Journal of Finance, Banking and Investment, Vol. 4, No. 1, March,

Transcription

1 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, Impact of Working Capital Management on the Profitability of Manufacturing Companies Ogwuru, H.O.R. 1 & Emelogu, L. C. 2 1 Department of Economics, Abia State University, Uturu. 2 Department of Accounting, Abia State Polytechnic, Aba. chibeth4christ@gmail.com Abstract The main objective of this study is to empirically test the impact of working capital management on the profitability of The methodology employed for data collection is both primary and secondary sources. The primary data were collected through the administration of well structured questionnaire to sixty five () senior staff of Starline igeria Limited, Aba and J. Udeagbala Holdings, Aba. The data as well as the hypotheses were analyzed and tested using Correlation Test which was run using Statistical Package for Social Sciences (SPSS) version For decision making, Spearman s rho Correlation Co-efficient was used and the results indicated **(double star) at the 0.01 level in the Spearman s rho correlation coefficient table, this implies that correlation is significant and positive and that the independent variables are contributory factors to the dependent variable. Hence, all the null hypotheses were rejected and the alternative hypotheses accepted which implies that proper inventory management has significant positive correlation with profitability of manufacturing companies, proper receivables management has significant positive correlation with profitability of manufacturing companies, proper cash management has significant positive correlation with profitability of manufacturing companies and proper payables management has significant positive correlation with profitability of The paper concluded that working capital management has significant impact on the profitability of manufacturing companies and recommended among other things that inventory levels should be closely monitored to avoid over or under stocking which affects the liquidity and profitability level of companies, company s credit policy should be revised from time to time to be in line with the current trend of things and qualified / experienced financial managers should be engaged to manage the company s working capital adequately, in order to enhance the company s profitability. Keywords: Working Capital Management, Profitability, Manufacturing Companies. 1.0 Introduction The success of every manufacturing company mostly depends on the ability of the financial managers to effectively manage the various components of working capital. Working capital management is the efficient and effective control of the current assets and current liabilities in a manner that provides the firm with maximum return on its assets and minimizes payments for its liabilities. Proper working capital management ensures that the company increased its profitability. The ability of a company to earn profit can be referred to as the profitability of that company. Profit is determined by deducting all expenses from the revenue generated within the same period (Ihedioha, Emelogu and Amaramiro, 2014). Hence, Rahaman and asr (2007) point out that working capital management directly affects the profitability and liquidity of firms. Working capital is the amount of funds necessary to cover the day-to-day cost of operating the firms. It is also regarded as the financial measure which represents operating liquidity available in a company. Barine (2012) opines that working capital is the firm s current assets and current liabilities for the day-to-day business activities. Thus, the current assets and current liabilities that are required to be combined with non-current assets (fixed assets) are inventories, accounts receivables, cash and accounts payable; hence they are regarded as the components of working capital. Working capital is an essential part of the business concern. Every business concern must maintain certain amount of working capital (that is inventories, accounts receivables, cash and accounts payables) for their day-to-day requirements and meet the short term obligations. Hence, Shiro, (2004) defines working capital as the capital ISS:

2 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, available for day-day-running of an organization or business enterprise. A business concern must maintain a sound working capital position to improve the efficiency of business operations and efficient management of finance. Management of working capital is all about managing the current assets and current liabilities effectively and maintaining adequate amount for both current assets and current liabilities. Efficient working capital management leads to improve the operating performance of the firm and it helps to meet the short term liquidity. Filbeck and Krueger (2005) opine that the significance of working capital management efficiency is irrefutable. Ejem & Fijo (2013) state that working capital management is the administration of current assets and current liabilities of the business. Akinsulire (2006) defines working capital management as the management of all aspects of current assets and current liabilities. Thus, working capital management is seen in this study as an act of planning, organizing and controlling the various components of working capital of a company. Working capital management is made up of inventory management, receivables management, cash management and payables management and these constitute the components of working capital management. The essence of working capital management is to maintain an optimal or balanced level of working capital and this ensures that excessive and inadequate working capitals are avoided. Therefore, the main objective of this study is to empirically test the impact of working management on the profitability of manufacturing companies in Aba and emphasis was laid on Starline igeria Limited and J. Udeagbala Holdings Aba. 1.2 Objectives of the Study The study generally aims at ascertaining whether working capital management has any significant impact on the profitability of Specifically, the objectives of this study are as follows: I. To ascertain whether proper inventory management has any significant positive correlation with profitability of II. To find out whether proper receivables management has any significant positive correlation with profitability of III. To ascertain whether proper cash management has any significant positive correlation with profitability of IV. To ascertain whether proper payables management has any significant positive correlation with profitability of 1.3 Research Questions Based on the objectives of this study, the following research questions are relevant; I. Does proper inventory management have any significant positive correlation with profitability of manufacturing companies? II. Does proper receivables management have any significant positive correlation with profitability of manufacturing companies? III. Does proper cash management have any significant positive correlation with profitability of manufacturing companies? IV. Does proper payables management have any significant positive correlation with profitability of manufacturing companies? 1.4 Research Hypotheses The following null hypotheses were formulated; H o1 : Proper inventory management does not have any significant positive correlation with profitability of H o2 : Proper receivables management does not have any significant positive correlation with profitability of ISS:

3 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, H o3 : H o4 : Proper cash management does not have any significant positive correlation with profitability of Proper payables management does not have any significant positive correlation with profitability of 2.0 Review of Related Literature 2.1 Overview of Working Capital Management The management of the various components of working capital as viewed by Akinsulire (2006) involves determining the optimal level of which the controllable ones should be maintained at a particular time, level of funds that the management is ready to allocate to the different forms of current assets; how the current assets should be financed and the relationship between the levels of fixed assets and current assets. The main objective of working capital is maintaining the current asset and current liabilities effectively and maintaining adequate amount for both current assets and current liabilities to ensure optimal balance of working capital and to avoid excessive and inadequate working capital. 2.2 Factors Determining Working Capital Working capital requirements depend on various factors and there are no set of rules that determines working capital requirements of Shiro (2004) notes that working capital of a firm depends mostly upon the nature of the business and it implies that the nature of the business will determine whether a firm will maintain lesser working capital or larger working capital. Production Cycle is another factor that determines working capital requirements of a company. Shiro (2004) opines that the length of the production cycle determines whether the working capital will be lesser or larger and if the production cycle length is small, the firm will maintain lesser working capital but if the production cycle length is large, the firm will maintain larger working capital. This implies that the larger the production cycle length, the larger the working capital requirements and vice-versa. Ejem and Fijo (2013) pointed out that business fluctuations is another factor that determines the working capital requirements and it leads to cyclical and seasonal changes in the business condition because under booming conditions, the working capital requirement is larger while under depression/recession conditions, the requirement of working capital reduces. Production policy also affects the working capital requirements of a firm because if a firm maintains a continuous production policy, there is a need of regular working capital but if the production policy of a firm depends on conditions, working capital requirements will depend on such conditions (Ejem & Fijo, 2013). Pandey (2005) opines that a liberal credit policy is expected to lead to high investment in debtors and by extension a higher working capital requirement and a firm that enjoys liberal credit terms from its suppliers maintains lesser working capital. Another factor that determines working capital requirements of a company is growth and expansion. Shiro (2004) reveals that during the growth and expansion of a firm, working capital requirements are higher because it needs some additional working capital and incurs extra expenses at the initial stages. The dividend policy of a firm is another factor that determines working capital requirements of a company. Dividend policy influences the working capital requirements of a firm because payment of dividend reduces a firm s working capital to that level but if profits are retained, the firm s working capital will be enhanced (Pandey, 2005). Shiro (2004) regarded earning capacity as one of the factors that determines the working capital requirements of a company. Hence, a company can generate more working capital if it is involved in high level of earning capacity. Ejem & Fijo (2013) identified changes in price level as one of the factors that influences the working capital requirements of a firm because rising price level will require a firm to maintain a higher amount of working capital and vice versa. ISS:

4 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, Measures of Profitability Profitability as opined by Eljelly (2004) is the ability to create an excess revenue over expenses in order to attract and hold investment capital. There are four major measures of a firm s profitability which include return on a firm s assets (ROA), return on a firm s equity (ROE), operating profit margin and net income. The return on a firm s assets measures the return to all the firm s assets and is regarded as the overall measure of profitability and the higher the value, the more profitable the firm. It also shows how the management converted the firm s assets under its control into earnings (Falope and Ajilore, 2009). 2.4 Components of Working Capital Management The various components of working capital management are; Inventory Management: Inventories constitute the most significant part of current assets of manufacturing companies and it is essential for smooth running of the business activities. Inventory management is concerned with effective control and administration of inventories (Ihedioha, Emelogu & Amaramiro, 2014). Inventory management means management of raw materials and related items (Ejem & Fijo, 2013). Pandey, (2005) classified the various forms in which inventories exist in a manufacturing company to include raw materials, work-in-progress and finished goods. Thus, stock of raw materials and work-in-progress facilitate production while stock of finished goods is required for smooth marketing operations. Inventory management considers when to purchase, what to purchase, how to purchase, how much to purchase, from where to purchase, where to store, when to use for production, etc. The objectives of inventory management as opined by Pandey, (2005), Banarjee, (2009) as well as Ihedioha, Emelogu & Amaramiro, (2014) are as follows; - To maintain a large size of inventories of raw materials and work-in-progress for efficient and smooth production of finished goods for uninterrupted sales operations. - To maintain a minimum investment in inventories to maximize profitability. - To ensure that materials are available for use in production and production service as and when required. - To ensure that finished goods are available for delivery to customers to fulfill orders. - To minimize investment in inventories to protect the inventory against deterioration, obsolescence and unauthorized use. - To ensure that there is adequate stock during period of short supply or expected price changes. Receivables Management: Receivables are one of the major examples of current assets of a firm. Rafuse (1996) opines that accounts receivables are customers who have not yet made payment for goods or services which the firm has provided. The term receivable arises only due to credit sales to customers. Receivables management is the process of making decision resulting to the investment of funds in these assets which will result in maximizing the overall return on the investment of the firm and the objective is to minimize the time-lapse between completion of sales and receipt of payments; hence, profits may be called real profits after the receivables are turned into cash (Pandey, 2005; Srivastava, 2004). Cash Management: Cash is needed for payments of acquisition of resources and services for the normal course of business and it is a key part of current assets which a firm can disburse without any restriction; hence it is regarded as the most liquid asset, The objective of cash management is to determine the optimal level of cash needed for the nature of business operation cycle and the challenge of cash management is to balance the appropriate level of cash and marketable securities that will reduce the risk of insufficient funds for operations and opportunity cost of holding excessively high level of these resources (Filbeck, Krueger & Preece, 2007). Cash management consists of management of firm s cash inflow and cash outflow. Payables Management: Accounts payable according to Pandey (2005) are regarded as a major source of working capital financing of firms. It is also viewed as suppliers whose invoices for goods or services have been ISS:

5 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, prepared but are still outstanding (not yet paid). Payables management has to do with negotiating with suppliers for an extension in the number of days accounts payables should be due for payments. 3.0 Methodology This study applied descriptive research design and the method of data collection were both primary and secondary sources. The primary data were collected through the administration of well-structured questionnaire to sixty five () respondents which include some senior staff in accounts department, internal audit department, stores department and purchasing department of Starline igeria Limited Aba and J. Udeagbala Holdings Aba. In this study, we use variable of maximum return on assets (MROA) to measure the profitability of the companies and inventory management, receivables management, cash management as well as payables management in measuring working capital management. The data as well as the stated hypotheses were analyzed and tested using Correlation test. Spearman s rho Correlation Coefficient was used for decision making. The researcher used Statistical Package for Social Sciences (SPSS) Version 16.0 in analyzing all the data. Decision Rule: **(double star) in Spearman s rho correlation coefficient table indicates that correlation is significant and positive at the 0.01 level. So, if the correlation is significant and positive, it implies that null hypotheses will be rejected while the alternative hypotheses will be accepted which shows that the independent variables are contributory factors to the dependent variable. For easy analysis, the questions in the questionnaire were coded as follows; MROA, IMAIE, RMAEP, CMAIE, TCCCH, TDAR TDIH, PMHSP and APARA. 4.0 Analysis, Results and Discussion This section takes care of the analysis of data, results of test of hypotheses stated earlier and discussion of relevant findings from the data analysis. Analysis of Data Total () MROA IMAIE RMAEP CMAIE TCCCH TDAR TDIH PMHSP APARA Source: Researcher s computation KEY: 5 denotes Strongly Agree 4 denotes Agree 3 denotes Undecided 2 denotes Disagree 1 denotes Strongly Disagree Case Processing Summary Table Valid active cases Active cases with missing values Supplementary cases Total Cases used in analysis 0 0 ISS:

6 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, Descriptive Statistics Table IMAIE RMAEP CMAIE MROA TCCCH TDAR TDIH PMHSP APARA Source: Researcher s Computation using SPSS Version 16.0 Mean Std. Deviation , Spearman s rho Correlation Coefficient Table IMAI E RMAEP CMAIE MROA TCCCH TDAR TDIH PMHSP APARA IMAIE Correlation coefficient sig **.952**.815**.828**.921**.726**.720**.973** RMAEP Correlation coefficient sig..967** 1.913**.918**.727**.798**.782** 762**.851** CMAIE Correlation coefficient sig..952**.913** 1.855**.791**.878**.756.**.745**.921** MROA Correlation coefficient sig..815**.918**.855** 1.685**.755**.851**.822**.781** TCCCH Correlation coefficient sig..828**.727**.791**.685** 1.894**.614**.629**.791** TDAR Correlation coefficient sig..921**.798**.878**.755**.894** 1.678**.704**.885** TDIH Correlation coefficient sig..726**.782**.756**.851**.614**.678** 1.955**.6** PMHSP Correlation coefficient sig..720**.762**.745**.822**.629**.704**.955** 1.660** APARA Correlation coefficient sig..973**.851**.921**.781**.791**.885**.6**.660** 1 ISS:

7 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, **Correlation is significant at the 0.01 level. Source: Researcher s Computation using SPSS Version 16.0 Alternative Presentation Spearman s rho Correlation Coefficient Table MROA IMAIE RMAEP CMAIE TCCCH TDAR TDIH PMHSP APARA MROA 1.815**.918**.855**.685**.755**.851**.822** 781** IMAIE.815** 1.867**.952**.828**.921**.726**.720**.973** RMAEP.918**.867** 1.913**.727**.798**.782**.762**.851** CMAIE.855**.952**.913** 1.791**.878**.751**.745**.921** TCCCH.685**.828**.727**.791** 1.894**.614**.629**.791** TDAR.755**.921**.798**.878**.894** 1.678**.704**.885** TDIH.851**.726**.782**.756**.614**.678** 1.955**.6** PMHSP.822**.720**.762**.745**.629**.704**.955** 1.660** APARA.781**.973**.851**.921**.791**.885**.6**.660** 1 **Correlation is significant at the 0.01 level. The following hypotheses were tested; Hypothesis 1 H o1 : Proper inventory management does not have any significant positive correlation with profitability of H A1 : Proper inventory management has significant positive correlation with profitability of manufacturing companies. Variables used in testing hypothesis 1 are MROA (dependent variable), IMAIE and TDIH (independent variables). MROA IMAIE TDIH Spearman s rho MROA Correlation Coefficient 1.815**.851** IMAIE TDIH **correlation is significant at the 0.01level Correlation Coefficient Correlation Coefficient.815**.851** 1.726**.726** 1 Decision: Since the Spearman s rho correlation coefficient results indicated **(double star) at the 0.01 level (2- tailed) in the Spearman s rho correlation coefficient table above, this implies that correlation is significant and positive and that the independent variables are contributory factors to the dependent variable. Hence, the null hypothesis is rejected while the alternative hypothesis is accepted which states that proper inventory management has significant positive correlation with profitability of Hypothesis 2 H o2 : Proper receivables management does not have any significant positive correlation with profitability of ISS:

8 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, H A1 : Proper receivables management has significant positive correlation with profitability of manufacturing companies. Variables used in testing hypothesis 2 are MROA (dependent variable), RMAEP and TDAR (independent variables) MROA RMAEP TDAR Spearman s rho MROA Correlation Coefficient RMAEP Correlation Coefficient TDAR Correlation Coefficient **Correlation is significant at the 0.01level 1.918**.755**.918** 1.798**.755**.798** 1 Decision: Since the Spearman s rho correlation coefficient results indicated **(double star) at the 0.01 level (2- tailed) in the Spearman s rho correlation coefficient table above, this implies that correlation is significant and positive and that the independent variables are contributory factors to the dependent variable. Hence, the null hypothesis is rejected while the alternative hypothesis is accepted which states that proper receivables management has significant positive correlation with profitability of Hypothesis 3 H o3 : Proper cash management does not have any significant positive correlation with profitability of H A3 : Proper cash management has significant positive correlation with profitability of Variables used in testing hypothesis 3 are MROA (dependent variable), CMAIE and TCCCH (independent variables) Spearman s rho MROA Correlation Coefficient CMAIE Correlation Coefficient TCCCH Correlation Coefficient **Correlation is significant at the 0.01level MROA CMAIE TCCCH 1.855**.685**.855**.685** 1.791**.791** 1 Decision: Since the Spearman s rho correlation coefficient results indicated **(double star) at the 0.01 level (2- tailed) in the Spearman s rho correlation coefficient table above, this implies that correlation is significant and positive and that the independent variables are contributory factors to the dependent variable. Hence, the null hypothesis is rejected while the alternative hypothesis is accepted which states that proper cash management has significant positive correlation with profitability of Hypothesis 4 ISS:

9 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, H o4 : Proper payables management does not have any significant positive correlation with profitability of H A4 : Proper payables management has significant positive correlation with profitability of manufacturing companies. Variables used in testing hypothesis 4 are MROA (dependent variable), PMHSP and APARA (independent variables) Spearman s rho MROA Correlation Coefficient PMHSP Correlation Coefficient APARA Correlation Coefficient MROA PMHSP APARA 1.822**.781**.822**.781** 1.660**.660** 1 **Correlation is significant at the 0.01level Decision: Since the Spearman s rho correlation coefficient results indicated **(double star) at the 0.01 level (2- tailed) in the Spearman s rho correlation coefficient table above, this implies that correlation is significant and positive and that the independent variables are contributory factors to the dependent variable. Hence, the null hypothesis is rejected while the alternative hypothesis is accepted which states that proper payables management has significant positive correlation with profitability of 5.0 Conclusion and Recommendations 5.1 Conclusion Working capital management is an act of planning, organizing and controlling the various components of working capital of a company. The paper highlighted that working capital management has significant impact on the profitability of The paper also identified the factors determining working capital management as well as components of working capital management which include; inventory management, receivables management, cash management as well as payables management. In line with the findings the study therefore has shown that all the independent variables are contributory factors to the dependent variable hence, independent variables statistically significantly predict the dependent variable. So, the results indicate that through proper working capital management, the company can increase its profitability. 5.2 Recommendations Based on the findings, the researcher recommended that; Manufacturing companies should employ qualified and experienced financial managers that will manage the company s working capital adequately in order to enhance profitability. Inventory levels should be closely monitored to avoid over or under stocking which affects the liquidity and profitability level of companies. Accounts payable should always be re-negotiated with the suppliers concerning the number of days the money will be due for payment. Company s credit policy should be appraised or revised from time to time to be in line with the current trend of things. ISS:

10 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, ISS:

11 Journal of Finance, Banking and Investment, Vol. 4, o. 1, March, References Akinsulire, O. (2006). Financial Management (2 nd ed.). Lagos: El-toda Ventures Limited. Bancrjee, B. (2009). Fundamentals of Financial Management. ew Delhi: P.H.I. Learning Private Ltd. Barine, M.. (2012). Working capital management efficiency and corporate profitability: evidences from quoted firms in igeria: Journal of Applied Finance and Banking, 2(2), Ejem, C. A. and Fijo, K. O. (2013). Financial Management and Policy: An Analytical Approach. Aba: M & Computer Graphics. Eljelly, A. M. (2004). Liquidity-profitability trade off: An empirical investigation in an emerging market. International Journal of Commerce and Management, 14(2), Falope, O. I. and Ajilore, O. T. (2009). Working capital management and corporate profitability: evidence from panel data analysis of selected quoted companies in igeria. Research Journal of Business Management, 3(3), Filbeck, G., Krueger, T. M. and Preece, D. (2007). CFO magazine s working capital surveys: do selected firms work for shareholders? Quarterly Journal of Business and Economics, 46 (2), Filbeck, G. and Krueger, T. M. (2005). An analysis of working capital management results across industries. Mid- American Journal of Business, 20(2), Ihedioha, K. E., Emelogu, L. C. and Amaramiro, F.. (2014). Cost and Management Accounting 1. Aba: Diplomacy Group. Pandey, I. M. (2005). Financial Management (9 th ed.). ew Delhi: Vikas Publishing House PVT Ltd. Rafuse, M. E. (1996). Working capital management: an urgent need to focus. Journal of Management Decision, 34(2), Rahaman, A. and asr, M. (2007). Working capital management and profitability: case of Pakistani firms. International Review of Business Research, 3 (2), Shiro, A. A. (2004). Problems and Solutions in Financial Management (1 st ed.). Lagos: El-toda Ventures Limited. Srivastava, S. (2004). Using Six Sigma methodologies of optimize working capital management. Journal of Corporate Finance Review, 9(1), ISS: