Stock liquidity, growth opportunities and default risk of non-financial firms listed in Nairobi Securities Exchange

Abstract

Default risk can be detrimental to the existence of any organization. It makes it harder for firms to keep their customers and employees, reduces the productivity of the supply chain, and drives up their administrative and legal costs. The risk of default increases if a company's cash flows are erratic and/or there is no market access. Though studies suggest that stock market liquidity affect default risk, the findings are mixed and inconclusive. Extant literature further demonstrates that growth opportunities affect default risk. Therefore, this study sought to examine whether growth opportunities moderated the association between stock market liquidity and default risk among nonfinancial firms listed in the Nairobi Securities Exchange (NSE). The specific objectives were to determine the effect of; price impact, trading quantity, transaction cost and trading speed on default risk. The study further examined whether growth opportunities moderated the relationship between; price impact, transaction quantity, trading cost, trade speed and default risk. This study was grounded on the static trade off theory, feedback theory and the market timing theory. The study was anchored on the positivism paradigm and both the explanatory and longitudinal research design. Data was secondary in nature and was sourced from both the NSE and the individual firm’s annual financial reports. The study used sample of 31 nonfinancial firms and data for the period over 2011 and 2020. Data collection process was guided by a data collection and it was analyzed through descriptive and inferential statistics. The choice between the fixed effect and the random effect panel data estimation methods was based on the results of the Hausman test. The study adopted the hierarchical multiple regression model. Based on the regression results, the study found that price impact (β= 0.150; ρ< 0.05) and transaction cost (β= 0.775; ρ< 0.05) had a positive and significant effect on default risk while trading quantity (β= -0.127; ρ< 0.05) and trading speed (β= -0.071; ρ< 0.05) had a negative and significant effect on default risk. The study further found that growth opportunities had a buffering moderating effect on the relationship between price impact (β= -0.131; ρ< 0.05) and transaction cost (β= -0.080; ρ< 0.05) and default risk. Further, the results reveal that growth opportunities had an enhancing moderating effect on the relationship between trading quantity (β= -0.041; ρ< 0.05), trading speed (β= -0.021; ρ< 0.05) and default risk. The study concluded that stock liquidity is key in mitigating default risk among listed firms and that a firm’s growth opportunities moderated that relationship. The study's conclusions have implications for managers and regulators. First, managers should take into account how crucial stock liquidity in lessening default risk. Thus, when selecting an optimal capital structure, they should consider the firm’s stock liquidity. Second, investors and managers should take into account the influence of growth opportunities on the relationship between stock liquidity and default risk. Third, capital market regulator should initiate strategies that promote stock liquidity for instance enhance use of technology in trading and investor protection. One of the study's limitations was that it only focused on non- financial firms listed in NSE; hence, future research may consider unlisted firms as well as firms listed in other jurisdictions.