Financial Leverage and Financial Performance of the Energy and Petroleum Sector Companies Listed in the Nairobi Securities Exchange
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Date
2019-04
Authors
Kithandi, Charles Katua
Journal Title
Journal ISSN
Volume Title
Publisher
Kenyatta University
Abstract
The main objective of a firm is maximization of shareholders wealth. In attempt to achieve this objective the shareholders appoint management board to oversee the firm’s operations. The management board then utilizes the firm’s capital components of debt and equity at their disposal to achieve this objective. The puzzle of financial managers is the optimal capital structure mix of debt and equity that will ensure the main objective of maximization of shareholders wealth is achieved. One of the key indicators of a firm that is achieving this objective is improved financial performance. In attempt to improve the financial performance of a firm the financial managers may have to increase the company’s debt component. This use of debt by a firm to finance and increase its operation to improve financial performance of the firm is referred to as financial leverage. This means that financial leverage is a form borrowing (debt) or a loan that is given to a firm to finance its operations. The proceeds of debt/borrowings are usually reinvested to earn a greater return as compared to the cost of debt financing/interest. This research was directed towards assisting the financial managers in determining whether financial leverage affects financial performance. Financial leverage measurement includes use of debt ratio, debt-equity ratio and interest coverage ratio which are vital since they directly affect the financial performance of firms. This study was anchored on the following research objectives; to establish the effect of debt ratio, debt -equity ratio and interest coverage ratio on financial performance of energy and petroleum sector companies listed in the Nairobi Securities Exchange. The study was anchored on the following theories; Modigliani-Miller theorem, the Pecking Order Theorem and the Trade-off Theorem. The study utilized census since the population size is small. All the five companies from the energy and petroleum sector listed in the Nairobi Securities Exchange. were studied. Energy and petroleum sector is a key sector and player in industrialization of any nation and a key support sector of all other sectors in any economy. The study utilized secondary data that was mainly collected from the published financial statements of these companies. Explanatory research design was used. Quantitative secondary data was collected and analyzed using statistical package for the social sciences. This data was also represented using measures of central tendency such as mean, frequencies, percentages and measures of dispersion such as standard deviation. The study ran a multiple regression equation to determine the relationship between the variables in the study and to estimate the models for the study. Descriptive statistics was used to analyze data. In order to draw a conclusion and make recommendations, the analyzed data was further presented in tables, charts and graphs. On the effect of debt ratio on return on assets the study indicated that as the debt ratio increased the return on assets decreased. On the effect of debt equity ratio on return on return on assets the study indicated that as debt equity ratio increased the return on assets decreased. In summary the results indicated that there is a negative relationship between financial leverage and financial performance of petroleum and energy sector firms listed in the Nairobi Securities Exchange.
Description
A Research Project Submitted to School of Business in Partial Fulfillment of the Requirements of the Award of the Degree of Masters in Business Administration (Finance) of Kenyatta University