Inter-relationship between the capital structure and distribution policies of companies listed on the JSE

Abstract

Previous studies have invoked information costs, the trade-off theory and the pecking-order theory as well as agency problems to explain capital structure and distribution strategies independently. However, the theories of the signalling, pecking-order, trade-off and agency cost suggest that a company’s capital structure and distribution strategies are interrelated not only through joint determinants, namely the company-specific attributes, but also directly to each other. Consequently, this research examined the inter-relationship between capital structure and distribution strategies (dividend payments and repurchase of shares) of companies listed on the Johannesburg Stock Exchange (JSE) in the four main sectors for the periods 1990 to 2017 and 1999 to 2017. The study was done for two periods because the repurchase of shares in South Africa only became legal during 1999.

Using the pooled regression model, the fixed-effects model, the random effects model, the generalised method of moments and the three-stage least squares estimation (full information), the results revealed that the financing patterns and the distribution strategies of JSE-listed companies were likely to be jointly determined. The results also indicated that the interdependence between capital structure and distribution policies could also be determined through some joint determinants.

Advanced threshold regression analysis was used. The empirical evidence supported the existence of an optimal capital structure and the threshold effect, for the payment of dividends over the period 1990 to 2017 and 1999 to 2017, which was consistent with the trade-off theory. However, the threshold effect did not affect share repurchases over the period 1999 to 2017. Furthermore, the results of the model of choice revealed that the choice between the dividend payments, both (dividend payments and the repurchase of shares) or none (neither dividend payments nor share repurchases) relative to share repurchases was driven by profitability, company size, cash flow, working capital and market volatility. The results indicated that with an increase in profitability as a determinant of choice, JSE-listed companies were more likely to choose to pay dividends only or pay dividends and repurchase shares at the same time. During periods of high market volatility (policy uncertainty in the market), the results showed that South African managers chose to reduce the amount paid in dividends and share repurchases or neither pay dividends and repurchase shares at all.

The sectoral analysis revealed that the four chosen sectors of the JSE were subjected to different challenges in terms of operating risk, technology requirement and environmental regulations, which resulted in different financing decisions and distribution strategies. The literature indicated that companies’ financing and distribution decisions not only relied on companies’ specific characteristics, but the nature of the sectors could also determine these decisions. This argument was consistent with the research findings.

The findings in the study have important implications for putting into practice good financing and distribution policies. The outcome of the analyses implies that South African companies in the four main sectors, namely basic materials, industrial, consumer goods and consumer services, and their managements teams must be aware of the inherent interactions among financing and distribution decisions in order to avoid undesirable side effects which may result from a wrong decision. Consequently, South African managers should consider the key corporate decisions simultaneously and through joint determinants.