Agency Costs and the Financial Performance of Insurance Firms Licenced by Kenya’s Insurance Regulatory Authority
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Date
2024-10
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Kenyatta University
Abstract
The insurance industry has a significant role in promoting economic development by supporting corporate operations, providing risk protection, and facilitating capital formation. Despite the industry's growth in gross premiums, a decline in profitability has been observed within the Kenyan market, necessitating a closer examination of agency costs which arises from inherent conflicts of interest existing between principals and agents. Consequently, this research assessed the agency costs effect on the financial performance of insurance firms in Kenya, focusing on three key aspects of agency costs such as monitoring costs, bonding costs, and residual loss. In addition, the study explores the moderating effect of board gender diversity on the association between agency costs and financial performance. The research is grounded in free cash flow theory, agency costs theory and stakeholders' theory. Adopting a positivism research philosophy and a causal research design, secondary data was collected from audited financial statements submitted to the Insurance Regulatory Authority, covering the period from 2018 to 2022. A total of 48 insurance firms were analyzed. The study used STATA software to analyze panel data through descriptive statistics, correlation analysis, and linear panel regression analysis. The study's findings are presented in tables and figures. For suitability of the data for regression analysis, diagnostic tests for multicollinearity, normality, and heteroscedasticity were conducted. The study adhered to all necessary ethical considerations, and the hypotheses were tested at a 0.05 level of significance. The results showed that monitoring costs had a negative but statistically insignificant effect on financial performance, indicating that governance improvements had a minimal effect on the financial outcomes of the firms. Conversely, bonding costs demonstrated a positive and statistically significant effect on financial performance, suggesting that aligning managerial interests with shareholders through performance-based incentives mitigates agency conflicts and enhances profitability. The findings also reveal that residual loss has a negative but insignificant effect on financial performance. Additionally, while board gender diversity was positively correlated with financial performance, it did not significantly moderate the association between agency costs and the financial performance of insurance firms in Kenya. The study recommends that insurance companies balance resource allocation for addressing agency costs through effective monitoring and control mechanisms. Strengthening relationships among shareholders, managers, and employees, is essential for enhancing financial performance while robust risk management can reduce the effect of agency costs. Additionally, policymakers should encourage and refine monitoring procedures to ensure regulatory compliance and financial stability, while enhancing supervision to detect irregularities and breaches. A follow-up study that integrates qualitative methods with quantitative analysis would offer a deeper understanding of the relationship between agency costs and financial performance
Description
A Thesis Submitted to the School of Business, Economics and Tourism in Partial Fulfilment of the Requirements for the Award of Degree of Master of Science (Finance) of Kenyatta University, October 2024
Supervisors:
1.Ambrose Jagongo
2.Fredrick Ndede