EFFECT OF CAPITAL ADEQUACY ON FINANCIAL PERFORMANCE OF COMMERCIAL BANKS IN KENYA
Abstract
The performance of the banks has been dwindling in Kenya. Kenya’s commercial banks’ ROA was 2.6 percent in 2017, 2.7 percent in 2018, 2.6 percent in 2018, 1.7 percent in 2019 and 3.3 percent in 2021 and indication of unstable profitability trend. In January, 2013, the CBK issued regulations referred to as prudential guidelines that outlines several aspects of risk management. However, it is not evidently clear through empirical studies how CBK prudential guidelines have impacted bank performance. The study general purpose investigated the extent central bank prudential guidelines has influenced bank performance. The specific objectives sought to establish the effect of capital adequacy on performance of commercial banks. Four theories guided the study; Institutional Theory, Public Interest Theory of Regulation, Stewardship Theory and firm growth theory. The explanatory research design was adopted involving 39 commercial banks in Kenya according to CBK 2022 comprising 9 tier I, 8 tier II and 22 tier III. A census of all the 39 commercial banks was undertaken. Descriptive and inferential tests were adopted in analyzing the data. The descriptive tests included means, minimums, maximums, standard deviation, Kurtosis and Skewness. The particular inferential tests were the unbalanced panel regression model. Prior determining the unbalanced panel regression model, diagnostic model assumption tests were tested. The diagnostic tests comprised the normality tests, serial correlation test, heteroscedasticity, and Multicollinearity and Hausman tests. Presentation of results were done through figures and tables. The findings from the study showed that capital adequacy positively influences the financial performance of commerce banks (β =0.0333113, p=0.027<0.05). It can be concluded that 67% of banks have attained required cash ratio of 0.5 to 1 but still 33% are still struggling with liquidity challenges. A recommendation is made that banks ought to strictly maintain requisite capital adequacy at all times. Tightening of liquidity measures especially taming illicit money is important in enhancing liquidity in the banks. The banks are supposed to revise existing regulations in order to mitigate the growing concern of non-performing loans. The study recommends more audit meetings annually to ensure that all systems and activities of the bank are undertaken as required. There is need for review credits systems so that lending procedures are tightened.
Key words; Capital Adequacy, Central Bank Prudential Guidelines, Financial Performance
CITATION: Wanjiru, B. N., Jagongo, A. O., & Ndede, F. W. S. (2024). Effect of capital adequacy on financial performance of commercial banks in Kenya. The Strategic Journal of Business & Change Management, 11 (2), 327 – 349. http://dx.doi.org/10.61426/sjbcm.v11i2.2913
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