A comparative study of the relationship between stock price
1. 1
A COMPARATIVE STUDY OF THE RELATIONSHIP
BETWEEN STOCK PRICE PERFORMANCE AND FIRM’S
PROFITABILITY
SUNDAY C. NWITE
SENIOR LECTURER
DEPARTMENT OF BANKING AND FINANCE
EBONYI STATE UNIVERSITY – ABAKALIKI
2. 2
PHONE NO: 080-37743134
E-MAIL: nwitewhite2006@yahoo.com
ABSTRACT
In Nigeria, there are many investors. Most of the investments are done on
stocks, equities, shares etc. investors prefer to invest in the area that has
better performance and profitability. In most cases, because of the volatility of
the market, they seek advise on the market, the annual report of such
companies for at least five years. There are a lot of attractions to invest. It is
one of the best ways of savings, and an idle fund is also a wasted fund and it
is also an avenue to have a seat on the board. The share certificates can
easily be converted into liquidity and also act as collaterals. This work
therefore wants to look at the relationship between the stock price
performance and their profitability. And it was found that such firm that make
more profits do therefore have a better performance of their stock prices.
Conclusion was drawn that that the stock price performance influences the
profit of the firm. Recommendations were made that investors should always
consult analyst of the stock market, professionals, stock brokers. They can
also seek information from other research professional bodies. This will help
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them to understand companies that do well and the ones that are not doing
well so that they will know the one to invest.
KEYWORDS
Stock price, performance, profitability, collaterals, seat on the board.
PAPER TYPE: RESEARCH PAPER
INTRODUCTION
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The capital market is the long-term financial market. It is made up of primary
and secondary market and institutions, which facilitate the issuance and
secondary trading of long-term financial instruments. The capital market
provides funds to industries and governments to meet their long-term capital
requirements, such as financing for fixed investments, etc. The Nigerian stock
exchange as a vision to promote capital formation in the country by providing
issuers and investors with a responsive, fair efficient stock market (Ahmed,
2008).
The Nigerian capital market (NCM) first came into existence in 1960 with the
establishment of the Lagos Stock Exchange.
Before the establishment of the Lagos Stock Exchange in 1960, almost all
formal savings and deposits went through the banking system while major
capital balance were invested for the country by the British on the London
Stock Exchange. The purpose of investment in stocks shares and equities is
to make profit by dividend payout or to increase the volume of the shares by
ploughing back the profit made.
In most cases, people prefer those companies that are doing well in the
Nigerian Capital Market. It is a believe that companies that are doing well will
make more profit all these are assumptions. The work wants to have a
comparative study on the relationship between stock prices and profitability of
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the firm, to know whether such assumptions are true or not using published
data.
HISTORICAL DEVELOPMENT OF NIGERIAN CAPITAL MARKET
The beginning of the capital market in Nigerian can be traced to the country’s
colonial administration which in the 1946 established a 10 years plan for
Nigerian under which long-term funds were raised in the United Kingdom and
Nigeria for financing small community improvement project, educational
research and educational infrastructure and to induce private sector industrial
and agricultural development (Okereke, 2000).
Formal capital market activities in Nigeria came into existence with the
establishment of the Lagos Stock Exchange in March 1960 and in September
15, 1961, it commenced business before the establishment of the Lagos State
Exchange, almost all formal savings and deposits went through the banking
system while major capital balances were invested for the country by British
on the London Stock Exchange. The exchange started operations with 19
securities listed for trading. In an effort to accelerate the orderly growth of the
capital market in Nigeria, the federal government in 1962 established the
Capital Issue Committee. The committee was changed, inter-alia with the
responsibility of regulating the timing of public issues of securities. To further
strengthen the regulatory oversight of the capital issue committee was later
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changed to Capital Issue Committee (CIC) under the Capital Issue Committee
Act (1973). In 1977 following the federal government review panel headed by
Dr. Pius Okigbo, the Lagos Stock Exchange was changed to Nigerian Stock
Exchange.
Following a comprehensive review of the Nigeria financial system in 1978, the
Securities and Exchange Commission (SEC) was established by the
promulgation of the SEC (1979). The Act was enacted at a time when the
indigenization exercise was in progress and the commission was saddled with
the responsibility of valuing the shares of enterprises.
There are other landmark events in the history of capital market among which
were the setting up of Adeosun and Okigbo panels, the inter-ministerial
communities, the review of companies and allied matters and the
indigenization decrees.
In 1996, the federal government set up a panel on the review of the Nigerian
capital market known as Oditte Panel. The panel submitted its report in
October, 1996 with recommendations to the federal government which were
the urgent need to mobilize the country for prosperity, to provide facilities for
capital mobilization and trading in the rural areas in form of capital trade points
(mini stock exchange) and the establishment of a technology driven national
exchange in Abuja to be known as the Abuja Stock Exchange (ASE) to
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operate to international standards. Abuja Stock Exchange was incorporated as
a public liability company on June 17, 1999 and received its license to operate
as full fledged community exchange on August 1, 2000.
Other branches of stock exchange in Nigeria includes:
Kaduna, 1978; Port – Harcourt 1980; Kano 1989, Onitsha February 1990;
Ibadan August, 1990; Yola April 2002 and Benin 2005.
THE REASONS FOR THE EXISTENCE OF NIGERIAN CAPITAL
MARKET
The Nigerian capital markets just like its counterparts in other countries have a
lot of reasons to perform in other to ensure economic development; there are:
1. Provide an additional channel for engaging and mobilizing domestic
savings for productive investment and represents an alternative to
bank deposits, real estate investment and the financing of
consumption loans.
2. Provides depositors with better protection against inflation and
currency depreciation.
3. It fosters the growth of the domestic financial services sector and the
various forms of institutional savings such as life insurance pension
funds.
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4. It improves the gearing of the domestic corporate sector and helps
reduce dependence on borrowing.
5. It improve the efficiency of capital and a market mechanism for
management changes as compared with the administrative or political
mechanism of public sector corporation.
6. To facilitate the transfer of enterprises from the public sector to the
private sector.
7. To encourage privatization by increasing the marketability access to
new issues.
8. Provide access to finance for new and smaller companies and
encourage institutional development in facilitating the setting up of
Nigeria’s domestic funds, foreign funds, and venture capital funds.
VARIOUS PRODUCTS SOLD IN THE FINANCIAL MARKET
According to Nwite (2005) financial market is where exchange of financial
resources takes place. That is a market where sellers and buyers of financial
resources come into contact. Thus, a financial market produces an avenue for
surplus/idle cash balances to be employed in areas of deficit finances, as it
make short medium and long-term surplus funds available.
The various products sold in the financial market. There are two types of
financial market. They are money market and capital market. The components
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or the products or services sold in the money market are treasury bills,
commercial papers, bankers acceptance and certificate of deposit. It is a short
term credit. On the other hand, the capital market is a long term market for
long term investments. The types of products sold there are share, securities,
bonds etc.
VARIOUS TYPES OF MARKET THAT EXIST IN THE CAPITAL
MARKET.
Money. Originally, came in as medium of exchange in the formally organized
market. However, the society later got highly developed and sophisticated that
people, institutions and governments needed funds to execute projects. There
was a direct need for capital, money or funds.
Consequently, the financial market evolved. The financial market is divided
into money and capital market.
Money market is a forum where short-term capital is sourced. Therefore, the
corporate body, that requires such fund, creates instruments with which to
source such funds. By its nature, the types of funds sources in the money
market are largely debt or loan funds. The life span of such funds usually
ranges from few hours to about twenty-four months or two years.
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This is the financial market where short and medium term finances are sold
and brought. The major reasons behind the establishment of the money
market in Nigeria.
Money market instruments include the following
- Treasury bills
- Banking acceptance
- Commercial papers
- Certificate of deposit
- Treasury bill (TBS): These are short term securities issued by the
federal governments of Nigeria. They mature within two days from the
date of issue and are default free. Instead of attracting interest, these
promissory notes are sold at the discount.
- Certificate of Deposit (COD): They are inter bank debit instrument
meant to provide outlets for the commercial banks surplus funds. This
scheme which was introduced in the country by the central bank of
Nigeria in 1995 was meant to open up a new source of funds for the
Merchant Bank. The two types of certificates of deposits are negotiable
and non-negotiable certificate of deposit.
- Commercial paper bills: These are promissory notes in various
denominations, issued by the Central Bank of Nigeria with maturity
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period of 50 to 270 days. Commercial bills may also be sold by major
companies (Blue-chips) to obtain a loan. In this case, such notes are not
backed by collateral; rather they rely on the high credit rating of the
issuing companies.
- Banker Acceptance: On introduction in 1975 by the central Bank,
was originally meant to mop up excess liquidity in the banking system. It
was aimed at broadening the market for federal government stock. And
so commercial banks holding of the stock are accepted as a part of their
specified liquid assets and are accepted as a part of their specified
liquid assets and are accepted as a part of their specified liquid assets
and are accepted as a part of their specified liquid assets and are
accepted as a Part of their specified liquid assets and are repayable on
demand. Under the BUF, Federal Government stocks of 3 years of less
to maturity were designated Eligible Development stocks (EDS) for the
purpose of meeting the bank’s specified liquid assets requirements.
Capital Market: The capital market is a financial market where long-
term financial market where long-term financial securities are traded on.
It is a market that brings together suppliers and buyers of long-term
finances for investment.
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The Comparative study of the relationship price and firm
profitability in capital market.
Trend between stocks of companies and profitability.
YEARS STOCKS PROFIT GROWTH GROWTH
(N6000) RATE IN RATE IN
STOCK. PROFIT.
1997 132073 702,986 - -
1998 176,096 727,363 33.3 3.5
1999 264,143 751,740 50 3.4
2000 264,143 1,064,168 0 41.6
2001 330,178 1,647,836 25 54.8
2002 375,315 2249078 13.7 34.5
2003 375315 2684927 0 19.4
2004 500420 2812623 33.3 4.8
2005 500420 27107221 0 -3.8
2006 550420 4665459 10 72
Source: The Nigerian Stock Exchange fact book 2002.
The Annual Report and Account of Cadbury 2006.
The comparative Analysis of the share price and firms profitability
of companies with Reference to Cadbury Nigeria plc.
Between share price and profitability of Cadbury Nigeria plc.
Year Growth Rate in share Growth Rate Profits.
price
1997 - -
1998 -12 3.5
1999 -19.3 3.4
13. 13
2000 20.8 41.6
2001 62.8 54.8
2002 -2 34.5
2003 113.3 19.4
2004 -8.6 4.8
2005 12 -3.8
2006 -45.1 10
Source: The Annual Report and Accounts of Cadbury 2006.
The Nigerian Stock Exchange fact book 2002 Newspapers.
Trend Between share price and profitability of Nestle Nigeria plc.
Year Growth Rate in share Growth Rate Profits.
price
1997 - -
1998 -49.1 10.50
1999 -2.3 56
2000 136.1 28.6
2001 48.7 57.4
2002 25.1 25.8
2003 56.9 19.7
2004 13.6 0.8
2005 31.2 38.3
14. 14
2006 20.9 6.7
Source: The Annual Report and Accounts of Cadbury 2006.
The Nigeria Stock Exchange fact book 2002 Newspapers.
The Relationship Between share price and firms profitability.
Year Growth Rate in Growth Rate
share price Profits.
1997 22.9 703
1998 18.1 727
1999 14.6 752
2000 18.8 1064
2001 30.61 1648
2002 30.0 2249
2003 64.0 2685
2004 58.52 2813
2005 65.52 2711
2006 35.95 4665
Sources: The Annual; Report and Accounts of Cadbury 2006.
ST
The Nigerian Stock Exchange fact book 2002 Newspaper (31 December of
each year).
The Relationship Between Earning per share and firms
profitability.
Years Earning per share. Profits. N000
1997 1.71 703
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x = Σx = 20017 = 2001.7
N 10
y = Σy = 359 = 35.7
N 10
Formular
Y = b o + b i xi + E
Sp = bo + b i p i + E
Where:
bo = y - bi x
bi = n Σxy – (Σy) (Σx)
2 2
n Σx – (Σx)
bi = 10 (859943.31 – (359) (20017)
2
10 (54728183) – (20017)
bi = 8599433.1 – 7186103
547281830 - 400680289
bi = 1413330.1
14660541
bi = 0.0096
Also;
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bo = y - bi x
bo = 35.9 – 0.0076 (28017)
bo = 35.9 – 19.21632
bo = 16.68368
= 16.684
Sp = 16.684 + 0.0096 PL + 2
The computation above signified that there is a significant relationship
between stock prices and firms profitability and it is a positive relationship. The
partial coefficient of the regression line signifies that 0.0096% change in the
firm’s profitability can be associated with 1% change in stock price.
Solving to get the coefficient of determination “12” we get the square root of
2
R , that is R
2 2
R = ( n Σxy – (Σx) (Σy) (Σy)
2 2 2
( n Σx – (Σx) (Σy) )
2
R = R
2 2
R = (10 (859943.31 –(20017) (359)
2 2
(10 (54728183) – (20017) (10 (16361.45 – (359) )
2
R i = ( 8599433.1 – 7186103)
(547281830 – 400680289) (16361.45 – 128881)
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2 2
R = (1413330.1 )
(14660541) (34733.5)
2
R = 0.3923
R = 0.3923
R = 0.6263
Thus, from the computed R, the valve is 0.6263 of the total variation in the
stock price can be explained by the profitability. Also the R calculated shows
that a positive relationship exists between profitability and stock price.
Standard error test
Solving to test for the statistical significant of the coefficient of a regression
line.
2 2
Sbo = Σe (Σx)
2
(n-k-1) (nΣx 1
2
Sbi = Σe
2
(n-k-1) (Σx 1)
2 2 2
Σe = (1- R ) Σy 1
2
Σe = (1-0.3923) (3473.34)
20. 20
Sbi = 2110.75
8x10x14660153.21
Sbi = 2110.75
117281225.7
Sbi = 0.0001799
Sbi = 0.0134
DECISION RULE
If the standard error test is less than a half of the numerical valve of bi i.e if Sbi
1
< bi /2 accept Hi and reject Ho otherwise accept Ho and reject Hi.
1
Therefore, since Sbi = 0.0132 > bi /2 = 0.0048 we however accept Ho and
conclude that there is no significant relationship between stock price and firms
profitability.
T – Test
Solving to test for the statistical significance of the regression coefficient
profitability.
Formular
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tbo = bo
Sbo
tbi = bi
Sbi
tbo = 16.684
9.93
Tbo = 1.680
Also:
tbi = 0.0096
0.0134
tbi = 0.716
at 5% level of significance t – tabulated = 0.05 = 0.25
1-0.025 = 0.975
Degree of freedom
n-k-i
where;
n = 10, k =1
10-1-1 =8
t0.975 = 2.31
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hence,
since t > tt i.e 0716 < 2.31. however, we accept Ho and reject Hi,
measuring that the inclusion of profitability and stock price is not
statistically significant.
SUMMARY OF FINDINGS
The study emphasized that stock price plays tremendous role in firms
profitability using Cadbury Nigeria Plc as a case s study. The followings
were made:
1. There is significant relationship between stock prices and firms
profitability.
2. There is equally a relationship between earning per share and firms
profitability.
3. The fluctuation of the stock prices poses a lot of problems to the
firms profitability.
4. Low level of market awareness pose a challenge to the Nigeria
Stock Market which in turn affects forms profitability.
5. The regression result show that the t-test between profitability and
stock price is 0.716 which means that the inclusion of profitability
and stock price is not statistically significant.
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6. Finally, on the other hand, a weak positive relationship exist
between earning per share and profitability.
7. Since the coefficient of determination is at 0.95127.
CONCLUSIONS
the study x-rayed the Nigerian Capital Market and its relationship with the
firms profitability suing Cadbury as area of the study and thus concluded
that stock prices and earning per share depends nearly on the firms
profitability.
Therefore, firms profitability has a positive relationship with stock prices
and earning per share meaning that firm will make enormous profit when
the stock prices are favourable, while the reverse is the case when stock
prices are unforvourable.
RECOMMENDATIONS
Having clearly appraised a comparative study of the relationships
between stock price performance and firm’s profitability: a case study of
Cadbury Nigeria Plc. It is patient at this juncture to prefer some solutions
to these problems following the findings of the study.
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- Firms should be conscious of the development in the Nigerian
Capital Market since their profitability depends heavily on the stock
prices.
- Government through the CBN should strengthen the laws guiding
the operations of the Nigerian Capital Market to make it more
dependable.
- The NSE on conjunction with the SEC should make a deliberate
attempt to increase the number of an improve the stock market.
- The NCM should further decent realize its offices so that its gets
more closer to investors and users of fund.
- The NCM should as well intensify her public awareness
programme in order to reach the unreached in the country.
- Finally, improvement should be made on the infrastrutural problems
that still plague the Nigerian Capital Market.
25. 25
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