Dividend payout policy of Islamic vs conventional banks: case of Saudi Arabia

Purpose - This paper aims to identify the factors that affect dividend payments for Saudi Arabian Islamic and conventional banks and to test whether the factors that affect Islamic banks' dividend policy differ from the factors affecting conventional banks' dividends. Design/methodology/approach - Panel regression was run on data for six Islamic banks and six conventional banks. Findings - The paper found that profitability, lagged dividends and leverage are all significant determinants of Islamic Banks' dividend policy. Lintner's (1956) model applies to Islamic bank's dividend policy, as Islamic banks who payout dividends commit to their payments. All factors included in the study (profitability, liquidity, leverage, growth and lagged dividend) are found to be significant determinants of conventional banks' dividend payments. Research limitations/implications - Future research should include ownership variables in the regression to test the agency theory regarding dividends. Ownership variables were not included in the study because of data availability issues. Practical implications - The results of this study have practical implications for analysts, investors and regulators. For Islamic banks to compete in the local and global deposit markets, their management must carefully decide upon their dividend policy. As conventional banks are distributing stable dividends, it is time for Islamic banks to plan for a stable dividend policy to send positive signals to the market. As newcomers to the market Islamic banks should avoid spontaneous and inconsistent dividend distributions that do not carry any signals to the market. It will be difficult for Islamic banks to raise capital or attract investors because of their lower dividend yields compared to conventional banks. Boards of directors of Islamic banks should use dividends as an agency monitoring device; large-scale retention of earnings encourages behaviour by managers that does not maximize shareholder value. Dividends, then, are a valuable financial tool for these firms because they help firms avoid asset/capital structures that give managers wide discretion to make value-reducing investments. Originality/value - This is the first study - up to the author's knowledge - to investigate the financial institutions (banks) dividend policy in Saudi Arabia.