Capital Structure, Firm Size, Liquidity and Financial Performance of Non-financial Firms Listed at the Nairobi Securities Exchange

Abstract

The purpose of this study was to establish the relationship among capital structure, firm size, liquidity and financial performance of non-financial firms listed in the Nairobi Securities Exchange. The study first explored the relationship between capital structure and financial performance. The study then explored the moderating and intervening variables on this relationship. The joint effect of all these variables was also tested. The intervening variable liquidity had two indicators; asset liquidity and temporary investments. The moderating variable firm size had two indicators; total asset and total sales. Liquidity had two indicators asset liquidity and temporary investments. Asset liquidity was measured by current assets to current liabilities. Temporary investment was measured by the ratio of temporary investments to total assets. Capital structure had financial leverage as the indicator. Financial leverage is operationalized by debt-to-equity ratio. Financial performance was measured by Tobin’s Q. The study was anchored on the capital irrelevancy theory, the pecking order theory, the tradeoff theory, the agency cost theory and the information signaling theory. The study used secondary panel data which was obtained from 53 nonfinancial firms listed on the Nairobi Securities Exchange. This study is anchored on a positivism research philosophy because it is based on existing theory and it formulates quantitative hypotheses to be tested. Correlational descriptive research design is used to describe the relationships as they exist between specific variables. Secondary data was for the period 2010 to 2017. Data was analyzed using descriptive statistics, multiple and simple regression analyses. The findings indicate a positive statistically significant effect of capital structure on financial performance. Liquidity has a statistically significant positive intervening effect on the relationship between capital structure and financial performance. Furthermore, firm size has a positive moderating effect on the relationship between capital structure and financial performance. These findings are inconsistent with the capital irrelevance theory. Conversely, these findings seem to support the tradeoff theory and the pecking order theory. The study concludes that firms should strive to increase their leverage since it has a statistically significant positive effect on the financial performance of the nonfinancial firms listed on the NSE. Similarly, firms should increase their liquidity by enhancing financial leverage which; according to the findings in this study if increased leads to increased financial performance. Firm managers should seek to grow their firm sizes. This is because larger firms have consistently increased the use of debt in their capital structure. Lenders often perceive larger firms as less risky consumers of credit because of their superior collateral structure. The study, therefore, recommends that firm managers, shareholders, practitioners, the government and other regulators should ensure that they advise and embrace the best firm financing option that helps improve firm financial performance thereby enhancing shareholders value. Further research needs to be conducted that involves the use of accounting-based measures of financial performance to bring a comparison on the study results obtained.