Working Capital Management and Firms’ Profitability: Dynamic Panel Data Analysis of Manufactured Firms

Abstract

This paper examines the impact of working capital management on firm’s profitability performance of manufacturing firms by using not only static models such as ordinary least square (OLS), fixed and random effects but also dynamic models difference generalized method of moments (GMM) and system generalized method of moments (SGMM) over the period from 2007 to 2018. The performance was measured in terms of profitability by return on the asset as a dependent variable and the working capital management was determined by inventory conversion cycle (ICP), receivable collection period (RCP), payable deferral period (PDP) and cash conversion cycle (CCC) as an explanatory variables. This study only presents the results of System GMM model, due to efficient system estimator and producing statistically significant outcome. The results show that inventory conversion period (ICP) and payable deferral period (PDP) have a positive relationship with return on asset while the cash conversion cycle (CCC) has a negative effect on return on assets, whereas receivable collection period (RCP) is positive but statistically insignificant. This paper results suggest that pay suppliers prolong and collecting payments from customers earlier, moreover cement firms could add value by improving their cash conversion cycles. Furthermore, managers can create value for shareholders by reducing inventory and receivable accounts. This paper adds new knowledge to current literatures by examining the effect of working capital management on profitability in the context of an emerging capital market of Pakistan.