EFFECT OF FINANCIAL PERFORMANCE ON CAPITAL STRUCTURE OF LISTEED MANUFACUTRING COMPANIES IN KENYA: A PANEL VAR APPROACH
This paper examines the portability of the reverse causality hypothesis between financial performance and capital structure of listed manufacturing firms in Kenya. To achieve this objective, financial performance was proxy by return on assets and return on equity while capital structure was measured by total debt ratio and debt to equity ratios. The data employed covered 7 companies for the period between 2010 and 2016. While the Panel Vector Autoregression was applied and analysed using EVIEWS 10, the Wald granger causality test was carried out to determine the possibility of causality between the variables. The result reveal that past performance does not have significant effect on capital structure as measure by total debt ratio while it was established that capital structure composition of the firms affects their financial performance as measured by return on assets and return on equity. However, employing debt equity ratio as a measure of capital structure, it was established that a bi directional relationship exists between DER and ROA while it was the opposite in the case of ROE. The study therefore concludes that the behaviour of the listed manufacturing firms in their choice of capital structure composition reflects both the efficiency risk and franchise value hypotheses. It therefore, recommends that firms should strive more for returns to enhance the value of the firm to maximize the wealth of the shareholders.