Abstract
The present study investigates into the traditional relationship of working capital management and firm’s profitability. Using panel data set for the period of 1998- 2005, the impact of aggressiveness of working capital investment and financing policies have been evaluated on return on assets as well as Tobin’s q. Managers can create value if they are adopting for a conservative approach towards working capital investment and working capital financing policies. However, if firms are having aggressive approach to manage the short term liabilities, investors give more value to those firms in stock markets.
Highlights
The corporate finance literature has traditionally focused on the study of long-term financial decisions, investments, capital structure, dividends or company valuation decisions
In order to validate the results found by Soenen (1993) on large sample and with longer time period, Jose et al (1996) examined the relationship between aggressive working capital management and profitability of US firms using Cash Conversion Cycle (CCC) as a measure of working capital management
The results indicated a significant negative relationship between the cash conversion cycle and profitability, indicating that more aggressive working capital management is associated with higher profitability
Summary
The corporate finance literature has traditionally focused on the study of long-term financial decisions, investments, capital structure, dividends or company valuation decisions. Short-term assets and liabilities are important components of total assets and needs to be carefully analyzed. Management of these short-term assets and liabilities warrants a careful investigation since the working capital management plays an important role for the firm’s profitability and risk as well as its value (Smith, 1980). From the perspective of Chief Financial Officer (CFO), working capital management is simple and a straightforward concept of ensuring the ability of the organization to fund the difference between the short term assets and short term liabilities (Harris 2005). Working capital management has become one of the most important issues in the organizations, where many financial executives are struggling to identify the basic working capital drivers and the appropriate level of working
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