Financial leverage ratios, cash holding and financial Performance of listed firms in Kenya

Abstract

Globally, scholars and shareholders have been concerned with the financial performance of listed firms. However, extensive literature indicates mixed and inconclusive findings on relationships between financial leverage ratios and financial performance. Informed by the pecking order theory, agency theory, and tradeoff theory, this study sought to examine whether cash holding moderates the relationship between financial leverage and financial performance among firms listed in Nairobi Securities Exchange. To establish the causal relationship among variables, the study adopted an explanatory research design, while the nature of data collected informed the choice of a longitudinal research design. A total of 67 firms listed in the NSE as at 2020 constituted the population of the study. An inclusion and exclusion criteria was adopted where firms that did not trade in the NSE during the study period were excluded from the study. Additionally, firms with incomplete data and those that did not provide relevant data required for the study were also excluded leading to a survey of the remaining 39 firms. Secondary data was extracted from the audited annual financial reports for 10 years (2011-2020) where descriptive and inferential statistics were used to manipulate these data. The results of the Hausman test (β =0.0929, p>0.05) substantiated the choice of random effect. From analysis, the study found debt to equity ratio (β=- 0.0070,p<0.05), debt to capital ratio (β = -0.1052, p< 0.05) had a significant negative effect on financial performance. Interest coverage ratio (β = 0.0038, p <0.05), however, had a significant positive effect on financial performance (ROA) of listed firms in Kenya. Additionally, using hierarchical regression models the study established a moderating role of cash holding and debt to equity (β= 0.19679,p<0.05), debt to capital (β= 0.14919,p<0.05), and interest coverage ratio(β=- 0.0485,p<0.05), this was supported by a significant change in R-sq value from 0.2404 on the first interaction to 0.2441 on the final interaction. Therefore, the study recommended that managers and policy formulators maintain low levels of debt to equity and debt to capital ratios. However, higher levels of interest coverage ratios should be maintained as it improves financial performance. Additionally, managers are encouraged to maintain high cash levels in cases where a firm is highly levered.