Oketah, Felix Okechukwu, Prof. Ifeoma Mary Okwo, and Dr. Ikechukwu Ezugwu
Correspondence: felix.oketah@esut.edu.ng
ABSTRACT
The study examined the effect of debt indices on financial performance of oil and gas companies
in Nigeria. The specific objectives are to evaluate the effect of debt ratio (DR), debt to equity ratio
(DER) and interest coverage ratio (ICR) on return on assets (ROA). The study anchored on the
Trade-off theory and agency theory. Ex-post facto research design was adopted wherein secondary
data sourced from audited financial statements of three (3) selected oil and gas companies (Total
Nigeria Plc, 11 Nigeria Plc and Oando Nigeria Plc) listed on Nigerian Exchange Group. A period
of 12 years (2010–2021) was used for the analysis. The results of the panel data regression analysis
revealed that the predictor variables of DR had negative (-0.218419) and significant (0.0012) effect
on ROA; DER had a negative (-0.001717) and nonsignificant (0.6430) effect on ROA; while ICR
had a positive (1.85E-06) and nonsignificant (0.5160) effect on ROA of oil and gas companies in
Nigeria. The implication of the finding is that a higher interest coverage ratio is associated with
better financial performance in terms of ROA. The study concluded that among the explanatory
variables examined only the interest coverage ratio had a positive effect on the financial
performance of oil and gas companies in Nigeria. The adjusted R-squared (R2) of the study is
31%. The study recommended amongst other things that oil and gas companies should maintain a
balance debt structure and avoid taking excessive debt that could strain their ability to generate
profits. They should also aim at maintaining a healthy interest coverage ratio to ensure that they
can comfortably meet interest payment obligation and avoid financial strain.
Keywords: Debt Indices, Financial Performance, Oil and Gas Companies, Debt Ratio, Debt to
Equity Ratio, Interest Coverage Ratio, Return on Assets, Trade-off Theory, Agency Theory
- INTRODUCTION
1.1 Background of the Study
Debt financing involves utilizing borrowed funds for investment purposes to generate returns.
According to Gatsi et al (2013), a company’s adeptness in augmenting profits through debt leverage
signifies the efficacy of its corporate governance. Effective debt management can showcase robust
corporate governance and lead to improved company performance. When the returns on
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investments surpass the cost of financing, incorporating debt capital could heighten the
profitability of equity capital (Abdul & Adelabu, 2015).
Debt indices serve as gauges for evaluating the extent of borrowed capital employed to support a
company’s ventures. It is imperative for both management and funding providers to comprehend
how an organization is financed, as an ill-suited financial mix could detrimentally impact a
company’s performance and sustainability (Enekwe et al, 2014). One of the primary advantages of
debt financing lies in its tax-deductible interest charges, which ultimately lead to a lower capital
cost (Krishnan & Moyer, 2006). Nonetheless, there are associated costs linked with debt financing,
necessitating the careful design of a debt-equity combination to strike an equilibrium between
equity and debt. Crafting a capital structure should aim to optimize shareholder wealth while
approximating the most favorable capital structure possible.
A company’s capital structure portrays how it secures its activities and expansion through an array
of long-term financing sources, including common stock, preferred stock, retained earnings, and
debentures, which generally have extended repayment periods. Among the various financing
sources, gearing or leverage highlights the degree of external financing in a firm’s capital structure.
Essentially, it elucidates the risk associated with profit before interest and tax (PBIT) and the
distribution of dividend income to shareholders, encompassing predetermined interest payments
to creditors from company earnings. Gearing, or financial metrics such as debt ratio, debt-to-equity
ratio, and interest coverage, appraise a company’s capability to settle its obligations with its assets,
the extent to which its operations are funded through debt and equity, and its ability to meet interest
obligations on outstanding debt. Elevated debt levels indicate heightened gearing and bankruptcy
vulnerability, potentially hindering future access to new lenders. Prudent management of debt
indices can enhance shareholders’ returns on investment (Jelinek, 2007). However, inadequately
formulated and managed debt indices can precipitate substantial repercussions for a company’s
financial health and future prospects. Consequently, this study seeks to ascertain the extent to
which debt indices like debt ratio, debt-to-equity, and interest coverage influence the financial
performance of Nigerian oil and gas enterprises.
1.2 Statement of the Problem
Oil and gas enterprises operating in Nigeria confront a substantial challenge in reconciling
shareholder expectations with the company’s financial requirements. In pursuit of this equilibrium,
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management invests significant time in scrutinizing data to ascertain the optimal debt-to-equity
ratio that aligns with the company’s objectives and satisfies shareholder anticipations.
While numerous studies, including the Modigliani and Miller (M&M) proposition, propose that
debt is a favorable avenue for financing due to the tax advantages associated with debt cost
(interest), which maintains earnings per share and preserves equity stockholder count, the concept
of gearing or leverage introduces financial risk. This risk pertains to the potential impact on
earnings or dividend allocation to shareholders stemming from elevated gearing within the
company’s capital structure. Such a risk influences operating cash flow and shareholder earnings,
encompassing both business and operational risk facets. Highly leveraged companies may grapple
with going concern challenges that could potentially lead to bankruptcy.
Considering the aforementioned risk analysis, the introduction of debt heightens the demand of
shareholders of Nigerian oil and gas firms for increase in return on equity (dividends) to offset the
risks linked with external financing (secured creditors). These creditors require timely interest
payments, irrespective of annual profit or loss. This heightened dividend demand translates to
elevated costs for the oil and gas firms, subsequently affecting their retention strategies for future
profit growth and prospects.
Inadequate debt management, stemming from ineffective policies concerning debt utilization,
servicing, and oversight within Nigerian oil and gas companies, can lead to inherent business risk.
Failing to meet financial obligations may result to financial distress, indicative of going concern
uncertainties that could escalate to bankruptcy. Consequently, this research aims to investigate the
influence of debt indices on the financial performance of oil and gas enterprises in Nigeria, while
also offering insights into effective debt management strategies to enhance the financial
performance of these aforementioned firms within the Nigerian context.
1.3 Objectives of the Study
The general objective of this study is to examine debt indices and financial performance of oil and
gas companies in Nigeria. The specific objectives of the study are to:
i. Ascertain the effect of debt ratio on return on assets of oil and gas firms in Nigeria.
ii. Evaluate the effect of debt-to-equity ratio on return on assets of oil and gas firms in Nigeria.
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iii. Determine the effect of interest coverage ratio on return on assets of oil and gas firms in
Nigeria. - REVIEW OF RELATED LITERATURE
2.1.1 Debt Indices
Debt financing encompasses the process by which a company generates capital by issuing debt
instruments, such as bonds or debentures, to investors. This financial strategy involves selling
these debt instruments to individuals and institutional investors, thereby raising funds for
operational needs or capital investments. In exchange for lending the money, these investors
become creditors and receive the assurance of repayment of both the principal amount and interest
on the debt (Investopedia, 2020).
A debt refers to a borrowed sum of money obtained by one party from another. Debt is commonly
employed by businesses and individuals to facilitate significant purchases that might otherwise be
unattainable through normal means. A debt arrangement enables the borrowing party to access
funds with the agreement to repay the borrowed amount at a later date, often accompanied by
interest. Debt financing is typically categorized into three main types: Short-Term
(Secured/Unsecured) Loans, which are usually settled within 6 to 12 months; Intermediate-Term
(Secured/Unsecured) Loans, with repayment typically occurring within three years; and LongTerm (Secured/Unsecured) Loans, which are generally repaid within a span of 5 years. Conversely,
debt indices encompass various factors and variables that signify the proportion of debt within a
company’s financial structure, spanning both short and long-term contexts.
2.1.2 Debt Ratio
The debt ratio serves as a financial metric designed to assess the extent of leverage within a
company. This ratio is calculated by dividing the total debt of a company by its total assets,
expressed either as a decimal or percentage. It operates as a solvency ratio, gauging the proportion
of a company’s total liabilities relative to its overall assets. Through the debt ratio, one can glean
insights into a company’s capability to settle its obligations utilizing its asset base, thereby
shedding light on its financial leverage. If the ratio surpasses one, it signifies that a substantial
portion of the debt is financed through the company’s assets, implying a situation where liabilities
exceed assets. Such a higher ratio also suggests that the company might be exposed to the risk of
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defaulting on its debt if interest rates experience rapid escalation. Conversely, a ratio less than one
indicates that a larger share of the company’s assets is backed by equity, underscoring a more
secure financial position (Investopedia, 2019). In essence, the debt ratio is determined by dividing
total liabilities or total debt by the company’s total assets.
Debt Ratio = Total Debt
Total Assets
2.1.3 Debt to Equity Ratio
The ratio of debt to equity characterizes the extent to which a company funds its operations through
debt in comparison to internally owned capital. This pivotal metric in the realm of corporate
finance plays a crucial role in assessing a company’s financial leverage. In more precise terms, it
signifies the potential of shareholder equity to meet all prevailing obligations should the company
encounter a downturn. Termed as the Debt-to-Equity ratio, this metric, also referred to as the “debtequity ratio,” “risk ratio,” or “gearing,” functions as a leverage ratio, juxtaposing the entirety of
debt and financial commitments with the aggregate of shareholders’ equity. Its purpose is to
delineate whether a company’s financial structure leans towards debt or equity financing
(Corporate Finance Institute, 2020).
The debt-to-equity ratio operates as a liquidity metric within the financial domain, serving to
compare a company’s total debt against its overall equity. A higher debt-to-equity ratio indicates a
heavier reliance on creditor financing, such as bank loans, as opposed to investor financing, which
involves shareholders. To compute the debt-to-equity ratio, the total liabilities or total debt of the
company is divided by its total shareholders’ equity.
Debt to Equity Ratio = Total Debt
Total Shareholders′Equity
2.1.4 Interest Coverage Ratio
The interest coverage ratio, also recognized as the times interest earned ratio, is a debt metric
utilized to assess a company’s capacity to meet its interest obligations on existing debt. This ratio
is computed by dividing a company’s earnings before interest and taxes (EBIT) by its interest
expenses over a specific timeframe, in relation to the corresponding interest payments due for
that identical period.
Interest Coverage Ratio = Earnings before Interest and Taxes
Interest Expense
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2.1.3 Financial Performance
The term ‘Performance’ originates from the Greek word ‘Parfourmen,’ which conveys the notions
of accomplishment, execution, fulfillment, and execution. It denotes the act of carrying out tasks,
achieving objectives, and meeting satisfactory standards. In a broader context, performance
encompasses the achievement of a specific task evaluated against contemporary benchmarks of
accuracy, completeness, cost-effectiveness, and speed. In simpler terms, it quantifies the extent to
which a task has been completed or is being carried out (Enekwe et al, 2015). Financial
performance involves a subjective assessment of how effectively a company leverages its core
business operations to generate increased revenues. All businesses incorporate financial
performance metrics as part of their performance evaluation, although there’s ongoing debate about
the relative importance of financial versus non-financial indicators. Evaluating a company’s
financial performance aids decision-makers in objectively gauging the outcomes of business
strategies and initiatives in monetary terms. Growth is often perceived as a success indicator,
provided it translates into enhancements in financial performance (Brealy et al, 2007).
Financial performance pertains to the process of appraising a company’s outcomes, policies, and
activities in monetary units. It serves as an indicator of a firm’s achievements, conditions, and
adherence to standards. The concept is employed to gauge a firm’s overall financial well-being
within a specific timeframe, reflecting its position and the efficiency with which assets are
employed to generate additional revenue and expand operations (Copisarow, 2000). Various
methods are employed to gauge financial performance. These encompass revenue from operational
activities, total units sold, market share, return on assets, return on equity, net profit margin,
earnings per share, net operating profit after tax, asset turnover, and operating income. Within the
scope of this study, return on assets is chosen as a proxy for financial performance. This ratio is
utilized because it is a pivotal measure of profitability, assessing the amount of profit generated by
a firm for each unit of its assets.
2.1.4 Return on Assets
This financial metric is a ratio that indicates the proportion of earnings a company generates in
relation to its entire pool of resources, represented by its total assets. Functioning as a measure of
profitability, this ratio assesses the net income generated by the total assets over a specific
timeframe, achieved by comparing the net income against the average total assets. In essence, the
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return on assets ratio, commonly referred to as ROA, serves as a gauge of the company’s efficacy
in utilizing its assets to generate profits within a given period.
Return on Assets =
Net Income
Total Assets
Where; Net income = Profit for the year
This metric indicates the comparative profitability of the business. A heightened return on assets
ratio is more advantageous for investors, as it signifies that the company is adeptly harnessing its
assets to generate larger net income amounts. The Return on Assets (ROA) ratio evaluates the
efficiency with which a company is able to yield returns from its investment in assets. In simpler
terms, ROA reflects the company’s skill in converting the funds used to acquire assets into net
income or profits. Thus, a higher ROA corresponds to greater overall profitability for the firm.
Additionally, ROA serves as an indicator of managerial competence, revealing how effectively the
company’s management has translated the assets within its control into earnings (Falope & Ajilore,
2009).
2.2 Theoretical Framework
The theories which are considered to underpin this study include the Trade-off Theory and
Agency Theory.
2.2.1 Trade-off Theory
Trade-off theory is a financial theory based on the work of economists Modigliani and Miller in
the 1950s. The trade-off theory claims that companies should aim to find the optimal level of
financial leverage. Optimal level of financial leverage means that the gains and costs of financial
leverage is balanced (Myers, 1984). The original version of the trade-off theory grew out of the
debate over the Modigliani miller theories when corporate income tax was added to the original
irrelevance, this created a tax shield benefit for debt. According to the trade-off theory, most firms
try to balance between the tax advantage on the use of leverage against the costs associated with
utilization of leverage as a financing means of investments in a firm (Aliu, 2010). However, tradeoff theory explains that companies usually borrow from financial institutions in a gradually manner
so as to reach its optimal level of debt-equity ratio. At this level, firms are able to maximize market
value in summing up present valve of expected debt financing cost against expected benefits of
debt financing.
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2.2.2 Agency Theory
Jensen and Meckling (1976) defined agency relationship as a contract under which one or more
persons (the principal) engage another person (the agent) to perform some services on their behalf
which involves delegating some decision-making authority to the agent (Oliver, 2016). The issue
of agency arises immediately when the desires and the goals of the principal and the agent issues
with the aim of ensuring a better relationship between them. More so, the Jensen and Meckling
(1976) agency theory explains that decisions on capital structure must aim at reducing the cost
related to agency by reducing equity in capital structure. This is done by increasing the debt
financing hence increasing the market value of the firm as well as reducing the conflicts that may
exist between manager of a firm and shareholders.
However, the agency theory suggests that debt is used as a tool to control the manager since with
debt financing; managers will be forced to focus on using the free cash flows to service the debt
other than trying to invest the funds in some profitable projects (Calabrese, 2011). Thus, the theory
of agency supports the use of debt to improve the firm’s financial performance (Mwangi et al,
2016).
In summary, the study adopts the two theories as its framework because Trade-off theory
emphasizes the aim of a firm to find the optimal level of debt indices that would be positively
relevant to the financial performance. On the other hand, Agency theory supports the use of debt
to improve the firm’s financial performance. It suggests the need to use only debt for continuous
funding of a business rather than issuing further equity and causing harm to the earnings available
to the equity stock holders.
2.3 Empirical Review
Vintilǎ and Duca (2012) investigated The Impact of Financial Leverage to Profitability Study of
Companies Listed in Bucharest Stock Exchange. Their study examined the relationship between
return on equity (ROE), leverage, size of firms and total assets turnover. Data from companies
registered under Bucharest Stock Exchange were used for analysis. Results of the regression
analysis indicated that high debt level causes significant positive impact on ROE. Their study
concluded that many companies use debt to leverage their capital and profit but important to note
that debt is not the only factor that used to leverage capital and profit.
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Enekwe et al (2014) explored the effects of financial leverage on financial performance of Nigeria
Pharmaceutical Companies. The data for the study were extracted from the annual reports and
accounts of three pharmaceutical companies from 2001 to 2012. The results of the correlation and
regression analysis revealed that debt to equity ratio, debt ratio and interest coverage ratio had
insignificant impact on profitability of the pharmaceutical industry in Nigeria.
Enekwe (2015) investigated the relationship between financial ratio analysis and corporate
profitability of some selected quoted oil and gas companies in Nigeria. The results of the pearson
correlation and regressions of the analysis showed that interest coverage has positive relationship
and statistically significant with corporate profitability in the Nigerian oil and gas industry.
Mule and Mukras (2015) investigated the Relationship between Financial Leverage and Financial
Performance of Listed Kenyan Firms. The study used annual data for a 5 years period starting from
the year 2007 to 2011. The results of the panel data analysis found strong evidence that financial
leverage significantly and negatively affects the performance measured using ROA. Ismail (2016)
studied the effect of financial leverage on financial performance of non- financial firms listed on
the Nairobi Securities Exchange. Data were extracted from the annual audited financial statements
of non-financial companies listed at NGX for a period of 5 years between 2011 and 2015. The
results of multiple linear regression analysis found that financial leverage had a significant
negative relationship with financial performance while firm size had positive and insignificant
relationship with financial performance.
Nawaz et al (2015) evaluated the impact of financial leverage on firms’ profitability: An
Investigation from Cement Sector of Pakistan. This research is an attempt to establish a stochastic
relationship between Financial leverage and Profitability of cement sector operating in Pakistan.
Data for the study were sourced from annual reports of selected 18 cement manufacturers for six
years period (2005 to 2010). Results of the Ordinary Least Square model revealed that financial
leverage has a statistically significant inverse impact on profitability at 99% confidence interval.
Ilyukhin (2015) investigated the impact of financial leverage on firm performance: Evidence from
Russia. Firm debt to total assets was used as proxy of financial leverage measure while return on
assets, return on equity and operating margin were employed as firm performance measures. The
results for a large sample of Russian joint-stock companies over the period 2004-2013 years
showed that the impact of financial leverage on Russian firms’ performance has been negative.
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Denugba et al, (2016) investigated Financial Leverage and Firms’ Value: A Study of Selected
Firms in Nigeria. Data were collected from the annual reports and accounts of five selected firms
listed on Nigerian Exchange Group for a period of 6 years (2007-2012). The results of the Ordinary
Least Square (OLS) analysis revealed that there was significant relationship between financial
leverage and firms’ value. Also, that financial leverage had significant effect on firms’ value. Their
study concluded that financial leverage is a better source of finance than equity to firms when there
is need to finance long-term projects.
Karimi and Kheiri (2017) evaluated a study on the impact of financial structure, financial leverage
and profitability on companies’ shares value (A Study Case: Tehran Stock Exchange Listed
Companies, Iran). Data for the study were collected from official documents on Tehran’s stock
exchange from 2010 and 2014. Results of the analysis revealed that the variable of financial
structure has no statistically significant effects on company’s value. Also, results showed that there
is a positive relationship between financial leverage and profitability on company’s value.
Nhung (2017) investigated the impact of financial leverage on firm performance: A Case Study of
Listed Oil and Gas Companies in England. Data for the study was drawn from financial statements
of 18 British Gas and Oil companies from 2009 to 2014. The result revealed that there were strong
negative impacts of financial leverage measured by LTD and TD on performances of ROA and
ROE, while STD had insignificant effects on ROA and ROE of these firms.
Nwanna and Ivie (2017) evaluated effect of financial leverage on firm’s performance: A Study of
Nigerian Banks (2006 – 2015). Financial leverage was decomposed into debt ratio, debt-equity
ratio and interest coverage ratio while profitability, size, liquidity, efficiency and market
capitalization value were used to measure performance. Data for the study were drawn from annual
reports of selected companies. The results of the multiple regression analysis revealed that
financial leverage has positive effect on profitability and efficiency while no significant effects
were found on liquidity, size and market capitalisation value.
Iqbal and Usman (2018) evaluated the impact of financial leverage on firm performance. Data
from top 16 companies in Pakistan Textile industry from 2011-2015 were used for the study. The
results of the descriptive statistics, correlation analysis and regression model showed that financial
leverage has negative and significant effect on firm ROE and financial leverage has positive and
significant effect on firm ROA. Their study also indicated that the high interest rate and more
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amount of debt decreases the value of equity and has negative impact on firm performance. On the
other hand, the amount of debt has positive impact on firm ROA. Their study concluded that
financial leverage has positive impact on firm performance if the amount of debts do not exceed
from the amount of equity.
Ahmadu (2020) studied financial leverage and financial performance of oil and gas companies in
Nigeria. Regression Analysis was used for the study. The results revealed that short term debt ratio
and long term debt ratio have no significant effect on the financial performance and total debt ratio
has a negative significant effect on the financial performance denoted by return on equity.
Osamor (2020) studied financial stability and firm’s performance of selected oil and gas firms in
Nigeria. The result of the regression analysis unveiled that financial stability ratios have no effects
on firm’s performance while financial risk ratios have effects on firm’s performance in oil and gas
firms.
Obumneme (2022) examined the impact of Capital Structure on Financial performance of oil and
gas firms in Nigeria. The finding of the regression analysis revealed that long term debt to total
assets has a negative significant influence on return on asset whereas short term debt to total debt
and total debt and total debt to total equity had positive insignificant impacts.
2.5 Gap in Empirical literature
From the related literatures reviewed it can be observed that majority of existing studies were
conducted on manufacturing sector, neglecting other sectors of the economy such as
Pharmaceutical sector, Oil and Gas sector in Nigeria. This is a gap in this research.
More so, some of the studies on debt ratio, debt and equity ratio above were conducted outside
Nigeria. For instance, Muhammad (2018) and Iqbal & Usman (2018) carried out their works in
Pakistan whereas Nanteza (2017) conducted his work in Kenya. This has also created a
geographical gap in the research.
Among the works carried out on debt indices and financial performance of oil and gas companies,
emphasis is not so much payed on interest coverage ratio and financial performance. A variable
gap is thus created in the research. Finally, majority of the research were done before year 2022.
Thus, making this work carried out in 2023 most recent and up to date.
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This research therefore on debt indices and financial performance of oil and gas sector in Nigeria
intends to fill the gaps. - METHODOLOGY
3.1 Research Design
The research methodology employed in this study is ex-post facto, a systematic approach that
addresses research questions using existing data. The primary focus of the study is on Nigeria,
utilizing data from the nation’s oil and gas companies, specifically emphasizing 11 companies
listed on the Nigeria Exchange Group as of January 2022.
Predominantly sourced from publicly available audited financial statements of the selected oil and
gas companies listed on the Nigerian Exchange Group, secondary data was utilized for this study.
The data spanned a 12-year period (2010-2022), ensuring an adequate number of observations per
variable to ensure the credibility of the regression analysis results. The study’s timeframe
commenced in 2010 and concluded in 2021, with the exclusion of the year 2022 due to the
customary practice of finalizing accounting by oil and gas companies in December.
The study’s target population consisted of the 11 oil and gas firms listed on the Nigeria Exchange
Group in 2022. However, the sample size comprised three specific companies: Total Nigeria Plc,
11 Nigeria Plc, and Oando Nigeria Plc. These companies were deliberately chosen based on
considerations of data availability and performance.
3.2 Method of Data Analysis
The multiple regression technique was used to analyze the variables. Regression analysis was
conducted to ascertain the effect of these explanatory variables (Debt ratio, Debt -to- Equity Ratio
and Interest Coverage Ratio) on return on assets. Decisions were reached on a 5% level of
significance. Preliminary test such as descriptive statistics were also performed. It was used to test
the normality of the distribution of the data series.
3.3 Model Specification
The model is specified as follows: ROAt = βo + β1DRt +β2DERt + β3ICRt +ɛt –(Equation (1)
Where: ROA = Return on Assets
DR = Debt Ratio
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DER = Debt to Equity Ratio
ICR = Interest Coverage Ratio
ɛ = Stochastic Disturbance (Error) Term
βo = Coefficient (constant) to be estimated
β1 –β3 = Parameters of the independent variables to be estimated
t = Current period
3.4 Description of Variables
For the purpose of the analysis, the variables of the study were organized and structured into
independent and dependent variables. Financial performance which is the dependent variable was
measured by return on assets while the independent variable (debt indices) was measured by debt
ratio, debt-to-equity ratio and interest coverage ratio.
Table 3.7.1: Model Variables Description
Variables Description/Measurement
ROA = Return on Assets This shows the percentage of how profitable a
company’s assets are being utilized in
generating revenue.
ROA = Profit for the year
Total Assets
DR = Debt Ratio The debt ratio measures the relative amount of a
company’s assets that are provided from debt.
DR =
𝐓𝐨𝐭𝐚𝐥 𝐃𝐞𝐛𝐭
𝐓𝐨𝐭𝐚𝐥 𝐀𝐬𝐬𝐞𝐭𝐬
DER = Debt-to-Equity Ratio The debt-to-equity ratio calculates the weight of
total debt and financial liabilities against
shareholders’ equity.
DER = Total Debt
Shareholders′ Equity
ICR = Interest Coverage Ratio The interest coverage ratio shows how easily a
company can pay its interest expenses.
ICR = Operating Income/EBIT
Interest Expenses
Source: Author’s Arrangement, 2023.
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Table 4.1: Descriptive Statistics of the Industry Level
ROA DR DER ICR
Mean 0.019236 0.836626 2.607067 1141.694
Median 0.058642 0.792204 2.955631 6.475802
Maximum 0.151623 2.015828 15.91316 402.7211
Minimum -0.368402 0.522044 -21.35047 -2.464140
Std. Dev. 0.116349 0.316736 5.288390 6708.326
Skewness -1.017900 0.951299 -1.258580 0.946361
Kurtosis 3.214057 2.42997 2.80358 3.012343
Jarque-Bera 24.52409 126.9136 205.6833 1641.804
Probability 0.105365 0.083100 0.123000 0.001000
Sum 0.692478 30.11855 93.85443 41100.98
Sum Sq. Dev. 0.473794 3.511263 978.8475 1.58E+09
Observations 36 36 36 36
Source: Author’s Computation, 2023 (Eviews 10.0 Statistical Software)
Table 4.1 presents the variable description of the 36 observations for the panel data of the sampled
oil and gas companies. The normality of the data distribution is assessed through the skewness,
kurtosis, and Jarque-Bera Probability coefficients. The results indicate that the variables, except
for ICR, exhibit statistically insignificant p-values (greater than 0.05) for the Jarque-Bera
Statistics. This suggests that the variables follow a normal distribution.
The skewness coefficients further supported this finding, as they have values less than or
approximately equal to 1. Skewness measures the asymmetry of the data distribution, and the fact
that the coefficients are within an acceptable range indicates a relatively symmetrical distribution
for the variables. Additionally, the kurtosis coefficient provided further confirmation of the normal
distribution, as all variables have coefficients below or around 3. Kurtosis measures the degree of
peakedness or flatness of a distribution, and values close to 3 indicate a normal distribution.
Overall, the results from the coefficients of skewness, kurtosis, and Jarque-Bera Probability
suggest that the variables in the panel data for the oil and gas companies are normally distributed,
providing confidence in the data’s suitability for subsequent analyses.
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Table 4.2: Regression Analysis of the Industry Level
Dependent Variable: ROA
Method: Panel EGLS (Period random effects)
Date: 05/21/23 Time: 22:54
Sample: 2010 2021
Periods included: 12
Cross-sections included: 3
Total panel (balanced) observations: 36
Swamy and Arora estimator of component variances
Variable Coefficient Std. Error t-Statistic Prob.
C 0.204337 0.058208 3.510442 0.0014
DR -0.218419 0.061556 -3.548297 0.0012
DER -0.001717 0.003669 -0.467976 0.6430
ICR 1.85E-06 2.81E-06 0.656869 0.5160
Effects Specification
S.D. Rho
Period random 0.000000 0.0000
Idiosyncratic random 0.110916 1.0000
Weighted Statistics
R-squared 0.360950 Mean dependent var 0.019236
Adjusted R-squared 0.311039 S.D. dependent var 0.116349
S.E. of regression 0.097272 Sum squared resid 0.302778
F-statistic 6.024771 Durbin-Watson stat 0.653731
Prob(F-statistic) 0.002254
Source: Author’s Computation, 2023 (Eviews 10.0 Statistical Software)
Table 4.2 presents the outcomes concerning the impacts of Debt Ratio, Debt to Equity ratio, and
Interest Coverage on Return on Assets (ROA). The findings reveal that Debt Ratio has a
noteworthy and adverse influence on ROA, implying that an elevation in the Debt Ratio
corresponds to a decline in ROA. Nevertheless, the Debt to Equity ratio exerts an unfavorable
influence on ROA that lacks statistical significance. Similarly, although Interest Coverage has a
favorable influence on ROA, it also lacks statistical significance. Furthermore, as indicated in
Table 4.1.2b, a unit rise in Debt Ratio and Debt-to-Equity Ratio results in a 0.21% decrease and a
-0.002% decrease, respectively, in return on assets for oil and gas firms in Nigeria. Conversely, a
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unit rise in Interest Coverage Ratio corresponds to a minute increase of 0.000001% in return on
assets within the industry.
The adjusted R-squared value, approximately 31%, suggests that the explanatory variables (DR,
DER, and IC) account for around 31% of the variations observed in ROA. The remaining 69% of
the variations could be attributed to other factors influencing ROA in the industry, as well as
factors captured by the error terms. The probability associated with the F-statistics being
significant (0.002254) denotes the statistical appropriateness of the multiple regression model and
the overall outcomes. The Durbin-Watson statistic gauges the presence of autocorrelation in the
data. A value below 2 signifies positive autocorrelation, above 2 signifies negative autocorrelation,
and a value of 2 indicates the absence of serial autocorrelation. In this instance, the Durbin-Watson
statistic of 0.653731 indicates the presence of positive serial autocorrelation in the panel data
derived from the annual reports and accounts of the sampled consumer goods firms.
4.3 Test of Hypotheses
Decision Rule: Reject null hypothesis (Ho) if the P-value tabulated is less than the A-value of 0.05
and t-statistic presented is above A –value of 2. Otherwise, accept the null hypothesis.
4.3.1 Hypothesis One
Ho: Debt ratio has a nonsignificant effect on return on assets of oil and gas companies in Nigeria
Hi: Debt ratio has a significant effect on return on assets of oil and gas companies in Nigeria
Decision: From the panel data regression analysis in table 4.2. The P-value of 0.0012 is less than
A-value of 0.05 and t-statistics value of 3.55 is above 2. Therefore, the alternate hypothesis is
accepted and the null hypothesis rejected. This implies that debt ratio has a significant effect on
return on asset of oil and gas companies in Nigeria.
4.3.2 Hypothesis Two
Ho: Debt to equity ratio has no significant effect on return on asset of oil and gas companies in
Nigeria
Hi: Debt to equity ratio has a significant effect on return on asset of oil and gas companies in
Nigeria
Decision: From the panel data regression analysis in table 4.2. The P-value of 0.6430 is greater
than 0.05 A-value whereas the t-statistic value of 0.5 is below 2. Therefore, the null hypothesis is
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accepted and the alternate hypothesis rejected. This implies that debt to equity ratio has no
significant effect on return on asset of oil and gas companies in Nigeria.
4.3.3 Hypothesis three
Ho: Interest coverage ratio has no significant effect on return on asset of oil and gas companies in
Nigeria.
Hi: Interest coverage ratio has a significant effect on return on asset of oil and gas companies in
Nigeria.
Decision: From the panel data regression analysis in table 4.2. The P-value of 0.5160 is greater
than 0.05 A-value and t-statistic value of 0.7 is below 2. Therefore, the null hypothesis is accepted
and the alternate hypothesis rejected. This implies that interest coverage ratio has no significant
effect on return on asset of oil and gas companies in Nigeria.
4.4 Discussion of Findings
4.4.1 Debt Ratio and Return on Asset
The outcome of the panel multiple regression analysis offers valuable insights into the correlation
between the debt ratio and the return on assets (ROA) within Nigeria’s oil and gas firms. The
results reveal a substantial and adverse impact of the debt ratio on these companies’ ROA. This
outcome implies that as the debt ratio climbs, the ROA of oil and gas enterprises tends to diminish.
This suggests that heightened levels of debt in relation to the total assets of the company negatively
influence both the returns achieved from asset utilization and the returns allocated to shareholders.
With an elevated debt ratio, companies need to apportion a considerable portion of their earnings
towards interest payments, which in turn diminishes the overall returns generated from their assets.
This discovery corroborates earlier research conducted by Maghanga (2015) and Ismail (2016),
which uphold the idea that an elevated debt ratio typically has an adverse impact on a company’s
ROA. Nonetheless, this finding contradicts the conclusions drawn by Vintila and Duca (2012),
who may have arrived at a different outcome due to variations in analytical methodologies,
approaches, or sample selections employed.
4.4.2 Debt to Equity Ratio and Return on Asset
The results indicated that the debt to equity ratio exhibits a negative and statistically insignificant
influence on the return on assets. This implies that an increased proportion of debt in relation to
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equity has an adverse impact on both profitability and operational efficiency. Elevated debt levels
give rise to higher interest obligations, subsequently diminishing profitability and overall returns
derived from asset utilization. This holds notable implications for oil and gas firms possessing
higher debt to equity ratios, as they would incur heightened expenses due to interest payments,
consequently leading to reduced profitability. This underscores the importance of maintaining a
well-balanced capital structure to ensure sustainable growth and profitability. Overreliance on
debt-based financing could yield unfavorable repercussions on both profitability and asset
utilization. These findings align with prior research conducted by Rehman (2013), Nanteza (2017),
Muhammad (2018), and Nhung (2017), which similarly identified a negative and insignificant
correlation between the debt to equity ratio and return on assets (ROA). Conversely, the outcomes
from Gweyi and Karaja (2014) as well as Denugba, Ige, and Kesino (2016) diverge from the
present study, as they demonstrated a positive and significant connection between the debt to
equity ratio and ROA.
4.4.3 Interest Coverage Ratio and Return on Asset
The outcomes indicate that the Interest Coverage Ratio (ICR) exhibits a positive but statistically
insignificant impact on the return on assets (ROA) within Nigerian oil and gas firms. This suggests
a tendency for the interest coverage ratio to rise concomitantly with an increase in the return on
assets, and vice versa. Put differently, as oil and gas companies achieve elevated returns on their
assets, their capacity to cover interest expenses also tends to enhance. A heightened interest
coverage ratio reflects the company’s ability to generate ample profits for covering interest
payments. Within the oil and gas sector, marked by substantial capital investments, a higher return
on assets signifies more efficient utilization of the company’s resources and a heightened capacity
to generate profits. Consequently, this culminates in an elevated interest coverage ratio as the
company possesses greater funds to meet its interest obligations. Conversely, diminished returns
stemming from the company’s assets pose challenges in covering interest expenses. This situation
could arise from factors like declining oil and gas prices, operational inefficiencies, or economic
downturns. Under such circumstances, the interest coverage ratio tends to decline due to the
company’s compromised profitability and its reduced ability to generate ample profits for covering
interest payments. The findings of Enekwe Agu and Eziedo (2014), Kariri and Kheri, Nwanna and
Irie (2017), Enekwe (2015) corroborate the results concerning the positive influence of interest
coverage on return on assets. These studies underscore that a higher interest coverage ratio
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generally aligns with improved financial performance and profitability within the oil and gas
industry.
5.2 Conclusion
The primary objective of the study was to explore the correlation between debt indices and the
financial performance of oil and gas firms in Nigeria. The systematic collection and scientific
analysis of data yielded significant insights. Firstly, the analysis revealed a noteworthy and adverse
impact of the debt ratio on return on assets (ROA). Secondly, although the debt to equity ratio
displayed a negative effect on ROA, this influence did not achieve statistical significance. Lastly,
the interest coverage ratio exhibited a positive effect on ROA, yet this effect was not statistically
significant.
The adjusted R-squared value demonstrated that around 31% of the variations observed in ROA
could be attributed to the debt ratio, debt to equity ratio, and interest coverage ratio. This suggests
that these variables moderately contribute to the financial performance of oil and gas enterprises
in Nigeria. Based on these conclusions, the study inferred that among the variables under scrutiny,
solely the interest coverage ratio exhibited a positive impact on the financial performance of
Nigerian oil and gas companies. This implies that a heightened interest coverage ratio corresponds
to enhanced financial performance in terms of ROA.
5.3 Recommendations
The subsequent recommendations were formulated based on the research findings:
i. As the study demonstrated a noteworthy adverse influence of the debt ratio on return on
assets (ROA), it is prudent for oil and gas enterprises to exercise careful control over their
debt levels. Excessive debt has the potential to contribute to decreased ROA, thus
detrimentally affecting financial performance. It is advisable for companies to uphold a
well-balanced debt structure and refrain from taking on excessive debt that could
potentially strain their capacity to generate profits.
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ii. Despite the absence of a statistically significant correlation between the debt to equity ratio
and ROA as revealed by the study, oil and gas firms should not overlook this ratio when
making financing choices. The debt to equity ratio delineates the extent of debt in relation
to equity within the company’s capital framework. While the direct impact on ROA may
not be pronounced, maintaining a sensible equilibrium between debt and equity remains
imperative to ensure financial stability and risk mitigation.
iii. The management of oil and gas companies should exercise diligent oversight of their
interest coverage ratio. A heightened interest coverage ratio signifies the company’s ability
to cover interest obligations with its earnings. Companies should aim to sustain a robust
interest coverage ratio, ensuring they can easily fulfill interest commitments and evade
financial strain.
5.4 Contribution to Knowledge
The research addresses a gap within the current body of literature by investigating the impact of
debt indices on the financial performance of Nigeria’s oil and gas sector. Earlier studies often
neglected this specific sector or concentrated on foreign contexts, leading to an informational void
pertaining to Nigeria. By focusing on the Nigerian oil and gas industry, the study sheds light on
the distinct dynamics and factors influencing financial performance within this domain.
The outcomes underscore the significance of the interest coverage ratio as a pivotal determinant
of financial performance among Nigerian oil and gas enterprises. The research discloses that,
among the examined variables, solely the interest coverage ratio exhibits a favorable influence on
return on assets (ROA). This underscores the crucial nature of maintaining a sound interest
coverage ratio for Nigerian oil and gas companies, as it aids in covering interest obligations and
enhancing ROA.
The study’s contribution to existing knowledge enriches the comprehension of how debt indices
impact the financial performance of Nigeria’s oil and gas sector. The findings hold practical
implications for decision-makers within oil and gas enterprises, financial institutions, and
regulatory entities in Nigeria. They offer guidance for devising strategies aimed at enhancing
financial performance and ensuring the sector’s long-term viability.
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111 - REFERENCES
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