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Study on the Relationship Between Capital Structure and Financial Performance of the Manufacturing Companies Listed on the Nairobi Stock Exchange

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Study on the Relationship Between Capital Structure and Financial Performance of the Manufacturing Companies Listed on the Nairobi Stock Exchange STUDY ON THE RELATIONSHIP BETWEEN CAPITAL STRUCTURE AND FINANCIAL PERFORMANCE OF THE MANUFACTURING COMPANIES LISTED ON THE NAIROBI STOCK EXCHANGE BY THOMAS GITARI NJENGA UNITED STATES INTERNATIONAL UNIVERSITY AFRICA SUMMER, 2014 STUDY ON THE RELATIONSHIP BETWEEN CAPITAL STRUCTURE AND FINANCIAL PERFORMANCE OF THE MANUFACTURING COMPANIES LISTED ON THE NAIROBI STOCK EXCHANGE BY THOMAS GITARI NJENGA A Project Report Submitted to the Chandaria School of Business in Partial Fulfillment of the Requirement for the Degree of Masters in Business Administration (MBA) UNITED STATES INTERNATIONAL UNIVERSITY- AFRICA SUMMER, 2014 STUDENT’S DECLARATION I, the undersigned, declare that this is my original work and has not been submitted to any other college, institution, or university other than the United States International University in Nairobi for academic credit. Signed:_____________________________ Date:_________________________ Thomas Gitari Njenga (ID: 632307 ) This project has been presented for examination with my approval as the appointed supervisor. Signed:______________________________ Date:_________________________ Dr. Amos G. Njuguna Signed:______________________________ Date:_________________________ Dean, Chandaria School of Business ii COPYRIGHT All rights reserved. No part of this report may be photocopied, recorded or otherwise reproduced, stored in a retrieval system or transmitted in any electronic or mechanical means without prior permission of the copyright owner. Thomas Gitari Njenga Copyright © 2014 iii ABSTRACT The purpose of the study was to assess the relationship between Capital structure and financial performance and position of manufacturing companies quoted on the Nairobi Securities Exchange. The study sought to answer the following questions: What are the components of capital structure? Is there a relationship between capital structure and financial performance? Is there a relationship between capital structure and assets .Lastly, what is the effect of capital structure on the profitability. The research used descriptive research design to describe the relationship of the variables in order to justify the research findings. The data that was examined for the purpose of the study was only secondary data obtained from the Capital Markets Authorities of Kenya and Kenya Association of Manufacturers. The population of the study was from the manufacturing firms quoted on the Nairobi Securities Exchange Market. The study used purposive and random sampling technique to select a sample from the nine manufacturing firms companies quoted on the Nairobi Securities Exchange. The research model used was Debt Equity ratio as the independent variable, whereas dependent variables were the following ratios: Return on Assets, Return on Equity and Profitability ratios such as the Pre – Tax profit ratio and the After Tax profit ratio. The financial ratios were calculated by use of Microsoft Excell spreadsheets using data obtained from the five year period (2006- 2012) financial statements of the selected companies. Then data analysis was done by use of; graphs, tables, trend analysis and regression. The study has shown that the major components of capital structure are debt and equity. Secondly, the results of the study showed that there is no significant statistical relationship between capital structure and assets of the manufactured companies quoted. Lastly, the results of the study showed that there is no significant statistical relationship between capital structure and financial profitability of the manufacturing firms quoted on the Nairobi Securities Exchange. iv ACKNOWLEDGEMENT First and foremost I would like to thank God the Almighty for giving me the knowledge, strength and intelligent to complete my studies. Apart from my God and my own efforts, the success of my project depends largely on the encouragement and guidelines of many others. I wish to express my deep sense of gratitude to my supervisor, Dr Amos Njuguna for his able guidance and useful suggestions, which helped me in completing this project in time. Last , but not least, I would like to express my heartfelt thanks to my beloved late Mum, my family and friends for their prayers and support, to my school friends and my classmates for their help and wishes for the successful completion of this project. v TABLE OF CONTENTS STUDENT’S DECLARATION ....................................................................................... ii COPYRIGHT ................................................................................................................... iii ABSTRACT ...................................................................................................................... iv ACKNOWLEDGEMENT .................................................................................................v TABLE OF CONTENTS ................................................................................................ vi LIST OF TABLES ......................................................................................................... viii LIST OF FIGURES ...........................................................................................................x CHAPTER ONE ................................................................................................................1 1.0 INTRODUCTION ........................................................................................................1 1.1 Background of the Study ...............................................................................................1 1.2 Statement of the Problem ...............................................................................................5 1.3 Purpose of the Study ......................................................................................................6 1.4 Research Questions ........................................................................................................6 1.5 Significance of the Study ...............................................................................................6 1.6 Scope of the Study .........................................................................................................7 1.7 Definition of Terms........................................................................................................8 1.8 Chapter Summary ..........................................................................................................9 CHAPTER TWO .............................................................................................................10 2.0 LITERATURE REVIEW ..........................................................................................10 2.1 Introduction ..................................................................................................................10 2.2 Components of Capital Structure .................................................................................10 2.3 Effect of Capital Structure on Assets. ..........................................................................16 2.4 Effect of Capital Structure on a Firm‟s Performance/Profitability. .............................19 2.5 Chapter Summary ........................................................................................................22 CHAPTER THREE .........................................................................................................23 3.0 RESEARCH METHODOLOGY .............................................................................23 3.1 Introduction ..................................................................................................................23 3.2 Research Design...........................................................................................................23 3.3 Population and Sampling Design .................................................................................24 3.4 Data Collection Methods .............................................................................................25 3.5 Data Analysis Methods ................................................................................................25 vi 3.6 Chapter Summary ........................................................................................................26 CHAPTER FOUR ............................................................................................................27 4.0 RESULTS AND FINDINGS .....................................................................................27 4.1 Introduction ..................................................................................................................27 4.2 General Information .....................................................................................................27 4.3 Components of Capital Structure .................................................................................30 4.4 Relationship between Capital Structure on Assets.......................................................34 4.5 Capital Structure Relationship with Performance ........................................................45 4.6 Regression Analysis .....................................................................................................58 4.7 Chapter Summary ........................................................................................................62 CHAPTER FIVE .............................................................................................................64 5.0 DISCUSSION, CONCLUSIONS AND RECOMMENDATIONS
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