The Impact of Capital Structure On Finan

Arabian Journal of Business and Management Review (OMAN Chapter) Vol. 1, No.
12; July 2012
IMPACT OF CAPITAL STRUCTURE ON THE FINANCIAL

PERFORMANCE OF NIGERIAN FIRMS
Osuji Casmir Chinaemerem

Department of Accounting, Banking & Finance
Delta State University, Asaba Campus.
Delta State Nigeria.
&
Odita Anthony
Department of Accounting, Banking & Finance
Delta State University, Asaba Campus.
Delta State Nigeria.
ABSTRACT
This paper examines the impact of capital structure on financial performance of Nigerian firms
using a sample of thirty non-financial firms listed on the Nigerian Stock Exchange during the
seven year period, 2004 – 2010. Panel data for the selected firms were generated and analyzed
using ordinary least squares (OLS) as a method of estimation. The result shows that a firm’s
capita structure surrogated by Debt Ratio, Dr has a significantly negative impact on the firm’s
financial measures (Return on Asset, ROA, and Return on Equity, ROE). The study of these
findings, indicate consistency with prior empirical studies and provide evidence in support of
Agency cost theory.
Keywords: Capital Structure, Financial Performance, agency cost
1.0 OVERVIEW OF THE STUDY

Capital structure is the means by which an organization is financed. It is the mix of debt and
equity capital maintained by a firm. The extent literature is full of theories on capital structure
since the seminal work of Modigliani and miller (1958). How an organization is financed is of
paramount importance to both the managers of the firms and providers of funds. This is
because if a wrong mix of finance is employed, the performance and survival of the business
enterprise may be seriously affected. This study wants to contribute to the debate on the
relationship between capital structure and firm performance from the agency cost theory
perspective using Nigerian date.
This study seeks to provide answer to the question, “does capital structure affect financial
performance of firms”? data of thirty firms listed on the Nigerian Stock Exchange (NSE)
between 2004 and 2010, representing 210 firm year observations would be used for the study.
43
Arabian Journal of Business and Management Review (OMAN Chapter) Vol. 1, No.12; July 2012
The rest of the paper is organized as follows: sections two provides the literature review on
capital structure and firm performance. Section three discusses the variable descriptions,
expectation and methodology. The empirical results and discussion are presented in section
four. Lastly, section five concludes the study.
2.0 Review of Related Literature

All modern researches have issues with the Modigliani and Miller (1958) proposition which
states that in a world of perfect capital market and no taxes, a firm’s financial structure will not
influence its cost of capital. This, proposition submitted that firms in a given risk class would
be unaffected by financial gearing/Weston and Copeland, 1998). Borigham and Gapenski
(1996) argue that an optimal capital structure can be attained if there exist a tax sheltering
benefits provided an increase in debt level is equal to the bankruptcy costs. They suggest that
managers of a firm should be able to identify when the optimal capital structure is attained and
try to maintain it at that level. This is the point at which the financing costs and cost of capital
are minimized, thereby increasing firm value and performance. Berle and means (1932) put
forward the agency theory which also contributes to the capital structure decision. The theory
argues that conflicts arise from the possible divergence of interests between shareholders
(principals) and managers (agents) of firms. The primary duty of managers is to returns to
shareholders thereby increasing the profit figures and cost cash flows (Elliot and Chiber
(2002). However, senses and Meckling (1976) and Jensen and Ruback (1983) argue that
managers do not always run the firm to maximize returns to shareholders. As a result of this,
managers may adopt non-profitable investments, even though the outcome is likely to be losses
for shareholders. They tend to use the three cash flow available to fulfill their personal interest
instead of investing in positive not present value projects that would benefit the shareholders.
Jensen (1986) argues that the agency cost is likely to exacerbate in the presence of free cash
flow in the firm.
In an effort to mitigate this agency conflict, Pinegar and Wilbruch (1989) argue that capital
structure can be used through increasing the debt level and without causing any radical
increase in agency costs. This will force the managers to invest in profitable ventures that will
be of benefit to the shareholders. If they decide to invest in non-profitable projects and they are
44
unable to pay the interest due to debt holders, the debt holders can force the firm to liquidation
and managers will lose their decision rights or possibly their employment.
Agency theory contributes that leverage firms are better for shareholders as debt level can be
used for monitoring the managers (Boodhoo, 2009). Thus, Higher leverage is expected to
lower agency costs, reduce inefficiency and thereby lead to improvement in a firm’s
performance (Kochhar, 1996, Aghion, Dewatripont and Rey, 1999, Akintoye, 2008, Onaolapo
and Kajola, 2010).
Empirical supports for the relationship between capital structure and firm performance from
the agency perspective are many and in support of negative relationship. Zeitun and Tian
(2007), using 167 Jordanion companies over fifteen year period (1989 – 2003), found that a
firm’s capital structure has a significant negative impact on the firm’s performance indicators,
in both the accounting and market measures. Mojumder and Chiber (2004) and Rao, and Syed
(2007) also confirm negative relationship between financial leverage and performance. Their
results further suggest that liquidity, age and capital intensity have significant influence on
financial performance.
3.0 Methodology
3.1 Description of Variables and Hypotheses
The variables used in the study are as follows: Debt Ratio (DR): The agency cost theory
predicts that higher leverage is expected to lower agency costs, reduce inefficiency and thereby
lead to improvement in firm’s performance. Bergar (2002) argues that increasing the leverage
ratio should result in lower agency costs of outside equity and improve firm performance, all
else held constant. From the above contributions, we expect an inverse relationship between
leverage (DR) and firm performance. The following hypothesis will be tested:
H1 : A firm’s capital structure should not have a negative impact on its performance.
Asset turnover. The efficiency of the management of a firm can be measures by the way and
manner they utilize the assets of the firm to yield positive returns to the firm. asset turnover
ration is an important financial ratio than can be used to achieve the purpose of measuring
management efficiency, hence the introduction of the variable, TURN, as a controlled variable,
45
in the study it is expected that a positive relationship exists between asset turnover and firm
performance. The hypothesis to be tested here is:
H2 : There should be no positive relationship between asset turnover and firm performance.
Age: The age of a firm may also have an impact on firm’s performance, hence the introduction
of a controlling variable, AGE in this study. Stiochcombe (1965) argues that older firms can
achieve experience – based economies and can avoid the liabilities of newness. We expect a
positive relationship between age and firm’s performance. The hypothesis to be tested here is:
H4 : There should be no positive relationship between firm’s age and its performance
Asset Tangibility: This is considered to be the major determinant of a firm’s performance. The
most common argument in the literature favours a positive relationship between asset
tangibility and performance. Mackie (1990) concludes that a firm with high fraction of plant
and equipment (tangible assets) is the asset base made the debt choice more likely and
influences the firm performance. Akistnye (2008) argues that a firm which retains large
investments is tangible assets will have smaller costs of financial distress than a firm that relies
on intangible assets. The relationship between asset tangibility and firm performance is
expected to be positive. The hypothesis to be tested here is
H5 : there should be no positive relationship between firm’s asset tangibility and its
performance
Growth Opportunities; The extant literature considers growth opportunities available to a
firm as an important determinant of firm’s performance, hence the introduction of a controlled
variable, GROW, a proxy for growth opportunities in this study. Zeitun and Tian (2007) argue
that growth firms are able to generate profit from investment. We expect a positive relationship
between growth opportunities and firm’s performance. The hypothesis to be tested here is:
H6 : there should be no positive relationship between a firm’s growth opportunity and its
performance
Industrial Sector: Marsh (1982), Costanias (1983), Bradly, Jerral and Kim (1984) and Adebola
(2002) among others argue that capital structure for firms vary from one industrial sector to
another. Also, so many other factors (such as firm’s risk and growth) influence the ability of
firms to source for external funds. Hence, industrial sector is seen to affect firm’s financial
performance. Thus, there is nend for the introduction, of industrial sector (IWD) as a controlled
variable is this study. The hypothesis to be tested here is
46
H7 : Industrial sector does not affect firm’s performance. Two financial measures adopted as
well as surrogates for the above variable are computed using the underlisted formulae:
R.O.A = Profit after tax

Total assets ………………………………………….. (1)
R.O.E = Profit after tax

Total number of ordinary shares in issue ………….. (2)
Debt ratio = Total Debt
………………………………………….. (3)
Total Assets
Asset Turnover = Sales …………………………………..….. (4)

Total Assets
Size = Natural logarithm of total assets …………..….. (5)
Age = The number of years since the inception of the
firm to the observation date
…………….. (6)
Asset tangibility = Net fixed Assets
……………………..…..….. (7)
Total Assets
Growth = Change in the natural logarithm of total assets ………. (8)
Industrial sector = The dummy variable takes the value
If the firm is in that sector, otherwise it takes the value O …………….... (9)
3.2 Sample Selection

Data were gathered from the published financial statements of 30 out of the non-financial firms
listed on the Nigerian Stock Exchange (NSE) as at January 2011. In other to guide against data
omission and ensure uniformity in presentation, some firms, because of the following factors,
were excluded. Firms that ceased to operate at any point during the period of study were
excluded. Mostly affected were firms in the agriculture/agro allied industry and domestic
product, machinery, marketing, Engineering, technology, footwear, Textile and construction
sectors.
47
Also excluded were firms that had problems with the NSE and Securities and Exchange
Commission (SEC) regarding their financial reports and firms that had course to change their
financial accounting year – end at any time during the period of study. Only thirty firms with
complete data for the period 2004 – 2010 period were used for the study.
3.3 Model Specification
The study employs return on Assets (ROA) and Return on Equity (ROE) as the two dependent
variables, and measures of firm performance. Although there is no unique measurement of firm
performance in the literature, ROA and ROE were chosen because they are important
accounting – based and widely accepted measures of financial performance. ROA can also be
viewed as a measure of management’s efficiency in utilizing all the assets under its control,
regardless of source of financing.
Some writers such as Betis and Hall (1982),. Demsets and Lehn (1985), Habib and Victor
(1991), Cole and Line (2000) Onaolapo and Kajola (2010), among others, made use of ROA
and ROC as performance proxies in their studies. The market based financial performance
which is extensively used in the empirical literature is Tobin’s Q. However, the market value
of debt, an important variable adopted in the determination of Tobin’s Q is not previewed by
the selected firms, hence could not be used in this study. Also, many researcher, as reported by
Xu and Wang (1997) and Zatan and Tian (2007), see Tobin’s Q as a noisy signal and not a
good performance measure.
The only independent (explanatory) variable in this study is the Debt ratio (DR). It serves as
the proxy for capital structure. However, a number of factors may impact on profitability (firm
performance), hence, the need for controlled variables to be included in the model. These
controlled variables are treated in the same way as explanatory variables. The following
controlled variables are used in model 1, Asset Turnover (TURN), firm’s size (SIZE), firm’s
Age (AGE), Asset Tangibility (TAN 6), and Growth opportunity (GROW).
Model 2, recognizes the importance of industrial sector which a firm belong, hence the need
for the inclusion of variable IND to other variables in model 1 to form the mode 2.
Thus, the general model for this study as is mostly found is the extant literature is represented by,
Y = 0 + 1 D1 + 2 Z2 + eit …………………………….. (10)
Where; Y is the dependent variable
48
D1 is the explanatory variable

Z2 is the controllable variable
1 and 2 are the coefficients of the explanatory and controllable variables, respectively.
eit is the error term. It has zero means, constant variance and non-autocorrelated
Specifically, when the above model is adopted here, equation (10) above can be written as:
Model 1
ROA = 0 + 1 DR + 2 TURN + 3 SIZE + 4 AGE + 5 TANG +
6 GROW + eit ……………………………………………. (11)
ROE = 0 + 1 DR + 2 TURN + 3 SIZE + 4 AGE + 5 TANG +
6 GROW + eit ………………………………..…………(12)
Model 2 (with the inclusion of industrial sector variable)
ROA = 0 + 1 DR + 2 TURN + 3 SIZE + 4 AGE + 5 TANG +
6 GROW +  IND + eit ……………………………….. (13)
ROE = 0 + 1 DR + 2 TURN +  3 SIZE + 4 AGE + 5 TANG +
6 GROW + 7 IND + eit …………………………(14)
The co-efficient of the explanatory and controllable variables (1 ……, 7) can be estimated by
the use of OLS technique. Pand data methodology is adopted in this study. This combines
simultaneously cross – section and time series data. Thus, there is need to check for the level of
stationarity of the data.
This is above by the use of Unit Root test. It is also necessary to look out for both fixed and
random effects. The fixed effect model, according to Vicente-Lorente (2001), is viewed as one
in which the researcher makes inferences on the effects that are in the sample. The random
effect model is viewed as one in which researcher make unconditional inferences with respect
to a larger population. This test is necessary especially when the estimates differ widely
between the two models. This study employs the Housman test to compare the fixed and
random effects estimates of the co-efficients
49
4.0 Presentation of Results and Discussion

4.1 Unit Root Test
The study employs E-view 4.1 package to carry out three different unit root tests (Augmented
Dickey – Fuller, 1979, Phillips, Perron, 1998 and GLS – detrended Dickey – Fular) in order to
determine the stationarity of the variables used. All the variables were not stationary at level.
Further tests were extended for the first difference. The result shows that all the variables are
stationary; hence they are 1(1) stochastic process.
4.2 Fixed and Random Effect Models
This study employs sample of Nigerian non-financial institutions, hence the tendency for the
fixed effect and random effect models’ estimates to differ significantly. Hausman chi-square
test was conducted and result shows that the Hausman is not significant at 5% level. The
implication of this is that the two estimates do not differ significantly. Since, there is presence
of industrial effect in model 2; the random effect estimates is preferable to the fixed effect
estimate. However, the results of the random estimates do not differ significantly from the OLS
estimates, hence we based out conclusions using the results of the OLS estimates
4.3 Descriptive Statistics
Table 1 below shows the descriptive statistics of all the variables used in the study
Table 1: Descriptive Statistics

ROA ROE DR TURN SIZE AGE TANG GROW
Mean 0.059 1.457 3.419 1.329 7.150 1.607 0.379 0.070
Std. Dev 0.115 2.789 13.949 0.768 1.433 0.139 0.217 0.191
Skewness -0.935 0.682 6.447 1.493 0.506 -1.377 0.829 0.792
Kurtosis 5.633 5.214 44.837 3.504 0.452 3.095 -0.099 19.288
Range 0.950 23.610 121.840 4.780 6.920 0.840 0.950 2.290
Minimum -0.440 -12.900 -4.860 0.030 3.630 1.040 0.010 -0.970
Maximum 0.510 10.710 116.980 4.810 10550 1.880 0.960 1.320
Sum 12.370 305.950 717.980 279.040 1501.460 337.510 79.530 14.720
50
N Valid 210 210 210 210 210 210 210 210

Missing 0 0 0 0 0 0 0 0
Source: Generated from analysis using SPSS
The mean ROA of the sampled firms is about 6%, while that of the ROE is about 146%. The
results indicate that on the average, for every Nl0O worth of total assets of the firms, mere N6
was earned as profit after tax, while N146 was earned as after tax profit on every N100 equity
share issued. The above analysis shows that the selected firms have a low accounting
performance during the period of study. The mean debt ratio is 3.42; asset turnover is 1.33 and
size of the firm, 7.15. The average age of the firm is about 41 years (log 1.61). This shows that
the firms are not relatively young. The mean asset tangibility is 0.38. This indicates that the
proportion of the firms’ fixed assets to the total assets is about 38%. The mean growth
opportunity is about 7%.
Tables 2a and 2b present the correlations among the variables. From Table 2a, ROA is reported
to be negatively correlated with debt ratio and is significant at 10% (Sig. 0.066) and also
negatively correlated with asset tangibility and significant at 1%. Table 2a further reveals a
positive correlation between ROA and asset turnover and significant at 1% level. ROA is
however positively correlated with firm’s size, age and growth opportunity, but not significant.
Table 2a: Correlations (Pearson) ROA as a dependent variable

ROA DR TURN SIZE AGE TANG GROW
ROA I
DR -0.127 1
TURN 0.263 0.351 1
SIZE 0.011 0.382 0.250 1
AGE 0.070 -0.021 0.224 -0.155 1
TANG -0.320 -0.064 -0.350 -0.042 -0176 1
GROW 0.094 0.060 -0.007 0.137 0.021 -0.217 1
Sig (2-tailed) ROA - 0.066 0.000 0.878 0.3 14 0.000 0.176
DR 0.066 - 0.000 0.000 0.758 0.355 0.386
TURN 0.000 0.000 - 0.000 0.001 0.000 0.922
SIZE 0.878 0.000 0.000 - 0.025 0.547 0.048
AGE 0.314 0.758 0.001 0.025 - 0.011 0.758
TANG 0.000 0.355 0.000 0.547 0.011 - 0.002
GROW 0.176 0.386 0.922 0.048 0.758 0.002 -
Table 2b: Correlations (Pearson) ROE as a dependent variable

ROA DR TURN SIZE AGE TANG GROW
ROE 1
DR -0.118 1
51
TURN 0.365 0.351 1

SIZE 0.271 0.382 0.250 1
AGE 0.202 -0.021 0.224 -0.155 1
TANG -0.147 -0.064 -0.350 -0.042 -0.176 1
GROW 0.054 0.060 -0.007 0.137 0.021 -0.217 1
Sig (2-tailed) ROE - 0.087 0.000 0.000 0.758 0.033 0.433
DR 0.087 - 0.000 0.000 0.758 0.355 0.386
TURN 0.000 0.000 - 0.000 0.001 0.000 0.922
SIZE 0.000 0.000 0.000 - 0.025 0.547 0.048
AGE 0.003 0.758 0.001 0.025 - 0.011 0.758
TANG 0.033 0.355 0000 0.547 0.011 - 0.002
GROW 0.433 0.386 0.922 0.04 0.758 0.002 -
Source: Authors’ compilation, gene rated using SPSS.
Table 2b shows that ROE is negatively correlated with debt ratio and significant at 10% level
(sig. 0.087). ROE is also negatively correlated with asset tangibility and significant at 5%. The
table further reveals a positive correlation and significant at 1% between ROE and asset
turnover, size and age. ROE is however positively correlated with growth opportunity but not
significant.
4.4 Regression Results and Discussion

Table 3 provides the results of the regression of the two performance measures (ROA and
ROE). The results indicate a negative and significant relationship between ROA and debt ratio
at 1% level. It also shows the same relationship between ROE and debt ratio.
Hypothesis 1 predicts that a firm’s capital structure should have a negative impact on its
financial performance. The above results confirm this hypothesis and also provide evidence in
support of agency cost hypothesis. It suggests that due to agency conflicts between a firm’s
stockholders, firms tend to over-leveraged themselves and this leads to negative financial
performance. This outcome is consistent with the findings of previous studies such as Krishnan
and Moyer (1997), Majumdar and Cbhibber (1997), Gleason, Mathur and Mathur (2000),
Tzelepis and Skuras (2004), Pratomo and Ismail (2006), Margaritis and Psillaki (2006), Zeitun
and Tian (2007), Rao et al (2007), Akintoye (2008), among others.
The relationship between ROA and asset turnover is positive and significant at 1% level. ROE
also shows a positive and significant relationship with asset turnover. Hypothesis 2 predicts a
positive relationship between asset turnover and firm’s performance measure. The outcome of
52
this study confirms this hypothesis. Thus, asset turnover is an important determinant of firm’s
financial performance.
The relationship between ROA and firm’s size is positive but not significant. However, the
relationship between ROE and the size of firm is positive and significant at 1% level.
Hypothesis 3 predicts a positive relationship between firm’s size and financial performance.
The outcome of the study confirms this hypothesis when ROE is used as a firm performance
proxy. Thus, firm’s size is an important determinant of firm’s financial performance. The
outcome is consistent with the findings of previous writers such as Gleason et al (2000) and
Zeitun and Tian (2007).
Table 3a: Regression results (Model 1)
ROA ROE
DR -0.002 -0.076
(-3.435}*** [..5759]***
(0.001) (0.000)
TURN 0.041 1.381
(3.601]*** [5.464]***
(0.000) (0.000)
SIZE 0.001 0.670
[0.189] [5.215]***
(0.851) (0.000)
AGE -0.030 3.325
[-0.5341 [2.6561***
(0594) (0.009)
TANG -0.124 0.169
(13.304)*** [0.203]
(0.001) (0.840)
GROW 0.036 0.470
(0.8861 (0.5291
(0377) (0.598)
R. square 0.181 0310
Adjusted R square 0.157 0.290
F-Statistics 7453*** 15.126***
Number of observation 210 210
Durbin Watson 1.105 1.101
Predictors (constant) DR. TURN, SIZE, GE, TANG, GROW. Dependent variables: ROA and ROE.
t-statistics are shown in the form [ ], while p-values are in the form { }.
*, **, *** indicate significant at 10%, 5% and 1% respectively.
The relationship between ROA and firm’s age is negative but not significant. However, the
relationship between ROE and firm’s age is positive and significant at 1% level. Hypothesis 4
53
predicts a positive relationship between firm’s age and its performance. The outcome of this
study confirms the hypothesis when ROE is used as a performance measure.
Against theoretical expectations, the relationship between ROA and firm’s asset tangibility is
negative and significant at 1% level. This shows that firms with high ratio of tangibility have a
lower financial performance ratio. However, the relationship between ROE and asset
tangibility is positive but not significant. Hypothesis 5 predicts a positive relationship between
firm’s asset tangibility and its performance. We therefore reject the hypothesis. It provides
salient evidence that the sampled firms were not able to utilize their fixed asset composition in
the total asset judiciously to impact on their performance.
The relationship between the two performance measures (ROA and ROE) and growth
opportunity is positive but not significant. Hypothesis 6 predicts a positive relationship
between a firm’s growth opportunity and its performance. Although the expected sign
(positive) is confirmed, the hypothesis is rejected on the ground of its non- significance. Thus,
growth opportunity is not a major determinant of the sampled farms’ performance.
Table 3b: Regression results (Model 2)

ROA ROE
DR -0.002 -0.083
[-3.010]*** [6.9661***
(0.003) (0.000)
TURN 0.034 0.906
[2.308}** [2.807}***
{10.022} (0.006)
SIZE 0.020 0.542
[2.416J** [2.954]***
(0.017) (0.004)
AGE -0.081 0.735
[-1.304] [0.540]
(0.194) (0.590)
TANG -0082 0.661
11.7701* [0.657]
(0.077) (0.512)
GROW 0.017 0.039
[-0.480] [0.050]
10.632) 10.960)
54
IND DUMMY 1 -0.006 -.095

[-0.117] [-0.079]
(10.907) (0.960)
IND DUMMY 2 0.053 1.184
(0.8781 [0.8%]
(0381) (0.371)
IND DUMMY 3 0.131 4.130
[2.9101*** [4.204]***
(0.004) (0.000)
IND DUMMY 4 0.090 1.553
[1.632] [1.285]
10.104) (0.201)
IND DUMMY 5 0.092 0.724
[1.5751 [0.5681
(0.117) (0.571)
IND DUMMY 6 -0.006 0.291
1-0.2431 [0.5101
(0.808) (0.611)
IND DUMMY 7 0.095 1.407
[2.0711** [1.404]
(0.040) (0.162)
IND DUMMY 8 0.053 1.467
[1.023] [1.283]
(0.307) (0.201)
IND DUMMY 9 0.019 2.572
[0.434) [2.68 1]***
(0.664) (0.008)
IND DUMMY 10 0.082 1.606
[I .7411* [1.552]
(0.083) (0.122)
IND DUMMY 11 -0.069 -0.059
[.1.659]* [-0.065]
[0.099] (0.948)
IND DUMMY I2 0.130 4.376
[2.805]*** [4.310]***
(0.006) (0.000)
IND DUMMY 13 0.039 1.432
[0.7841 [1.379]
(0.434) (0.170)
IND DUMMY 14 -0.042 3.472
[-0.8411 [3.177]***
(0.401) (0.002)
IND DUMMY 15 -0.023 0.368
[-0.4331 [0.3 19]
(0.666) (0.750)
55
R square 0.420 0.523

Adjusted R square 0.355 0.470
F-Statistics 6.484*** 9.819***
Number of observation 210 210
Durbin Watson 1.462 1.485
Predictors (constant) DR., TURN, SIZE, AGE, TANG, GROW. END DUMMY 1 to 15.
Dependent variables: ROA and ROE.
t-statistics are shown in the form [ ], while p-values are in the form { }
*, **, *** indicate significant at 10%, 5% and 1% respectively.
Table 3b shows the regression results for Model 2 (when the controlled variable IND DUMMY
1 to 15, representing all the 15 sectors used in the study are introduced).
The relationship between ROA and ROE (performance proxies) with the only independent
variable (DR) is negative and significant at 1% level. This outcome, which is similar to the
result of Model 1, confirmed hypothesis 1, and provides evidence for the support of agency
cost theory.
The Table 3b further reveals that firm’s asset turnover, size and asset tangibility are major
determinants of firm’s financial performance. With the introduction of the controlled variable,
industrial sector (1ND DUMMY), Table 3b indicates a positive and significant relationship
between the two performance proxies, ROA and ROE and IND DUMMY 3 and 12 (Breweries
and Food! beverages and tobacco). A positive and significant relationship also occurred
between ROA and ND DUMMY 7 and 10 (Chemical and paints and Printing and publishing)
and between ROE and ND DUMMY 9 and 14 (Construction and Petroleum marketing). This
study provides the evidence that these seven industrial sectors influence their financial
performance positively; hence they are viable sectors to invest in.
On the other hand, the relationship between ROA and ND DUMMY 11 (Computer and office
equipment) is negative and statistically significant. This indicates that the sector influences its
financial performance negatively, and the sector is not good for investment purpose. Other
sectors such as Agric and agro- allied (ND DUMMY 1), Building materials (ND DUMMY 6),
and Textiles (ND DUMMY 15) also show a negative relationship between the performance
proxies and their sectors, but not significant.
56
Based on the line of discussion above, hypothesis 7 which predicts that the industrial sector of
a firm influences its financial performance is hereby accepted.
Table 3b above (Model 2) provides robust results than that of Table 3a (Model 1). This can be
seen from the results of the adjusted R square and Durbin- Watson which improved
significantly in Model 2.
5. CONCLUSION
This paper examines the impact of capital structure on firm’s financial performance using 30
listed non- financial firms in Nigeria between 2001 and 2007. The paper seeks to fill the gap in
the literature as a result of limited studies that have been conducted so far in this area using
Nigerian data. An attempt was made by Akintoye (2008) but the study only used 10 Nigerian
firms; a sample size not representative enough. It also lacked the empirical analysis a study of
this nature demands. Its conclusions are based on financial ratios as indicators of capital
structure and no regression or any form of econometric exercise was carried out. This paper
therefore attempts to fill the inherent gap noticed in the study.
The study shows that the expected sign for is confirmed by the actual relation obtained for the
model under study by the two financial performance measures, ROA and ROE in the two
models. Thus, the firm’s capital structure is an important determinant of firm’s financial
performance and the direction of the relationship is reverse. The outcome provides evidence in
support of the agency cost hypothesis. The study further reveals that asset turnover, is an
important determinant of financial performance. The expected sign of 2 is confirmed by the
two financial performance proxies. With ROE as a measure of financial performance, size and
age are also considered as major determinants of financial performance in model 1, but firm’s
age is not a major determinant in model 2.
The study, against theoretical expectations, provides evidence of a negative and significant
relationship between asset tangibility and ROA as a measure of performance in the two
models. The implication of this is that the sampled firms were not able to utilize the fixed asset
composition of their total assets judiciously to impact positively on their firms’ performance.
57
However, it provides evidence that asset tangibility is a major determinant of firm’s

performance. On the other hand, the study could not provide evidence that growth opportunity
is a determinant of firm’s performance in the two proxies of corporate performance for the two
models.
The Model 2 provides evidence that industrial sector which a firm belongs affects its financial
performance positively and significantly in 6 sectors- 3,7,9,10,12 and 14 (Breweries; Chemical
and paints; Construction; Printing and publishing; Food/ beverages and tobacco; and Petroleum
marketing) and negatively in one sector (sector 11- Computer and office equipment).
Regarding future line of research, this study can be improved upon if the number of firms and
the performance measures are increased. The use of market- based performance measures such
as the original Tobin’s Q, price- earnings, market value to book value of equity, among others,
will make the study more robust. Attention should also be shifted to the study of small and
medium scale firms in the developing countries.
58
REFERENCES
Adebola, S.A (2002): “An empirical study of a manufacturing firm’s capital structure: the 7up
bottling company experience.” Babcock Journal of Management and Social Sciences, 1(1),
pp 1- 15.
Aghion, P, Dewatripont, M and Rey, P (1999): “Competition, financial discipline and growth.”
Review of Economic Studies, 66, pp 825- 852.
Akintoye, 1.R (2008): “Effect of capital structure on firms’ performance: the Nigerian experience.”
European Journal of Economics, Finance and Administrative Sciences, 10, pp 233- 243.
Ang, J.S, Cole, R.A and Lin, J.W (2000): “Agency costs and ownership structure.” Journal of
Finance, 55, pp 81- 106.
Barclay, M.J and Smith Jr, C.W (2001): “The capital structure puzzle: another look at the
evidence” in Chaw, D.H (ed), The New Finance: Where Theory Meets Practice. New York,
McGraw- Hill.
Barclay, M.J and Smith Jr. C.W (1996): “On financial architecture: leverage, maturity and
priority.” Journal of Applied Corporate Finance, pp 4- 17.
Berger, A.N and di Patti, E.B (2002): “Capital structure and firm performance: a new approach to
testing agency theory and an application to the banking industry.” Federal Reserve System
and Wharton Financial institutions Centre, pp 1- 37.
Berle, A.A and Means, G.C (1932): The Modern Corporation and Private Property. New York,
Macmillan.
Bettis, R.A and Hall, W.K (1982): “Diversification strategy, accounting determined risk and
accounting determined return.” Academy of Managerial Journal, 25, pp 254- 264.
Boodhoo, R (2009): “Capital structure and ownership structure: a review of literature.” The
Journal of On line Education, January Edition, pp 1-8.
Bradley, M, Jarrell, G.A and Kim, E.H (1984): “On the existence of an optimal capital structure:
theory and evidence.” Journal of Finance, 39, pp 857- 878.
Brigham, E and Gapenski, L (1996): Financial Management. Dallas, Dryden Press.
Castanias, R (1983): “Bankruptcy risk and optimal capital structure.” Journal of Finance, 38, pp
1617- 1635.
Dansetz, H and Lehn, K (1985): “The structure of corporate ownership: causes and consequences.”
Journal of Political Economy, 93, pp 1155- 1177.
59
Elliot, B and Elliot, J (2002): Financial Accounting and Reporting. 12th Edition, London, Prentice
Hall) Financial Times. E- Views 4.1 (2002): User’s Guide.
European Journal of Economics, Finance and Administrative Sciences - Issue 25(2010)
Gleason, KC, Mathur, L.K and Mathur, 1 (2000): “The interrelationship between culture, capital
structure and performance: evidence from European retailers.” Journal of Business
Research, 50, pp 185- 191.
Gorton, G and Rosen, R (1995): “Corporate control, portfolio choice and the decline of banking.”
Journal of Finance, 50, pp 1377- 1420.
Habib, M.M and Victor, B (1991): “Strategy, structure and performance of US manufacturing and
service MNCs: a comparative analysis.” Strategic Management Journal, 12, pp 589- 606.
Hausman, D.M (1998): Causal asymmetries. New York, Cambridge University Press.
Jensen, M (1986): “Agency costs of free cash flow, corporate finance and takeovers.” American
Economic Review, 76, pp 323- 329.
Jensen, M (1988): “Takeovers: their causes and consequences.” Journal of Economic Perspectives,
2, pp 21- 48.
Jensen, M and Meckling, W (1976): “Theory of the firm: managerial behaviour, agency costs and
capital structure.” Journal of Financial Economics, 3, pp 11- 25.
Jensen, M and Ruback, R (1983): “The market for corporate control: the scientific evidence.”
Journal of Financial Economics, 11, pp 5-50.
Kochhar, R (1996): “Explaining firm capital structure: the role of agency theory vs transaction cost
economics.” Strategic Management Journal, 17, pp 713- 728.
Krishnan, V.S and Moyer, R.C (1997): “Performance, capital structure and home country: an
analysis of Asian corporations.” Global Finance Journal, 8, pp 129- 143.
Macide- Mason, J (1990): “Do taxes affect corporate financing decisions?” Journal of Finance, 45,
pp 1471- 1494.
Majumdar, S.K and Chhibber, P (1999): “Capital structure and performance: evidence from a
transition economy on an aspect of corporate governance.” Public Choice, 98, pp 287- 305.
Margaritis, D and Psillaki, M (2006): “Capital structure and firms efficiency in New Zealand.”
Journal of Finance.
Marsh, P.R (1982): “The choice between equity and debt: an empirical study.” Journal of Finance,
37, pp 121- 144.
60
Mehran, H (1995): “Executive compensation structure, ownership and firm performance.” Journal
of Financial Economics, 38, pp 163- 184.
Modigliani, F and Miller, M (1958): “The cost of capital, corporation finance and the theory of
investment.” American Economic Review, 48, pp 261- 297.
Nigerian Stock Exchange (2007): Fact Book: Lagos.
Onadopo A.A. and Kokoto S.O. (2010). Capital Structure and Firm Performance: evidence from
Nigeria and Administrative Science
Penrose, E.T. (1959): The Theory of the growth of the Firm. New York, Wiley.
Pinegar, M. and Wilbricht, L. (1989): What managers think of capital structure theory: a survey.
Financial Management, winter, pp 82 – 91.
Pratomo, W.A and Ismail, A.G (2006): “Islamic bank performance and capital structure MPRA
Paper No 6012.
Rao, N.V, Al- Yahyaee, K.H.M and Syed, LA.M (2007): “Capital structure and financial
performance: evidence from Oman.” Indian Journal of Economics and Business, pp 1- 23.
SPSS for Windows version 12.0 (2003): LEAD Technologies, Inc.
Stinchcombe, A.L (1965): “Social structure and organizations,” in March, J.G (ed) Handbook of
Organizations. Chicago, Rand McNally.
Tzelepis, D and Skuras, D (2004): “The effects of regional capital subsidies on firm performance:
an empirical study.” Journal of Small Business and Enterprise Development, 11, pp 121-
129.
Vicente- Lorente, J.D (2001): “Specificity and opacity as resource- based determinants of capacity
structure: evidence for Spanish manufacturing firms.” Strategic Management Journal, 22,
pp 157- 177.
Weston, J.F and Copeland, T.E (1998): Managerial Finance 2’ Edition, New York, CBS College
Publishing.
Xu, X and Wang, Y (1997): “Ownership structure, corporate governance and firms’ performance:
the case of Chinese stock companies.” Amherst College and the World Bank Sponsored
Study pp 1-54.
Zeitun, R and Tian, G.G (2007): “Capital structure and corporate performance: evidence from
Jordan.” Australasian Accounting, Business & Finance Journal, 1(4), pp 40-61
61

The Impact of Capital Structure On Finan

Uploaded by

Copyright:

Available Formats

The Impact of Capital Structure On Finan

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

The Impact of Capital Structure On Finan

Uploaded by

Copyright:

Available Formats

Arabian Journal of Business and Management Review (OMAN Chapter) Vol. 1, No.

12; July 2012

IMPACT OF CAPITAL STRUCTURE ON THE FINANCIAL

Osuji Casmir Chinaemerem

Keywords: Capital Structure, Financial Performance, agency cost

1.0 OVERVIEW OF THE STUDY

2.0 Review of Related Literature

R.O.A = Profit after tax

R.O.E = Profit after tax

Asset Turnover = Sales …………………………………..….. (4)

3.2 Sample Selection

D1 is the explanatory variable

4.0 Presentation of Results and Discussion

4.3 Descriptive Statistics

Table 1: Descriptive Statistics

N Valid 210 210 210 210 210 210 210 210

Table 2a: Correlations (Pearson) ROA as a dependent variable

Table 2b: Correlations (Pearson) ROE as a dependent variable

TURN 0.365 0.351 1

4.4 Regression Results and Discussion

Table 3b: Regression results (Model 2)

IND DUMMY 1 -0.006 -.095

R square 0.420 0.523

However, it provides evidence that asset tangibility is a major determinant of firm’s

Brigham, E and Gapenski, L (1996): Financial Management. Dallas, Dryden Press.

European Journal of Economics, Finance and Administrative Sciences - Issue 25(2010)

Nigerian Stock Exchange (2007): Fact Book: Lagos.

SPSS for Windows version 12.0 (2003): LEAD Technologies, Inc.

You might also like

Pfad - The Proxy pFad of © 2024 Garber Painting. All rights reserved.