The influence of corporate governance on agency cost of firms listed in the Nairobi Securities Exchange

Abstract

The study examines the influence of governance mechanisms on firm agency cost. Governance has been theorized to lead to the realignment of the interests of agents to those of the principles affecting firm agency cost. Good corporate governance assists the board and management to pursue objectives that are in the interest of the organization and its stakeholders and facilitates effective monitoring reducing firm agency cost. Capital Markets Authority in response to the growing importance of corporate governance issues, developed the guidelines for good corporate governance practices by public listed companies in Kenya. This study evaluates the influence of the governance mechanism as proposed by this guideline in reducing agency cost of firms listed in the Nairobi Securities Exchange. The study is based on a sample of 34 firms listed in the Nairobi Securities Exchange during the period 2002-2012. Panel data estimation technique is used in the analysis of the data. The study finds both significant fixed and random effects in the data. A fixed effect model is estimated as individual effects are found to be significantly correlated to at least one of the regressors in the model. The study finds the presence of audit committees and that of nonexecutive board members to significantly reduce firm agency cost. The influence of firm size and leverage is also found to be significant. Larger firms are found to have a higher agency cost compared to smaller firms. Equally firms that finance a higher proportion of their assets through debt are found to have higher agency cost than those with lower proportions of their assets being financed through debt. The study however did not find any significant influence of the presence of nomination committee, duality, institutional ownership and board ownership. The study recommends policy to improve flow of information, reduce debt related agency costs and bankruptcy costs in the capital markets. It also recommends policy to increase percentage of independent board members and use of audit committees to reduce firm agency cost.