FINANCIAL LEVERAGE AND PROFITABILITY: EVIDENCE FROM NIGERIA’S MANUFACTURING SECTOR

Abstract

The purpose of this study is to investigate the relationship between financial leverage and profitability in manufacturing firms in Nigeria. In addition to examining the impact of financial leverage on profitability, we also examine whether some corporate governance mechanisms have an effect on profitability. The mechanisms we examine are: the level of debt equity ratio; the number of board members; the percentage of independent board members; and the effectiveness of audit committees. We employed an ex post facto design. Our sample consisted of panel data obtained from ten manufacturing firms listed on the Nigerian Stock Exchange (NSE) for the period 2013-2022. We used econometric techniques such as pooled OLS, fixed-effects, and random-effects to analyze our data. Prior to conducting our analysis, we carried out several diagnostic tests to confirm that the estimates produced were reliable. These included: a Hausman specification test; a heteroskedasticity test; a cross-sectional dependence test; and an autocorrelation test.
Our results indicated that financial leverage has a significant impact on profitability in Nigeria's manufacturing industry. Further, we found that the level of debt equity ratio had a statistically significant impact on profit after tax, which suggests that the decision-making process surrounding leverage decisions will result in an impact on firm performance. In addition, we found that the various corporate governance mechanisms examined in our study all played a complementary role in impacting firm-specific financial
performance. This study contributes to the existing body of knowledge by providing a single model of both financial leverage and corporate governance mechanisms for manufacturing firms operating within an emerging market context.