The Effect of Leverage on Stock Prices for Publicly Listed Firms in the Nairobi Securities Exchange

Abstract

The study was conducted with the aim of investigating the effect of leverage on stock prices of firms listed on the Nairobi Securities Exchange. In an environment where expansion into new markets and scaling up of operations to gain competitive edge has taken centre stage, it is paramount that investment to increase production must have benefits which are reflected in the price of shares indicating an increase in owners’ wealth. The use of leverage has been noted to magnify gains and losses and is usually or inherently accompanied by risks of bankruptcy and volatility in earnings. The study was causal in nature and undertook a descriptive survey against a population of 43 companies that had data that was fit for purpose between the years 2012 to 2016. The data collected was secondary in nature and mined for published audited financial statements obtained from the CMA website. Financial data from statements of comprehensive income and statements of financial position were used to calculate the degrees of operating, financial and total leverage. The study used a regression model to establish the relationship between leverage and stock prices. F-test was used to determine the fitness of the regression model in analysing the relationship. Since the Sig (2-Tailed) value is less than 0.05. It was concluded that there is a statistically significant correlation between the two variables at the 0.01 level. Findings from the regression analysis offered R-square value as 0.865 which indicated a strong positive relationship between the variables of study. The study therefore accepted the hypothesis that there is a relationship between operating, financial and total leverage and stock prices. The study therefore recommends organization to explore opportunities to take advantage of leverage to increase shareholder value.