Effect of Financial Leverage On the Financial Performance of Kenyan Banks

Abstract

Financial leverage plays a critical role in shaping the profitability and long-term viability of banks. This study examined how leverage affects the financial performance of commercial banks in Kenya, covering a five-year timeframe from 2019 to 2023 across all 40 licensed institutions. Using a correlational research approach, the analysis relied on panel data regression methods, supported by essential diagnostics such as unit root assessments, fixed versus random effects estimations, and the Hausman test to determine the most appropriate model. The findings, displayed using tables and visual aids, revealed that the four leverage indicators examined debt-to-equity, debt-to-total assets, long-term debt ratio, and short-term debt ratio collectively accounted for 47.28% of the variation in return on assets. This suggests that more than half of the performance differences remain influenced by other, unexamined factors. The results showed that higher levels of debt relative to equity, total assets, and long-term commitments had a statistically significant and negative impact on profitability. In contrast, short-term debt appeared to have a slight positive influence on performance, though this effect was not statistically meaningful. Overall, the study emphasizes that the way banks manage their leverage significantly affects financial outcomes. It recommends that bank leaders adopt more cautious approaches to financing particularly by limiting overreliance on long-term debt and equity-based structures in order to safeguard profitability and support sustainable operations.