CHAPTER ONE
INTRODUCTION
1.1
Background to the Study
Public companies typically have ownership divested from management (Mullins and
Christy, 2013). The owners of the companies (called shareholders) vest their management of
the firm in the hands of management team (called the Board of directors), with the
expectation and understanding that the Directors will run the company in such a manner that
value is created for the owners. A firm’s management creates value for shareholders if the
Market Value(MV) of ordinary shares surpasses the par or Book Value (BV) of ordinary
shares (that is, MV is greater than BV), but destroys value if MV is less than BV and
maintains value if MV equals to BV (Pandey, 2002 and Akinsulire, 2010).
The fiduciary duty which devolves upon the management of the firm requires that
management should have a thorough understanding of the dynamics of underlying factors
which may create or destroy value for owners, as such, the subject of value creation is too
critical and important not to be ignored by any management seeking to fulfill its fiduciary
duties. The theory of shareholder value, traditionally suggests that every company’s primary
goal is to maximize the wealth of its shareholders (Jensen, 2002; Pandey, 2005; Chikwendu,
2009; and Madan, 2013). Considering that stakeholders (including shareholders) are
increasingly holding management to greater accountability by requiring the latter
(management) to demonstrate how they are creating value (CIMA, 2014), the shareholders’
value creation discourse has become very vital.
In spite of the vast number of studies conducted in foreign countries related to
shareholders’ value, the debate as to the factors determining value creation is unsettled; this
is evidenced by the number of studies that have been carried out on the subject in different
parts of the world. The identification of financial factors which have the highest impact on
value creation in a business can facilitate establishment of criteria for appropriate strategies
selection in that direction (Marangu & Ambrose, 2014).
Finance theory contends that the ultimate goal of a company is to maximize
shareholder wealth (Jensen, 2002 and Madan, 2013) this is because shareholders provide
funds to the company. This means that the shareholders’ wealth will be reflected in the value
of the company, which is indicated by the relevant company’s share price on the stock
market. Shareholder wealth maximization as the goal of the company will facilitate the
measurement of the performance of a company. If the stock price of a company shows an
increasing trend in the long run, it indicates that the shareholders’ value created is good.
Besides stock market price, shareholders usually see the company’s success by its
financial performance. The common question asked by the shareholders is, how does
management generate adequate profits on the company’s assets? How does the company
finance its assets? In this respect, Van and Wachowicz (2008) contend that profitability ratio
is a popular determinants of the shareholders’ value creation (company’s performance).
The ability of a firm to create value by paying out dividend to its shareholders
depends on its ability to generate cash from its operating activities and access of additional
funds through external financing (Vazakidis and Adamopoulos, 2009). The shareholder
returns basically depends on prices, costs, investments, volume of products sold and riskiness
of firms in an industry (Osinubi and Amaghionyeodiwe, 2003; Soyede, 2005). The variables
representing these factors can be considered as determinants of shareholders’ value. Working
capital and fixed capital investment are the two components of investment value drivers
(Rajesh, 2015). Management’s investment choices and financial policy are also value drivers
in the context of riskiness of cash flows for the company (Olokoyo, Oyewo and Babajide,
2014).
Companies that are conscious of shareholders’ value creation with large amounts of
excess cash at their disposal but with limited value-creating investment opportunities, they
return the money to shareholders through dividends and share buybacks. Not only does this
give shareholders a chance to earn better returns another investment option, but it also
reduces the risk that management will use the excess cash to make value-destroying
investments in particular, as well as ill-advised, overpriced acquisitions (Alfred, 2006).
Economies of scale for firms in purchasing, manufacturing, distribution and research,
operating margin, working capital investment and fixed capital investment can generate
values for firms (Hansen and Mowen, 2000; Horngren, Datar and Foster, 2006). The link
between value chains and value drivers as reflected by sales growth rate, operating profit
margin, income tax rate, working capital investment, fixed capital investment and cost of
capital are basic building blocks of shareholder value creation (Akinsulire, 2010; Okwo and
Ugwunta, 2012; CIMA, 2014). It is in light of the above that the study examined the
relationship between the variables of the study (determinants of shareholder value of listed
industrial goods firms in Nigeria).
Furthermore, value delivered to shareholders as a result of management ability to
increase sales rates of the products of an organisation is referred to as shareholders’ value
creation (Mohd, Sam, & Yasuo, 2013). Sales growth is considered as control lever of
shareholder value creation (Mohd et al., 2013). Managers of organisations pay more attention
to growth of the sales and based on the responsibility reposed on them by the owners of the
firms called the principal, are expected to maximize the shareholders’ value creation. Firms
revenue is a function of the size of the sales of the company, the managers will strategize
their activities towards maximizing the sales amount in order to strengthen the shareholders’
value. Therefore, the study expects that the shareholder value creation is positively
influenced by the sales growth rate (Mohd, Sam, & Yasuo, 2013).
Ramezani, Soenen and Jung (2002) explore the relationship between sales growth and
shareholder value creation. They use Jensen’s alpha as a measure of shareholder value and
find that beyond a certain point, growth has an adverse effect on shareholder value. The
growth is considered as one of the control lever of shareholder value creation. The growth of
the sales constitutes a priority objective for the managers. The managers of companies
maximize the shareholder value creation through sales growth that will strengthen the
prestige of the companies (Ben, 2012).
1.2
Statement of the Problem
Shareholders’ value creation is the main objective of business organizations but few
studies use shareholder value creation measures as performance indicator (Rajesh, 2015 &
Fiordelisi, 2010). This makes identifying and selecting strategies that create value for
shareholders a major challenge facing management in the Nigerian economy (Burlacu, 2013;
Mehrnaz, 2013; Jodlbauer, 2012 and Enekwe, Nweze, & Agu, 2015).
Capital means ready funds which are necessary for the working of any concern.
Basically, manufacturing companies are expected to have more current assets than fixed
assets. If the firms have no adequate current assets then they have to face shortage and cannot
perform their day to day operations smoothly.
Every organization whether profit oriented or not, irrespective of size and nature of
business requires necessary amount of working capital which is more important factor to
maintain existence, liquidity, solvency and profitability which later create more value to the
shareholder. If the firms have greater proportion of liquid assets, then there is no risk of
shortage. But this will affect profitability on the other hand. Furthermore, by managing the
working capital management can create value for shareholders because they are preserving
the liquidity and increasing the profitability of the companies. In a situation where
determining factors and their proportion of participation are not explained fully then
adequacy of working capital will be undetermined which will lead to company’s’ bankruptcy
(Robert, Mark, & Rabhi, 2008).
Studies on shareholders’ value have predominantly been conducted in foreign
countries (Marangu & Ambrose, 2014; Habib, Faisal, & Muhammad, 2016; Mohammad
Hashemijoo, Ardekani, & Younesi, 2012 and Damar & Umar-Farouk, 2016) but very few
studies were carried out in Nigeria (Chikwendu, 2009; Kolawole, 2013; Ya’u, Abdulrasheed,
& Emmanuel, 2015; Oladipupo & Okafor, 2013; Asogwa, 2009 and Enekwe, Nweze, & Agu,
2015) . There are a many studies which were conducted to investigate the interaction
between shareholder values and its determinants (dividend payout, working capital, Sales
Growth rate, return on equity and debt) in different countries of the world which are mostly
developed economies which have different peculiarities from our own developing economy
and the findings of the studies documented mixed results.
The few studies on shareholders’ value that have been conducted in Nigeria have
focused on financial service sectors (Kolawole, 2013) leaving out listed industrial goods
firms in Nigeria. However, this study focuses on industrial g goods firms as it is one of the
emerging sectors in the Nigerian economy. It is of paramount importance to examine the
determinants of shareholders’ value creation within the Nigerian economy using the most
recent data of listed industrial goods firms in Nigeria. The extant empirical literature on the
determinants of shareholder value in industrial goods firms appears somehow limited
The finance literatures acknowledge various determinants of shareholders value
creation. In terms of sales growth, (Davidson, Steffens & Fitzsimmons, 2009 and Amidu &
Abor, 2006) suggest that sales growth has a negative relationship with company shareholder
value, while Mbuvi, 2015 and Sakthivel, 2011) argue that, the sales growth is positively
related to company shareholder value.
In terms of leverage (debt), Burja (2011) suggests that leverage have positive impact
towards company shareholder value, meanwhile Kaplan, Ozmen and Yalcin (2006), Zeitun
and Tian (2007), and Nicolescu (2010) provide evidences that leverage have negative impact
on shareholders’ value. On the other hand, working capital which is also part of determinant
of company shareholder value has a positive impact on shareholders’ value as reported by
several empirical studies (Goddard, Tavakoli and Wilson, 2005; Chander and Priyanka,
2008; and Mihajlov, 2014). Conversely, Rajčaniova and Bielik (2008) and Serrasqueiro and
Nunes (2008) provide evidences that working capital has a negative impact to company
shareholders’ value.
On dividend payout as determinant of company shareholder value, Marak and
Chaipoopirutana (2014) conclude that there is a positive relationship between dividend
payout and company shareholder value. In contrast, Mohd, Sam and Yasuo (2014) find that
the dividend payout is negatively or not significant at all to company shareholder value.
Return on equity as determinant of company shareholder value. Damar and Umar
Farouk (2016) indicate that there is a positive relationship between return on equity and
company shareholder value. In contrast, Jami and Bahar (2016) find that return on equity is
negatively or not significant at all to company shareholder value.
The mixed findings of the above studies left interesting questions relating to possible
factors that determine the shareholder value creation in the listed Nigeria industrial goods
firms. Do dividend payout, working capital growth, return on equity and debt influence
shareholder value creation in the listed Nigeria building companies?
It is against the backdrop that this study is conducted to determine the factors that
affect shareholders’ value of industrial goods firms in Nigeria. It is of paramount importance
to investigate the determinants of shareholders’ value of industrial goods sector given that the
firms are among the major contributors to economic development of any nation. The creation
of such value of firms should expectedly translate to more economic development, this is
because if more dividend are paid, sales growth are increased and return on equity are
improved will lead to increase of disposable income which will bring more revenue to the
government that will be used for economic development.
1.3
Research Questions
The study will provide answers to the following research questions
To what extent does dividend payout affect shareholders’ value of listed industrial
goods firms in Nigeria?
To what extent does ratio of working capital to total assets affect shareholders’ value
of listed industrial goods firms?
To what extent does sales growth affect shareholders’ value of listed industrial goods
firms?
To what extent does return on equity affect shareholders’ value of listed industrial
goods firms?
To what extent does ratio of debt to equity affect shareholders’ value of listed
industrial goods firms?