**1. Introduction**

All investors expect a certain amount of return on their investment for the risk taken. Firms can allocate profits to their stockholders either through dividends or share repurchases. Investors can get a return on their investment through dividends (current income). Alternatively, if a company has a lucrative investment opportunity available, it may not distribute its profits. The outlay in a profitable venture will also increase the value of a company, resulting in capital gains (future income) to investors. Theoretically, both dividend payout and retention lead to shareholder wealth maximization. Thus, as concluded by Miller and Modigliani (1961), investors should not differentiate among dividends and retaining profits. However, Miller and Modigliani's assumptions of a perfect capital market, no taxes, certainty, and fixed investment strategy does not really exist.

Certain studies consider that the dividend decision influences the value of a firm (Walter 1963), and is interlinked with the firm's investment policy. Researchers also theorize that generally, investors are risk-averse and give preference to receive certain dividends rather than uncertain capital gains, which are riskier. It is referred to as the "bird-in-hand" argument, as investors prefer current income rather than future income (Gordon 1963). Also, the tax treatment of dividends and capital gains is different. Furthermore, tax preference determines the stocks selected by investors, depending on the

stocks' specific dividend policies. It is denoted as the "clientele effect." However, Allen et al. (2000) report that dividends are not used by managers to attract investor clientele.

The signaling theory by Solomon (1963) and Ross (1977) suggests that dividend policy gives information about a stock. Dividends can be distributed out of profits, and require the existence of free cash flows; hence, the payment of dividends provides a positive signal to investors (Bhattacharya 1979; Miller and Rock 1985). According to Jensen (1986), the agency cost of the free cash flow model predicts that companies with larger free cash flows tend to distribute higher dividends rather than investing in projects with a lower net present value (NPV). It also assumes that such firms also take a higher amount of debt, which involves the payment of fixed interest charges. The obligation on the part of the company to make timely payments of principal and interest will ensure that the company does not invest in less profitable investment opportunities, and thus helps in reducing agency cost.

Various factors influencing a firms' dividend policy have been evaluated by researchers. The outcome of these studies has not entirely resolved the controversies linked to dividend decision. Hence, it is not astonishing that "dividend controversy" has been listed by Brealey and Myers (2002) as one among ten of the most important unsolved corporate finance problems. Also, the determinants of dividend decision are not uniform across firms. Nevertheless, researchers have reported that determinants of dividends vary across countries and over different periods of time e.g., (Ramcharran 2001). Studies have also reported that variations in dividends across countries occur because of differences in economic policy for each country, including corporate governance policy (Mitton 2004; Sawicki 2009) and pertinent laws applicable (La Porta et al. 2000b; Sawicki 2009).

Emerging and developed markets also differ in many ways. Glen et al. (1995) report that dividends in emerging market firms are more volatile than U.S. firms. Aivazian et al. (2003b) find that country-specific factors have an impact in determining dividend policies in emerging markets. They have also reported that compared with U.S. firms, higher dividends are paid by emerging market firms, which itself is puzzling. Reddy and Rath (2005) have also reiterated that dividend behavior in emerging markets has not been evaluated extensively. Hence, it is necessary to evaluate the dividend paying behavior of emerging market firms in further detail.

Lintner (1956) postulates that sectors influence the dividend policy. This sectoral influence is mainly because firms belonging to a sector have similar earnings prospects, investment prospects, and accessibility of resources. As a result of these similarities, firms in the same sector have similar dividend policies (Michel 1979; Baker 1988; Dempsey et al. 1993). However, very limited studies have evaluated the variances in dividend policy behavior across sectors. Also, the economy has undergone multiple changes, thereby altering this relationship. Furthermore, these studies have focused on developed markets.

Considering the above facts, this paper contributes to the existing literature in two ways. Firstly, it provides insight into the dividend policy issue for an emerging market. India has developed as the fastest expanding major economy across the globe, and hence it is considered for the purpose of this study. It is attracting many major economies for strategic investments, owing to the presence of an immense variety of industries, investment prospects, and increasing integration into the global economy. Secondly, this study strives to bridge a significant gap in the existing literature by evaluating the dividend behavior across industrial sectors.

The remaining paper is organized as follows. Section 2 appraises the present literature, develops the hypotheses and also provides an ephemeral overview of the Indian economy and its implication on dividend-paying behavior; Section 3 defines the source of our data and the variables involved, and also lays down the construction, relevance, and validity of the tools and techniques used for empirical analysis; Section 4 presents and discusses the outcomes from the analysis of collected data; and Section 5 provides the summary and conclusion of the paper.

## **2. Review of Literature and Institutional Background**

Dividend policy is a crucial corporate finance decision, which is interrelated to financing and investing decision. The existing literature has identified various dividend policy determinants. However, researchers agree that there is no solitary description of the dividend-paying behavior of firms. In fact, the more we look at the dividend behavior of firms, the more it seems like an unresolved "dividend puzzle" (Black 1976). Ooi (2001) has also cited that although dividend payout is considered as a vital management decision, it continues to puzzle managers, researchers, and investors. The puzzle circles around the factors influencing the dividend payout and whether investors pay attention to dividends?

#### *2.1. Factors A*ff*ecting Dividend Policy*

Lintner (1956) has reported that managers give importance to the stability of dividends. They do not like to cut or omit dividends. Instead, companies generally set a target payout ratio and consider current years' earnings and dividend of the previous year as essential dividend policy determinants. Present as well as future earnings, the stability of earnings, and shareholders' needs are considered as essential factors for dividends by Indonesian firms (Baker and Powell 2012).

Al-Najjar and Kilincarslan (2017) have reported that publicly listed firms in Turkey generally adopt long-term payout ratios, and hence the stability of the dividends is followed (comparatively less than the developed markets of the U.S.). They also report that the concentration of ownership affects the target payout ratios. Mehar (2005) has stated that dividends are related positively to insider ownership and inversely to liquidity for Pakistan listed firms.

Kevin (1992) finds that a change in profitability does not influence the dividends of Indian companies, as they tend to follow a sticky dividend policy. Mahapatra and Sahu (1993) have found that Lintner's model finds no support in the Indian context. They establish that mainly cash flows and then the net earnings are essential for a dividend payout in India. However, Bhat and Pandey (1994) surveyed the finance directors of the Economic Times 250 top Indian firms, and found that dividend payment depends on present and future earnings, as well as preceding years' dividend per share. Hence, these findings explain that Lintner's model is applicable in India. Mishra and Narender (1996) also report similar findings for state-owned-enterprises in India. Pandey and Bhat (2007) have found that restricted monetary policy leads to a reduction in dividend payments. They also report that the previous two years' dividends and the current year's dividend are significant for a dividend payout in India. However, they report an instability of dividend policies and not much of a tendency of smoothing dividends in Indian companies.

Fama and French (2001) have reported that large firms with a high profitability and low investment opportunities tend to pay dividends, and vice versa. Hence profitability, investment opportunities, and size are the three important characteristics that enable the differentiation between dividend paying and non-paying firms in the United States. These findings are consistent with studies conducted in developed economies by (Fama and French 1999; Easterbrook 1984; Benito and Young 2003; Ferris et al. 2006; Renneboog and Trojanowski 2007; Von Eije and Megginson 2008).

In addition to profitability, investment opportunities, and size, Yarram (2015) reports that dividends of Australian firms are also positively related to corporate governance. Chowdhury et al. (2014) however, report that dividend payments by Chinese firms do not indicate future profitability, but demonstrate good corporate governance.

For profitability, investment opportunities, and size, Al-Najjar (2009) report similar findings for Jordan listed firms. However, they also find that debt is inversely related to cash dividends. Yusof and Ismail (2016) also report similar findings for listed companies in Malaysia. Additionally, they also state that profitability and liquidity significantly influence dividends for Malaysia.

Bhole and Mahakud (2005) have reported that the retention ratio has a positive relation with profit after tax, investment level, borrowing cost, and rate of growth for Indian firms, and has a negative association with borrowed funds, tax rate, and cost of equity. These results are similar to Auerbach (1982) and Bhole (2000).

Reddy and Rath (2005) have reported that more profitable companies, having lesser opportunities to invest with a larger size, are likely to distribute dividends in India. Subhash Kamat and Kamat (2013) have reported that for Indian companies, the tangibility of assets, size, and earnings are significant for determining payout policies. The results are consistent with (Fama and French 2001; DeAngelo et al. 2004; Denis and Osobov 2008).

Setia-Atmaja (2010) has found that firms controlled by families pay higher dividends because of the existence of a larger proportion of independent directors, for publicly listed Australian companies. Gul (1999) has reported that government ownership is positively associated with debt financing and dividends for Shanghai-listed companies.

Extending the Baker and Wurgler (2004) theory of catering incentive to increase and decrease in dividend payments, Li and Lie (2006) have reported that companies tend to pay more dividends if they are profitable and large, and have low past dividend yield, debt ratio, cash ratio, and price-to-book ratio. Baker et al. (2007, 2013) have reported that firm size, profitability, investment opportunities, and catering incentives are essential factors for Canadian firms. Tangjitprom (2013) finds the support of catering theory of dividend in Thailand.
