THE EFFECT OF LIQUIDITY ON THE FINANCIAL PERFORMANCE OF NON-FINANCIAL COMPANIES LISTED AT THE NAIROBI SECURITIES EXCHANGE BY: DEVRAJ ARJAN SANGHANI REG: D63/60293/2013 A RESEARCH PROJECT SUBMITTED IN PARTIAL FULFILMEMT OF THE REQUIREMENTS FOR THE AWARD OF THE DEGREE OF MASTER OF SCIENCE IN FINANCE, SCHOOL OF BUSINESS, UNIVERSITY OF NAIROBI OCTOBER, 2014 DECLARATION This is to declare that this research project is my original work that has not been presented to any other university or institution of Higher Learning for an award of a degree. Signed: …………………… Date: ………………………. Devraj A Sanghani D63/60293/2013 This is to declare that this project has been submitted for examination with my approval as the University supervisor. Signed: …………………… Date: ………………………. Mr. Herick Ondigo Lecturer, Department of Finance & Accounting University of Nairobi ii ACKNOWLEDGMENTS I wish to acknowledge everyone who assisted in various ways towards completion of this research project. A lot of thanks go to my supervisor Mr. Herick Ondigo for giving me the required direction all the way until I was through. My fellow classmates who assisted me in various ways cannot be forgotten since their contribution had a positive impact. I can’t also forget the entire management of UoN for their cooperation towards providing library facilities where I accessed most of the information concerning this research study. iii DEDICATION I would like to dedicate my research project to the almighty Lord, for His wisdom and elegance without which I would not have accomplished this much, to my wife and daughters for their support, and my family for their prayers and support during this study. iv TABLE OF CONTENTS DECLARATION..................................................................................................................... ii ACKNOWLEDGMENTS ..................................................................................................... iii DEDICATION........................................................................................................................ iv TABLE OF CONTENTS ....................................................................................................... v LIST OF TABLES ................................................................................................................ vii LIST OF ABBREVIATIONS ............................................................................................. viii ABSTRACT ............................................................................................................................ ix CHAPTER ONE: INTRODUCTION ................................................................................... 1 1.1 Background of the Study ................................................................................................ 1 1.1.1 Liquidity ................................................................................................................... 2 1.1.2 Financial Performance ............................................................................................. 3 1.1.3 Effect of Liquidity on Financial Performance ......................................................... 4 1.1.4 Nairobi Securities Exchange .................................................................................... 6 1.2 Research Problem ........................................................................................................... 7 1.3 Objective of the Study .................................................................................................... 8 1.4 Value of the Study .......................................................................................................... 8 CHAPTER TWO: LITERATURE REVIEW .................................................................... 10 2.1 Introduction ................................................................................................................... 10 2.2 Theoretical Review ....................................................................................................... 10 2.2.1 Commercial Loan Theory ...................................................................................... 10 2.2.2 Shiftable Theory..................................................................................................... 11 2.2.3 Liability Management Theory ............................................................................... 12 2.3 Determinants of Financial Performance of listed non-financial companies at NSE .... 12 2.3.1 Liquidity ................................................................................................................. 13 2.3.2 Inflation Rates ........................................................................................................ 13 2.3.3 Corporate Governance Practices ............................................................................ 14 2.3.4 Distribution Networks ............................................................................................ 14 2.3.5 Growth of Informal Sector ..................................................................................... 15 2.3.6 Product Diversity ................................................................................................... 15 2.4 Empirical Review.......................................................................................................... 15 v 2.4.1 International Evidence ........................................................................................... 16 2.4.2 Local Evidence....................................................................................................... 19 2.5 Summary of Literature Review ..................................................................................... 20 CHAPTER THREE: RESEARCH METHODOLOGY ................................................... 22 3.1 Introduction ................................................................................................................... 22 3.2 Research Design............................................................................................................ 22 3.3 Target Population .......................................................................................................... 22 3.4 Data Collection ............................................................................................................. 23 3.5 Data Analysis ............................................................................................................ 23 3.5.1 Analytical Model ................................................................................................... 24 3.5.2 Test of Significance ............................................................................................... 24 CHAPTER FOUR: DATA ANALYSIS, RESULTS AND DISCUSSION ...................... 26 4.1 Introduction ................................................................................................................... 26 4.2 Research Findings ......................................................................................................... 26 4.3 Regression Analysis ...................................................................................................... 26 4.4 Interpretation of the Findings....................................................................................... 29 CHAPTER FIVE: SUMMARY, CONCLUSION AND RECOMMENDATIONS…….31 5.1 Introduction ................................................................................................................... 31 5.2 Summary ....................................................................................................................... 31 5.3 Conclusion .................................................................................................................... 32 5.4 Recommendations for Policy ........................................................................................ 33 5.5 Limitations of the Study................................................................................................ 33 5.6 Areas for Further Research ........................................................................................... 34 REFERENCES ...................................................................................................................... 35 APPENDICES ....................................................................................................................... 38 Appendix I: Data ................................................................................................................. 38 Appendix II: Non- Financial Listed Companies at the Nairobi Securities Exchange as at 31/12/2013 .......................................................................................................................... 43 vi LIST OF TABLES Table 4.1: Model Summary .................................................................................................... 26 Table 4.2: ANOVAa ................................................................................................................ 27 Table 4.3: Coefficientsa ........................................................................................................... 28 vii LIST OF ABBREVIATIONS ATS Automated Trading System CBK Central bank of Kenya CDS Central Depository System EBIT Earnings Before Interest and Tax FTSE Financial Times Stock Exchange IFC International Finance Corporation KLM Koninklijke Luchtvaart Maatschappij KPCU Kenya Planters Co-operative Union MoU Memorandum