Effect of Capital Structure on Return on Assets of Kenya Tea Development Agency Tea Manufacturing Factories in Kericho and Bomet Counties, Kenya

Abstract

Capital structure decision is the mix of debt and equity that a company uses to finance its business. This study aimed to investigate the effects of capital structure on KTDA tea processing factories' performance in Kericho and Bomet counties. This study was carried out because it was not clear how capital structure influences the financial performance of tea processing factories. Secondary data were used in the study where the performance measure of return on assets was used as the dependent variable and four capital structure measures (including short–term debt, long-term debt, total debt to total assets, and total debt to total equity) as an independent variable. The study sample was from all the nine tea factories in Region Five of KTDA that had been in operation for more than five years and hence the readiness of Annual Reports for the financial year 2008-2013. The study employed a panel fixed effect regression model to establish the effects of capital structure on the ROA for the tea processing factories. The results indicate that ROA is significantly and positively associated with long-term debt and total debt at 1% and 5%, respectively, while on the other hand, short-term debt shows a negative and significant relationship at 5%. The negative relation between short-term debt and the profitability of tea processing factories means that supplying finance through short-term debts does not lead to profitability. The study recommends that the tea processing factories must consider using an optimal capital structure since it will minimize the cost of capital and, hence, the cost of financing the tea processing operations.