Effects of Capital Structure on Financial Performance of Firms in the Commercial and Services Sector Listed at Nairobi Securities Exchange in Kenya

Abstract

Performance of firms can be attributed to many factors; capital structure often considered one of the factors. A number of empirical reviews indicate that firms with higher leverage often exhibit features of an optimal capital structure, hence to good performance. However, Modigliani and Miller theorem disapproves this notion and asserts that capital structure has no effect on firm value.  This study investigates the effects of capital structure on financial performance of firms in the Commercial and Services sector at Nairobi Securities Exchange (NSE) in Kenya. A descriptive survey design was used to gather primary data from 9 Commercial and Services sector firms covering a period between 2007 and 2010 and secondary data obtained from NSE handbook. Descriptive statistics and correlation and regression analysis model was adopted for data analysis. The correlation and regression result between financial leverage and ROE finds that there is a negative correlation of -0.235 and the coefficient of financial leverage of -3.781 respectively. Similarly, the regression result finds that the coefficient for financial leverage and ROA is - 0.1.178, which is not statistically significant at 10 percent level, at t-value of -1.234 and p-value of 0.228 that is greater than 0.1.Finally, Phi and Cramer's V tests finds the hybrid system to be the preferred financing structure. This study rejects the null hypothesis and concludes that there is significant relationship between financial leverage and financial performance of enterprises listed in NSE, Kenya.

Keywords: Capital Structure, Financial Performance, Nairobi Security Exchange

DOI: 10.7176/RJFA/14-13-01

Publication date:July 31^st 2023