Development And Nature Of Knowledge Finance Essay

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Chapter 3
Research Philosophy
3.0 Introduction
The term research philosophy relates to the development and nature of knowledge. Although this sounds rather ground, it is exactly what you are doing when you are engaged in research Collins( 2010)
3.1 Types of research philosophy
There are three types of research philosophy. They are positivism, realism and interpretivsm.
According to Collin (2010), positivism is in accordance with the empiricist view that knowledge stems from human experience.
It is an approach that includes various philosophy of natural science such as philosophy of unchanging, universal law and the view of everything that occurs in the nature. Sundars (2003).
Example is testing of an existing theory.
Interpretivism is associated with the philosophical position of idealism, and is used to group together diverse approaches, including social constructionism, phenomenology and hermeneutics; approaches that reject the objectivist view that meaning resides within the world independently of consciousness.( Collin,2010)
This is based on the belief that a reality exists. That is independent of human thoughts and beliefs (Saunder et al,2003)
The research philosophy chosen for this research was positivism. The approach was adopted because the research operates with observable reality and there are proven theories regarding capital structure.
3.2 Research strategy
For the purposes of this study, the data was correlated from primary sources, thus, the official web site of the firms selected. A difference-in-difference estimator model would be utilized to analyze the data.
3.3 Methodology
A difference-in-difference estimator model would be utilized to analyze the data.
The Difference-in-Difference model is the estimator of choice as it allows for observing outcomes in various groups in a period. The Difference-in-Difference (DID) also allows for redefining the parameters of variables when they change. The data for this empirical analysis would be drawn from four NSE quoted firms: Pz Cussons, The Dangote group, Nigeria Brewery plc. and AG Leventis (Nigeria) plc. The data would be drawn for the annual report spanning a period of three years (2009-2011).
The difference-in-difference (DID) estimator (Ashenfelter &Card, 1985), works on the basis that in a given experiment or research, the simplest outcomes is one where two groups are observed and then the variables or conditions for one of the groups is altered. Thus, in a timeline of the research, the results of the group with the altered parameters or condition are then calculated to show the trend.
For example, Modigliani & Miller (1958), irrelevancy theory implies that the essential element that determines a firm's value is generating the operating income and the dividends or profits its earns at the end of the financial year. Thus, to calculate for the value of a firm, it is the total equity or debts as is relevant to the capital decision-making of the firm. This implies a firm might rely on it equity without debt financing of its operating income, or a firm might rely solely of debt financing for its operating income.This implies that calculating the value of a firm is its generated operating income divided by the profit earned or dividends.
Therefore, supposing that firm A's capital funding habits is equity based. Whiles firm B, is leverage or debt based. Modigliani & Miller, suggest that variables such as taxation, economic crisis or consumer spending habits etc. are not relevant to both firms' dividends. Thus regardless of a firm's capital structure policies they must make profit at end of financial year because other determinants should not affect a firm's market value. However, researchers such as Eldomiaty (2008), Crnigoj (2009), Beattie (2006), Ogbulu (2012), outline that although capital structure theories contribute to capital decision-making of firms, there are aspects of an organizational structure, which works together with the capital structure theory in practice to produce good performance. Thus, the variable influencing the outcome of a firm's capital structure theory, practices and capital decision-making could be something not quantifiable as the human condition (management style) or taxation. For instance, according to the end of year financial statement for Pz Cussons Nigeria PLC, the turnover for the company was N62, 667, 910 billion in 2010 and enjoyed a 5% increase in 2011, translating to a turnover of N65, 877, 984.
Tax paid for 2010 was N2, 649, 706 million and N2, 807, 736 million. Pz Cussons Nigeria Plc. deferred tax for 2010 amounted to N3, 364, 923 million in 2010 and N3, 605, 286 million in 2011. The contribution of this capital decision-making and a capital structure policy of debt financing meant that at the end of the financial year 2011, the dividends recommended as payment to shareholders was N1.64 per 50 Kobo of ordinary shares. The stock exchange quotations as at 31st May 2011 increased from N31.74 in 2010 the same period to N35.00.
Therefore, the capital structure theory in practice is not the only thing that determines market value. Determining an optimal capital structure has become the focus of economist for decades.
The early work made numerous assumptions, which simplified the problems associated with firms' capital decision making. For instance, the early theories assumed that both the cost of debt and the cost of equity were independent of capital structure. Thus, 'irrelevance proposition', suggested by Modigliani & Miller postulates that what should be considered is the net turnover and net profits of a firm.
These assumptions imply that, the average cost of capital is influenced by the use of leverage and the value of the firm. Thus, the value of the equity remained constant with a decrease or increase of the value of the debt and equity. However, the analysis carried out on the four firms listed on the Nigeria Stock Exchange outlines this assumption as debatable. Although there is evidence to support the link between leverage and firm value, Modigliani and Miller contention of 'irrelevance proposition' is underlined as impractical since a firm's capital structure decision making is influenced by internal and external variables. Therefore, two identical firms with different capital structure could not be expected to have identical market values.
Therefore, if for example a firm is valued based on these 'irrelevance proposition' assumptions, a valuation could be carried out as such based on the supposition that the firm's capital funding is raised by making investors aware with precise knowledge of future returns. That is, supposing that every firm within a particular industry (manufacturing etc.) is attributed with the same risk. That is, their capital structure is not relevant, nor taxes, nor transactions costs on lending from external sources with no risk of higher credit ratings.
This implies that the firm's net income and dividend paid to stakeholders would remain at a constant. Hence, the firm although would not depreciate in its market value, it would experience no growth either. Hence, under these assumptions, the operating income (EBIT) is therefore, equivalent to the net income. Thus, the value of the firm is equal to
Where V is the value of the firm, EBIT is the operating income and kₐ is the net income.
The pattern observed with the analysis of the selected firms is that when a firm increases its debt quotient as a source of capital funding, the risk to the stockholder increases. The consequence is that the required rate of returns for stakeholders would increase. This implies that when a firm's financial leverage increases so does their returns. For instance, the financial report for Dangote Flour Mills Plc. 2011, states that the company for "prudence sake", made previsions to secure a 50% trade debts against the market crisis with insurance bonds from NEM Insurance Plc. and Niger Insurance Plc.
Thus, the profit after tax and "exceptional items" that year (2011) was N677 million, translating into a dividend of 10 Kobo for every 50 Kobo of ordinary shares held by stockholders. From the differences in operating cost, taxation, turnover and profits of the four firms, the conclusion is that value cannot be created by simply substituting one form of financing for another.
This is because the various variables (size, age, leverage, taxation etc.) although might have an influence on the market value of the firm, does not make the outcome of capital decision making the same. Hence, for the purposes of this study, the data was correlated from primary sources, thus, the official web site of the firms selected. Therefore, the models would reflect the objectives of the study and the model specification would therefore be translated as such: CS is capital structure financing behaviour which determines the operating income (Edit), t is time/period, D is the internal and external variables ( Determinant) influencing the capital financing practices of a firm. T represents the levy set forth by government on firms' earnings (Taxation).
V therefore, is the Firm Value, which is dependent on (ROA) thus, the Return on Asset (Profit). SZ is a determinant on a firm's market performance, thus, Size of the firm. δαₑ are the symbolic representation or the symbols used in this research to denote Exceptional Items (these could be monies due from company's staff who borrowed through credit scheme programs or monies due in from subsidiary firms and/ deferred taxation). TANG is a tangibility ratio of fixed assets and total assets of the firm in a given period (t) and kₐ is the net income which as paid to stockholders as dividends at the end of each financial year.
Therefore, a generic model of this hypothesis of the analysis of capital structure policies of the selected firms is as follows;
Collins (2012) discovered that there is a link between a firms total debts, total capital ratio and its market value. It also outlines the fact that a firm's size and leverage influences its market value.
In 2010, Dangote Flour Mills Plc. incurred a debt of N2 billion and the increase in price of raw material, wheat, dipped 51% into the company's pre-tax profit. The equation to represent this variables in a DID model therefore would be;
This imply that the return on assets (ROA) for the specified time period (t₁)- representing the second time period of 2009, depends on the determinant (D) or characteristics of capital structure as is identified in the analysis and δαₑ is the unquantifiable events and capital decisions that influences the outcome of ROA.
However, the data correlated for the study show that the selected firms are large size firms, which appears to influence their equity/debt and growth. For instance, although the challenges the business environment the four firms selected faced have common denominators― taxation increase, high credit ratings, cash squeeze, the firms experienced growth and profit, nevertheless. Translating the variables into an equation therefore requires added set to define the parameters.
The model specification is therefore;
Thus, equation 1.3 is interpreted as return on assets (ROA); the summation of capital structure financing decisions (CS) translating into the net income resulting from the turnover of the operating income performance at the end of a given financial year. The time period (t₂) representing the second time period of 2010, the determinants (D) which is the size of the firm (SZ), an added variable which is T (Taxation) and the exceptional items (δαₑ)
In order for the four firms to qualify for leverage and benefit from a high credit ratings. Crnigoj (2009), agree that in an emerging market, leverage and tangibility of assets influences debts habits of firms.
The model for this hypothesis is translated as:
ROA = CS + t₃ + D (SZ) + T + TANG + δαₑ (1.4)
The added variable in the above equation is the tangibility of asset in the time, t₃ (thus, 2011 financial year), recorded as fixed and totals any other assets. Scanlon (1972) confirms that financial institutions and investors both desire firms with high-grade credit ratings because of their safety return margins. However, for a firm to qualify for high-grade credit ratings and benefit from an available source of capital funding in the event of stringent market conditions, it must have tangible assets to use as collateral. For example, the tangible assets, thus, fixed assets for long-term investment for Pz Cussons Nigeria Plc. was N22,454, 373 billion and N19,135, 657 billion in 2010 and 2011 respectively.
Their shares in subsidiary companies amounted to N526, 406 billion and N516, 406 billion in 2010 and 2011 respectively. The total of their current assets (stocks, debtors, payments due from Group Company, deposit for letter of credit, bank deposits, cash in hand and cash at bank) amounted to N35, 157, 741 billion for 2011 and N29, 498, 577 billion in 2010. The total assets less current liabilities was recorded at N36, 886, 673 billion for end of financial year 2011 and the previous year, 2010, the total assets less current liabilities were recorded at the end of the financial year as N36, 043, 806 billion. Pz Cussons Nigeria Plc. at the end of the 2010 had a total of N32, 678, 883 billion in capital and reserves (that is, share capital, share premiums, revaluated reserve and revenue reserves). At the end of the 2011 financial year, the total of capital and reserves had increased to N33, 281, 387.
Chapter 4
Result Presentation, analysis and discussion of data
Ogbulu (2012), suggest that in an emerging economy such as Nigeria, an equity capital is a component of capital structure becomes irrelevant when it considering the value of a firm. Scanlon (1972), states that a capital structure policy is not quantifiable, therefore, whichever theory a firm choose, it must suite the nature and objectives of the firm. Ogbulu (2012), once again suggest that the capital structure policies should consider a mixture long-term and equity as a source of capital. However, Scanlon, 1972; Uwalomwa, 2012; Miller, 1994) cautions that when a firm relies on a too much on a debt ratio policy, they run at a risk. This is because a higher-grade credit ratings must be maintained in order to benefit from a safe return margins in low interest rates.
The four firms, Dangote Group, A. G. Leventis, Nigerian Breweries Plc. and PZ Cussons, from a review of their source of capital appears to practice the a mixture of the trade-off theory and the pecking order theory. The sampled firms appear to raise funds from fixed assert, investments and long-term debts. Asserts such as stocks, share capitals, tax shields, dividends, influence each firm's performance, showing flatulence in profits.
Based on materials selected for the literature review on the subject of researches (past and current) on the subject of capital structure theories, there is an apparent pattern in the sampled firms. These patterns serve as a beacon in interpreting or analysing the components of capital structure. This in effect would assist in mapping out the data for analysis on capital structure policies influencing the capital decision-making of the sampled firms.
For instance, what prompted Sangosanya (2011) to study the manufacturing sector of the Nigerian industry was the fact that a number of them were going under and closing up shop at an alarming rate. In order to analyse the dynamics of the firm growth in the manufacturing sector, Sangosanya (2011), determined that there are entities, which make up the dynamics that affect manufacturing firms growth in Nigeria. The estimated entities are capital funding (cash flow for day-to-day operations), asserts to create more sale with the aim of generating a debt-free funds. This capital of surplus in reserve would maintain the business in the event of financial crisis and external influences such as government policies or global economic downturn (recession).
The empirical evidence gathered by Salawu (2012), on the study of financial policies and corporate performance, Salawu outlined some of the patterns in common with the outcome of the selected literature review. Salawu (2012) confirms those entities outlined by Sangosanya (2011), in his study of Nigerian manufacturing firms as influencing a firm's market performance. Therefore, long-term debts, tangibility, taxation rates, dividend policies, financial and stock market development affect firm performance and growth.
For instance, at the climax of the global economic crisis, the Nigerian economy also had to contend with the Niger-Delta oil conflict. However, PZ Cussons Nigeria experienced a relatively healthy growth because of their management of the entities such as government's policies to curtail inflation (putting in place a stress test to monitor credit ratings of Nigerian banks), taxation, and spending levels and reduced outside investors in Nigerian capital market by year ended May 2009. Despite all the economic turmoil, PZ Cussons turnover growth of 23%, that is a growth of N15.1 billion (N65.9 billion in 2008 to N81.0 billion in 2009). PZ Cussons also recorded a pre-tax net growth of 28%, which was N6.0 billion the previous year to N7.7 billion in 2009. Regarding dividends, the PZ Cussons board of directors recommended a dividend payment of N2.168 million, which translated to a 10.1% increase from last year's N1.969 million payout.
In 2010, in the wake of the global economic difficulties facing the world market, PZ Cussons Nigeria, established a committee to oversee it continual growth and performance in the market. Project Unity was set up to overhaul PZ Cussons' business processes, that is, factory relocations, layouts and distribution models. Under the direction of these new projects was the business venture classed Project AS- IS- ASAP. This was a N1.3 billion strategic expansion their Personal Care and Talc sterilisation factories. Project Optimum was a N1.2 billion expansion scheme to increase their distribution warehouse in Ikorodu to 880, 000sq feet. Project Phoenix a N1.5 billion upgrade of their Aba soap-manufacturing site and the Project Progress scheme covered the building of a N3.75 state of the art detergents spray tower at their Ikorodu centre.
During this period, the Nigerian banking and financial systems underwent a cleansing. There were also reduced liquidity levels and the eminent political uncertainty in the region, affected consumer confidence and influenced consumer spending habits. Although the Nigerian economy growth rate was at 6.9% in part to the increase in oil prices from 59 U.S dollars in 2009 to 79 US dollars in 2010, inflation increased from 11.6% in 2009 to 13.6% in 2010. As such, the firm's external reserves of forty-five billion USD as at May 2009, depleted to thirty-nine billion USD as at May 2010. PZ Cussons relied on the reserves to intervene in it day to day operations and to maintain and sustain the firm because of the falling yields in returns of company asserts and products.
The economic turbulence also meant that the banking sectors were unwilling to lend, reducing PZ Cussons' overall liquidity. However, these challenges did not affect the firm's growth adversely given that the was a fall in the 2010 turnover of N62.7 billion from 2009's turnover of N63.7 billion. However, there was a 4% increase in pre-tax profit, translating to N8.0billion in 2010 to the pre-tax profit of N7.7billion in 2009. There was a 10% increase in the net after tax profit, which was N4.8billion in 2009 to N5.3billion in 2010.
The board of directors recommended to stakeholders, a payment of N2.721million (eighty-six Kobo per share) subject to after tax deductions. That is an increase of 25% from 2009's N2, 168 million payment.
Although the world economy continued to struggle with their recovery from the recession especially in the European Union regions and the United State, there was a marked recovery in Asia and some of the emerging economies such as Nigeria in 2011.
Nigeria's slight economic recovery was due in part to the stability in the political climate, which stabilised oil production in the region. As such, the price for oil per barrel further increased from seventy-nine USD in 2010 to one hundred and nineteen USD in 2011. Inflation on the other hand, despite the increase in the price of oil on the world market, a main backbone of the Nigerian economy, remains at a high of 12.6%.
A problem PZ Cussons Nigeria faced which increased their expenditure was the increase in prices for some key raw materials for production of soap and laundry products. Although The Fast Moving Consumer Goods (FMCG) sector was competitive, the growth level in this sector was low in 2011. However, it effect on PZ Cussons was minimal as the company experienced a 5% growth with a turnover of N65.9 billion from the previous year's N62.7 billion.
Pre-tax profit was maintained at N8.0 billion because the focus of the company was maintaining and growing their market shares. Therefore, the increase in cost of raw materials became a secondary matter in the company's agenda for 2011. The result was that the net profit after tax and minority interests contracted marginally fell from N5.3 billion to N5.2 billion. The board of directors therefore, recommendation at the end of May 2011 was a payment of N2, 732 million (representing eighty-six Kobo per share) after tax deductions at the appropriate rate. The board also recommended an incentive for a bonus of 0ne new share per every four existing shares held as at August, 19th 2011.
Salawu (2012), suggest that when looking at the effect of financial policies and a firm's specification, which characterises their performance, there are markers that affect performance. It implies that a higher income variability increases a firm's risk of bankruptcy if the firm is unable to cover or maintain payments on its debts or have a scheme to finance their operations with debt-free capital in a time of financial distress. In such an eventuality, Salawu (2012) recommends that a firm stand a positive chance of performing in the face of financial crisis if it works to develop its stock market.
Thus, V (value of a firm) must go up as debt is added to the capital structure.
Figure : Debt/Equity Debt/Equity
This is evident in PZ Cussons capital decision-making in 2011 period to focus on developing the share price on the market instead of focusing entirely on the increased cost of their raw materials. They also made the move to expand and improve on their production capacity with their Project Unity the previous year. This move ensured that the sale output increased and provided a tax-free source of capital, generating profit for the company.
A.G. Leventis, a company that started as a trading company in Nigeria in 1937 before branching into manufacturing in the 50's is another of the firms listed on the Nigerian Stock Exchanged sampled from for the purposes of this research. A problem this research encountered concerning collecting data on the financial statements of this company was that it was more difficult to obtain them.
It was difficult to access the 2010 financial statements on the company's official web site in compliance with the time period parameters of three years (2009-2011). As such, the analysis of the capital structure theory in relation to A. G. Leventis, a listed firm on the Nigeria Stock Exchange, was drawn from the period of 2009 and 2011. This is because this data was available and there appeared to be a detailed information on the company's annual financial statement to allow for analysis.
A.G. Leventis was not exempt from the effects of the global economic crisis, the Niger-Delta crisis in Nigeria which depreciated the value of oil and interrupted oil production (oil is one of the main commodity exports of Nigeria) and the credit squeeze within the banking sector due to new government reforms.
However, A. G. Leventis recorded a company growth of 21%, a marginal after tax profit of 1.4% and a fixed asserts increase of 17%. The capital decision-making of A. G. Leventis during this period (2009) was to increase their assets. They acquired JCB, a world leader of manufacturers of agricultural machinery and tractors as a client. Their real estate holdings in Ikoyi was redeveloped into fourteen flats and purchased four hectors of land at the Alpha beachfront and another four acres of land along the Lagos-Ibadan Expressway. A. G. Leventis also became a majority shareholders in a private property company dealing in office blocks. This falls in line with Brounen (2001) cash flow hypothesis that a firm should maintain a leverage through property types and performance.
The firm also expanded their production capacity in Apapa and made improvement in their production line by installing a Cap way automatic conveyor system, an efficient cold room and freezer. Thus, in the on-going global economic crisis impacting the Nigeria economy, the capital decision of the A. G. Leventis for 2009, was to look at the synergies between companies to improve turnover and profit. As such, it completed a pastry production factory in Abuja with Leventis Snacks Industries Limited, a subsidiary of A. G. Leventis owning 11% of its equity. The period 2009 ended with a board of directors' recommendation that a dividend of ten Kobo to fifty Kobo per share and a projected profit of N250 million payment after tax.
Miller (1994), states that if a firm uses the appropriate capital structure theory as a bases for its capital structure policies, the company's operations may obscure the effect of financial crisis. This is because the company would have a means of generating capital from another source.
The 2011 year started with A. G. Leventis dipping in their reserves to strengthen sales and aftermarket forces of the various divisions. This capital decision paid off because one of the subsidiary of the company, Cummins West Africa Limited (CWAL) recorded a sales of N6.09 billion, 21% increase on the previous year's, although there was a 38% fall in the pre-tax profit (N224.52 million).
Although A. G. Leventis, during the 2011 period was unable to woo the business of some prominent clients to their telecommunications sector, Leventis Foods Limited sales increased, translating to N3.16 billion. The company suffered a 8% loss translating to N574.52 million because of extreme environmental conditions (flooding from heavy down pours, silted drainage systems causing flooding and damages to sensitive equipment) affecting their Apapa, Lagos factory. As a result, production at the factory was interrupted. The situation prompted internal management to form a committee to oversee operations and monitor the situation. In addition, management worked with the state and local government to carry out a regular de-silting to prevent further disruptions to production at the factory and to avoid future occurrences.
Despite the problems faced by A. G. Leventis during this period (2011), it subsidiary, Victoria Beach Hotel Limited (VBH) manage to record a 3% increase in turnover translating to N327.24 million, an operating profit of N26.24 million at the end of year 2011. However, Abuja (Capital) Motors Limited (ACM) on the other hand, recorded a 20% decrease in the year's end turnover, translating to N138.05 million.
Scanlon (1972), advices that a capital structure of a firm must be aligned to accommodate all eventualities beyond management control. This makes it possible for adjustment in periods of market climate change. Thus, A. G. Leventis incorporated Druckfarben Nigeria Limited in 2010, commencing operations in June 2011. Within this short period of operations, it recorded a profit of N64.95 million, with end of year turnover of N337.66 million.
Sangosanya (2011), states that economist in their current study of capital structure theories are debating the component of an optimal theory of capital structure. Sangosanya (2011), postulate that a component such as firm size is a determinant of firm growth. Therefore, for a firm to grow, management must behave rationally. It implies that a firm must consider monitoring the market structure such as competition, consumer dynamics such as spending habits and brand preference. Therefore, to remain at the top of the market, the firm's products must be unique.
On these bases, Dangote Group Ltd is a manufacturing company in Nigeria with thirteen subsidiaries in Nigeria alone. The Dangote Sugar Refinery Plc. started the 2009 year facing the same economic challenges that businesses around the world faced. The global economic meant that global commodities market became unstable. The fluctuation in prices meant that Dangote Sugar Refinery main raw material, raw sugar, saw a price increase. This affected production cost. However, these down turn in economic activities (banking sector reforms and its effect on liquidity) did not affect the targets set by the board of directors and management to growth the business and expand. Therefore, the capital decision to source a new avenue of funds saw an addition of the Dangote Sucreire Algerie SPA project.
This would boost the firm's income and contribute to firm growth, resulting in profit and increasing shareholder value. Therefore, the 2009 year ended with a company turnover of N82.4 billion, a pre-tax profit of N19.6 billion and an after tax profit of N13.2 billion. The board of directors recommended that the end of year 2009 dividend payable would be N12 billion translating to one Naira for every fifty Kobo ordinary share held.
Dangote Sugar Refinery began 2010 facing the same challenges posed to businesses around the world because of the global economic downturn. The Nigerian banking reforms meant that credits to businesses were reduced. The raw material for their products, sugar, was not only expensive but scarce due to appalling weather conditions. However, the company strived to meet target of high performance. They introduced a haulage trucking operation to deliver their products widely and promptly. They also envisage an addition of shipping vessels to make raw material acquisitions from the producing countries more cost effective and prompt.
Dangote Sugar to maximise sales, introduced a new product, Dangote Refined Vitamin A, a white granulated sugar and introduced a more efficient packing for customer needs. The 2010 business year ended with Dangote Sugar recorded a turnover of N89, 980,499, a pre-tax profit of N16, 148,876 and an after tax profit of N11, 282,240. The board of directors proposed a dividend of N7.2 billion which translates into N0.60 Kobo for every share of 50 Kobo held.
Sangosanya (2011) suggests that a firm's growth could be maximised if they could incorporate existing managerial theories or the Penrose effect into their hiring process.
The 2011 business year began for Dangote Sugar Refinery with a restructuring of the executive management team and a new director. The capital structure decision for Dangote Sugar was to maintain performance and efficiency by focusing on the projects put in place the previous year. The retailing of small and family size packaging of their products were maximised with an intensive promotion of the brand. The company also carried on with their expansion schemes, bidding to acquire Savannah Sugar Company Limited.
The turnover for Dangote Sugar at the end of the 2011 business year was N106,510,507,000, a pre-tax profit of N10,554,219,000 and an after tax profit of N7,111,318,00. The board of directors proposed that the dividend payable would be N3.6 billion, thus, N0.30 Kobo a share of 50 kobo held.
The Dangote Flour Mills PLC, a subsidiary of the Dangote Group, faced the year 2009 challenged with financial crisis because of the global financial crisis. The Nigerian Stock Exchange experienced stock price fall and government bank reforms made it difficult to obtain credit with banks. Infrastructure such as road networks and electricity output of energy company was an average of 3,500 megawatts instead of 6,000 megawatts. These impediments, coupled with the financial crisis meant that Dangote Flour, struggled to maintain a their production output. However, despite these difficulties, the company managed a high performance on the stock market gaining profit at the financial year. Dangote Flour Mills PLC growth rate was 69.7%, translating to a turnover of N61.388 billion (a 28.1% increase on the previous year's) and an after tax profit of N5.561 billion (a 86% increase on the previous year's).
Scallion (1972) outlined that the nature of a firm is the main determinant of capital structural goals and firm growth. Thus, to meet its objectives to perform on the market and yield a high profit, Dangote Flour focused on developing it human capital. Dangote Flour, thereby, had a 10% increase in its 2010 turnover (N67.6 billion) despite an 8.6% decrease in after tax profit (N4.91 billion). This high performance was despite the loss of N2 billion by their subsidiary which started operations the previous year, Dangote Noodles Limited and the increase in the price of wheat, their main raw material for production. The 8.6% decrease in after tax profit was also in part due to a deferred tax liability from the previous year. The board of directors proposed a dividend of 20 Kobo per 50 Kobo share at the year's end of 2010.
The Dangote Flour Mills financial year statement for 2011 revealed that the company faced financial difficulties such as the high foreign exchange rates, the reformed Nigerian bank sector putting up credit rates and the same poor infrastructure and poor weather from the previous year. The challenges after performance, thus, the company had to secure a doubtful trade debts of N1.484 billion. This meant that profit before tax and all exceptional items was N1.880 billion and an after tax and after exceptional items was N677 million. Therefore, the board recommended that payment of dividend payable to shareholders as at 20th June 2012 would be 10 Kobo for every 50 Kobo of ordinary share held.
Uwalomwa (2012), empirical examination of the relationship between capital structure and the financial performance of Nigerian firms concluded that capital structure is essential for firm growth and firm value. However, outlining one that serves the objectives of the firm is tricky as the nature of the firm and other variables changes with events and periods.
It is therefore, advisable to devise a capital structure policies which characteristics of long-term and short term capital funding strategies that supports firms objectives of growth and better performance during those unforeseen changes in the market.
The global economic crisis presented challenges for businesses in the matured markets as well as the emerging economies. Nigerian Breweries Plc., one of the selected companies for the analysis of capital structure of Nigeria Stock Exchange quoted firms, entered the 2009 year facing the challenges from the repercussions of the global market crisis. According to the director's report on the activities of the company for the 2009 year, the first half of the year indicated a growth and high performance. However, the second half saw the company feeling the effect of banking sector reforms. The reforms as an intervention by the Nigerian government to cushion the effects of the global market challenges for Nigerian businesses culminated in Nigerian businesses being cut off from funding to keep them solvent. This affected every aspect of Nigerian Breweries Plc.'s operations.
The firm had to deal with security issues that over run the South East and South regions of the country. Kidnappings for ransom meant that social activities were curtailed especially among returning citizens from abroad to spend the Christmas and New Year festivities with friends and family. The menace of kidnappings also affected the tourist industry in those regions, which in turn affected business performance. Therefore, the firm had to invest in private security to safeguard their operations, staff and products. The other security risk was in the form of local government agents harassing businesses and the continual increase in taxes. Infrastructures remained a challenge as such Nigerian Breweries invested enormous amount to generate their own power for operations.
These challenges meant that the Fast Moving Consumer Goods Industry in Nigeria was slow in growth. However, despite the challenges that Nigerian Breweries Plc. faced, they managed to maintain their market leadership of brewed products in Nigeria. Scanlon (1972), states that for a firm to preform and growth, it must outline recent and future financing efforts their sustainability with its consistencies with their long-term financial objectives. Nigerian Breweries thus, continued with their strategy of investing in their operations. It carried on with their expansion and improvement schemes. Their popular brand, Heineken lager, acquired a new Brewhouse to increase production and meet demands. The branding of their products underwent a new packaging to give the brands a new look. Coupled with advertising, some commercial promotional activities, there was a re-launch of most of their products in cans to celebrate the 60th anniversary of brands such as Star. Logistics underwent new organisational schemes to deal with the delays poor road networks placed on distributions of products to the various depots in the country.
Nigeria Breweries Plc. also used a promotional tool of sport sponsorship to maintain performance on the market. Their brand, Heineken lager, a sponsor of the UEFA Champions League, saw the parade of the UEFA trophy for the first time in Africa. The benefits of the various schemes and projects despite the challenges of the 2009 financial year yield a significant growth for Nigerian Breweries Plc. There was a 13% growth in turnover for 2009, translating to N164.21 billion, whiles profits saw a 13% increase translating into N41.66 billion. Thus, profit before taxation was N41.40 billion, a 10% increase from the previous year's and an after tax profit of N27.91 billion, a 9% increase from the previous year.
The board of directors' recommendation at the end of the 2009 financial year is a payment of N27, 905,855,034.60 in dividend. That is, N3.69 Kobo per ordinary share of 50 Kobo each.
The 2010 year began with the establishment of the Assert Management Corporation of Nigeria (AMCON) by the Nigerian central government to oversee the injection of funds into the troubled banking sector. This is because, lending by the banking sector remained harsh; deposit rates dropping to an average of 2% whiles the average lending rate was 18%.
Nigerian Breweries Plc. on top of this had to deal with the challenge of poor infrastructure after their daily operations (the expense in generating their own source of energy, the poor road networks affecting distribution and the security concerns of kidnappings for ransom. The shadow dealings of government officials harassing businesses continued and the tax multiplicity increased production cost of the firm.
Despite the challenges, Nigerian Breweries Plc. maintained its policy of development and expansion. It introduced a new software to make its business dealings more efficient. The modernisation schemes were carried out in their Aba, Kaduna, Ibadan and Ama breweries. The company also added a new brand, a herbal energy drink they named Climax. The undertakings meant that at the end of the 2010 financial year, the was a 13% increase in the company's turnover (N185.9 billion). The operating profit increased by 8% translating to N45 billion, an after tax increase of 9%, thus, N30.3 billion. As such, the board recommended an end of year dividend payment of N18, 150, 149,616, that is, N1.15 Kobo per ordinary share of 50 Kobo.
The year 2011 saw, the global economies still dealing with the market crisis. In Nigeria, a successful presidential election was seen as a boost for the economy. There were indications that the private sectors of banking departments were lending more by the second half of the year. Although the country enjoyed a successful presidential election, security concerns from the previous year remained, escalating to the safety of goods and services. This meant that social activities were curtailed affecting consumer spending habits. The poor infrastructure conditions did not improve from the year before.
Nigerian Breweries Plc., however, maintained their objectives of progress through expansion by acquiring majority equity shares in two companies, Sona Systems Associates Business Management Limited and Life Breweries Company Limited. The acquisition of these two companies meant an addition of three new brands of products to their list; Goldberg lager beer, Life Continental lager beer and Malta Gold. The existing brands were extended to include three more; Heineken Magnum, Legend Extra Stout (can) and Fayrouz.
The company performance for 2011 yielded a turnover of N226.2 billion, a pre-tax profits of N57.2 billion and an after tax profits of N38.4 billion. The board recommendation for dividend payout for 31st December 2011 was N22, 687,020 million. That is, N3.00 per 50 Kobo each ordinary share.
The analysis of the four selected companies quoted on the Nigeria Stock Exchange outlines the fact that a capital structure policy is essential for firm growth and market value (Uwalomwa (2012); Miller (1994); Sangosanya (2011).
However, an optimal capital structure theory is elusive because of the different variables that come to bare on outcomes of capital structure practices. There is however, evidence that the desired outcome of any capital structure have characteristics that promotes the desired result (Ogbulu (2012), Popsescu (2009), and Collins (2012).
The obvious supposition from this study so far points to the fact that Modigliani and Miller (1958) 'irrelevance proposition' as the bases of a firm's capital structure policy is not practical in today's markets. This theory would like businesses to presume that the influences of a business environment are the same on all companies regardless of the nature and objectives of the businesses. However, the value of a firm as clarified by researchers such as Miller (1994), Ugbulu (2012), Popsescu (2009), Uwalomwa (2012) is not solely dependent on a firm's capital decision-making on debt and equity financing. The firm market value is also determined by external and internal variables.
Chapter 5
Conclusion and Recommendation
The conclusion is that although debt financing could be considered as "cheap" because the required rates of return on equity would continue to be higher than the interest rate on debt, there is a "hidden" cost. That is, the cost of equity rises as firms utilize more debt financing.
This study outlines the fact that the capital funding for a firm operations could be drawn from borrowing all the funding required to finance it because the average cost of capital is what is needed to evaluate the market value of a firm.
Although the prospects of using cheap debt to finance a firm as postulated by researchers such as Scanlon( 1972), Uwalomwa (2012); Beattie (2006); Collins (2012); Crnigoj (2009), the increased risk to shareholders and firms from increasing financial leverage is that it could results in an increase in the cost of equity. Therefore, the consequence this increase holds for firms is, a risk of bankruptcy and for shareholders a decrease in dividends and a possible loss of investment if the firm goes bankrupt.
This is because the average cost of capital reflects both the cost of debt as well as the cost of equity, thus, there is no 'hidden cost' to debt financing. The consequence of loss and/ bankruptcy to both firm and shareholder, reflect the increased cost of equity associated with the use of more debt financing (Eldomiaty, 2008); Adesola, 2009).
The four selected firms from the analysis appear to have as part of its capital structure to expand its size in order to grow and promote high performance and maximize its returns.
For example, A. G. Leventis Plc. incorporated Druckenfarben Nigeria Limited in 2010 and started it operations the following year. This new subsidiary of A. G. Leventis at the end of the financial year, recorded a profit of N64.95 million and a turnover of N337.66 million.
Nigerian Breweries Plc. faced the challenges presented by the global economic crisis by expanding on their operations and adding more brands to their products portfolio.
In 2009, among other modernizations to their operations, the firm's performance saw them making a turnover increase of 13%. In 2010, the size of Nigerian Breweries Plc. increased with the with the capital decision to expand and invest in their brands. It turnover enjoyed a 13% increase on the 2009 turnover of N164.2 billion to N185.9 billion, an 8% increase in operating profit and a 9% increase in after tax profit.
The expansion of the company as a source of generating internal capital continued with the acquisition of two new companies; SonaSystems Association Business Management and Life Breweries Limited. The firm therefore added six new breweries (in Ota, Ogun State, Kudenda, Kaduna State, Onitsha and Anambra State) to their existing breweries. It also added three new brands, Goldberg lager beer, Life Continental lager beer and Malta Gold. These additions resulted in an increase in after tax profit for the end of financial year 2011, N38.4 billion and a 20% increase in dividend (N22, 687, 687, 020 billion), translating to N3.00 per 50 Kobo ordinary share.
Sangosanya (2011) states that incorporating a Managerial theory or the Penrose Effect into a firms capital structure policies could maximize its performance and promote growth. These theories support the fact that external factors influence growth and profit. Therefore, to achieve the objective of growth and profit, a firm should enshrine into their capital structure policies, the right determinant to achieve its aims.
In relation to this study, it could be concluded that Dangote Group Plc., Pz Cussons Nigeria Plc., A. G. Leventis Plc. and Nigerian Breweries Plc. all incorporated into their capital structure policies, those determinants that promoted firm growth and profit.
For example, when A. G. Leventis in 2011, made a 3% increase in turnover with their subsidiary Victoria Beach Hotel Limited (VBH) after underperforming the previous year. This increase in turnover was because of changes in management and staff training to improve upon the services.
Dangote Group implements a policy of directors retiring by rotation. The Dangote Academy established in 2005 aims to develop local talent for the Dangote Group. The Dangote Academy initiated, as part of their Super Fleet scheme, the Drivers Academy in 2011. The scheme has recruited so far, two thousand trainees. Nigerian Breweries Plc. has established and exchange programme scheme with Heineken International.
The company therefore, in 2011, sent nine members of their staff as exchange to train with their international partners. The aim for implementing such a program was to acquire international experience and learn about the best practices within the various departments and functions within the Heineken group worldwide. It was also to expose staff to operating models different to their own and acquire a broader spectrum for effective management and operations.
Miller (1994), states that using the appropriate capital structure theory could obscure the effect of tax status. For instance, in 2010, Dangote Flour Mills Plc. reported that although there was a 10% growth in turnover at the end of the financial year, profit after tax was down 51% after over N2 million in taxes payment was deferred from the previous year.
Musa (2009) outlines that if a firm adheres to using the determinants that promotes growth, they could use those that may result in a negative impact on the firm to achieve a positive result. For example, tax-deductible debt financing results in a tax subsidy by the government.
This, subsidy adds value to the firm. One way of earning tax subsidy by the government is via the practice of a good Corporate Social Responsibility (CSR). Businesses do not exist in a vacuum. They operate in a community where their consumers are members. In 2011, Nigerian Breweries Plc. continued with their social responsibilities in an effort to give something back to the community within which they operate. Nigerian Breweries Plc. efforts include the National Reading Competition, National Arts Competition, Creative Writing Workshop, NB Golden Pen Prize and Heineken President Scholarship for Umuezeani. The community development schemes include providing communities with electricity transformers, water borehole and classroom blocks.
The firm also supports children in orphanages. The firm's effort in developing the community's health needs include providing a fully equipped Vesico Vaginal Fistula (VVF) ward to the Hajia Gambo Sawaba General Hospital in Kaduna State. Thus, the company, in 2011, spent an amount of N97, 449, 302 million in fulfilling their CSR duties to the community.
Nigerian Breweries Plc., also in 2009, to maintain their market leadership, the firm took advantage of their sponsorship of the UEFA Champions League. The company utilized the opportunity to promote the sixtieth anniversary of the brand, Star beer. They arranged a parade of the UEFA Champions League Cup in Nigeria, capitalizing on the display of the trophy for the first time in Africa. Thus, Collins (2012); Ogbulu (2012); Miller (1994); Salawu (2012), states that, a firm must take advantage of every opportunity to maximize its capital funding, growth and market value.
Crnigoj (2009) determined that although there are common characteristics of capital structure theory the identified determinants such as size, tangible assets etc., the extent of its success to a firm is related to employee behaviour. Shao (1995) evaluates foreign employee affiliates (personnel from a matured market crossing over to work in an emerging market) to a firm and states that, the factors affecting capital decision making still relies on the same determinants that governs that growth and profitability of a business in a matured market.
The analysis of the capital structure policies of the four selected firms listed on the Nigeria Stock Exchange show that the board of directors who make the capital decision for the company are a mixture of nationalities. For instance, Dangote Group has eleven members on their management team. Seven Nigerians including the chairperson of the board Aliko Dangote. The four foreign affiliates are Mr. Knut Ulumoen (Group Executive Director from Norway), Devakumar V. G. Edwin (Group Executive Director from India), Mr. Paramjit Pabby (Chief Human Resource from India) and Mr. Kuzhyil Ravindran (Chief Financial Officer from India).
Pz Cussons have eleven members on their management team. Nine of the members are Nigerians, Mr. Christos Giannopoulos (Chief Executive Officer from Greece), Mr. David Petzer (Chief Executive Officer from South Africa). A. G. Leventis has ten members on its management team. Four of the members are Nigerians, two are from Britain, one from Australia and two from Cyprus. However, there is no evidence to suggest that the nationality of personnel influences capital decision making.
Thus, it appears the factors that impacts on capital decision making apart from the determinants of capital structure is their qualifications. Although researchers such as Musa (2009), Shao (1995), Hamidizadeh (2011) outlines determinants such as size, leverage, tax etc. as influencing capital decision-making of firms and performance the age of the firm was not highlighted as having a significant impact on performance or firm market value. The four selected firms therefore, although one of the criteria for their selected was the age based on when they were established in Nigeria; there was no significant evidence that their age influenced performance.
However, a review of the organizational structure behaviour of the four firms shows that, it is likely to postulate that their age has given their customers a familiarity with their brands. This appears to have established a reputation as a trusted brand. For example, Pz Cussons Nigeria Plc. remains a market leader in the ointment sector with their brand product Robb. This original product first introduced onto the Nigerian market in 1962 has since become so popular that it has acquired the generic name for any ointment on the Nigerian market and some West African market such as Ghana.
Another outcome of this study is that, although the analysis of the capital structure policies show the use of a capital structure theory, there is no definitive one in use. What is obvious is that the use of a capital structure theory as the basis for a firm's capital structure policies is essential. Hamidizadeh (2011); Musa (2009); Brounen (2001); Ogbulu (2012); Collins (2012); Eldomiaty (2008); Sangosanya (2011); Scanlon (1972), agree that there are determinants that outlines the effective use of capital structure. However, there is no evidence that the four firms indicated a preferred theory.
This study also outlines evidence that show that Modigliano and Miller (1958), 'irrelevance proposition' is not practical as the growth and market value of a firms depends on other variables, which could be external or internal. The external variables could be market crisis, stock market developments, taxation, government policy changes and internal factors such as leverage, size, age, long-term and short term debt equity etc. (Adeyemi (2010 & 2011); Kolapo (2012).
Thus, the search for an optimal capital structure theory which when in practice would give firms the advantage of high performance to achieve maximum market value would continue to be elusive. The certainty for the benefits of an effective capital structure practice is that, it is not 'irrelevance proposition' but a combination of moves and counter-moves of internal and external variables to achieve acceptable yields (Collins ( 2012); Beattie 2006); Scanlon (1972); Popsescu (2009). Therefore, the analysis of the four companies, Pz Cussons (Nigeria) Plc. Dangote Group Ltd, Nigerian Breweries Plc. and A. G. Leventis outlines a mixture of capital structure theories. The analysis highlights effective uses of determinants of capital structure, which are modified to achieve the objective of the firms (Brounen, 2001).
Hence, as much as the firms are utilising debt financing to generate funds for operations, there is also an obvious practice of maximizing the potential of determinants such as size, stock prices, management theories etc. to maintain market value and improve firm dividends. Thus, the four firms appear to maintain an active assessment on stock market performance and the changes within not just the Nigerian market but also the world stock market in order to improve their performance and yields (Kolapo, 2012).
The four firms selected for this research also outlines a good practice of information sharing with its stockholders. The four companies give a clear and concise account of how finances are analysed and audited. However, the search for data for this research was difficult to obtain. There were gaps in information. For instance, the Dangote Group had other fully own subsidiaries that contributed to the overall annual turnover of the Group. However, a search for data on most of these subsidiary companies did not yield any adequate data for analysis purpose of this research.

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