African Journal of Business Management Vol. 5(27), pp. 11005-11010, 9 November, 2011 Available online at http://www.academicjournals.org/AJBM DOI: 10.5897/AJBM11.326 ISSN 1993-8233 ©2011 Academic Journals
Full Length Research Paper
Impact of working capital on firms’ profitability
Hassan Aftab Qazi1*, Syed Muhammad Amir Shah2, Zaheer Abbas3 and Tanzeela Nadeem4 1
University of Central Punjab, Lahore 1-Khayaban-e-Jinnah Road, M.A. Johar Town, Lahore, Pakistan. 2 Illama Iqbal Open University, Islamabad, Pakistan. 3 Islamic International University, Islamabad, Pakistan. Accepted 20 April, 2011
The correlation between working capital and profitability of firms is analyzed for the management of cash cycle management. Working capital is made by the three important factors, debtor, creditor and stock. When we include cash conversion cycle (CCC) to working capital then it becomes working capital management (WCM). Two sectors are selected as a sample size: automobile and oil and gas sector. The time period is from 2004 - 2009. Different variables affecting the profitability of firms are selected. In this study, networking capital, inventory turnover in days, average account receivable and financial asset to total assets (FATA) are taken as independent variables. The result shows positive movement of working capital (WC) on firm’s profitability. R shows the fitness of the model which is 49.95%. The independent variables explain 49.95% of the model. Key words: Working capital management (WCM), cash conversion cycle (CCC), account receivable (AR). INTRODUCTION A good number of firms have put sufficient cash in working capital. Working capital management (WCM) is an important factor of financial management (FM). Debtor, creditor and inventory are the major components of working capital (WC). Large stock and trade credit policy can increase the sales volume. Inventory is the main part of the working capital. Increase in the inventory will give decrease in the risk of stock out. Inventory is done for fulfilling the demand of the public. Inventory is the liability of the company to sell it. The other element of working capital (WC) is accounts payable (AP). Firms can check the quality of the products provided by the producer by giving them late payment, whether it is suitable for the firm or not. Late payments create very bad impression of the firm in the market. Accounts receivable is also the major part of the working capital. Delay in the days of receivable creates more complication for the company. Working capital management is still taken lightly by some companies. It works as a key to free the cash from stock, accounts payable (AP) and accounts receivable (AR). To deal with the less important aspects of efficient and effective Working Capital (WC), firms can sharply reduce the out sourcing and they can save the money for future investment or opportunities. This can create more financial flexibility and increase the worth of the firm by reducing capital employed (Buchmann and Jung, 2008). This study basically focuses on the long run financial decisions, future investments and allocations of funds, dividends and valuation of the firm in the stock market. However, balance sheet components assets and liabilities are significant in short term planning and they need to be carefully analyzed by the firm. Short term assets and liabilities are managed carefully by working capital management (WCM) for the growth of the firm’s profitability (Smith, 1980). For creating good worth of the share in front of shareholders, firms have to manage working capital efficiently and effectively. Working capital management process starts from the purchase of raw material up to the sales of the goods. It creates significant impact on the profitability and liquidity of the firms (Shin and Soenen, 1998). Net working capital (NWC) and gross working capital (GWC) are the two major concepts of working capital (WC). The total current assets and...
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