Cash Conversion Cycle and Firms’ Profitability – A Study of Listed Manufacturing Companies of Pakistan

Abstract

Cash conversion cycle is one of the most widely used measures to evaluate and measure the risks and returns associated to liquidity management Since every corporate organization is extremely concerned about how to sustain and improve profitability, hence they have to keep an eye on the factors affecting the profitability. The present study is concerned about evaluating how cash conversion cycle affects the profitability of manufacturing sector organizations listed at Karachi stock exchange of Pakistan. The specific research objective of the study is to investigate the existing literature on the role of cash conversion cycle in enhancing return on assets and equity of the companies and to measure the impact of cash conversion cycle on profitability of the manufacturing companies. The results of the study will be helpful for academics and industry experts for policy making and control purposes. The study takes return on equity and return on assets as measures of profitability to represent dependent variables. Firm size and debt ratio are taken as control variables. Cash conversion cycle is considered as independent or explanatory variable. Study takes into consideration 5 years financial statements data starting from 2007 to 2011. Results showed that manufacturing companies are having low average return on asset and high average return on equity with reasonable average cash conversion cycle. Regression results after adjusting for heteroskedasticity of data to minimize the effects of outliers, showed that cash conversion cycle is having significantly inverse association with both return on assets and equity indicating that lesser the cash conversion cycle greater would be the profitability measured through return on assets and equity. Hence the receivable collection period and inventory selling period must be reduced along with the extension of payment period to increase the profitability of manufacturing sector organizations. The study suggested that manufacturing companies are required to well estimate and evaluate the cash flows of the business, to well identify the long run and short run cash inflows and outflows to timely sort out the cash