Panel Data Analysis on the Usage of Venture Capital Financing and Firms' Financial Performance: The Case of Small and Medium Enterprises in Nairobi City County, Kenya

Abstract

SMEs play a critical role in the development of most economies and their success has both political and economic ramifications for most governments globally. Successful SMEs have been associated with employment creation and therefore their growth contributes to the overall Gross Domestic Product (GDP) of most economies. However, SMEs growth is dependent on their financial performance. Venture capital provides capital to start-ups and SMEs which have shown growth potential. In light of the above, data was collected from a sample of 51 venture capital-backed SMEs. The study used firm level panel data of the venture capital-backed SMEs in Nairobi City County, Kenya for a period of five years from 2013-2017. Huasman test was done to determine the most specific and appropriate test for each study model specification. Both ROA and TAP were used as dependent variables while venture capital financing methods, management cost of venture capital and venture capital management support were independent variables. The size of SMEs and age were used as control variables. The study used random effects for the analysis of ROA and fixed effect for TAP as guided by the results of Huasman tests. The study results showed that R² = .1051, indicating that 10.51% of the variance in SMEs financial performance (TAP) is significantly explained by venture capital financing. Therefore, SMEs financed by venture capital are likely to register higher financial performance as measured by TAP.  Further, results of regression analysis revealed that venture capital financing methods (p> .05), cost of venture capital (p>.05) and venture capital management support (p>.05) were not statistically significant and thus do not have significant effect on SMEs financial performance as measured by ROA. Management cost of venture capital, however, was found statistically significant (p<.05). The results also revealed that the size of an SME (firm size) has statistically significant effect on SMEs performance (p<.05). In conclusion, it is evident that management cost of venture capital is positively associated with financial performance as measured by TAP. The result suggests that cost of venture capital is responsible for the development of technical and managerial skills critical for the internal operation of the business and this immensely contributes to better financial performance of venture capital –backed SMEs. Therefore, SMEs should embrace good financial management practices which result in higher return on assets and total asset productivity.