Effect of capital structure on the value of agricultural firms listed on Nairobi Securities Exchange

Abstract

Firms continuously must finance their operations and growth. They raise capital either through internal financing, for example, retained earnings, or external financing such as bonds. When deciding on how to finance its operations, a firm must consider whether to use debt or equity. This is known as the capital structure decision. Capital structure is how a company finances its operations through debt and equity. Since the main goal of the firm is maximization of shareholder wealth, there have been several debates on whether there is relationship between capital structure and the value of a firm, that is, does the amount of debt or equity a firm uses to finance its activities affect its value, for example, its share price. In addition, there have been debates on whether an optimal capital structure exists. Moreover, do the factors that influence capital structure decisions, for example, asset tangibility have a relationship with the value of firms? The purpose of this study was to assess the influence of capital structure and the factors influencing capital structure decisions on the value of firms listed on the Nairobi Securities Exchange. This study was anchored on the following theories: Trade Off Theory, Agency Theory, Signalling Theory and Pecking Order Theory. Furthermore, the study analysed the results and conclusions from other empirical studies related to it. The study used a descriptive research design which involved analysis of existing data, survey of data and statistical analysis of the data that was collected. The target population of the study was the firms in the agricultural sector in the NSE. The data used was from their annual financial statements from 2014-2023. The study used panel data analysis whereby firm value measured by Tobin Q was the dependent variable. Moreover, capital structure, asset tangibility, firm size and profitability were the independent variables. The study also used various diagnostic tests to check for multicollinearity, correlation, stationarity and significance of the data. The results of the study showed that capital structure and its determinants have a negative relationship with firm value. This implies that the more the debt an agricultural firm uses in its capital structure the lower the firm value will be. However, the effect of capital structure and profitability on firm value were insignificant. Only asset tangibility and firm size were statistically significant. This implies that very large agricultural firms and those that have excess tangible assets that may be underutilised or underinvest in intangible assets tend to have low firm value. The study recommends further research in foreign stock exchanges and non-agricultural firms. Moreover, the study recommends that agricultural firms should focus on sustainable growth and should invest more in intangible assets like brand reputation.