Financial Leverage and Financial Performance of Listed Manufacturing Firms in Kenya

Abstract

This study investigates how financial leverage affects the financial performance of listed manufacturing companies in Kenya. It draws on the Pecking Order Theory and the Modigliani and Miller Capital Structure Theory, which describe firms' financing priorities and how capital structure choices impact firm value. The main goal was to evaluate how debt financing influences financial performance, measured by return on assets. A descriptive, quantitative approach was used, analyzing secondary data from audited financial reports of manufacturing firms listed on the Nairobi Securities Exchange. The research spanned ten years and included all listed manufacturing firms as of 2023. Data collection involved a structured data sheet, with analysis conducted using Stata. Descriptive statistics summarized key variables, and panel regression analysis explored the relationship between leverage and performance. The Fixed Effects Model was chosen after diagnostic tests confirmed its reliability. Results indicated a positive link between financial leverage and performance; firms that used debt strategically saw increased profitability, likely due to tax shields and expansion opportunities without diluting ownership. However, the study also highlighted that financial leverage introduces fixed obligations that require careful management to avoid financial distress. Overall, the study suggests that effective use of financial leverage can boost firm performance. It recommends that manufacturing firms adopt strategic debt management, maintain sustainable capital structures, and align borrowing with their ability to service debt. Prudent financial planning and access to affordable financing are crucial for gaining leverage benefits while reducing risks.