Analysis of Financial
Statements
Topic: Working Capital Management and Profitability
(Case Study)
Submitted By:
Saira Khalid
Reg. No. 0201
Sana Riaz
Reg. No. 0185
Section: M.Com. 1A
Submitted To:
Sir Muzzammal
Date Of Submission:
30th – May - 2014
TOPIC OF RESEARCH PAPER:
Trends in Working Capital Management and its Impact on Firms’ Performance: An
Analysis of Mauritian Small Manufacturing Firms
NAME OF RESEARCHER:
Kesseven Padachi
PROBLEM STATEMENT:
The problem statement says that the proper management of working capital can lead to
the profitability of small firms which not only enhance their growth but also increases the
sustainability power of the small firms. The study is specifically conducted for Mauritius.
INTRODUCTION:
Working capital management (WCM) is of particular importance to the small business. With
limited access to the long-term capital markets, these firms tend to rely more heavily on owner
financing, trade credit and short-term bank loans to finance their needed investment in cash,
accounts receivable and inventory.
The research paper defines the relationship between the working capital and profitability. It says
that profitability of the firm increases if firm uses the working capital management in it. It is
especially important for the small sized firms to whom, atleast to most of them, the financing
with owner’s equity is the only capital source. Efficient working capital management is crucial to
the survival and growth of small firms because it has been a cause of failure of small businesses.
It is important for manager to achieve a tradeoff between liquidity and profitability.
Small firms tend to rely on these:



Owner financing
Trade credit
Short term bank loans
To finance their needed investment in:



Cash
Account receivable
inventory
PURPOSE OF THE STUDY:
This study attempts to assess the impact of WCM on profitability of a sample of small
manufacturing companies.
OBJECTIVES:
There are two objectives of this study:
1. Examine the impact of accounts receivable in days and inventory turnover in day,
accounts payable in days and cash conversion cycle on ROI
2. Analyze the trends in working capital of firm and examine the causes for any significant
differences between the industries.
LITERATURE REVIEW:

By Rafuse, 1996:
The need for maintain working capital is as important as circulation of blood in human body. We
can say, flow of funds in business must be managed properly.

By Jarvis et al, 1996:
The success of firm is dependent on ability to generate cash receipts in excess of disbursements.

By Kargar and Blumenthal, 1994:
Previously, management, operations and marketing were considered as important for success of
small business but working capital management is also important. Mostly, Working capital is
more than assets employed, so necessary co-ordination s required.

By Peel et al.,2000:
Small firms should address to the issue of working capital more consciously because they can’t
afford to starve without cash. Mostly, these firms have

More proportion of current assets



Less liquidity
Volatile cash flows
High reliance of short term loan

By Howorth and Westhead, 2003:
If companies focus on working capital management if they foresee higher marginal returns.

By Grablowsky, 1976:
He examined that significant relationship between successs and employment of formal working
capital policies.

By Peel and Wilson, 1996:
Efficient management of working capital and good credit management is important for health anf
performance of small firms.

By De Chazal Du Mee, 1998:
He revealed that 60% enterprise suffer from cash flow problems.

By Narasimhan and Murty, 2001:
Many industries should improve their return on capital employed (ROCE) by reducing working
capital investment and its efficiency.

By Deloof in 2003 and Shin and Soenen, 1998:
The managers can increase the profitability of firm by reducing the number of days for
receivables and inventory. They found significant relationship between working capital
management and profitability.
METHODOLOGY:
Sample:
Researcher has taken here the sample of 58 firms belonging to five sectors like:
1.
2.
3.
4.
5.
Food and beverages
Leather garments
Paper products
Pre-fabricated metal products
Wood furniture
The data from these companies was taken for year 1998 to year 2003, which becomes
approximately 6 years. Sample of firms is for the population of 348 small firms. Sample was
drawn from SMEDO.
Dependent variables:
1. For the purpose of this study, profitability is measured by Return on Total Assets
(ROTA)
Return on Total Assets (ROTA) = Earnings before interest and tax
Total Assets
2.
The Cash Conversion Cycle (CCC) is used as a comprehensive measure of
working capital as it shows the time lag between expenditure for the purchases of
raw materials
and the collection of sales of finished goods.
But ROTA is considered as the best measure.
Independent variables:
Working capital management is shown by independent variable of Cash Conversion
cycle. Longer cycle will block the funds.
Control variables:
Following variables are taken as control variables:



Gearing ratio
Gross working capital turnover
Current assets to total assets
Technique:
Author has used the technique of regression. It also includes the current liabilities to total assets.
High ratio indicates a more aggressive policy. These two techniques are used by firm:


Regression analysis
Correlation analysis
Only the food industry comprise of less than 30% on debtors and other industries of sample rely
heavily on working capital’s generated cash. Except paper industry, all firms have greater
reliance on short term funds.
CONCLUSION:
This study has shown that the paper and printing industry has been able to achieve high scores on
the various components of working capital and this has positively impact on its profitability.
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