EFFECT OF FINANCIAL PERFORMANCE ON CAPITAL STRUCTURE OF LISTED FINANCIAL FIRMS IN KENYA
Eunice Wanja - MBA Student, Department of Accounting and Finance, School of Business and Economics, Catholic University of Eastern Africa, GABA Campus, Kenya
Dr. Irene Cherono - Lecturer, Department of Accounting and Finance, School of Business and Economics, Catholic University of Eastern Africa, GABA Campus, Kenya
ABSTRACT
This study examined the effect of financial performance on the capital structure of financial institutions listed on the Nairobi Securities Exchange in Kenya. Capital structure refers to the combination of debt and equity used by firms to finance their operations and investments. The study focused on how financial performance influences financing decisions within listed financial institutions, particularly in a regulated financial environment. Although many studies have explored the relationship between financial performance and capital structure, the findings remain inconclusive, especially within Kenya’s financial sector. This created the need for further investigation. The main objective of the study was to determine the effect of financial performance on the capital structure of listed financial institutions in Kenya. Specifically, the study examined the effect of Earnings per Share (EPS), Market-to-Book Value of Equity (MTBV), Return on Assets (ROA), and Return on Capital Employed (ROCE) on capital structure. In addition, firm size was included as a moderating variable to determine whether it influenced the relationship between financial performance and capital structure. The study adopted a quantitative causal research design and relied on secondary data collected from audited annual reports, publications from the Central Bank of Kenya, and filings from the Nairobi Securities Exchange. The target population consisted of all listed financial institutions between 2015 and 2025, including commercial banks, insurance companies, and investment firms. Purposive sampling was used to select firms with complete and reliable financial data during the study period. Data analysis was conducted using Stata software. Both descriptive and inferential statistics were used in the analysis. Descriptive statistics included means and standard deviations, while inferential statistics involved correlation and regression analysis. Several diagnostic tests were also carried out to ensure the validity and reliability of the regression model. These included the Shapiro–Wilk normality test, autocorrelation test, heteroscedasticity test, stationarity test, collinearity test, Granger causality test, cointegration test, and Hausman test. The findings revealed that all the financial performance indicators had statistically significant effects on capital structure. Earnings per Share had a positive and significant effect on capital structure (β = 0.022996, p-value = 0.0301), indicating that firms with stronger earnings performance were more likely to increase debt financing. Return on Assets also had a positive and significant relationship with capital structure (β = 0.519900, p-value = 0.0000), suggesting that profitable firms had greater ability to access debt financing. On the other hand, Market-to-Book Value of Equity had a negative and significant effect on capital structure (β = -0.261416, p-value = 0.0047), while Return on Capital Employed also showed a negative and significant relationship (β = -0.045099, p-value = 0.0000). These findings imply that firms with stronger market valuation and higher returns on capital employed were less likely to rely heavily on debt financing. The study concluded that financial performance plays an important role in determining the capital structure of listed financial institutions in Kenya. The findings provide useful insights for financial managers, regulators, policymakers, and investors in making financing and investment decisions. The study also contributes to existing literature on capital structure in emerging markets. Future studies should examine other sectors and incorporate additional variables and qualitative approaches to provide a broader understanding of the factors influencing capital structure decisions.