Impact of Capital Expenditure on Firm Performance:

The moderating role of Director’s commitment

by

Ujala Habib (38265)

A thesis
Submitted in partial fulfillment of the requirements
For the degree of Master of Business Administration
To Research Facilitation Unit (RFU)
At Iqra University
Main campus, Karachi

Karachi, Pakistan
November 2019
 ii

Acknowledgements

I heartily thanks to Allah for his blessings. I owe my deep gratitude to my

immediate supervisor Dr. Mohammad Azam of Business Administration at Iqra

University for his relentless efforts till the completion of this thesis. Finally, I must

express my very profound gratitude to my parents for providing me with unfailing

support, continuous encouragement; love and guidance are with me in whatever I pursue

Thank you

Ujala Habib
 iii

Abstract
The main purpose of this research study is to analyze the impact of capital

expenditure on firm performance where as directors commitment plays a moderating role

in between these variables. This research study will give an insight view of the firm

performance by controlling the variables of firm size and leverage ratio.

This research is conducted on top 30-listed firms of Pakistan stock Exchange by using

the data from 2014 -2018 by applying hierarchal moderated regression analysis to

provide empirical evidence from Pakistan. Findings of research conclude that capital

expenditure is having insignificant relationship with firm performance in terms of net

income but in addition, moderating role of director’s commitment, results can be

improved. Director’s commitment plays an important role in firm performance, which is

proved statistically in this research.

 iv

Table of Content

S.NO. DESCRIPTION PAGE

NO.

1. Aknowledgements.……………………………………………. ii

2. Abstract…………………………………………………………. iii

3. List of Tables…………………………………………………… v

4. List of Figures.…………………………………………………. vi

5. Chapter 1: Introduction………………………………………… 1
1.1 Overview…….…………………………............................ 1
1.2 Problem statement……………………………………….. 1
1.3 Background, Objectives and Significance of the study….. 3
1.4 Outline of the Study……………………………………. 3
1.5 Definitions…..……………………………………………. 4

6. Chapter 2: Literature Review…………………………………… 5

2.1 Hypothesis(es) ………………………………………… 9
7. Chapter 3: Research Methods………………………………….. 10
3.1 Method of Data Collection………………………………… 10
3.2 Sampling Technique……………………………………….. 10
3.3 Sample size………………………………………………. . 10
3.5 Research Model developed ……………………………….. 10
3.6 Statistical Technique………………………………………. 10

8. Chapter 4: Results……………………………………………… 14
4.1 Findings and Interpretation of the results…………………. 14
4.2 Hypotheses Assessment Summary………………………. 14
9. Chapter 5: Discussions, Conclusion, Policy Implications and 16
Future Research........................................................
5.1 Discussions.……………………………………………… 16
5.2 Conclusion …………………………...………………….. 16
5.3 Policy Implications……………..………….…………….. 17
5.4 Future Research…………………………..…………. 17

10. References……………………………………………………….. 18
 v

S.No. TABLE(S) Page

Number
1.

2.
Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 1

Chapter 1: Introduction
1.1 Overview

Improvement of the firm’s financial performance is the ultimately goal of any firm to

perform better not only from their competitor but also in the industry in order to capture the

market. In the growth and development of any firm, director’s commitment plays a significant

role, whether they are fulfilling what they committed in Financial report or not.

Over the last few decades, it is have been gaining more attention that how managers of the firm

make a decision about in which project should be invested to enhance profitability of firm and

wealth of shareholder. What factors should be considered in order to expand the capital. If a firm

invested in their fixed assets they, they enjoyed long-term good return from market so it would

be easy to gauge the performance of organization for shareholder. A negative association of

capex and firm performance also does exist, but it could be the reason of over investment or

inflexibility in the strategy of management.

Many studies have been conducted in developed countries in order to evaluate the association

between the capital expenditure and firm performance, but the literature is very limited in the

context of Pakistan. This research will be giving an insight review with evidence from Pakistan

for the investors to make investment easy in the registered firm of the Pakistan Stock Exchange

through which they can take better decision and make their profit more secure from stable.

1.2 Problem Statement

In any organization, Manager is hired to manage resources effectively. He manages

resources effectively by taking three kinds of decisions that are where to invest, how to finance

and dividend. Decision about where to invest is having more attention and interest academically.
Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 2

According to the author, new investment is the lifeblood of organization .The Concept of capital

expenditure or investment plays a significant role in any organization. (Rompho, 2016)(Chadha

& Sharma, 2016)(Vernimmen, Quiry, Le Fur, Dallochio, & Salvi, 2017). According to Harold

Averkamp capital expenditure is investment in long life assets such as plant, property and

equipment or increase the capacity or capability of long-term assets.

Few more studies have been conducted on Australian registered firms where market reaction on

announcement of the capital expenditure were examined that what impact it has on the prices of

shares of any firms.(Brailsford et al., 2017). It actually concludes that capital expenditure of any

firm has significant impact on firm performance.

Due to developing stage of the Pakistan, firm are able to generate growth opportunities. These

opportunities require huge investment in fixed assets. In Pakistan, most of the firms are financed

by the debt or public equity. Leverage ratio is directly affected by choice of financing of any

project. There are certain risks, which are attached with the choice of financing. Shareholder

wealth is directly affected by that choice. Fewer researches have been done to examine

the association between capital expenditure and firm performance in the educational institution

of Pakistan. Therefore, this research study needs to be conduct in Pakistan as an emerging

country so this research study will give in-depth insight review. This research will fill the gap

with respect to the evidence from Pakistan.

Research Question

This research study will seek the answer of following research questions

 What is the impact of Capital expenditure on firm performance?

 To which extent director’s commitment plays a moderating role in between capital

expenditure and firm performance?

Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 3

1.3 Background, Objectives and Significance of the Study

1.3.1 Background

Prior researches have proved that there is a significant relationship between capital

expenditure and financial performance of firm.

(Wachanga, 2014) findings extrapolates that there is positive association in between

capital expenditure and firm performance. The leverage i.e. degree of financing the capital with

debts. As debt level will increase of the firm, higher the levered level will be. Leverage ratio can

be used for observing the performance of the mangers.

1.3.2 Objective

This study contributes an in-depth insight of the impact of capital expenditure in order to

evaluate the firm performance and how director’s commitment moderate in between capital

expenditure and firm performance. This research will evaluate the firm performance while

controlling multiple variables just like firm size and leverage ratio.

1.3.3 Significance of the Study

. This study will help the investors in their decision making whether it is productive to invest in a

firm when a firm announces any kind of capital expenditure, whether directors are fulfilling their

commitment what they have committed through their annual financial report. This research will

provide an evidence and fill the gap with respect to Pakistan.

1.4 Outline of the study

Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 4

This research study comprises of five chapters. In the first chapter, there will be overview,

then discussion of a problem statement, the objectives and significance of the study. Further, it

will be proceed towards the definition of variables of this study.

Second chapter deals with literature review with regarding to support my problem statement,

containing the explanation of previous researches and relevant parts or variables. This chapter

will also deal with hypothesis development.

Third chapter deals with methodology of a research method of data collection undertaken,

sample size studied, sampling technique applied variables to study, and the research model.

In chapter four, the outcomes of the research will be discussed. It contains interpretation along

with the valuation of findings.

Fifth and the last chapter extracted from the result and future recommendation to study that what

would be carried out in the similar area.

1.5 Definition

Capital Expenditure:

Investment on long term assets in order to modify, innovating, creativity or research

development expenditure.(Baik, Chae, Choi, & Farber, 2013)

Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 5

Chapter 2: Literature Review

The studies that linked to capital expenditure and firm performance is gained a huge

amount of interest of both academic and business arena. In developed and emerging countries,

industries are still focusing on capital expenditure due to industrialization. Industrialization

occurs because of research and development which ultimately result the innovative production

(Rompho, 2017). Many research studies have been done academically to find out the impact of

capital expenditure in order to evaluate the performance of firm.

(Rompho, 2016) found that the commitment of firm to capital expenditure has significant impact

on share price. This research study was conducted in Malawi stock exchange by considering the

registered firms in Malawi. In that study banking sector was excluded it may change the

outcome of result. Data was taken from annual financial reports from 2007 to 2015, variation in

capex which is termed as increasing or declining were analyzed to check the association with

respect to changing in stock prices before and after the announcement of capital expenditure.

Different variables were studied as dependent variable. Correlation test was run against capital

expenditure on panel data analysis, further regression analysis has been done to found

correlation using XLSTAT.x

With a confidence level of 95% capital expenditure correlates with ROCE at 0.373 and with

NPV at 0.249 and negatively with ERT 6.45e-2 and there was positive association in between

stock prices and elements of profitability and future stock prices.

(Kim, 2011) found in previous that there’s no positive linear association between capital

expenditure and future earnings. Future earning is also depends on firm systematically choice of

a project whether it is profitable or not. He considered three measures of success. First was in the

last five year with no prior loss, second was firms who have greater than median beginning book
Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 6

value to market book value ratio. From these two it was unable to confirm that firm is going to

generate positive or negative impact. However, with at least one year loss in the last five years, it

is likely to say that firm will generate strong returns with incurring capital expenditure.

(Brailsford et al., 2017) Researched that market is based on sentiments. Announcement of

capital expenditure has positive potential impact because of multiple growth opportunities

positive impact depends on the operating environment of the firm. Other factors that could

impact were controlled. Study shows that how market reacts is depend upon the growth

opportunities as well. Other variable that may affect is free cash flow. However, the response to

the announcements of capital expenditure actually depends on the operating environment of the

firm. This study was researched in Australia. Data set was of Australian registered firms.

(Stefano Bresciani and Alberto Ferraris, 2016) Researched that relational intellectual capital has

significant relationship with capital expenditure .This study provides evidence from Europe.

Company’s performance has been evaluated by considering revenue level, enterprise value, net

operating cash flow and capex. Firm needs to focus on investing opportunities which can even

give them a competitive edge. Content Analysis has been done in order to analyze the impacts of

financial and economic reports. The result shows that all were significantly associated with RIC

except enterprise value with respect to market value. The main feature of this study is sample

size so it can give insight for cross country study.

(Baik et al., 2013) Have done frontier analysis to predict future firm performance. The main

feature of this study is sample size 1976 – 2008. This research provides evidence that changing

in operational efficiency has positive association with firm current and future efficiency. That

study contributed to investing decision and in profitability forecasting of any firm. Firm

performance has been evaluated on the basis of annual percentage change in inventory, account
Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 7

receivable, capex, gross margin, selling general & administrative expenses, effective tax, and

change in employment productivity, operating assets, asset turnover, sales, profit margin,

earning per share. After execution of regression and Pearson correlation, on the basis of frontier

analysis, the positive association was found between changes in operational efficiency and firm

performance. Other factors which may influence like fundamental signals were controlled.

(Of & Returns, 2013) It is well proven hypothesis that firm who invests in capital rather than

operational investment tends to have low stock returns as per those firms who have an opposite

characteristic which was measured by sales, total assets or the same criteria. A firm manager

should only invest in any project at a hurdle rate to only increase shareholder wealth. A fresh

insight has been provided by that research on the association of stock return and investment.

Parametric model has been adopted to make all the analysis transparent. In this research cross

sectional correlation has been executed. Two period simple models were used which shows that

the slope of investment and stock return is vary with the level of investment, function was

nonlinear which actually shows a negative correlation between these two and the reason was the

only phenomena of some kind of over investment.

(Wachanga, 2014) The leverage i.e. degree of financing the capital with debts. As debt level will

increase of the firm, higher the levered level will be. Leverage ratio can be used for observing

the performance of the mangers.

(Chadha & Sharma, 2016) proved a positive correlation of capital structure on performance of

organization through evidence. Return on asset, return on equity, Tobin Q’s were used on panel

data from 2003-2014 and positive relationship was found between ROA and negative with ROE

.
Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 8

(Turner & Hesford, 2019) has proved in his research through evidence from Australia. In order

to evaluate the impact of renovation capital expenditure on firm revenue, profitability, customer

satisfaction and repair & maintenance expense of the firm. 305 projects of capex were

considered and panel data from 2004 to 2010 was used. The result of that research drag the

attention of management because of short term up to 3 years effects and long term 3 to 6 years

effects has been evaluated. Result shows that revenue was significantly increased, gain in

profitability with the higher satisfaction and low maintenance expenses. In long term profitability

and revenues of that firm was declined but amazingly no changes in customer satisfaction.

(Wei, Xie, & Titman, 2001) conducted a research on association between abnormal capital

expenditure and stock return and he concluded a negative relationship between them through

evidence. Data was collected from listed companies of New York Stock Exchange (NYSE),

NASDAQ and American Stock Exchange (AMEX) with a sample size of 1635. Researcher

explained several reasons for negative relationship. Managers need to validate the investment

decisions because they need to raise capital mostly through WACC. In following years firms

may under perform as per benchmarking.

(Kortmann, Gelhard, Zimmermann, & Piller, 2014) examined association between operational

efficiency and strategic flexibility. In this research there was an insight review that how and to

which extent capabilities and innovations plays a mediator role in linking between two main

variables, the main interest of researcher. Data was collected from listed firm of America and

India. This research concludes positive and significant relationship in between strategic

flexibility and operational efficiency which can define as trade off. Best practices shouldn’t

always be blindly followed by the management but flexibility should be best policy.
Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 9

2.1 Hypothesis:

The general findings and result conclude that there is no single variable that can

determine the association between capital expenditure on firm performance. There are certain

variables which need consideration to evaluate firm performance.

H1: Capital expenditure has significant impact on financial performance of firm.

H2: Director’s Commitment will moderate a relationship between capital expenditure and

financial performance of firm.

Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 10

Chapter 3: Methodology

This chapter will deals with the method that is used to test the hypothesis and variables,

the methods and sources from which the data is collected, the variables used to measure

financial performance, the sample size and the test run.

3.1 Method of Data collection

The quantitative method is used in this study. The effect of capital expenditure is

examined on the financial performance of the firm (net profit). The data is collected from SCS

Trade, Pakistan stock exchange and the financial statements of the sample-listed firms.

3.2 Sampling Technique

For sampling, Top 30 firms that are listed in Pakistan Stock Exchange will be selected to

identify the impact of capital expenditure on form performance.

3.3 Sample Size

The population of this study is the listed firms on PSX, and the sample has been drawn in

the form of top 30 firms (whose data is easily available on their website and financial report)

with their data of last 5 years i.e. from year 2014 to year 2018 making the sample size of 150.

3.5 Statistical Technique

In this study, data is analyzed by running “Hierarchical Moderated Regression

Analysis”, on SPSS to examine the impact of capital expenditure on firm performance.

3.5 Research Model

This research model represents the association between capital expenditure and firm

performance. This model was developed by (Rompho, 2016) (Wachanga, 2014) with the
Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 11

purpose of examining impact of capital expenditure on performance of organization of the

registered firm of Malawi stock exchange and firms listed in the Nairobi Securities Exchange.

Independent Dependent
Variables Director’s Commitment
Variable
Capital

Expenditure Firm Performance

Control variables

Leverage Ratio
Net Profit
Firm Size

Dependent Variables:

Dependent variables, performance of any organization cannot be determined by itself, it

has certain determinants linked to it that helps to measure firm performance.

Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 12

Net Profit

Net profit specifies that how much company is generating profit from their sales as. It

measures after interest and tax made by every 100 units of sales that a firm make.(Ed et al.,

2015)

Firm Performance Notation Measurement

Net Income NI Revenue - Expenses

Variables Notation Measurement

Capital Expenditure CAPEX Increase in the value of

plant & machinery,

equipment, long-term assets.

Firm Size FIRM_S Market capitalization=

Number of outstanding

shares* MV of shares.

Leverage Ratio LEVER_R (Total Assets/Total Assets )

*100

Directors Commitment DIR_COMM Mark ‘1’ if directors meet

future commitment otherwise

‘0’.

Independent Variable

In this research study, Capital expenditure is independent Variable which is defined as

investment on long term assets in order to modify, innovating, creativity or research

development expenditure.(Baik et al., 2013)

Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 13

Leverage
The leverage i.e. degree of financing the capital with debts. As debt level will increase of the

firm, higher the levered level will be. Leverage ratio can be used for observing the performance

of the mangers.(Wachanga, 2014)

Firm Size

This variable can be measured through various means. It can be the net assets, market

capitalization, market share or sales. This study will use the market capitalization as an indicator

of the firm size. Firm size and capital expenditure are related in such a way that the larger the

firm size (in terms of market value of capital), the more firm toward will be innovation or

expending their capital, as it will brace the position of the firm.

Director’s Commitment

This variable can be measured as if directors are meet the future commitment which they

have committed in financial reports so will be mark ‘1’ otherwise ‘0’.

Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 14

Chapter 4: Findings and Results

4.1 Findings and interpretation of results:

Hierarchal moderated regression is used to conduct interpretation of model fitness and

hypothetical testing, As shown in model 1, 2 and 3 of Table II F change value is 0.001, 0.00 and

0.000 which is less than 0.05 its mean model is good fit. As shown in table I, Model 1 contains

the control variables. In H1 (P value = 0.99) is not showing significant impact of capital

expenditure on firm financial performance as their P value > 0.05.

Model 2 contains independent variable, moderating effect and interaction of independent

variable and moderator. Capital expenditure with the moderating effect of director’s commitment

showing significant impact on dependent variable (Net Income) as its P value is less than 0.05

according to the benchmark.

The moderator has changed the R2 from 32.1% to 36.3%. It means that the independent

variables in model 2 are explaining 32.1% variations in the dependent variable & after the role of

moderating factors, the explained variation percentage increased from 32.1% to 36.3%.

4.2 Hypothesis assessment summary:

In this research H1 is rejected and H2 is accepted

Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 15

Variables Model 1 Model 2 Model 3

Constant 1693566.452 18724215.89 23817229.94
0.296* 0.00* 0.00*
Levarage Ratio -61.062 269.576 4676.854
0.996* 0.979* 0.644*
FIRM SIZE 0.000066 0.0000065 0.000068
0.000* 0.000* 0.000*
CAPITAL
EXPENDITURE 0.0000021 -0.002
0.99* 0.013*
DIRECTOR'S
COMMITMENT -17812341.7 -23762856.4
0.00* 0.000*
Capital expenditure *
director's commitment 0.002
0.01*
R2 0.13 0.321 0.363
Adjusted r2 0.113 0.295 0.332
F Statistics 7.886 12.28 11.756
0.001* 0.000* 0.00*

Table I : Hierarchical regression analysis results. Dependent Variable: Net Income

Hypothesis
Empirical
P value
Conclusion
H1: Capital expenditure has significant
impact on financial performance of 0.99 Rejected
firm.

H2: Director’s Commitment will

moderate a relationship between 0.000 Accepted
capital expenditure and financial
performance of firm
Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 16

Director's Capital Net

Stan Commitmen Expenditur Levarag Firm Incom
Mean deviation t e e Ratio Size e

Director's
Commitmen -
t 0.95 0.227 1 -0.045 0.005 0.016 0.387*

Capital 0.318*
Expenditure 2397186647 3885256075 -0.045 1 -0.102 * 0.144
Levarage
Ratio 88.2836 64.1982 0.005 -0.102 1 -0.166 -0.06
4159090000 4378830000
Firm Size 0 0 0.016 0.318* -0.166 1 0.394

Net Income 4310122.934 730189.151 -0.387* 0.144 -0.06 0.394 1

Results of Pearson Correlation concluded that there is negative correlation in between Director’s

Commitment and capital expenditure as it shows the value -0.387. It means when Directors

fulfill any commitment with regarding of projects, it negatively impacts net income.

When any firm incurred capital expenditure, their operating expenses increase which reduces net

income. But in long run it may be covered which may results in significant change in net

income.

Capital expenditure shows positive correlation with firm size, as it shows the value 0.318.
Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 17

Chapter 5: Discussions, Conclusion, Policy Implications and Future

Research

5.1 Discussion:

The main purpose of this research is to analyze the impact of capital expenditure on firm

performance with respect to net income and with the moderating role of director’s commitment.

In this research, Firm size and leverage ratio are used as control variable. In this study, we have

evident that there is no significant impact of capital expenditure on financial performance of

firm in terms of Net Income statistically.

It was found in previous research that for overall sample, the impact of capital expenditure is

insignificant with firm performance until or unless you divide the sample in successful and

unsuccessful firms.(Kim, 2001)

However, we can say that there is significant impact of capital expenditure on financial

performance of the firm with the moderating role of director’s commitment, which is evident

through statistically in this research, which is a contribution of this research study.

5.2 Conclusion:

This research concludes that capital expenditure is not significantly affected by the

variables studied in this research i.e.(net income). It is also concluded in this study that director’s

commitment level moderated the relationship between the dependent and independent variables

of this research.

Past researches have also found the similar results when they tested the relationship

between capital expenditure and firm performance but the addition of director’s commitment as

moderating variables is new in the context of measuring firm performance.

Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 18

5.3 Policy Implication:

As Pakistan is in developing state, most of the firms are availing new opportunities of

expanding their business by incurring capital expenditure. Therefore, the decision of mangers

could affect the performance of firm directly. This study will be helpful to all investors,

shareholders, investment managers, who invest in the stock market sectors in Pakistan. This

study is giving an insight review about whether it is fruitful or not to invest in any firm based on

capital expenditure. If directors are fulfilling their commitment, so which kind of impact it can

have on financial performance of the firm. It is providing evidence with respect to Pakistan.

5.4 Limitations & Recommendations for future researchers:

This study is currently limited to only 30 firms, because of the limited resources and

time. Future researcher can increase the sample size to find results that are more accurate.

This study is limited to only one independent variable (capital expenditure) and moderator,

which is director’s commitment. . Future researchers can add several other variables that can

measure firm performance more accurately like (ROE, ROA).In this research data of five years

has been used, span of years can be increased to have results that are more authentic.

Ethical consideration:

This research is conducted in accordance to all the ethical requirements of study. This

research makes sure that it does not disturb anyone’s confidentiality as well as it has not used

any derogatory terms and material in this study.

Impact of Capital Expenditure on Firm Performance; Moderating Role of Director’s Commitment 19

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