International Journal of Managerial Finance

Emerald Article: Working capital management and firms' performance in emerging markets: the case of Jordan Bana Abuzayed

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To cite this document: Bana Abuzayed, (2012),"Working capital management and firms' performance in emerging markets: the case of Jordan", International Journal of Managerial Finance, Vol. 8 Iss: 2 pp. 155 - 179 Permanent link to this document: http://dx.doi.org/10.1108/17439131211216620 Downloaded on: 10-09-2012 References: This document contains references to 68 other documents To copy this document: permissions@emeraldinsight.com

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Working capital management and firms performance in emerging markets: the case of Jordan
Bana Abuzayed
Talal Abu-Ghazaleh College of Business, The German Jordanian University, Amman, Jordan
Abstract
Purpose The purpose of this paper is to examine the effect of working capital management on firms performance for a sample of firms listed on a small emerging market, namely Amman Stock Exchange. Design/methodology/approach The paper includes a conceptual as well as empirical analysis, in which data from a sample of listed firms for the period from 2000 to 2008 are analyzed to examine if more efficient working capital management improves firms accounting profitability and firms value. Cash conversion cycles as well as its components are used as measures of working capital management skills. In this study, two performance measures are used: one accounting and one market measure, believing that wealth maximization is shareholders main concern. To bring up more robust results, this study used more than one estimation technique, including panel data analysis, fixed and random effects, and generalized methods of moments. Findings Using robust estimation techniques this study found that profitability is affected positively with the cash conversion cycle. This indicates that more profitable firms are less motivated to manage their working capital. In addition, financial markets failed to penalize managers for inefficient working capital management in emerging markets. Originality/value The papers originality and value lies in suggesting that policy makers in emerging markets need to motivate and encourage managers and shareholders to pay more attention to working capital through improving investors awareness and improving information transparency. Keywords Jordan, Working capital, Profit, Cash management, Market value, Emerging markets, Working capital management, Profitability, Cash conversion cycle Paper type Research paper

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Received September 2010 Revised July 2011 Accepted July 2011

1. Introduction The current financial crisis and the recession that took speed through 2008 have brought more focus to the investment that firms make in short-term assets, and the resources used with maturities of under one year which represent the main share of items on a firms balance sheet. This inflamed the importance of short-term working capital management at companies all over the world and stimulates researchers attention. Where one group of practitioners and researchers believed that efficient management of working capital is essential for companies during the booming economic periods (Lo, 2005) and can be managed strategically to improve competitive position and profitability, others emphasized on that improving working capital management is reasonably important for companies to withstand the impacts of economic turbulence (Reason, 2008). Liquidity or profitability and the balance between both are challenging decisions while conducting a firm day to day operation. Liquidity is a precondition to ensure that firms are able to meet their short-term obligations and their continued flow can be guaranteed from a profitable venture. The importance of cash as an indicator of continuing financial health should not be surprising in view of its crucial role within

International Journal of Managerial Finance Vol. 8 No. 2, 2012 pp. 155-179 r Emerald Group Publishing Limited 1743-9132 DOI 10.1108/17439131211216620

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the business. This requires that business must be run both efficiently and profitably. Given the pressure due to lower credit limits and rising interest rates, a rapid decrease in demand and turnover on firms products and services occurred. This led to a steep build-up of stocks and the capital tied up in these stocks. Thus, in the medium term, many firms switch their focus from growth to internal efficiency and cash management. An asset-liability mismatch may occur which may increase firms profitability in the short run but at a risk of its insolvency. On the other hand, too much focus on liquidity will be at the expense of profitability. Thus, the manager of a business entity is in a dilemma of achieving desired tradeoff between liquidity and profitability in order to maximize the value of a firm (Padachi, 2006). According to Wilner (2000) most firms extensively use trade credit despite its apparent greater cost, and trade credit interest rates commonly exceed 18 percent. In 1993 US firms extended their credit toward customers by 1.5 trillion dollars. Deloof (2003) found by analyzing data from the National Bank of Belgium that in 1997 accounts payable were 13 percent of their total assets while accounts receivables and inventory accounted for 17 and 10 percent, respectively. Summers and Wilson (2000) argued that in the UK corporate sector more than 80 percent of daily business transactions are on credit terms. While working capital management is of importance to all firm size operating in both developed and emerging countries, working capital management is of particular importance to the business firms operating in emerging markets. Firms in emerging markets are mostly small in size 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 (Chittenden et al., 1998; Saccurato, 1994). However, the failure rate among small businesses is very high compared to that of large businesses. Previous studies have shown that weak financial management particularly poor working capital management and inadequate long-term financing is a primary cause of failure among small businesses (Berryman, 1983; Dunn and Cheatham, 1993; Lazaridis and Tryfonidis, 2006). Given the significant investment in working capital and the effect of working capital policy on firm risk in most firms, working management policy choices and practices could have important implications not only for accounting profitability but also for market performance. Successful management of resources will lead to corporate profitability. Given that management success might be measured by market value we argue in this study that efficient working capital management should bring more shareholders market value. We study the effect of working capital management policies in emerging market on both firms accounting and market performance. Since working capital management is best described by the cash conversion cycle we will try to establish a link between accounting as well as market performance and management of the cash conversion cycle. This linkage will include all three very important aspects of working capital management. It is an indication of how long a firm can carry on if it was to stop its operation or it indicates the time gap between purchase of goods and collection of sales. The optimum level of inventories is expected to have a direct effect on profitability since it will release working capital resources which in turn will be invested in the business cycle, or will increase inventory levels in order to respond to higher product demand. Similarly both credit policy from suppliers and credit period granted to customers will have an impact on profitability. In order to understand the way working capital is managed, cash conversion cycle and its

components effect on firms market and accounting performance will be statistically analyzed. In this paper, we investigate the relationship between working capital management and firms profitability for firms listed on the Amman Stock Exchange for the period 2000-2008. The findings of this study not only throw light on technical weakness in the managerial activities of the companies in the Middle Eastern countries, but may also help scholars and researchers to develop new ideas, techniques and methods in respect of the management of working capital. The remaining of this paper will be organized as follows: Section 2 will briefly discuss the conceptual framework and bring up some of the previous studies, Section 3 will describe the data and methodology followed in this study, Section 4 analyzes the results and finally Section 5 concludes. 2. Conceptual framework and previous literature As one of the basic decisions in corporate finance, besides the capital structure decisions and capital budgeting decisions, working capital management is a very important component of corporate finance since efficient working capital management will lead a firm to react quickly and appropriately to unanticipated changes in market variables, such as interest rates and raw material prices, and gain competitive advantages over its rivals (Appuhami, 2008). Managers spend a considerable time on day-to-day working of capital decisions since current assets are short-lived investments that are continually being converted into other asset types (Rao, 1989). In the case of current liabilities, the firm is responsible for paying obligations mentioned under current liabilities on a timely basis. Liquidity for the on-going firm is reliant, rather, on the operating cash flows generated by the firms assets (Soenen, 1993). As a result, working capital management of a company is a very sensitive area in the field of financial management ( Joshi, 1995). Working capital management is concerned with the problems that arise in attempting to manage the current assets, the current liabilities and the interrelationship that exists between them. Not being able to maintain a satisfactory level of working capital, it is likely to become insolvent and may even be forced into bankruptcy. Altmans (1968) multivariate predictor model based on US companies includes working capital as one of the model components. Using data drawn from the UK companies, Taffler (1982) developed a four-variable model of failure prediction. All the four variables include a variant on working capital as a component. The current assets should be large enough to cover its current liabilities in order to ensure a reasonable margin of safety. Each of the current assets must be managed efficiently in order to maintain the liquidity of the firm while not keeping too high a level of any one of them. Each of the short-term sources of financing must be continuously managed to ensure that they are obtained and used in the best possible way. The basic ingredients of the theory of working capital management focussed on the trade-off between profitability and risk which is associated with the level of current assets and liabilities. Subsequently, working capital management decisions are not taken as long-term decisions. Managers applies different criteria in decision making: the main considerations are cash flow or liquidity and profitability or return on capital (of which cash flow is probably the more important). Smith (1980) first signaled the importance of the trade-offs between the dual goals of working capital management, particularly between liquidity and profitability. He states that decisions which tend to maximize profitability tend not to maximize the

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chances of adequate liquidity. Conversely, focussing almost entirely on liquidity will tend to reduce the potential profitability of the company. Measuring firms liquidity is an empirical question. While the most conventional measures of corporate liquidity are the current ratio and the quick ratio, many (see e.g. Emery, 1984; Kamath, 1989) have argued that liquidity for the on-going firm is not really dependent on the liquidation value of its assets but rather on the operating cash flow generated by those assets. Gitman (1974) introduced the cash cycle concept as a crucial element in working capital management. The total cash cycle is defined as the number of days from the time the firm pays for its purchases of the most basic form of inventory to the time the firm collects for the sale of its finished product. Richards and Laughlin (1980) operationalized the cash cycle concept by reflecting the net time interval between cash expenditures on purchases and the ultimate recovery of cash receipts from product sales. The cash conversion cycle is an additive measure of the number of days funds are committed to inventories and receivables less the number of days payments are deferred to suppliers. Previous literature studies the integration between the cash conversion cycle components. They are divided into three categories. Integration between receivables and inventory (see e.g. Beranek, 1963; Shapiro, 1973; Bierman et al., 1975; Sartoris et al., 1983), integrate inventory and payable (see Hadley, 1964; Haley and Higgins, 1973), or integrate all of working capital components (see Damon and Schramm, 1972; Crum et al., 1983). The correlation of working capital components means that the decisions made in any one component will impact on other units within the organization (Sartoris et al., 1983). For example, the inventory managers decision on the level of raw materials, if the amount of inventory is excessively high, other working capital components (receivables and payables) will share the risk and should react to reduce the volume of finish goods in order to stretch the profit margin. As a consequence, ineffective inventory management will have an impact on companys profitability, by holding cost and risk of unused products. Unfortunately the connection between the working capital management by researchers previously did not have an attractive conclusion; McInnes (2000) for example showed that 94 percent of companies did not integrate their working capital components as proposed by the theory. In general, researchers studied factors affecting the working capital management. These are classified as external and internal factors. While external macro-factors are affecting all companies, regardless industry, only companies within a particular industry are affected from external micro-factors. Some of the external factors which are examined are: politics (Carey, 1949), business and economic environment (Ben-Horim and Levy, 1983), between industries effect (Hawawini et al., 1986) and legislation (Peel et al., 2000). However, internal factors examined in the previous a-Teruel and Mart nezliterature are management system/method/practice (Garc Solano, 2007), organizational behavior (Krishna et al., 1993), investment policy (Seidner, 1990) and management financial capability (Abdul Rahman and Mohamed Ali, 2006). While a large number of studies examined factors affecting working capital management less number directly examined the affect on firms performance. The empirical question whether a short cash conversion cycle is beneficial for the company profitability has been questioned in the previous literature. Shin and Soenen (1998) argued that firm can have larger sales with a generous credit policy, which extends the cash cycle. In this case, the longer cash conversion cycle may result in higher

profitability. However, the traditional view of the relationship between the cash conversion cycle and firms profitability is that, ceteris paribus, a longer cash conversion cycle hurts the profitability of a firm. Lazaridis and Tryfonidis (2006) investigated the relationship between corporate profitability and working capital management using listed companies on the Athens Stock Exchange. They discovered that a statistically significant relationship existed between profitability and the cash conversion cycle. They concluded that businesses can create profits for their companies by handling correctly the cash conversion cycle and keeping each component of the cash conversion cycle (that is accounts receivable, accounts payable and inventory) to an optimum level. Deloof (2003) also found that the way working capital is managed has a significant impact on the profitability of businesses. He used a sample of 1,009 large Belgian non-financial firms for the period of 1992-1996. However, used trade credit policy and inventory policy are measured by number of days accounts receivable, accounts payable and inventories, and the cash conversion cycle as a comprehensive measure of working capital management. He founds a significant negative relation between gross operating income and the number of days accounts receivable, inventories and accounts payable. Thus, he suggests that managers can create value for their shareholders by reducing the number of days accounts receivable and inventories to a reasonable minimum. He also suggests that less profitable firms wait longer to pay their bills. Smith and Begemann (1997) conducted their work on the industrial firms listed on the Johannesburg Stock Exchange, indicated that a decrease in the total current liabilities divided by gross funds flow led to an improvement in return on investment and vice versa. The relationship between working capital management and performance has been conducted using data from individual industry. Ghosh and Maji (2004) made an empirical study on the relationship between utilization of current assets and operating profitability in the Indian cement and tea industry. The study concluded that the degree of utilization of current assets was positively associated with the operating profitability of all the companies under study. Chakraborty (2008) and Mallik et al. (2005) carried out a study on the relationship between working capital and profitability with reference to selected companies in the pharmaceutical industry and noticed that the joint influence of the liquidity, inventory management and credit management on the profitability were statistically very significant in nine out of 17 pharmaceutical companies selected for the study. Zariyawati et al. (2009) study the relationship between profitability and the length of the cash conversion cycle using six different economic sectors which are listed in Bursa Malaysia. Their analysis provide a strong negative significant relationship between cash conversion cycle and firm profitability. Lyroudi and Lazaridis (2000) used food industry in Greece to examined the cash conversion cycle as a liquidity indicator of the firms and attempts to determine its relationship with the current and the quick ratios, with its component variables, and investigates the implications of the cash conversion cycle in terms of profitability. The results of their study indicate that there is a significant positive relationship between the cash conversion cycle and the traditional liquidity measures of current and quick ratios. The cash conversion cycle also positively related to the return on assets and the net profit margin but had no linear relationship with the leverage ratios. Conversely, the current and quick ratios had negative relationship with the debt to equity ratio, and a positive one with the times interest earned ratio. Bringing evidence that selecting the measures of liquidity and profitability is an important issue.

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While firms profitability is important factor in assessing management performance, the direct concern of shareholders is wealth maximization and firm value. We argue in this study that the linkage between net operating working capital management and firm value can differ from that between net operating working capital management and firm profitability because of the main difference between accounting profits which deals with historical periods revenue and sales and the firm value which is mainly a prediction and estimation of the future sales and revenues. Although this is an important empirical issue, it is less studied in the previous literature. Therefore, in this study we examined the effect of the efficient working capital management on both accounting and market value using a data from a small emerging market believing that the result of this study will help managers and policy makers improve their efficiency and protect their firms from failure in such environment with limited access to external funding and powerful effect of firms performance on the overall economic growth and welfare. 3. Economic and institutional environment of corporate finance in Jordan In spite of the very limited natural recourses, namely phosphate and potash, and a relatively large budgets deficit, Jordan is proclaimed to be a model for the region because of its political stability. On the other side, unlike its neighbors; Jordan has always been a net importer of petroleum. Jordans main resource has been and remains its people who have achieved notably high levels of education. As a result, worker remittances are the major component of the Jordanian economy. Jordan went through a number of economic reforms. In 2000 Jordan entered the World Trade Organization, signed a free trade agreement with the USA, and in 2001, Jordan joined the European Free Trade Association. These reforms as dictated by international financial institutions and the creation of Qualified Industrial Zones improve motivate growth within the Jordanian firms. To meet firms growth over the past years the demand for the external financing and venture capital has been increased dramatically[1]. Two sources of funding are available for Jordanian firms. The Amman Stock Exchange and a small banking system consist of 16 domestic banks and eight foreign banks. Although both are within the high level of development and sophistication, they always blamed of being one of the limitations for companies growth. Amman Stock Exchange, as of the case of most emerging market, witnesses thin trading (see Maghhyereh, 2003). Thus, banks play a critical role in creating a basic level of access to capital for business especially those with limited internal capital. Financial intermediation through the banking system is mostly short term (Creane et al., 2003). Banks seek to match maturities by lending only in the short term, with only a few corporate loans stretching beyond three years in maturity. A large proportion of the lending activity is therefore short-term trade financing and consumer credit. In 1994, the Jordan Loan Guarantee Corporation was established to provide guarantees for small- and medium-sized enterprises, low- and middle-income housing, and craftsmen. In 1996, the Jordan Mortgage Refinance Corporation was established to foster longer term mortgage lending[2]. Eventually, firms are over dependent on equity financing. For many rapidly growing enterprises, particularly in the high-tech sectors, venture capital funds are the preferable alternative. The lack of venture capital funds makes many companies over dependent on bank loans and overdrafts for early stage financing, which is usually less

flexible more expensive and less secure. The greater difficulty in replacing equity and high cost of funding motivates less dividend payments within the Jordanian firms. Both of Amman Financial Market as well as the central bank of Jordan publish guides discussing essential rules of principles of corporate governance to encourage firms to form committees for corporate governance of independent members, similar to auditing committees at work in these companies. However, most of the Jordanian firms stick within the principles of corporate governance (see Matar and Nour, 2007). Additionally, Jordan Investment Board ( JIB) was established under the Investment Laws of 2003 as a government body enjoying financial and administrative independence and investment. The main purpose behind creating this board is increasing foreign direct investment to Jordan, and enhancing local investment in a bid to create new job opportunities, increase national exports and the need for the transfer of technology. With the JIB efforts, both of the industrial and service sectors in Jordan are the most active and though important to the Jordanian economy, as a source of employment and economic growth (see Alfayoumi and Abuzayed, 2009). With the limited sources of funding, it is believed that Jordanian firms need to manage its assets efficiently. Were short funding is more available and long-term funding is more scares, efficient and effective working capital management is required. Therefore, understanding how company investment management can contribute to improving firms performance is of importance (Singh and Pandey, 2008). In this study a number of Jordanian firms are examined to analyze this relation. 4. Data and methodology 4.1 Research sample selection The data used in this study are collected from firms listed on the Amman Stock Market. The reason we chose only listed firms is primarily due to the reliability and availability of the financial statements. Firms listed on the stock market are required to present profits, if those exist, in order to make their shares more attractive. Contrary to listed firms, non-listed firms have less of an incentive to present true operational results and usually their financial statements do not reflect real operational and financial activity. Additionally, as argued by Lazaridis and Tryfonidis (2006), hiding profits in order to avoid corporate tax is a common tactic for non-listed firms in emerging markets which makes them less of a suitable sample for analysis where one can draw inference, based on financial data, for working capital practices. Only non-financial firms data are used and those which were doing business during the entire study period were included in the sample. To be included in the sample, firms should neither have been delisted at the stock exchange nor merged with any other firms during the study period from 2000 to 2008. Financial firms such as banks, brokerage firms, insurance and real estate are ignored in this study due to the unique nature of their activities. In addition to the application of those selection criteria, we applied a series of filters. We removed observations of entry items from the balance sheet and income statement exhibiting signs that were contrary to reasonable expectations, in particular, the observations of firms with negative values in their assets, current assets, fixed assets, liabilities, current liabilities and capital[3]. Finally, we eliminated 1 percent of the extreme values presented by several variables. The original sample consists of 93 companies narrowed to become 52 non-financial firms with total of 468 observations (see Table I for more details). All financial data are collected from Amman Stock Exchange web site. In order to introduce the effect of the

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Industry Pharmaceutical and medical industries Chemical industries Paper and cardboard industries Printing and packaging Food and beverages Tobacco and cigarettes Mining and extraction industries Engineering and construction Electrical industries Textiles, leather and clothing Glass and ceramic industries Total Source: Authors own

Listed companies 6 14 5 2 16 3 16 12 6 10 3 93

Included companies 3 9 3 2 9 1 10 6 3 4 2 52

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Table I. Sample distribution for year 2000-2008

economic cycle on the levels invested in working capital, we obtained information about the annual GDP growth in Jordan from IFS database. 4.2 Variables and methodology To explore the relationship between firms performance and working capital management within Jordanian firms we developed a similar empirical framework first used by Shin and Soenen (1998) and the subsequent work of Deloof (2003). We extend our study by examining the effect of working capital management on firms market value. We employed a number of variables they are listed in Table II; first, performance is measured using two important concepts, accounting profitability and market valuation. Both measures of performance are used believing that working capital management may have different effect on firms market value. Accounting profitability is measured by gross operating income, which is defined as sales minus cash costs of goods sold, and is divided by total assets minus financial assets[4]. For a number of firms in the sample, financial assets, which are mainly shares in other firms, are a significant part of total assets. That is also the reason why return on assets is not considered as a measure of profitability. When a firm has mainly financial assets on its balance sheet, its operating activities will contribute little to the overall return on assets. On the other side Tobins Q as a market-based performance measure is used. This ratio compares the market value of a companys stock with the value of a companys equity book value. The ratio Tobins Q (developed by Tobin, 1969) is calculated by dividing the market value of a company by the replacement value of assets approximated by the book value of assets: TobinsQ equity market value liabilities book value equity book value liabilities book value 1

In addition to the performance measures a number of independent variable are used. These are classified to main and control variables. Three main independent variables are used to assess the firms working capital management. First, number of days accounts receivable is calculated as (accounts receivable/365)/sales. Second, number of days inventories is (inventories/365)/cost of sales. Third, number of days accounts payable is (accounts payable/365)/purchases. Additionally, a more comprehensive

Variable

Definition

Calculation

Expected sign

Dependent variables GOP Sales cost of goods sold divided by total assets minus financial assets Equity market value plus liability book value divided by equity book value plus liability book value

Gross operating profits

TQ

Tobins Q

Independent variables (a) Main variables CCC

Cash conversion cycle

A negative relation is estimated between the cash conversion cycle and the firm performance since shorter conversion cycle indicates better performance

DAR (inventories/365)/cost of sales (Accounts payable/365)/ purchases The natural logarithm of sales

Number of days account receivable

Number of days accounts receivable number of days inventorynumber of days accounts payable (Accounts receivable/365)/ sales

DI

Number of days inventory

DAP

Number of days account payable

Negative relation between the number of days account receivable and firm performance is expected since it indicates less efficiency in managing accounts receivable Negative relation between the number of days inventory and firm performance is estimated which indicates inefficient inventory management A positive relation between days account payable and firm performance is estimated which indicates more efficiency in managing payments of accounts payable Previous studies have shown a positive influence of firm size on firms profitability (Chan, 1993; Peel and Wilson, 1996; Su, 2001), mainly because large companies with higher credit grades can get capital from the stock exchange more easily, with cash therefore kept at a low level. However, the larger companies usually enjoy more growth opportunities, which show positive performance

(b) Control variables SIZE

Size

(continued)

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Table II. Variables calculation and expected signs

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Variable (This years salesprevious years sales)/previous years sales Financial debt/total assets

GR

LEV

FFA

VNOI

GDP

Source: Authors own

Table II. Calculation Expected sign Shares in other firms, intended to contribute to the activities of the firm that holds them, and loans that were granted with the same purpose Previous studies demonstrate that more growth opportunities and more fluctuations of future cash flow will increase the cash hold and short-term investment of a company (Kim et al., 1998; Opler et al., 1999) this growth should improve firms performance According to the pecking order theory, a company short of funds will tend to raise capital inside before issuing new stocks or borrowing money from outside (Myers, 1984). Hence a firm will keep its own capital, if any, for internal use and/or to pay debts. More debt means less internal capital available for operations increasing firm risk, and the expected debt ratio is negatively related to market value. However, it may induce capacity to raise money and increase profitability As argued by Deloof (2003),, this part of the total assts contributes to the activities of the firm that holds them. Holding a significant part of financial assets may affect positively or negatively basically depending on the type of assets invested. In all such assets may increase the risk of the overall firm which may affect negatively the firm value if not associated with sufficient cash inflow. Additionally this variable is used by to indicate how the relation between firms may affect profitability Lazaridis and Tryfonidis (2006) The theory of failure prediction Altman (1968) high volatility indicates high risk of failure and should therefore affect negatively the firm performance The standard deviation of net operating income of each firm over the 20002009 period divided by total assets minus financial assets This years gross domestic profits previous years gross domestic profits)/ previous years gross domestic profits sales As argued by the economic cycle may affect the level of working capital investment. Good economic conditions tend to be reflected in a firms profitability (Lamberson, 1995)

Definition

Sales growth

Leverage

Fixed financial assets to total assts

Variability of net operating income

Growth in gross domestic products

measure of the cash conversion cycle is used as a measure of working capital management. The cash conversion cycle is simply (number of days accounts receivable number of days inventorynumber of days accounts payable)[5]. The second group of the independent variables are control valuables, it includes: size, growth, leverage, fixed financial assets and variability of net operating income (see Table II for variables definitions). All variables listed in Table II are analyzed using correlation and regression analysis. Two groups of models are employed to see whether working capital management using the cash conversion cycle as a comprehensive measure or its components affect firms performance in emerging markets. The first group of models regress the accounting profitability for firm i at time t on the working capital management variables in addition to the included control variables as follows[6]: GOPi;t b0 b1 CCCit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt ei GOPi;t b0 b1 DARit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt ei GOPi;t b0 b1 DIit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDP ei 2

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GOPi;t b0 b1 DAPit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt ei 5 The above four models examine the first hypothesis in its alternative form: H0. Efficient working capital management improves firms accounting profitability. The second group of models used the concept of firm valuation as measure of firms market performance as follows: TQi;t b0 b1 CCCit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt ei TQi;t b0 b1 DARit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt ei TQi;t b0 b1 DIit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt ei 6

TQi;t b0 b1 DAPit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt ei

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The above group of models examines the first hypothesis in its alternative form: H0. Efficient working capital management improves firms market value. The above models are regressed using different estimation methods, first OLS is used; however, considering that pooled time series cross-sectional data require various stochastic specifications, we control in all regressions for fixed firm and time effects. Lagrange multiplier as well as Hausman tests will be applied for choosing the preferred model. If variables are endogenous, using any of the above mentioned estimates will lead to inconsistency. Therefore, we employ a dynamic panel, generalized method of moment (GMM) estimator proposed by Arellano and Bond (1991). They have shown that the consistency of the GMM estimator depends on the validity of the instruments and the assumption that the differenced error terms do not exhibit second-order serial correlation. To test these assumptions, they proposed a Sargan test of over-identifying restrictions, which tested the overall validity of the instruments by analyzing the sample analog of the moment conditions used in the estimation procedure (Liu and Hsu, 2006). Besides, they also tested the assumption of no second-order serial correlation. Failure to reject the null hypotheses of both tests gives support to our estimation procedure[7]. All regressors are treated as strictly exogenous except the lagged dependent variables. Working capital management variables, and control variables which are endogenous. Therefore, we conduct the analyses with lagged independent variables dated t2 and earlier together with the lagged changes of endogenous variables, and exogenous variables used as instruments variables. 5. Empirical results In this part we started our analysis by describing the data and analyzing the correlation between the included variables. Table III presents the descriptive statistics. Gross operating income is on average 43.55 percent of total fixed assets. Although it seems to be within the reported values in other studies (see e.g. Deloof, 2003 among
Variable GOP a TQ CCC a DAR DI DAP SIZE GR LEV FFA VNOI GDP Mean 0.43549 1.3186 204.5228 102.9445 181.8726 80.2942 15.6048 0.1706 30.7958 0.19783 0.3361 6.7657 SD 0.5144 0.7215 183.2119 103.5134 151.6708 111.7561 1.6501 0.5315 19.5671 0.2107 0.6434 1.7811 Minimum 0.7186 0.2552 589.5446 2.7584 6.8247 2.0093 10.1233 0.8664 4.29 0.0799 0.0209 4.2 Maximum 4.0516 5.8284 981.8260 848.2033 973.9884 935.8345 20.5571 4.9169 91.6300 0.2999 6.6731 8.9000

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Table III. Descriptive statistics

Notes: aCash conversion cycle is likely to be negative as well as positive. A positive result indicates the number of days a company must borrow or tie up capital while awaiting payment from a customer. A negative result indicates the number of days a company has received cash from sales before it must pay its suppliers (Hutchison et al., 2007, p. 42); variable definition: see Table I

others) it witnessed a high volatility ranges from 51.44 percent within the range of 71.85 and 405 percent which may due to the inclusion of different industries in our sample. The average cash conversion cycle is 204.52 days. Firms receive payment on sales after an average of 102.94 days. It takes on average 181.87 days to sell inventory and firms wait on average 80.29 days to pay their purchases. Mean sales growth is only 17.05 percent, with wide range spreads between 86.64 and 491.69 percent showing a high variation of firms growing policies during the time of study. On average about a third of all assets are financed with financial debt (mean value of the debt ratio is 30.79 percent). It is also noteworthy that the mean fixed financial assets for the selected sample is 19.78 percent of total assets confirming that a significant proportion of total assets are fixed financial assets with a standard deviation equal to 21.06 percent. In Table IV we calculated the Pearson product moment coefficient of correlation for pairs of variables. The correlation coefficient is a measure of the degree of linear relationship between two or more variables. A significant correlation noticed between the net operating profit and the cash conversion cycle as well as its three components. However, surprisingly the correlation between the GOP, CCC, DAR and DI are positive, showing that firms with higher profits are less concerned with efficient management of working capital. This positive correlation is not consistent with the view that the shorter the period between production and sale of products the larger firms profitability. An alternative explanation may exist, in an environment where access to external finance is limited, such as the case of Jordan; trade credit is an important c-Kunt and Maksimovic, 2001; McMillan alternative source of funding (see e.g. Demirgu and Woodruff, 1999). In such countries, firms with better access to credit may redistribute capital via trade credit to financially weaker customers. Profitable firms may therefore consciously financially support their customers by investing in working capital. Furthermore, when access to external finance is limited, it becomes more important to hold liquid reserves in the form of working capital[8]. The negative and significant correlation between DI and TQ (0.115) indicates that investors in the financial market still focus more on the management skills in managing firms inventory and consider that the longer the cash conversion cycle the less the efficiency in managing firms liquidity. While debt ratio negatively affecting both of firms profitability and market value due to increasing risk it seems that listed firms are not taking advantage of financial debt in order to decrease their cash conversion cycle or even increase profitability. It is worth noting that large firms are witnessing higher profitability (positive and significant correlation coefficient of 17.7 percent) and larger market value (positive and significant correlation coefficient of 13.2 percent between TQ and SIZE). In order to shed more light on the relationship of working capital management on firms profitability we apply regression analysis. We used more than estimation to bring more robust evidence. In the following proposed models we examine the endogenous variable which is profitability against seven exogenous variables. The independent variables are fixed financial assets, the natural logarithm of sales, growth of sales financial debt ratio, variability of operating income and cash conversion cycle. Results are reported in Tables V and VI. In Table V columns from 1 to 4 show the OLS results where the CCC and its three components; DAR, DI and DAP, regressed individually against firms performance. For robustness we re-ran models 1-4 using panel data analysis fixed or random effect depending on the Hausman test results (see columns 5-8). Fixed effect was supported in all cases where Hausman test reject

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GOP TQ CCC DAR DI DAP SIZE GR LEV FFA VNOI GDP 0.3560*** 0.5711*** 0.1508*** 0.2887*** 0.1898*** 0.1771*** 0.2668*** 0.2155*** 0.0180 0.4201*** 0.4434*** 0.4426*** 0.0655 0.0531 0.0555 0.0505 0.0032 0.2117*** 0.5110*** 0.1157** 0.0906* 0.0315 0.1127** 0.0369 0.4411*** 0.0581 0.2013*** 0.1871*** 0.0932** 0.0304 0.0231 0.1892*** 0.0486*** 0.0630 0.1149**

Notes: Variable definition: see Table I; ***, **, *significant at 0.01, 0.5 and 0.1 levels, respectively

Table IV. Correlation matrix CCC DAR DI DAP SIZE GR LEV FFA VNOI 0.1140** 0.0733 0.0868* 0.0626 0.1841*** 0.0043 0.0294 0.3967*** 0.0205*** 0.0484

GOP

TQ

0.0676 0.2754*** 0.1840*** 0.1968*** 0.1601*** 0.1768*** 0.0293 0.1430*** 0.4757*** 0.3917*** 0.0051

0.0991** 0.0468 0.1147** 0.0409 0.1323*** 0.0999** 0.0874* 0.0066* 0.0718 0.2799***

OLS (2) 3.6712*** 0.9457 3.9972*** 0.6777 0.0003* 0.0002 0.0005** 0.0003 0.0051*** 0.0006 0.0004* 0.0002 0.0041*** 0.0009*** 6.0948*** 0.9613 1.5697*** 0.9604 3.9905 0.6784

Regression model

(1)

Gross operating income as a dependent variable Fixed or random effect (3) (4) (1) (2) (3)

(4) 4.4931*** 0.6868

Constant

CCC

3.3908*** 0.95643 0.0030*** 0.0005

DAR

DI

DAP

SIZE

GR

LEV

FFA

VNOI

GDP

Adjusted R2

0.1675*** 0.0569 0.1596165 0.1567356 0.0082* 0.0044 1.6924*** 0.4480 9.0001*** 0.0010 0.0216 0.0465 0.2746

0.1846*** 0.0618 0.0484022 0.1570958 0.0122*** 0.0045 2.1638*** 0.4370 8.9999*** 0.0009 0.0202 0.0473 0.2567

0.3216*** 0.0614 0.1578 0.1509 0.0130 0.0043 2.1030*** 0.4106 9.0002*** 0.0009 0.0453 0.04527 0.2875

0.0001* 0.0009 0.0515*** 0.0621 0.0066 0.1604 0.0106** 0.0048 2.6345*** 0.4383 8.9996*** 0.0010 0.0098 0.0485 0.2865 0.2483*** 0.0441 0.0009** 0.0004 0.0030* 0.0015 0.2764*** 0.1267 0.3067*** 0.0362 0.0275 0.0109 0.2252

0.1088 0.0388 0.0005 0.0004 0.0016* 0.0017 0.4379*** 0.1355 0.2671*** 0.0397 0.0157 0.0117 0.2023

0.2499*** 0.0440 0.0010** 0.0004 0.0028* 0.0015 0.3275*** 0.1253 0.3049*** 0.03614 0.0273** 0.0110 0.2252

0.0004 0.0003 0.2788*** 0.04493 0.0008** 0.0004 0.0034** 0.0016 0.3154*** 0.1253 0.3066*** 0.0362 0.0322** 0.0110 0.2435

(continued)

Working capital management

Table V. The effect of working capital management on firms profitability using OLS and fixed or random effect estimation

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Regression model

LM

Hausman

Estimation

Notes: This table shows the results of running the following four models as follows: GOPi;t b0 b1 CCCit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt GOPi;t b0 b1 DARit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt 1

Variables defined in Table I. The aim behind running the above models is to examine if working capital management affect firms profitability. Each of the above models are estimated using the OLS and considering that pooled time series cross-sectional data requires various stochastic specifications, we control in all regressions for fixed firm and time effects. Lagrange multiplier as well as Hausman tests are applied for choosing the preferred model only the model supported by the Hausman test is reported; ***, **, *significant at 0.01, 0.5 and 0.1 levels, respectively

Table V. OLS (1) 822.48 0.000 235.23 0.0467 FE 713.16 0.0000 24.75 0.000 FE 715.02 0.0000 16.67 0.0196 FE (2) Gross operating income as a dependent variable Fixed or random effect (3) (4) (1) (2) (3) (4) 801.06 0.0000 26.77 0.0004 FE 2 GOPi;t b0 b1 DIit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt 3 GOPi;t b0 b1 DAPit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt 4

that the estimated coefficient using the fixed effect is equal to the estimated coefficients using random effect therefore fixed effect is preferable to random effects model. The positive correlation between the cash conversion cycle and the gross operating profits are supported here were more profitable firms are realizing longer conversion cycle indicating that these firms are less efficient in managing their working capital. This results is consistent with Shin and Soenen (1998) and Lyroudi and Lazaridis (2000). Models 5-8 support the positive relation between the CCC and profitability. Regarding the account payable, the most plausible explanation for the negative relation between accounts payable and profitability is that less profitable firms wait longer to pay their bills. On the other hands, increasing inventory is linked with increasing sales and this should increase firms profitability this conclusion is evident through the positive and significant relation between number of days inventory and profitability using the three estimations (see Tables V and VI). The positive relation between days account receivables and profitability might be interpreted as implied by Deloof and Jegers (1996) that higher profits should lead to higher account receivables because firms with higher profits have more cash to lend to customers[9]. The positive correlation between the CCC and firms leverage (see Table V) brought more evidence that when the CCC is relatively longer, the firm may need more external financing, which results in incurring higher borrowing cost. Hence, profitability decreased. Larger firms with high sales growth and more volatile operating income are significantly achieving more profits. After capturing for any expected endeginuity and using the GMM estimation (see Table VI) which is again robust for auto correlation and over identification we found that the economic growth affects firms profitability positively and significantly. Tables VII and VIII report the results of using TQ as an indicator of market valuation. CCC is evident to be negatively affecting the requirements of working capital of firms, indicating that efficient management of working capital increases with firms market value but unfortunately it failed to be significant in the Amman Stock Exchange. Investors in the stock markets do not prefer firms which have more efficient working capital policies and in their selection of firms they ignored liquidity as important factor in assessing firms performance. All of the cash conversion cycle and its components are not significantly affecting Jordanian firms profitability; this may due to less than enough transparency which affects investors decisions or the inability of investors to efficiently translate received information and market signals. Again larger firms with high sales growth and more investments in fixed financial assets are achieving a high market value were higher volatility of operating income and more leveraged firms realize less market value consistent with our earlier findings regarding the accounting profitability. Still economic growth proved to be an important indicator for better market performance. 6. Conclusion Because of the recent financial crisis, firms have been urged to efficiently utilize their resources. Although previous literature focussed on long-term financing and long-term investment, firms liquidity and short-term investments proved to be more important during financial crises. According to the tradeoff theory, firms have to keep a balance between profitability and liquidity. Liquidity is a precondition to ensure that firms are able to meet its short-term obligations and its continued flow can be guaranteed from a profitable venture. The importance of cash as an indicator of continuing financial

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Variable Constant

(1)

Gross operating income as a dependent variable (2) (3)

(4)

172

L1 CCC DAR DI DAP SIZE GR LEV FFA VNOI GDP Auto correlation 1 Auto correlation 2 Sargan (w2)

2.9309*** 0.7678 0.7118*** 0.0228 0.0004 0.0001

2.5301*** 0.6585 0.7167*** 0.0231

1.8327*** 0.6670 0.7267*** 0.0217

1.9928*** 0.6131 0.7372*** 0.0195

0.0005** 0.0002 0.0001* 0.0001 0.0005*** 0.0002 0.1330*** 0.0384 0.0010*** 0.0002 0.0031*** 0.0010 0.0159** 0.0071 0.1223*** 0.0116 0.2772*** 0.0738 1.4359 0.1510 0.1607 0.8723 17.4546 (0.1467)

0.1907*** 0.0484 0.0011*** 0.0002 0.0026** 0.0010 0.31264*** 0.0692 0.1222*** 0.0134 0.0186*** 0.0069 1.4803 0.1388 0.64881 0.5165 44.46716 (1.0000)

0.1664*** 0.0411 0.0011*** 0.0002 0.00262** 0.0011 0.2598*** 0.0747 0.1276*** 0.0115 0.0131* 0.0069237 1.4099 0.1586 0.25761 0.7967 17.04817 (0.1478)

0.1223*** 0.0418 0.0011*** 0.0001 0.0024** 0.0010 0.0149** 0.0073 0.1254*** 0.0120 0.2723*** 0.0796 1.4317 0.1522 0.15997 0.8729 17.1816 (0.1429)

Notes: This table shows the results of running the following four models as follows: GOPi;t b0 b1 CCCit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit 1 GOPi;t b0 b1 DARit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit 2 GOPi;t b0 b1 DIit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit 3

GOPi;t b0 b1 DAPit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit 4 Variables defined in Table I. The aim behind running the above models is to examine if working capital management affect firms profitability. Each of the above models are estimated using the generalized methods of moments (GMM) Arellano and Bond (1991). GMM estimator depends on the validity of the instruments and the assumption that the differenced error terms do not exhibit second order serial correlation Arellano-Bond test that average autocovariance in residuals of order 1 and 2 is 0, where H0: no autocorrelation. The over-identifying restrictions are accepted (w2 not significant) by the Sargan test indicating that the diagnostics are ok; ***, **, *significant at 0.01, 0.5 and 0.1 levels, respectively; FE and RE is fixed and random effect, respectively

Table VI. The effect of working capital management on firms profitability using GMM estimation

OLS Regression model Constant CCC* DAR DI DAP SIZE GR LEV FFA VNOI GDP Adjusted R2 LM Estimation Hausman (5) (6)

Tobins Q as a dependent variable Panel data analysis (7) (8) (5) (6) (7) 0.2762 0.3764 0.2949 0.5222 0.0002 0.0002 0.7365 0.5628 0.5917 0.5732

Working capital management

(8) 0.6635 0.5747

3.3908*** 0.0225 0.9543 0.3423 0.0003 0.0002 0.0001 0.0003

0.1639 0.3907

173

0.0004 0.0003 0.0003 0.0002 0.0001 0.0003

0.0002 0.0002 0.0003 0.0004 0.0455*** 0.0591*** 0.0381 0.0635*** 0.0676** 0.0892** 0.0804** 0.0857** 0.0208 0.0222 0.0233 0.0228 0.0333 0.0359 0.0360 0.0369 0.0011* 0.0012** 0.0011* 0.0012** 0.0009* 0.0008 0.0008 0.0007 0.0006 0.0006 0.0006 0.0006 0.0005 0.0005 0.0005 0.0005 0.0082* 0.0047*** 0.0046*** 0.0051*** 0.0034*** 0.0031 0.0031 0.0034* 0.0044 0.0017 0.0017 0.0018 0.0019 0.0019 0.0019 0.0020 0.1071 0.0486 0.0518 0.0646 0.0273 0.0758 0.0944 0.0934 0.1722 0.1695 0.1688 0.1701 0.1618 0.1653 0.1652 0.1649 0.0611 0.0748 0.0616 0.0733 0.1051 0.1107 0.1132 0.1122** 0.0546 0.0542 0.0546 0.0541 0.0481 0.0491 0.0492 0.0491 0.1079*** 0.1051*** 0.1089*** 0.1044*** 0.1030*** 0.1032*** 0.1037*** 0.1032 0.0180166 0.0180 0.0181 0.0181 0.0141 0.0144 0.0146 0.0145 0.217 0.2150 0.2145 0.2768 0.2556 0.2687 0.2867 252.55 269.63 254.68 268.11 0.000 0.000 0.000 0.000 RE RE FE RE 5.98 5.50 11.22 4.43 0.5423 0.5991 0.01292 0.7289

Notes: This table shows the results of running the following four models as follows: TQi;t b0 b1 CCCit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit TQi;t b0 b1 DARit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit TQi;t b0 b1 DIit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit TQi;t b0 b1 DAPit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit 5 6 7 8

Variables defined in Table I. The aim behind running the above models is to examine if working capital management affects firms profitability. Each of the above models are estimated using the OLS and considering that pooled time series cross-sectional data requires various stochastic specifications, we control in all regressions for fixed firm and time effects. Lagrangemultiplier as well as Hausman tests are applied for choosing the preferred model only the model supported by the Hausman test is reported; FE and RE are fixed and random effect, respectively; ***, **, *significant at 0.01, 0.5 and 0.1 levels, respectively

Table VII. The effect of working capital management on firms market value using OLS and fixed or random effect estimation

IJMF 8,2

Regression model Constant

(5) 1.5743** 0.6768 0.5522*** 0.0665 0.0002 0.0002

Tobins Q as a dependent variable (6) (7) 1.3091** 0.5103 0.5503*** 0.0655 2.0175*** 0.6748 0.5435*** 0.0641

(8) 0.6347 0.4772 0.6043*** 0.0625

174

L1 CCC DAR DI DAP SIZE GR LEV FFA VNOI GDP Auto correlation 1 Auto correlation 2 Sargan

0.00004 0.0002 0.0000 0.0002 0.0004** 0.0002 0.0606* 0.0328 0.0006** 0.0002 0.0075*** 0.0013 0.6813*** 0.1351 0.0711* 0.0420 0.0122* 0.0073 2.8877 0.0039 0.80416 0.4213 32.83667 0.2025

0.1213*** 0.0458 0.0007*** 0.000277 0.0077*** 0.0013 0.6421*** 0.1345 0.0774* 0.0409 0.0137* 0.0074 2.7979 0.0051 0.83304 0.4048 32.10122 0.2284

0.1076*** 0.0352 0.0007** 0.0003 0.0080*** 0.0014 0.6367*** 0.1311 0.0719* 0.0408 0.0131* 0.0071 2.8002 0.0051 0.80901 0.4185 32.1012 0.2284

0.1483*** 0.0449 0.0007*** 0.0003 0.0087*** 0.0015 0.6846*** 0.1330 0.0696 0.0428 0.0112 0.0079 2.752 0.0059 0.81944 0.4125 32.07916 0.2292

Notes: This table shows the results of running the following four models as follows: TQi;t b0 b1 CCCit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit TQi;t b0 b1 DARit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit TQi;t b0 b1 DIit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit TQi;t b0 b1 DAPit b2 SIZEit b3 GRit b4 LEVit b5 FFAit b6 VNOIit b7 GDPt eit 5 6 7 8

Table VIII. The effect of working capital management on firms market value using GMM estimation

Variables defined in Table I. The aim behind running the above models is to examine if working capital management affect firms profitability. Each of the above models are estimated using the generalized methods of moments (GMM) Arellano and Bond (1991). Arellano-Bond test that average autocovariance in residuals of order 1 and 2 is 0, where H0: no autocorrelation. The over-identifying restrictions are accepted (w2 not significant) by the Sargan test indicating that the diagnostics are okay

health should not be surprising in view of its crucial role within the business. This requires that business must be run both efficiently and profitably. On the other hand, too much focus on liquidity will be at the expense of profitability. Thus, the manager of a business entity is in a dilemma of achieving desired tradeoff between liquidity and profitability in order to maximize the value of a firm. Previous studies argue that more efficient liquidity management stimulates more profitability (see e.g. Deloof, 2003; Lazaridis and Tryfonidis, 2006). While large number of studies examined this relation most of which focussed on more developed firms. In this study we argue that firms in emerging markets and especially in small economies with small firms need to pay more attention on managing their working capital. For such economies firms have limited access to funding and financial forecasting is less efficient. In particular, we examined the relationship between firms working capital management measured by the cash conversion cycle in addition to its components and profitability. We extended other studies by bringing evidence on market evaluation of managerial skills in managing firms working capital. Using data from 52 firms listed in a small less developed market namely Amman Stock Exchange for the period from 2000 to 2008, and using robust estimation techniques results emerged. Firms profitability proved to have positive relation with the cash conversion cycle. This indicates that more profitable firms are less motivated to manage their working capital; one explanation for such positive relation maybe the failure of the market to panelize these firms with inefficient management of working capital. Although investors in the financial markets realized that firms formulating and practicing efficient management for their working capital deserve more value, no enough reaction found at the financial market to provide evidence of significant negative relation between firm market valuation and the cash conversion cycle. The above study is important for policy makers and regulators who need to motivate and encourage managers and shareholders to pay more attention on working capital through improving investors awareness and improving transparency.
Notes 1. For information about reforms in Jordan see Feer et al. (2010). 2. For further discussion see Access to Finance in Jordan at: www.mop.gov.jo/uploads/ Access%20to%20Finance%20Discussion%20Paper%20final_arabic.pdf 3. We believed that due to rigid data selection criteria for which data are available may introduces a selection bias. 4. The reason for using this variable instead of any other accounting profits such as earnings before interest tax depreciation amortization or profits before or after taxes is because we want to associate operating success or failure with an operating ratio and relate this variable with other operating variables (i.e. cash conversion cycle). Moreover we want to exclude the participation of any financial activity from operational activity that might affect overall profitability, thus financial assets are subtracted from total assets Lazaridis and Tryfonidis (2006). 5. Shin and Soenen (1998) use the net trade cycle as a comprehensive measure of WCM. The net trade cycle is simply (accounts receivable inventory_accounts payable)_365/sales this measure is used and results remain the same. 6. See Table II for variables definitions. 7. See also the discussion in Baltagi (2008).

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Su, F. (2001), The impact of the change of business cycle in manufacturing industry, unpublished masters dissertation, Department of Accounting, National Cheng Chi University, Taiwan. Summers, B. and Wilson, N. (2000), Trade credit management and the decision to use factoring: an empirical study, Journal of Business Finance & Accounting, Vol. 27 No. 1, pp. 37-68. Taffler, R. (1982), Forecasting company failure in the UK using discriminant analysis and financial ratio data, Journal of Royal Statistical Society, Vol. 145 No. 3, pp. 342-58. Tobin, J. (1969), A general equilibrium approach to monetary theory, Journal of Money, Credit and Banking, Vol. 1 No. 1, pp. 15-29. Wilner, B. (2000), The exploitation of relationships in financial distress: the case of trade credit, Journal of Finance, Vol. 55 No. 1, pp. 153-78. Zariyawati, M., Annuar, H. and Abdul Rahim, S. (2009), Working capital management and corporate performance: case of Malaysia, Journal of Modern Accounting and Auditing, Vol. 5 No. 11, pp. 47-54. Further reading Chakraborty, S. (1976), Funds flow and liquidity management, in Chakraborty, S.K., Bhattacharya, K.K., Ghosh, S.K., and Rao, N.K. (Eds), Topics in Accounting and Finance, Oxford University Press, Kolkata, pp. 81-91. About the author Bana Abuzayed joined Talal abu-Ghazaleh Graduate School of Business as an Assistant Professor of Banking and Finance in September 2008. She earned her PhD and MA degrees in Banking and Finance from The University of Wales, UK and her BSc degree in Accounting from the University of Jordan, Jordan. Throughout her academic career, she has taught both undergraduate and graduate level courses; her teachings have specialized in corporate finance, portfolio management, financial markets and institutions and financial analysis. Besides teaching, Professor Abuzayeds research interests are market-based accounting research, financial systems stability, financial integration and managerial finance issues. She has published and reviewed a number of research papers in international journals.

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