Efficiency in Operational Aspects - Research Paper Example

CHAPTER ONE: INTRODUCTION 1.1 Background of the study In the modern world efficiency is a paramount across all businesses and companies. This study aims at identifying the relationship that exist between efficiency and financial performance in water utilities companies. Efficiency leads to minimum waste of firm’s effort and skill. (Archer, 2010). Efficiency of services is the provision of such services in such a way of performing the activity in a better way to reduce cost. Efficiency in operational aspects, measures the capability of a WSO to provide water in the most cost effective manner possible while making sure that it meets set quality and customer standards. (WAREG, 2017) 1.1.1 Efficiency Efficiency represent the core source of the company’s differential competitiveness and set arena for potentially different profitability levels. (Botazzi, Siecchi & Tamagni, 2008). The increased demand for efficiency, calls for improved utility network performance and data that can be relied on. This enables the water professionals in a better position to make decisions and thus calls for efficiency by all managements for better performance. (Travis, 2018). Promoting efficiency and their utilization is one of the strategic objective of the ministry of water and irrigation. Water efficiency is not defined specifically by a single KPI. Each country adopt various indicators, most of which are account size to population served by the WSO, volumes of water supplied or similar normalized factor. In Kenya, WASREB, 2018, provide nine KPIs for across all water utilities. as; (a). Water coverage (b). Drinking Water Quality (c). Hours of Supply (d).Personnel expenditure as percentage of O+M Costs (e). O+M cost coverage (f) Revenue collection efficiency on-Revenue Water (g). Staff productivity and metering ratio. The economic efficiency by WASREB are; personal expenditure as a percentage of O+M cost, which measures if personal related expenses are proportionate to overall O+M cost as defined by respective sector benchmark, O+M cost coverage, which is the total amount of revenue collected by utility expressed as a percentage of the total amount billed over same period and revenue collection efficiency, which is the extent to which utility is in a position to meet its O+M cost from internally generated funds. It ensures long term financial sustainability. 1.1.2 Financial performance Financial performance can be used to access and evaluate an entry through the indicators which are measureable, that is, profitability, coverage turnover, financial and control ratios among others. For the financial performance indicators to have a meaning, it must be compared from a given periods, industry and norms. (ADB, 2014) 1.1.3 Relationship between efficiency and financial performance According to EAA, 2015, the positive outcomes of efficiency are improved economic opportunities, increased productivity, minimization of costs and improved competitiveness and thus reduce environmental pressures. In urban water management, efficiency is considered to include the consumption and reuse of water volumes, the net consumption of energy and resources, and emission intensities related to water utilities operations. Improved efficiency can lower consumption of resources, reduce pressures on the environment and help in creation of new jobs in the water utilities. Water utilities measure their efficiencies through the key performance indicators in order to evaluate their performances and compare themselves with others as a way of improvement. Thus, efficiency is crucial in allocating and utilizing financial resources to the management across all the firms. Financial performance as a concept has a number of meanings, some of which are; short or long term, financial or organizational benefits. It is widely viewed from these two approaches (Appiah-Addu, 1998). One is concerned with performance of the firms compared to its competitors (Golden 1992), and the other is based on absolute measures of the performance. 1.2 Water service providers Water services boards are created under Ministry of Water & Irrigation with the main goal being, provision of water & sewerage services efficiently, economically and sustainably. Athi Water is among the eight water Boards in the Ministry of Water established in Water Act 2002 to serve over 5.5 million, licensed by WASREB and commenced its operations in 2004. Its main objective is to ensure quality and affordable water and sewerage services through the twelve appointed water service providers companies,namely;Nairobi,Kiambu,Thika,Ruiru-Juja,Kikuyu,Gatundu,Karuri,Gthunguri,Runda,Karimenu,Gatanga,Limuru with an area of 3810 square kilometers. 1.3 Research problem Water utilities companies strive for efficiency in order to become creditworthy to access bladed financing. One of the emerging issues that impact progressive realization of the rights to water and sanitation is the decline in utility performance, requiring improved monitoring. (WASREB, 2018). There is an increase of population in the urban areas, which increases the demand of water and sewerage services, the country is also experiencing climate chance thus further constraining water resources. Efficiency in water service providers is now urgent to ensure that populations are served well and cost efficiently. One of the strategic objectives of the ministry of irrigation is to mobilize resources an efficiency in their utilization. (Strategic objectives, Ministry of Water) The national water master plan 2030 projects that urban population will increase from 13 million in year 2010 to 46 million in year 2030. Majority of these people will be residing in urban low income areas thus creating a strain on water resources. In the performance impact report of Kenya’s water service sector 2015/2016 and 2016/2017 done by Water Services Regulatory Board (WASREB), 2018 shows that performance in water utilities has more or less stagnated in the last two years. All citizens have a right to clean and safe water in adequate quantities.(COK 2010).the government vision today is to have clean water and good sanitation available and accessible to all.(Dr J.K. Kones,2015-2020 Strategic Plan). In Kenya, 47% of the population have no access to clean and safe drinking water. (National Water Conservation and Pipeline Corporation, 2015-2020 strategic plan). In 2018/2019 Budget of Kenya,33.7 billion was allocated to water and sewerage, infrastructure development 7.2billion for water resource management and 10.8 billion for forest and water towers conservation. This is a clear indication of the importance of water to all which need to be efficient thus the need for the research on how efficiently can be achieved. 1.4 Research objective The research objective shall be to establish the relationship between efficiency in water service providers and financial performance. 1.5 Value of the study The outcome of the study will address the gap if any in the water service providers. The policy makers will use the results of the findings to improve on efficiency across all service providers. The findings of the research will address the efficiency on water providers in order to attain the company’s objective goal. The management of water service providers will make use of this research for measuring performance efficiently. Scholars and researchers will find this research as a knowledge addition and source of reference for more and further research. CHAPTER TWO: LITERATURE REVIEW 2.1. Introduction This chapter entails the relevant theories related to efficiency, published articles, internet, past studies that have been done, the empirical studies will guide on the gaps that have been found in the previous studies and the conclusion. 2.2 Theoretical review In this section, the following theories are taken into consideration with relevance to the study. 2.2.1 Stakeholder Theory The individuals or groups who are impacted by the attainment of the company’s objectives are its stakeholders.(Freemann, 1984). The manager of the firm is the stakeholder in the management of the firm. He is in charge in the company on behalf and works towards the benefit of the stakeholders. (Freedman, 2006). As a principal effect, the manager are accountable for any actions they take on others. (Miiles, 2006) Stakeholder theory is managerial which calls for structures, attitudes to form a stakeholder management philosophy. (Thomas & Lee, 1995). In high performing companies, the managers considers the interests of all the stakeholder groups in their decision making. This is very important as is it improves efficiency in running the company. (Kotler and Heskett’s, 1992) Stakeholder theory is used in descriptive where by t expounds the behaviors and characters of the corporate for example the nature of the firm and how managers manage the organization. (Brenner & Cochran, 1991). Further, it is used in instrumental in that it identify the relationship between the stakeholder management and attainment of the firm objectives like profitability growth using the statistics conventional methods.(Preston, Saplenza & Miller,1991). In normative, the stakeholder is used to define the functions of the corporation and moral guidelines in the operations. (Marcus, 1993). 2.2.2 Theory of Constraints Eliyahu M. Goldratt in the early 1980’s came up with the theory of constraints which states that all system has at least one constraint that dictates the performance of any company. Constraints is anything that limits firm performance from attaining its goal either internal or external managers should focus on constraints rather than product costs and improve efficiency (Ruhl, J.M. 1997) Theory of constraints provide a number of guiding concepts which rely on a number of logical steps to manage the workflow in the company and put systematic tools to point on the system constraints and have a way to break them to better organization performance. (H. W. Dettmer, 1998) Company performance measures are all geared towards creating wealth now and in the future for the shareholders. This can be done through three measurements; that is throughput, investments and operating expenses with an aim of improving efficiency. Throughput is where the firm generates revenue through sales. Investment is the revenue that is put to buy things with an aim of selling them and operating expense is the money used to make inventory into throughput.(CH. Lakshmi,& A. Rama krshna,2012).. Thus, the management of any company should ensure that it reduces the inventory and operation costs and increase throughput in order to be efficient hence increase net profit. In accounting net profit is throughput minus operating expense. The net profit therefore, is a measure of the company’s ability to make profit now and in the foreseeable future. While dealing with constraints the managers make three decisions on what to change, and how to cause the change as a thinking process to run the company. TOC provides an effective, systematic approach to point out constraints to the business as a whole and come up with a plan to curb the constraints. If any company wants to improve its performance efficiently, the first thing is to identify the system weakest constraints (Goldratt,Kleiin,Dettmer 1997). This is very true because companies have many links which are independent of each other. When one chain is weak, it will affect all others limiting its overall performance and efficiency. There are similarities between TO and the steps laid down in rational model of decision making in a company. However, there are differences that do exists in the assumptions and methods used in the interpretation process. 2.2.3 Agency Theory Agency theory is concerned with the issue of agency problem and what can be done to provide it. (Jensen & Melking, 1976; Ross, 1973). It is where director control the company operations while ownership is in the hands of the shareholders. This theory is important in finance as companies have been impacted by the agency problem in one way or another. (Jensen, 1986). It helps to put in place various mechanisms to check the agent’s actions in the company. For a company to survive, the agency problem need to be controlled and addressed. (Fama &Jensen, 1983). Grossman and Hart, (1983), noted that the consumption of the principal will be affected by the agent output. This is because the principal expects more effort in performance from the agent. In this, he will have to improve the incentive of the agent by paying him adequately. If the risk is neutral, then there is no incentive problem for the principal. Eisenhardt (1989), pointed out that if the results of contract is incentive based, the agent will work for the benefit of principal whereas the principal knows the information of the agents, and then his action will be checked. This helps the management for efficient running of the company 2.3 Empirical literature review Efficiency and financial performance is global issue that is very crucial to all companies. Few research have been done on the relationship between efficiency and financial performance of the companies with different findings on both efficiency and financial performance. Prior studies have been done to measure the efficiency using Data Envelopment Approach (DEA), (Charnes,Cooper & Rhodes, 2009) and Stochastic Frontier Approach(SFA) to measure efficiency and financial performance. (Aigner,Lovell & Schmidt,1977) and (Meeusen& van Den Broeck,1977). Shieh,(2012) examined the association between cost efficiency and economic yield in his study on Taiwan International tourists Hotels. He used DEA to analyze cost efficiency with ROA to measure financial yield. Sample of 68 hotels was taken in Taiwan from 1997 to 2006 and analyzed using Generally (multiple) regression method. In his findings, the relationship between cost efficiency and financial performance was contradicting since the results were positive relationship between cost efficiency and financial performance while the other showed negative relationship. The cost efficiency had neither positive nor negative impact on financial variables, hence not giving a well-defined relationship between cost efficiency and financial performance. From the study, there exist a gap especially on non-disclosure of financial statements who didn’t give their reports. In addition, a sample could not give the exact results of the overall financial performance and efficiency to link efficiency and financial performance. WAREG report (2017), did an analysis of water efficiency KPIs in European Water Regulators (WAREG) member countries. The paper used the application of KPIs to describe efficiency in the member countries with an aim to of looking into the similarities and differences in evaluation of efficiency measures and performance and how they promote efficiency in their regulated industries. Water efficiency was measured on the basis of service coverage, water consumption and production, on revenue water, pipe network performance and finance and efficiency- costs and staffing. In the service coverage, for the years 2013, 2014 and 2015, various regulators had difficulties in measuring the indicator defined and data for the KPI was not at all time readily available. In the same period of three years, the water consumption and production showed problems in availability of information due to lack of metering data and information. The non-revenue water ranged from 17% - 67% of all the water that had been supplied for 2015. The pipe network performance was 0.1 breaks/km/year -4.43breaks/km/year in 2015. Operations costs varied between 0.3 -3.19/m cubes sold/year. The results of the number of staffs had variations ranging from 1.2 – 8.64 employees per thousand connections. From this findings, there is lack of consistency in application of KPIs which is used to measure efficiency across Europe and some members use the KPIs for benchmarking purpose only and this has not been embraced by the WAREG members thus an indication of gap to be researched on other indicators especially in the water sector. Amir,Abbas,Seyed Mohammad and Hassan (2014), in their study of financial performance of universities of medical health services in Iran. The research objective were to investigate financial performance and at the same time rank Iranian UMSHSs. Both descriptive and applied method was used with a sample of 24 out of 42. DEA approach method was used to measure the financial performance. Linear regression test was used in various models which showed constant index and the return on assets having the most significant impact on financial performance. To determine the effectiveness of applied indices and the level of financial performance regression was also used. As a way to improve the financial performance, a combined assets with resources of the UMSHSs was allocated to define mission as a result. In their findings, approximately 25% of the studied UMSHSs showed a maximum relative performance and about 30% capacity to increase the financial performance. The results showed that most of the UMHSHs didn’t have high financial performance. This calls for other determinants on the financial performance that would have an impact on the overall efficiency of the company. Baraza & Willy (2015) evauated the financial factors impacting on operational efficiency of water companies in Kenya. The objectives of the study was to assess the effect of firm’s profitability on operation efficiency of water companies, effect of revenue collection efficiency on operation efficiency of water companies, to evaluate the effect of size of the firm and effect of operation and maintenance cost on operation efficiency of water companies in Kenya. A stratified sample of 52 was collected using a descriptive survey. Data collection was done through questionnaires and interviews. The data collected was analyzed using correlation and inferential statics aided by SPSS software. In testing of data reliability, Cronbach’s alpha coefficient of was applied. Inferential analysis was done by use of matrix to determine the strength of relationship between the variable. The results of the study was a positive correlation on collection efficiency and operation and maintenance cost coverage with cash conversion cycle. 90% of those who responded pointed out that firm’s profitability affects the operational efficiency together with operational cos and cost coverage of water companies in Kenya. Although the above showed a key determinant to enhance water operational efficiency in water Service Company, there are the determinants for efficiency like financial performance which need to be considered. Ngunyu (2013), examined the relationship between efficiency and financial performance of commercial banks in Kenya. A descriptive survey design was used with a census survey of all the commercial banks in Kenya with secondary data for 5years. In his findings, there was a fall in efficiency ratio across all the commercial banks. A significant positive relationship was there between Return on Assets and efficiency. Simple regression equation was used on ROA representing the financial performance, Bo as a constant, b1 as the coefficient and the efficiency e with an error e as the error term. F-test was tested for all coefficients and t-test for individual coefficient using o.05 means as a measure of significance. In overall, the efficiency positively influences financial performance in Kenya commercial banks. Then poses if there is any relationship between efficiency and financial performance in the water utilities c in Kenya. 2.4 conceptual framework Independent variable Dependent variable Figure 2.1 Conceptual Framework Source: Researcher, (2018) 2.6 summary of literature review There have been continuous impact report carried out by WASREB on efficiency on water utilities companies based on the KPIs of the independent variable without comparing with financial performance. This is the gap in the literature and thus the study will investigate if there is any relationship between efficiency and financial performance in the water utilities. CHAPTER THREE: RESEARCH METHODOLOGY 3.1 INTRODUCTION This chapter enumerates the research instruments to be used in the study as outlined; research design, population of the study, sample and sampling design, data collection and data analysis and finally test of significance. 3.2 Research design The research will use a descriptive survey research design. This will assist to collect data with the intention of describing the nature of existing variables to be compared and the relations that exist between stated events. The aim will be to link the relationship between efficiency and financial performance Mugenda (2003) 3.3. Population of the study The population to be taken into consideration for this research will be all twelve water utilities providers in Athi Board. Secondary data will be used. Census survey will be done as it is the aggregate of everything in a given characteristic, Mugenda (2003) 3.4 sample and sampling design The sampling will not be applied since all water utilities will be covered because they are few to analyze. The financial performance will be analyzed. For the last three years to find out whether there is any relationship that exist between efficiency and financial performance in water utilities companies. 3.5 Data collection technique The secondary data will be used Data will be sourced from the audited financial statements on all water .utilities in Athi board and the WASREB Performance report for the last three years. 3.5.1. Data analysis The analysis of the data collected will be done to check if there is a relationship between efficiency and financial performance in the water utilities in Athi Board. The outcome will be analyzed using the regression equation model. Y = B0 + B1X1 + B2X2 + B3X3 +E Y = Financial performance of water utility companies measured by Return On Assets (ROA) X1 = personal expenditure as % of O+M cost % X2 = O+M cost coverage % X3= Revenue collection efficiency % e = Error term regression will be used B0 = constant B1, B2, B3 = coefficient in the equation will show direction and strength of the variables relationship 3.5.2. Test of Significance Joint significance of all coefficients will be used using the F-Test while T-test for each coefficients. Significance of the regression model will be determined at 95% and 5% interval. Read More