Effect of Corporate Governance on Financial Perfomance of Commercial Banks in Kenya

Abstract

Kenyan banks have in the recent past experienced a number of corporate failures which are said to be related to corporate governance structures in place. The fall of Imperial bank which is now under statutory management and the collapse of Chase bank in March 2016 is an indication that the industry is still facing issues of poor governance and management practices. Corporate failures are usually preceded by financial hardship and declining firm performance. In general, successful turnarounds are rare in Kenya, which begs the question whether or not proper and timely response are employed by the board when the first signs of impending trouble are detected. This study sought to determine the effect of corporate governance on financial performance of the commercial banks in Kenya. The study’s population was all the 42 commercial banks operating in Kenya. Data was obtained from 41 out of the 42 banks giving a response rate of 97.62%. The independent variables for the study were corporate governance as measured by board size, board diversity, board independence, number of committees and number of meetings held annually. The control variables were liquidity as measured by the current ratio, firm size as measured by natural logarithm of total assets and capital adequacy as measured by ratio of loans and advances to assets total. Financial performance was the dependent variable which the study sought to explain and it was measured by ROA. Secondary data was collected for a period of 5 years (January 2012 to December 2016) on an annual basis. The study employed a descriptive cross-sectional research design and a multiple linear regression model was used to analyze the association between the variables. Data analysis was undertaken using the Statistical package for social sciences version 21. The results of the study produced R-square value of 0.432 which means that about 43.2 percent of the variation in the Kenyan commercial banks’ performance can be explained by the eight selected independent variables while 56.8 percent in the variation of financial performance of commercial banks was associated with other factors not covered in this research. The study also found that the independent variables had a strong correlation with dividend payout ratio (R=0.657). ANOVA results show that the F statistic was significant at 5% level with a p=0.000. Therefore the model was fit to explain the relationship between the selected variables. The results further revealed that board independence, number of committees, number of meetings, liquidity and bank size produced positive and statistically significant values for this study. The study found that board size, board diversity and capital adequacy are statistically insignificant determinants of financial performance of commercial banks. This study recommends that measures should be put in place to enhance board independence, number of committees, number of meetings, liquidity and bank size as this will improve financial performance of commercial banks in Kenya.