Financial Structure and the Value of the Firm: A Cross-Sectional Industry Study of Nigerian Quoted Firms

Abstract

The controversy over the optimal capital structure question focuses on the effect of the addition of non-equity financing on the quality of the firm's earnings and on the rate at which the earnings are capitalized. Theory posits that capital structure of a firm affects its shareholders‘ return and risk, and consequently, the market value of shares, hence its significance in corporate financing decisions. This study therefore empirically examines the impact of financial structure decision on the value of Nigerian quoted firms. Cross-sectional time series data of 72 Nigerian quoted firms, for the 1997-2007 periods, were collated from the published annual reports and accounts of the companies, and from the Nigerian Stock Exchange Fact Books of the same period. Five hypotheses were proposed for the study, while the ordinary least square (OLS), fixed-effects (FE) and the gerneralised least square (GLS) regression were used on pooled and panel data to validate the hypotheses and to estimate the relationship between financial leverage and the different measures of firm value in Nigeria. The normalised values of earnings per share (EPS), profit after tax (PAT), price earning ratio (P/E ratio), earnings yield and dividend yields were used as the regressands; while total, long-term and short-term leverage measures alongside size and growth were used as regressors. Descriptive statistics on both the regressands and the regressors were also computed to complement the regression results. The results showed that, the sampled firms lever their financing, on the average by 56.7 percent, with current liabilities making up to 50.53 percent, while long-term liabilities make up the remaining 6.17 percent. They were however some variations in the use of leverage across industrial sectors. Secondly, the results also show that the financing leverage were made up of 0.0486 of capital market funds and 0.9514 money market funds; they were however some variations across industry groups, with 0.1302 standard deviation. Thirdly, as regards the impact of financial leverage on the value of the firm, the regression results showed evidence of a positive relationship between financial leverage and the different measures of firm value, at the .05 level of significance, with the exception of the long-term liability measure which was negatively but insignificantly related with most firm value proxies. The total and short-term liability measures had coefficients of 0.074 and 0.068 respectively with PAT, while the long-term measure showed a coefficient of -0.105, at a 0.05 level of significance. For the EPS measure, the coefficients were 0.0065, 0.039 and -0.136 for the total, short-term and long-term liability measures respectively. The PER measure showed the beta coefficients to be, 0.028, 0.026 and -0.003 for the total, short-term and long-term liability measures respectively. They were however, negative but significant relationship between earnings yield and dividend yield with financial leverage, having beta coefficients of -0.038 and -0.150 respectively, at a 0.05 level of significance. Fourthly, the above results validate previous empirical result that there is a positive relationship between leverage (when measured by short-term liabilities) and firm value, while it is negative when measured by long-term debts. It also provides empirical validation to the view that Nigerian firms are low levered. Furthermore, the results validate empirical findings in other corporate jurisdictions that there exist industrial patterns of financial leverage. Finally, it was found that the plausible reason for the low leverage of Nigerian quoted firms is attributable to the non development of the market for corporate financing in Nigeria.