Effect of Working Capital Management on the Capital Structure of Non-financial Firms Quoted in the Nairobi Securities Exchange

Abstract

Finance managers spend considerable time in making capital structure and working capital decisions as they seek to maximize the value of the firm. The question on how managers make a choice between debt and equity to optimize the capital of a firm has remained unanswered. Many studies have been conducted, seeking to shed light on the various determinants of capital structures adopted by firms. This study seeks to explore whether working capital management, could be one of determinants of capital structure. This research aimed at exploring the effect of the variables that make up working capital management on the debt financing of 44non-financial public companies listed in the NSE between 2010 and 2015. The working capital components considered in the study are debtors average collection days, accounts payable average collection days, inventory conversion cycle and cash ratio, with fixed assets to total assets ratio as a control variable. The study used secondary data obtained from the published financial statements of the companies quoted in the NSE and analyzed through multivariate regression analysis to establish the nature and the magnitude by which working capital management components affects the leverage. The research revealed that there is a positive relationship between inventory conversion period, average payment period and fixed to total asset ratio and leverage. Relationship between debt ratio and Cash ratio was revealed a negative relationship. Additionally, the study established that there is a correlation between the independent variable, however the correlation was insignificant. The study concluded that the management practices related to working capital in the non-financial public companies listed in Nairobi Securities exchange influences capital structure, however, the influence is insignificant. These findings are similar to the findings of other studies on relationship between working capital and capital structure. The study recommends that finance managers should consider average payment period, inventory conversion period, and cash ratio components in working capital while making capital decisions. However, this consideration should be only an addition to the other factors that factors that significantly influences capital structure decisions, such as opportunities for growth, composition of fixed assets in the total assets of the firm, profitability, tax consideration and size of the firm.