Relationship between board characteristics and firm financial diversification among listed firms on Nairobi Securities Exchange, Kenya

Abstract

Empirical studies have shown that agency problem continue to exist where there is lack of alignment of managers’ interests with those of the shareholders in terms of resource management and returns on investment with regard to firm diversification. Previous studies on board diversity and firm diversification have concentrated on large sized firms in America, Western Europe and Asia with no conclusive evidence on the relationship between board demographics and firm diversification while majorly utilized static panel multivariate regressions. Due to differences in country specific factors and level of market development, this study was an attempt to fill this gap by utilizing both static and dynamic multivariate panel regression analysis in Kenya, a developing economy. Agency Theory, free cash flow hypothesis and Resource Based View theory provided theoretical framework that guided the study. The specific objectives of the study were: to determine the relationship between diversities of board gender, tenure, board experience, board nationality, board size, interlock directorship and directors’ remuneration and firm financial diversification. Longitudinal research design was used in the study. Data was extracted from Published Final Accounts of firms listed at Nairobi Securities Exchange under Commercial and Manufacturing sectors for the period 2004 to 2014. Fisher and Levin-Lin-Chu tests were used to test the presence of unit root in the series under study. Hadri residual-based Lagrange multiplier test was used to determine the feasible model. Feasible Generalised Least Squares fixed and random effect models and Arrelano-Bond dynamic panel regression models were used to estimate the parameters used to test the hypotheses postulated by the study. Results revealed that, board experience diversity, board nationality diversity, board size and interlock directorship diversity determined firm diversification (p-value < 0.05). Agency Theory, free cash flow hypothesis Resource Based view theory and upper echelon theory provided complete explanation of the magnitude and persistence of firm diversification. Directors’ remuneration negatively impacted geographic sales but did not explain diversification in relation to national sales. Though gender diversity significantly determined national sales it did not determine geographic sales. Experience diversity positively and a significantly determined national assets, (p-value 0.0171<0.05) while Nationality diversity negatively and significantly determined national assets, (p-value 0.0261<0.05) on the basis of static panel analysis. Dynamic panel analysis revealed that tenure diversity negatively and significantly determined geographic sales and investments in segments assets nationally. This study is a behavioural compliment contribution to the more convectional financial dimensions of firm performance particularly ROE, ROI and EPS. Further research may be conducted to examine the relationships between board demographics, macro-economic factors (inflation, foreign exchange rates and borrowing rates) and firm level of diversification. The Government of Kenya and Capital Market Authority of Kenya should enact and implement legislations that regulate gender and tenure diversity of boards as well as enforce the constitutional 30% rule on gender. Similarly, companies should bring on board more members with international experience and interlock directorship orientations.