Relationship between Working Capital Management and Profitability of Cement Companies in Kenya

Abstract

Purpose: Working capital is an important issue during financial decision making since its being a part of investment in asset that requires appropriate financing investment. However, working capital is always being ignored in financial decision making since it involves investment and financing in short term period. The objective of the study was to establish the relationship between working capital management and profitability in cement companies in Kenya.Methods: The research was a casual study design. The population of interest was all the cement companies operating in Kenya as at December 30^th 2010, whose number stood at five. A census of all the cement companies was undertaken. The respondents for the study were the various heads of finance function from each of the cement companies. The study incorporated data for the last five years (2006 – 2010).Data analysis: In order to analyze the effects of working capital management on the firm’s profitability, (operating income + depreciation)/total asset (OI) as measure of profitability was used as the dependent variable. With regards to the independent variables, working capital management was measured by cash conversion cycle (CCC). Spearman’s Correlation analysis was used to see the relationship between working capital management and profitability. If efficient working capital management increases profitability, one should expect a negative relationship between the measures of working capital management and profitability variable. A multivariate regression model was applied to determine the relationship between working capital management and profitability. The regression model is as follows: Y = ?₀ + ?₁X₁ + ?₂X₂ + ?₃X₃ Findings: Findings of the study indicate that indicate that efficient working capital management increases profitability, and hence a negative relationship exists between the measure of working capital management (cash conversion cycle, sales growth, debt ratio and credit ratio) and profitability variable. The study thus concludes that if efficient working capital management increases profitability, one should expect a negative relationship between the measures of working capital management and profitability variable. Based on the findings of the study, it is expected that the stakeholders in the cement industry, who include the management, the government and financial regulators will gain a better understanding of the relationship between working capital management and profitability, and on the basis of the findings,  the management of the cement manufacturing companies in may undertake working capital management from an informed position, while the regulatory bodies formulate policies that will be supportive of efficient management of working capital.

Key words: Profitability; Working capital management; Aggressive working capital management; Trade credit management; Inventory management; Cash management