In traditional view of relationship between cash conversion cycle (as measure of working capital management) and profitability is ceteris paribus. The shorter firm cash conversion cycle, the better a firm profitability. This shows that less of time a dollar tied up in current asset and less external financing. While, the longer cash conversion cycle will hurt firm's probability. The reason is that firm having low liquidity that would affect firm's risk. However, if firm has higher level of account receivable due to the generous trade credit policy it would result to longer cash conversion cycle. In this case, the longer cash conversion cycle will increase profitability. Thus, the traditional view cannot be applied to all circumstances.
Dilemma in working capital management is to achieve desired trade off between liquidity and profitability (Smith, 1980; Raheman & Nasr, 2007). Referring to theory of risk and return, investment with more risk will result to more return. Thus, firms with high liquidity of working capital may have low risk then low profitability. Conversely, firm that has low liquidity of working capital, facing high risk results to high profitability. The issue here is in managing working capital, firm must take into consideration all the items in both accounts and try to balance the risk and return.
The purpose of this study is hopefully to contribute towards a crucial element in financial management which working capital management. It is almost untouched in Malaysian or very little research has been done in this area. Working capital management and its effects on profitability is focused in this study. Specific objectives are to examine a relationship between working capital management and profitability over a 11 years period, to establish a relationship between the two objectives of liquidity and profitability of the firms and to investigate the relationship between debt used by the a firm and its profitability
Most previous study focus on develop market (Peel & Wilson, 1996; Shin & Soenon, 1998 and Deloof, 2003). Thus investigating this issue could provide additional insights and perhaps different evidence on the working capital management in emerging capital market. This will surely enrich the finance literature on this issue. Additionally, the results of this study would provide firm managers better insights on how to create efficient working capital management that have ability to maximize firm's value. As a result, it will build up confidence in investor to invest in that firm. Further, the confidence of investors to invest in Malaysia will influence the growth of economic. The results of this study would also assist policy-makers to implement new sets of policies regarding the working capital market in Malaysia to ensure continuous economic growth.
LITERATURE REVIEW
In intention to discover the relationship between efficient working capital management and firm's profitability(Shin & Soenen, 1998) used net-trade cycle (NTC) as a measure of working capital management. NTC is basically equal to the CCC whereby all three components are expressed as a percentage of sales. The reason by using NTC because it can be an easy device to estimate for additional financing needs with regard to working capital expressed as a function of the projected sales growth. This relationship is examined using correlation and regression analysis, by industry and working capital intensity. Using a Compustat sample of 58,985 firm years covering the period 1975-1994, in all cases, they found, a strong negative relation between the length of the firm's net-trade cycle and its profitability. In addition, shorter NTC are associated with higher risk-adjusted stock returns. In other word, (Shin & Soenen, 1998) suggest that one possible way the firm to create shareholder value is by reducing firm's NTC.
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