The Effect of Working Capital Management on the Firm’s Profitability - an Empirical Research on Egypt’s Food Sector

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Arab Academy for Science, Technology and Maritime Transport

The Effect of Working Capital Management on the Firm’s Profitability

“An Empirical Research on Egypt’s Food Sector”

A Doctoral Proposal Submitted in Fulfilment for the Degree of

Doctor of Philosophy

Submitted To:

Prof. Dr. Ghada ElKot

Submitted By:

Rabab Osama Mohamed Fathy

2019

Table of contents

1. Introduction        4

2. Literature Review        5

3. Research Aim and Objectives        7

4. Theoretical Framework        10

4.1. Independent variables        11

4.1.1. Receivables Collection Period        11

4.1.2. Inventory Conversion Period        11

4.1.3. Average Payment Period        12

4.2. Dependent variables        13

4.2.1. Return on Assets        13

4.2.2. Return on Equity        13

4.2.3. Return on Sales        13

4.3. Control variables        13

4.3.1. Size        13

4.3.2. The Firm’s Leverage (Debt Ratio)        13

4.3.3. The Firm’s Growth Opportunity        14

5. Research Methodology        14

5.1         Research Hypotheses        14

5.2         Research Model        18

5.3         The Variables and their Measurements        19

5.4         Data Collection Method        20

5.5        Sampling Design        20

5.6. Data Set        21

6. Data Analysis        22

References        23

ABSTRACT

Working capital management is an important part in a firm’s financial management decision. The ability of firms to continuously operate in longer periods depends on how they deal with investment in working capital management. Optimal working capital management could be achieved by firms that manage the trade-off between profitability and liquidity.

The purpose of this research is to investigate the relationship between working capital management and firm profitability in the Egyptian food sector. A sample of fifteen firms listed in Egypt’s stock exchange was used covering the period from 2005 to 2009. Cash conversion cycle is used as the measure of working capital management and return on assets, return on equity and return on sales are used as the measures of profitability. For the purpose of the research, panel data analysis was used.

Result of the analysis concluded that cash conversion cycle is significantly negatively associated with the firm’s profitability. Thus, firms‟ financial managers should focus on reducing cash conversion cycle.

1. Introduction

Working capital management is an important issue in financial decision making as it is an important part of investment in assets that require appropriate financing investment. However, working capital has always been disregarded in financial decision making due to its short-term nature. Furthermore, it is also considered a restrain to financial performance. However, it should be critical for firms to sustain their short-term investments since it will ensure long-term sustainability.

According to Ross, Westerfield and Jodan (2008) the financial management decisions of any firm are based on three main decisions. First, capital structure, second, capital budgeting and third is working capital management. Both capital structure and capital budgeting refer to long-term financial decisions, while working capital management refers to short-term financial decision.

Strischek (2003) stated that the working capital management is a very important decision in the firm; it can either boost the firm up or weaken the firm’s financial position. Four hundred years ago, English philosopher Francis Bacon observed, “money is like muck, not good except it be spread”. Bacon has described the principal property of working capital, the ubiquitous yet ambiguous financial term for the balance sheet's collection of current assets and liabilities that aggregately fertilize and nurture a firm's growth.

This research focuses on the working capital management decision and tests the financial performance of some firms operating in the Egyptian food sector in terms of profitability in relation to working capital management using panel data analysis.

 This research aims at defining the importance of working capital management and how well a firm would use its working capital to generate profits. Ross, et al (2008) defined working capital management as managing the amount of money available to run the activities to ensure that the firm has sufficient resources to continue its operations and avoid costly interruptions. Working capital management is associated with short-term financial decision making. The main difference between short-term and long-term financial decisions is the timing of cash flows. Hence, working capital depends on current assets and current liabilities based on short-term financing decisions.