Proceedings of 26th International Business Research Conference
7 - 8 April 2014, Imperial College, London, UK, ISBN: 978-1-922069-46-7
The Impact of Liquidity on the Dividends Policy
Ibrahim Elsiddig Ahmed*
The study of dividend policy has captured the attention of finance scholars
since the middle of the last century. The dividend policy refers to the practice
that management follows in making dividend payout decisions or, in other
words, the size and pattern of cash distributions over time to shareholders.
The main objective of this study is to investigate the factors influencing
dividend decisions and more specifically to test the relationship between
dividend payout ratio and dividend declared on one hand with net cash,
liquidity, and profitability on the other hand side.
The study has covered 24 local banks and 6 foreign banks working in UAE,
and tested the following three hypotheses. The first hypothesis is there is a
significant relationship between the amount of net profit and the percentage
of declared dividend; the second is cash dividend has a linear relationship
with the bank’s liquidity as measured by its net cash flows, and the third is
the percentage of dividend declared is significantly related to the liquidity of
the bank. The results of the study end up by accepting the first and the
second hypotheses and rejecting the third one.
Keywords: Dividends Policy, Liquidity, UAE Banking Sector.
GEL: G 35, G 32
1. Introduction
Dividend policy is one of the most controversial issues in finance. But still the
Dividend Puzzle: whether the dividend payout policy affects the value of the firm?
What are the factors which affect the determination of the dividend policy? Many
reasons are given for why dividend policy might be important and many of the claims
made about the dividend policy are economically illogical.
The term ‗dividend policy‘ refers to the practice that management follows in making
dividend payout decisions or, the size and pattern of cash distributions over time to
shareholders. The study of dividend policy has captured the attention of finance
scholars since the middle of the last century. They have attempted to solve several
issues pertaining to dividends and formulate theories and models to explain
corporate dividend behavior
In fact, the dividend issue is quite challenging. The important elements are not
difficult to identify but the interactions between those elements are complex and no
__________________________________________________________________
*
Dr. Ibrahim ElSiddig Ahmed, Assistant Professor of Accounting and Finance, College of Business
Studies,
Al-Ghurair
University,
Dubai,
UAE,
Tel.,
+971507607997,
E-mail:
ibrahim_ahmed7@yahoo.com.
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Proceedings of 26th International Business Research Conference
7 - 8 April 2014, Imperial College, London, UK, ISBN: 978-1-922069-46-7
easy answer exists, (Ross 2009). Many dividend theories have been propounded to
give the explanation on how the dividend decisions are being undertaken and
whether it has an influence on the value of the firm.
Regarding the dividend decision firms have only two options, either to pay or to not
pay dividends. The payment of cash dividends depend on the availability of cash and
liquidity of the firm.
Banking has a diversified and complex financial activity which is no longer limited
within the geographic boundary of a country. UAE banks are classified to be highly
liquid even during the period of financial crisis. Therefore, they are expected to pay
more dividends in the forms of cash.
1.1 The Objectives
Many factors affect the distribution of cash dividends such as the profitability, assets
size, low level of current liabilities, good relations with suppliers, and sound liquidity
position. The main objective of this study is to investigate to what extent the dividend
policy in the UAE banking sector is affected by the liquidity and availability of cash.
Furthermore, our detailed objectives are to measure liquidity using different
measures and to test the relationship between each measure and the dividend
payout ratio. Also we can test whether liquidity and dividend policy differ between
Islamic and other commercial banks or not. This paper adds to the existing body of
knowledge by empirically checking out the important factors which effect the
Dividend payout decision of UAE firms. As there is still very less number of
researches has been conducted in GCC particularly in UAE.
2. Literature Review
Dividend policy theory is closely tied to the work of Miller and Modigliani (1961,
hereafter M&M) and their dividend policy irrelevance thesis. M&M demonstrate that
under certain assumptions including rational investors and a perfect capital market,
the market value of a firm is independent of its dividend policy. In actual market
practices however, it has been found that dividend policy does seem to matter, and
relaxing one or more of M&M‘s perfect capital market assumptions has often formed
the basis for the emergence of rival theories of dividend policy. Because of
uncertainty of future cash flow, investors will often tend to prefer dividends to
retained earnings. As a result, a higher payout ratio will reduce the required rate of
return and hence increase the value of the firm (Gordon, 1959).
Three main contradictory theories of dividends can be identified. Some argue that
increasing dividend payments increases a firm‘s value. Another view claims that high
dividend payouts have the opposite effect on a firm‘s value; that is, it reduces firm
value. The third theoretical approach asserts that dividends should be irrelevant and
all effort spent on the dividend decision is wasted. These views are embodied in
three theories of dividend policy: high dividends increase share value theory (or the
so-called ‗bird-in-the- hand‘ argument), low dividends increase share value theory
(the tax-preference argument), and the dividend irrelevance hypothesis. Dividend
debate is not limited to these three approaches.
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Proceedings of 26th International Business Research Conference
7 - 8 April 2014, Imperial College, London, UK, ISBN: 978-1-922069-46-7
Typically, mature, profitable companies pay dividends. However, companies that do
not pay dividends are not necessarily without profits. If a company thinks that its own
growth opportunities are better than investment opportunities available to
shareholders elsewhere, the company should keep the profits and reinvest them into
the business. Companies that manage their cash flow effectively tend to sustain and
grow their dividend payouts over time. Successful growth of earnings usually pays
off for investors in the form of higher share prices (Ibrahim E. Ahmed 2013).
Liquidity dividends refer to available funds that can go to paying shareholders
dividends in the short term. A business' liquidity depends on the organization's ability
to convert its assets into cash to meet debt or other obligations. As a result, investors
with current or anticipated future liquidity needs may have a preference for dividend
paying stocks.
In this literature, stocks with higher liquidity levels trade at a premium and have lower
expected returns relative to stocks with lower liquidity levels. Firms, however, can
pay cash dividends, reduce investor dependence on the liquidity of the market, and
therefore raise their valuations — an option more valuable for firms with higher
discount rates due to lower liquidity levels. Indeed, Baker and Wurgler (2004a,
2004b) present significant evidence those firms consider valuation effects when
choosing a dividend policy.
Kania & Bacon (2005) studied the impact of profitability, growth, risk, liquidity and
expansion on the dividend decision/policy of a corporation. Their study concluded
that the dividend payout ratio is significantly affected by the profitability (return on
equity), growth (sales growth), risk (beta), liquidity (current ratio), control (insider
ownership) and expansion (growth in capital spending).
Fama and French (2001) empirically analyzed the importance of firm size,
profitability and growth opportunities in the firm's decision to pay dividends. Booth
and Cleary [2001] indicated that a firm‟s dividend policy is affected by profitability,
size, debt, risk, tangibility and growth.
Aivazian, B, Gatchev, V & Spindt, P (2007) tried to establish a link between the firm
dividend policy and stock market liquidity of NYSE and AMEX firms for the period
1963 to 2003. In the cross section analysis, they found that the owners of less
(more) liquid common stock are more (less) likely to receive cash dividends.
Gill, Biger and Tibrewala (2010) analyzed the American service and manufacturing
firms and found that the dividend payout ratio is a function of profit margin, sales
growth, debt-to-equity ratio and tax. For the services industry, the dividend payout
ratio is a function of profit margin, sales growth, and debt-to-equity ratio. For
manufacturing firms, the dividend payout ratio is a function of profit margin, tax and
market-to-book ratio.
Juhmani (2011) in his study of Malaysia listed companies for food industries under
the consumer products sector showed that variables having a strong relationship
with dividend payout are not necessarily the determinants of the dividend payment
decision such as profit-after-tax that has the strongest relationship with dividend per
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Proceedings of 26th International Business Research Conference
7 - 8 April 2014, Imperial College, London, UK, ISBN: 978-1-922069-46-7
share. The study further confirmed the fact that debt-to- equity ratio and past
dividend per share were the important determinants of dividend payment.
Kuwari (2009) studied the determinants of the dividend policy in GCC countries. The
study investigated the determinants of dividend policies for non-financial firms listed
on the Gulf Co-operation Council (GCC) country stock exchanges. The study found
out that the firms pay dividends with the intention of reducing the agency problem
and the listed firms in GCC countries alter their dividend policy frequently and do not
adopt a long-run target dividend policy. The study concluded that dividend payments
are strongly and directly related to government ownership, firm size and firm
profitability but negatively to the leverage ratio.
In UAE, Anupam Mehta (2012) empirically investigates the determinants of dividend
payout for all firms in the areas of real estate, energy sector, construction sector,
telecommunications sector, health care and industrial sectors (except bank and
investment concerns). This study analyses a range of determinants of dividend
policy: Profitability, Risk,, Liquidity, Size and Leverage of the firm The correlation and
the multiple regression techniques have been applied to find out the most significant
variables used by the UAE firms in making the dividend decisions. The study
provides evidence that profitability and size are the most important considerations of
dividend payout decisions by UAE firms.
The UAE banking sector has managed to survive the global economic crisis over the
last five years, starting from the mortgage crisis through the global financial crisis
and finally the debt crisis in Euro Zone. This enabled the banks to maintain a
comfortable level of liquidity and a strong capital base, in addition to a high capital
adequacy ratio as well as to realize a profit of approximately AED 26.5 billion in
2012, accompanied with generous dividends payout to the shareholders. It is worth
noting that cash dividends of National Banks have reached about AED 11 Bn. Which
represent about 48% of total profits.
The UAE banks‘ dividends could potentially trump its estimates (2012e dividend
yield: 4.0%), as early indicators suggest that banks are concentrating on returning
capital to investors. With near-term growth prospects remaining weak, there is a
strong case for UAE banks to enhance payout this year, especially as they are well
capitalized and adequately liquid, Hermes added. CBD‘s proposed FY12 dividend
(AED0.30/share, payout ratio c70%) sent a message that payout ratios could exceed
the dividend cap of 50%. ADCB acquired approval from regulators for a 10% share
buyback. Moreover FGB‘s management has been focused on returning capital since
2011. We believe a higher payout is positive for the sector‘s valuations – 2013e P/E
of 8.3x and P/BV of 1.3x – as it would enhance ROEs (2013e 14.0%).
2.1 The Hypotheses
In this section, we introduce the main hypotheses and conjectures providing an
intuitive explanation for the potential relevance of liquidity to the dividend payout
policy. The previous part of the literature covers the different aspects of dividends
theories, dividends policy, the importance of dividends, the relationship between
dividend and liquidity, and the common practice of dividends worldwide, dividends in
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Proceedings of 26th International Business Research Conference
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the Gulf, and dividends in UAE. Based on this literature survey, we can state the
following hypotheses to be tested by the data collected from the financial reports of
the UAE banking sector.
Hypothesis 1: There is a significant relationship between the amount of net profit
and the percentage of declared dividend.
Hypothesis 2: Cash dividend has a linear relationship with the bank‘s liquidity as
measured by its net cash flows.
Hypothesis 3: The percentage of dividend declared is significantly related to the
liquidity of the bank.
3. The Methodology
The study is considered to be a unique and a comprehensive study in the sense that
it covers all the banks operating in the UAE both local and foreign banks. The
population of the study is composed of all the 24 UAE national banks plus 6
branches for the major foreign banks working in UAE. In total our sample is
composed of 30 banks local and foreign. The financial performance indicators of the
UAE banking sector are highlighted below.
The objective of this study is to test the relationship between liquidity of the bank and
its dividend payout policy. Therefore, the first variable is the liquidity.
The liquidity or cash flows position is another important determinant of dividend
payouts. The firms with more liquidity are more likely to pay dividends as compared
to the firms with a liquidity crunch. Dividend payments depend more on cash flows
which reflect the bank‘s ability to pay dividends. Liquidity has been measured by the
net cash flow as extracted from the cash flow statement of each bank as indicated in
the analysis section. Another measure of liquidity is the ratio of financial assets to
total assets of the bank.
The second variable is the bank‘s profitability. Previous researchers have found
profitability as one of the most important determinants of dividend payout policy.
However, the results on relationship of profitability and dividend payout have been
mixed. As per the pecking order theory, the firms will prefer to rely more on internal
funds or retained earnings as a result the firms will have a tendency of paying less
dividend and hence having more retained earnings. Hence, the profitable firms will
prefer lower dividends.
Net profits represent the base for dividend declaration and the dividend payment. It
is expected that when the bank‘s achieves high profits, more dividends will be
declared and paid. The annual net income for each bank is generated from the
income statement of the bank.
The third variable is the dividend declared by the bank. It is not always important to
pay what is declared, the dividend declared takes place before the payment date and
its payment depends on the availability of the net cash flow. The dividend declared
ratio is measured by the amount of dividend declared compared to the net profit of
the bank.
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Proceedings of 26th International Business Research Conference
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3.1 The Data Collection
The data employed in this study is derived from the annual publications of the UAE
banks. Based on a one-year period (2012) of 30 banks listed on the Dubai Financial
Market and Abu Dhabi Securities Exchange, the data collected. This data set consist
of all UAE local banks (24) plus 6 foreign banks, to have a total of 30 banks. Some of
the variables are taken directly from the reports and some others have been
calculated such as the dividend payout ratio.
One of the major limitations of this data is that it covers only one financial period but
assumed to be representative to other periods as it covers all the banks instead of
selected banks.
4. Analysis and Findings
The data collected have been analyzed using the Statistical Package of Social
Sciences (SPSS). The package helps us to provide a comprehensive analysis for
our data according to the target objective of the study. Two types of analysis have
been conducted:

Normality Test: In statistics, normality tests are used to determine whether a
data set is well-modeled by a normal distribution or not, or to compute how likely an
underlying random variable is to be normally distributed. More precisely, they are a
form of model selection, and can be interpreted several ways, depending on one's
interpretations of probability.

Correlation: Correlation is a statistical technique that can show whether and
how strongly pairs of variables are related. For example, net cash and dividends are
related; more profits result in more dividends payments. Spearman‘s correlation or
Spearman‘s rho is a nonparametric measure of statistical dependence between two
variables. It assesses how well the relationship between two variables can be
described using a monotonic function. If there are no repeated data values, a perfect
Spearman correlation of +1 or −1 occurs when each of the variables is a perfect
monotone function of the other.
First, the discussion starts by the descriptive statistics of the variables used in
research (depicted by Table 1). This is done by the normality test to predict whether
the data is normally distributed or not. The high values of means and standard
deviations of the variables prove that the data is not normally distributed. Over and
above, the 2-tailed significant test is above the significant value of 0.05, which
proves that the data are different among the different banks of the sample.
The Normality shows the banks tested by this study, their means and standard
deviations. The extreme dividends are presented by the normal test, which varies
among the banks under study as indicated by the high values of standard deviations
and the extreme differences. The results are clearly stated on table 1 below.
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Proceedings of 26th International Business Research Conference
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Table (1) One-Sample Kolmogorov-Smirnov Test
net cash
N
29
Normal Parametersa,b Mean
1830800.07
Std. Deviation 5544195.455
Most Extreme
Absolute
.226
Differences
Positive
.223
Negative
-.226
Kolmogorov-Smirnov Z
1.218
Asymp. Sig. (2-tailed)
.103
a. Test distribution is Normal.
b. Calculated from data.
liquidity
ratio
30
.349813
.1992020
.204
.204
-.108
1.116
.166
percentag
dividend
e of
payout
dividend
ratio
declared
30
29
.356857 .250366
.2288155 .1947445
.166
.148
.141
.148
-.166
-.099
.910
.796
.379
.551
Second, it discusses the results of correlation analysis to decide about the
acceptance or rejection of the hypothesis. The following correlations between
dividend payout ratio and the concerned variable are analyzed:

To test the first hypothesis, we have to analyze the relationship between the
net profit and the percentage of declared dividend: the relationship between net
profits of the UAE banks and the dividend payout ratio is positive that proves there is
a very weak relationship as the value of the coefficient is 0.249. Moreover, the
relationship is not statistically significant as the p-value is (0.192) greater than the
conventional significant level of 0.05. This means that the variable correlation is
random. The explanation to this finding is that the banks‘ profits are reinvested again
as retained earnings and not paid for the shareholders as cash dividends.
On the other hand, as per Spearman‘s correlation, there is a significant relationship
between the net profit on one hand and the cash dividend and the percentage of
dividend declared on the other hand. It is proved by the significant two tailed test of
0.026, which is far below the significant level of 0.05. For details see table (2).
Therefore, one can conclude that there is a significant relationship between net profit
and the percentage of dividend declared and based on this finding, the first
hypothesis is accepted.
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Proceedings of 26th International Business Research Conference
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Table 2: Correlations between NI and Cash Dividends
Spearman' net income
s rho
Correlation
Coefficient
Sig. (2-tailed)
N
dividend payout ratio
Correlation
Coefficient
Sig. (2-tailed)
N
percentage of dividend Correlation
declared
Coefficient
Sig. (2-tailed)
N
amount of cash
Correlation
dividend paid
Coefficient
Sig. (2-tailed)
N
*. Correlation is significant at the 0.05 level (2-tailed).
amount of
percentage
cash
of dividend
dividend
declared
paid
.249
.412*
.192
29
.291
.026
29
.274
.126
29
1.000
.150
29
.326
.
29
.326
.091
28
1.000
.091
28
.
29

Net cash flow: the relationship between net cash amount and the dividend
payout ratio is positive that proves a relationship but very weak as the value of the
coefficient is 0.049. More importantly, the relationship is not statistically significant as
the p-value is (0.805) greater than the conventional significant level of 0.05. This
means that the variable correlation is random or happened by chance. The
explanation to this finding is that the banks use net cash for new investments and
loans rather than for dividend payment.
On the other hand, as per Spearman‘s correlation, there is a significant relationship
between the net cash and the amount of cash dividend paid. It is proved by the
significant two tailed test of 0.004, which is below the significant level of 0.05.
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Proceedings of 26th International Business Research Conference
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Again this proved by the relationship between liquidity ratio and the dividend payout
ratio, which is also significantly unrelated of (0.365) correlation coefficient. (See
Table 3)
Therefore, one can conclude that the relationship between net cash and the
percentage of dividend declared is insignificant but on the other hand there is a
significant relationship between net cash and the dividend paid in cash. The main
finding based on this test, is to accept the second hypothesis.
Table 3: Correlations between Dividend Payout Ratio and Liquidity
percentage
of dividend amount of cash
declared dividend paid
Spearma net cash
Correlation
.049
.532**
n's rho
Coefficient
Sig. (2-tailed)
.805
.004
N
28
28
dividend payout
Correlation
.291
.274
ratio
Coefficient
Sig. (2-tailed)
.126
.150
N
29
29
percentage of
Correlation
1.000
.326
dividend declared Coefficient
Sig. (2-tailed)
.
.091
N
29
28
amount of cash
Correlation
.326
1.000
dividend paid
Coefficient
Sig. (2-tailed)
.091
.
N
28
29
**. Correlation is significant at the 0.05 level (2-tailed).

The third hypothesis states that; the percentage of dividend declared is
significantly affected by the liquidity of the banks. The relationship between
percentage of dividend declared of the UAE banks and the liquidity ratio is negative
(-0.025) that proves there is a negative relationship. Moreover, the relationship is not
statistically significant as the p-value is (0.896) greater than the conventional
significant level of 0.05. This means that the variable correlation is random. The
explanation to this finding is that the banks‘ dividend is earlier declared. Also there is
no relationship between the liquidity and the cash dividend as evidenced by the
results of (Table 4).
At the end, one can conclude that there is no significant relationship between the
liquidity ratio and the percentage of dividend declared and based on this finding, the
third hypothesis is rejected.
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Proceedings of 26th International Business Research Conference
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Table 4: Correlations between Liquidity and Cash Dividends
amount of
dividend
percentage cash
liquidity
payout
of dividend dividend
ratio
ratio
declared
paid
liquidity ratio
Pearson
1
.171
-.025
-.185
Correlation
Sig. (2-tailed)
.365
.896
.337
N
30
30
29
29
dividend payout Pearson
.171
1
.279
-.042
ratio
Correlation
Sig. (2-tailed)
.365
.143
.830
N
30
30
29
29
percentage of Pearson
-.025
.279
1
.409*
dividend
Correlation
declared
Sig. (2-tailed)
.896
.143
.031
N
29
29
29
28
*
amount of cash Pearson
-.185
-.042
.409
1
dividend paid
Correlation
Sig. (2-tailed)
.337
.830
.031
N
29
29
28
29
*. Correlation is significant at the 0.05 level (2-tailed).
Based on the test of the hypotheses, we can come up with the following findings:

As stated by the first hypothesis: ―There is a significant relationship between
the amount of net profit and the percentage of declared dividend‖. This hypothesis is
accepted because after the test, we found that there is a significant relationship
between net profit and the percentage of dividend declared. Majority of the banks
declare dividend, when they estimate their profitability or based on the profits
reported in the previous few years. Around 80% of the banks in UAE are found to be
profitable and the dividend declared by the profitable bank has a linear and positive
relationship with the net income.

The second hypothesis is projecting a linear relationship between liquidity (net
cash) of the bank and its dividend paid in cash. The finding here proved a significant
relationship between the net cash reported at the end of the year and the cash
dividend. Therefore, the hypothesis is accepted. It is obvious result that banks pay
dividends in cash when they have a reasonable balance of net cash after taking into
consideration the three activities (operating, investing, and financing). Majority of the
UAE banks have a positive net cash flow and at the same time they pay cash
dividends.

The purpose of the third hypothesis it to test the relationship between liquidity
and the dividend declared as stated: ―The percentage of dividend declared is
significantly related to the liquidity of the bank‖. Our findings here prove the opposite
as there found to be there is negative or no relation between the liquidity and the
dividend declared. The liquidity of the banks represents the financial assets
compared to total assets. Hence, the third hypothesis is rejected because the
relationship is not significant or happened randomly or by chance.
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Proceedings of 26th International Business Research Conference
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5.
Summary and Conclusion
The dividend policy refers to the practice that management follows in making
dividend payout decisions or, in other words, the size and pattern of cash
distributions over time to shareholders. It is quite challenging issue because
managers do not know exactly on what base to pay or not to pay dividends. The
main objective of this study is to investigate the factors influencing dividend
decisions and more specifically to test the relationship between dividend payout ratio
and dividend declared on one hand with net cash, liquidity, and profitability on the
other hand side.
This study is comprehensive in the sense that it covers around 95% of the banks
working in UAE (24 local and 6 foreign banks). The different ratios related to the
dividend have been collected and calculated to achieve the objectives.
To achieve the stated objectives, the study tries to test three stated hypotheses,
which are:
Hypothesis 1: There is a significant relationship between the amount of net profit and
the percentage of declared dividend.
Hypothesis 2: Cash dividend has a linear relationship with the bank‘s liquidity as
measured by its net cash flows.
Hypothesis 3: The percentage of dividend declared is significantly related to the
liquidity of the bank.
The results of the study end up by accepting the first and the second hypotheses
and rejecting the third one.
Further Research
This research is one of the few researches in the UAE banking sector and how they
decide about dividends. The study concentrates on some selected factors and their
relations with dividend declared ratio and dividend payout ratio. In my opinion, this
study opens a wide door for future researches such as:

The relationship between dividend policy and the stock prices.

Dividends during the financial crisis age.

Variations in dividend declaration and payment between Islamic and nonIslamic banks.
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Proceedings of 26th International Business Research Conference
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