Leverage ratio and corporate performance: Do marginal cost and marginal benefit of debt matter

Temple Akpa 1, Itiri Idam Okpara 1, *, Olaide Monsurat Akano 1, Tubosun Najim Oladosu 2 and Joachim Uchechukwu Okolo 3

1 Department of Business Education, Federal College of Education (Technical), Isu Ebonyi, Nigeria.
2 Department of Accounting and Finance, University of Abuja, FCT Abuja, Nigeria.
3 Department of Marketing, Institute of Management and Technology, Enugu State, Nigeria.
 
Review
International Journal of Science and Research Archive, 2024, 12(01), 3014–3024.
Article DOI: 10.30574/ijsra.2024.12.1.1057

 

Publication history: 
Received on 03 May 2024; revised on 25 June 2024; accepted on 28 June 2024
 
Abstract: 
This study examines leverage ratio and firm performance considering marginal benefits and marginal costs of debt to a firm. A total of 16 non-financial firms over a 15 year period (2001-2015) were randomly selected for the study. The panel data were subjected to Panel Least Square, Fixed Effects, and Random Effects regression estimations to test the formulated models in the study. Also the study employed Hausman Test to ascertain whether random effects model is the appropriate model or if fixed effects model is the appropriate model. The results shows that long term debt ratio (LTDR) have positive and significant influence on performance of Nigerian firms measured by Return on Asset (ROA) and Return on Equity (ROE). Short term debt ratio (STDR) on the other hand, established negative and significant effect on ROA, and negative and insignificant impact on ROE. STDR accounting for 75% mean value of the total debt ratio of the sampled firms, the researcher therefore, infer that financial structure has negative and significant influence on the performance of Nigerian firms. This outcome is attributed to mismatch of funds and high risk investment (asset substitution effect) resulting to marginal benefits of monitoring and bonding activities less than the marginal costs as noted by agency cost theory. The study therefore concludes that debt is valuable in reducing the agency costs of equity in professionally managed firm but at the same time debt is costly as it increase the agency cost of debt.
 
Keywords: 
Leverage Ratio; Firm Performance; Marginal Benefits; Agency Cost; Bankruptcy Cost
 
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