25.5 +1.771
Before 9 22.44 18.96 -1.860 to
IT 0.73 0.654
After 9 18.74 25.1 +1.860
Before 12 16.55 9.12 -1.796 to
Metal n Mining -1.94* 0.079*
After 12 20.72 11.76 +1.796
Before 11 15.1 11.47 -1.812 to
O&G -1.81 0.101
After 11 18.94 10.03 +1.812
Before 50 36.6 50.6 -1.676 to
Others -0.74 0.464
After 50 47.2 86.4 +1.676
Before 6 25.03 8.47 -2.015 to
Power 0.63 0.559
After 6 21.89 16.6 +2.015
27
Before 9 29.51 21.7 -1.860 to
Realty 0.75 0.474
After 9 23.74 10.73 +1.860
For the 2 sectors namely, “Metal and Mining” and “Finance” the P-value<α. Therefore, we
reject the null hypothesis and accept the alternate hypothesis i.e. there is significant
difference in the average DPR before and after the 1997 tax regime change.
The above conclusion is also corroborated by comparing the calculated T- value with the
critical T- value. For “Metal and Mining” the calculated value (-1.94) is outside the
permissible range (-1.796 to +1.796) at significance level of 90%. Similarly for, “Finance” the
calculated value (-1.83) lies outside the critical range (-1.694 to +1.694).
T-
Sector 2007 N Mean SD T-value value(critical) P-value
Before 15 25.65 14.91 -1.761 to
Auto -0.75 0.464
After 15 27.92 21.25 +1.761
Before 31 22.98 14.71 -1.697 to
Capital Goods 0.51 0.611
After 31 21.82 11.32 +1.697
Consumer Before 6 24.31 17.58 -2.015 to
-0.38 0.723
Durables After 6 25.09 16.05 +2.015
Before 34 22.42 10.08 -1.694 to
Finance -0.01 0.988
After 34 22.44 15.26 +1.694
-1.771 to
FMCG Before 14 49.46 24.29 -0.49 +1.771 0.629
After 14 51.5 26.99
Before 14 33.57 33.22 -1.771 to
Healthcare 1.2 0.25
After 14 23.68 14.28 +1.771
Before 9 106.8 105.3 -1.860 to
IT 2.31* 0.05*
After 9 27.4 16.4 +1.860
Before 12 19.36 11.81 -1.796 to
Metal n Mining 1.36 0.202
After 12 15.44 8.21 +1.796
Before 11 26.82 13.68 -1.812 to
O&G 2.36* 0.04*
After 11 20.13 12.71 +1.812
Before 50 29.76 21.64 -1.676 to
Others -0.39 0.7
After 50 31.12 34.44 +1.676
28 Before 6 32.7 30.2 -2.015 to
Power -0.82 0.448
After 6 35.6 37.7 +2.015
Before 9 14 9.01 -1.860 to
Realty 1.3 0.23
After 9 10.65 10.65 +1.860
IT sector: The Return on equity of IT sector is very high compared to other sectors of Indian
economy. Before 2003 the profitability of the IT firms was scanty and consequently this
sector was at the bottom of the list in terms of dividend payment. The average payout of
the IT sector during this period was 21.53%.This can be attributed two factors .Firstly, the
industry presented immense growth opportunities for the companies hence the managers
were of opinion that they can provide the investors better returns if they plough back the
earnings into business. Secondly, most firms in Industry were facing volatile earnings stream
which deterred them from paying more dividends. After 2003, there was a substantial spurt
in dividend payout ratios of the IT companies. Infosys Technologies, Wipro Technologies,
HCL Technologies were among the highest dividend paying companies. Infosys Technologies
paid as high dividend as 2590% in the year 2004.This surge in dividend can be attributed to
high profitability and subsequently high liquidity of IT companies.
IT sector is a human intensive sector and do not require huge capital asset base like
manufacturing companies for their operations. The major asset of this sector is manpower.
Therefore the funds required for recruitment and retention of manpower is comparatively
less than funds required for purchasing capital assets. So these firms can easily release funds
for payment of dividends. Thus, we can conclude that IT firms in India have high liquidity
and it is an important determinant of dividend payout ratio. Since the profitability of the
companies is also very high so even if there is year to year variability in the earnings of the
firms they can easily pay huge dividends.
29
Size-wise Composition
Large, 41
Small, 113
Medium, 57
The shortlisted companies which are further divided into large sized segment, medium sized
segment and small sized segment based the Market capitalization criteria. The companies
with less than Rs 5000 Crs. were sorted as Small size, with market capitalization of Rs. 20000
Crs as large size and rest into medium size.
30
Also there has been no impact of Introduction of DDT in the year 1997 and increase in DDT
rate in the year 2007. In fact there has been increase in payout in the year 1997 and
onwards. The Increase in DPR Trend in the year 2002 is because of abolishment of DDT i.e.
Dividends are taxable in hands of investors and not the company. There is fall in Payout
trend in the year 2003; this could be due to re-introduction of DDT by Finance Act 2003.
31
50%
40%
30%
Medium
20%
10%
0%
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
The range of Dividend Payout ratio for this sector, which has companies with market
capitalisation in between Rs. 5000 Crores and Rs.20000 Crores, is between 25% and 48%.
Small
40%
35%
30%
25%
20%
15% Small
10%
5%
0%
1996
1995
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
The companies with market capitalization less than Rs. 5000 crores are comprised in this
segment. The Payout trend of these firms is very much fluctuating. This is because the
companies are characterised by low cash reserves and there is high co-relation between
Cash profits and dividends of the companies. Thus this leads to fluctuating payout ratio. In
the year 1997, the fall can be credited to the account of introduction of Dividend
Distribution Tax, making the dividends taxable in the hands of companies paying them. In
32 the year 2001, where large and medium sized firms preferred paying dividends, the small
firms paid low dividends because of non availability of cash profits.
From the results of t-Test it is clearly visible that there has been no influence in Payout ratio
of Small sized companies due to introduction of DDT. Since the p-Value of large sized and
Medium sized companies are less than α (0.1), this implies that the null hypothesis of there
is no significant influence of DDT on DPR is rejected. Thus we can infer that there has been
significant influence of DDT on the Payout trend of these companies.
From the Table of results of T-test, it is clearly noticeable that the p-value of Medium sized
companies is less than 0.1 (α). This entails that there was significant influence of increase in
DDT to 15% on the payout trend of these companies. Also there was no impact of the same
33
on payout trend of large and small sized companies.
Otherwise, one sector which is perennially cash-strapped is made to pay DDT, when, in fact,
it need not pay. The profit-making government-owned companies declare dividends and pay
the same to the Government. As the Government is not a taxable entity, no tax is deducted
at source when dividend income is distributed (when dividend income was taxable). Since
DDT is a measure consequent to the exemption of dividend income from taxation, to offset
the revenue loss, the measure should have been confined to dividend distributed among
taxable shareholders.
To make the public sector pay, DDT on dividend distributed to the Government is
unreasonable and illogical. Public sectors companies, such as Bank of India, Canara Bank,
State Bank of India, ONGC, VSNL, MTNL, IOC and HAL, have been made to shell out huge
sums as DDT. For obvious reasons, these companies will not protest.
Moreover, after the amendments introduced by the Finance (No.2) Act, 2004, as far as a
shareholder is concerned, he is indifferent between equity dividend income and long-term
capital gains on equity shares as both are exempt in his hands. However, from the
company’s point of view, retentions are still better as in such a scenario the company can
avoid payment of Corporate Dividend Tax. One of the strongest arguments in the favour of
DDT is that it doesn’t let shareholders having huge stakes in the company go off without
paying taxes on their incomes.
34
The argument extended against DDT is that it leads to double taxation. First, as income tax
on the profits earned by the companies, then secondly, as DDT on dividends which is paid
out of profits lest after paying the income tax. The profits of a company are supposed to be
the income of shareholders. This way they, as part owners i.e. the shareholders, have
already been taxed.
Under the current Taxation system, when a subsidiary company pays dividend to its parent
company, it pays dividend distribution tax. When the parent company pays dividend to its
shareholders, probably utilizing all of its dividend receipts, it further pays dividend
distribution tax again on the same funds. This leads to double taxation, which should have
been resolved by taxing dividend in the hands of the shareholder. The worst hit is the group
companies or the chain investment companies, which will be subject to DDT more than once
to distribute its profits to the ultimate shareholders. It is important that shareholders get
fair returns on their equity holdings in a company. Otherwise they would prefer to choose
investing through other alternative means. Moreover, it creates a bias in favor of
undistributed profits against distributed profits. India needs to reduce the overall incidence
so as to make Indian companies competitive in the international market. DDT encourages
retention of profits in the hands of the company. It severely effects the capital formation
and development in a country where capital is scarce and liquidity is one of the essential
requirements of an economy. But it is equally important that shareholders get fair return on
their equity holdings. Also keeping in mind the present policy of globalization, high
corporate tax and less investment will make Indian companies suffer in the international
market.
35
References
1. Monica Singhania (2006), “Taxation and Corporate Payout Policy”, Vikalpa (Volume
31 No. 4).
2. Monica Singhania (2005),”Trends in Dividend Payout, Journal of Management
Research (Volume 5, No. 3).
3. Bhat, R and Pandey, I M (1994). “Dividend Decision: A Study of Managers’
Perceptions,” Decision, 21(1/2), 67-86.
4. Hindustan Times (2003). “Dividend Taxation Slows Corporate Growth,” January 20.
5. The Economic Times (2010). “Should dividends be taxed in investors' hands?”
January 28.
6. Business Standard (2010), “A case for withdrawal of dividend distribution tax”
February 25.
7. Baker, H. Kent, E.T. Veit and G.E. Powell (2001), Factors Influencing Dividend Policy
Decisions of Nasdaq Firms, The Financial
8. Review 36(3): 19-38.
9. Narasimhan, M S and Krishnamurti (2004). “The Role of Personal Taxes and
Ownership Structure on Corporate Dividend Policy,” unpublished paper.
36
10. Reddy, Y Subba (2002). “Dividend Policy of Indian Corporate Firms: An Analysis of
Trends and Determinants,” NSE Research Initiative, Serial No.19.
11. Dividend Tax, “Wikipedia.com”
37
Agriculture 1 Logistics 2
Agro Chem 2 Media and 4
Entertainment
Auto 13 Metal 8
Auto Ancillary 1 Mining 4
Banks 3 Misc. 5
Capital Goods 22 Oil & Gas 10
Cement 2 Others 8
Chemicals 5 Packaging 1
Consumer Durables 3 Paints 2
Diversified 5 Petrochemicals 1
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IT 10 Transport 2
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