The Relation Between Earnings, Earnings Distributed, Earnings Retained and Common Share Prices

Abstract

Dividend policy of a firm determines the portion of net income be distributed to investors and the left-over amount is retained and reinvested by the firm in such projects that can enhance the shareholder value in the long- run. Thus, dividend policy is one of the foremost financing decisions to be wisely taken as it has a significant impact on share price appreciation in short-run and long-run due to dividend disbursements and earnings retained respectively. Investors prefer capital gains over dividends for taxes on capital gain can be deferred into the future and are taxed at a relatively lower rate while taxes on dividends must be paid as soon as they are received and are taxed at a higher rate. Whenever there is an increase in personal income tax rate, shareholders would allow their companies to retain and reinvest the earnings. Thus, retained earnings constitute a vital source of finance for companies. However, retained earnings, when not invested profitably, are not able to increase the wealth of shareholders. When firms do not have positive net present value projects, retention of profits will not yield shareholders a better rate of return. In such cases, earnings are had better to be distributed to shareholders.  The present study explores the impact of earnings after taxes, dividends and retained earnings on share prices. The data, secondary in nature, are collected for 10 years [2006-2015] from financial statements of manufacturing companies listed in Muscat Securities Market[MSM]. Correlation and regression results exhibit that dividends and earnings have significant positive impact on the market price of shares and the impact is instantaneous. Retained earnings show a significant positive influence on the market price of shares in the long-run.

Keywords: Earnings Per Share, Dividends to Earnings Ratio, Retained Earnings to Earnings Ratio, Market Price Per Share, Short-run, Long-run etc.