Impact of working capital management on firm profitability: Evidence from industrial enterprises listed in Hochiminh Stock Exchange (HOSE) in Vietnam

This study investigates an impact of working capital management (WCM) on profitability of

industrial companies listed in Hochiminh Stock Exchange (HOSE). The author uses 352 observation

samples from 44 industrial enterprises listed on HOSE over the 8-year period from 2010 to 2017.

Return on Asset (ROA) and Tobin’s Q (TQ) are respectively selected as the dependent variables for

book value and market value of profitability. The experimental results show that the Cash

Conversion Cycle (CCC) and all components including the Account Receivables Turnover in Days

(ARD), the Inventory Turnover in Days (INVD) and the Account Payables Turnover in Days (APD)

have the negative effects on the ROA. In addition, the CCC, the ARD, and the APD have same effects

on the TQ. This result shows that the optimizing of the CCC by shortening the collection period,

reducing the payment times, and accelerating the inventory turnover will help increase enterprises

profitability. In addition, this study has also found the impact of the Leverage, and the Sale size on

the ROA and the TQ.

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056*** -0.0028 -0.0046** SG 0.0058* 0.0082*** 0.0041 CR 0.0005 0.0005 0.0006 LEV -0.0552 -0.0431 -0.0532 Ln(Sale) 0.0077 0.0040 0.0064*** R2 0.2953 0.1389 0.3134 Observations 352 352.0000 308 Hausman test (P-value) 0.0674 Instrument specification ROA(-1) Note: *, **, *** indicated respectively the significance at 10%, 5% and 1% levels. (Source: Collected and processed by author) Table 10 presents the relationship between the CCC and the ROA by three models: OLS, REM and GMM. The results show the significant and negative effects of the ROA with the CCC, the FS. However, there are no relationship of the ROA with the LEV and the CR. The results of two models: OLS and GMM show that the CCC has respectively the statistically significant and negative effect at 1% significance level with a coefficient of 0.00003 and 0.00003. This shows that the shorter the time of the CCC, the higher the profitability of a business. 698 The control variables FS has the negative effects on the ROA in OLS and GMM method, respectively, 0.0056 (significance at 1% level) and 0.0046 (significance at 5% level). The SG has also the negative effects at on the ROA in only OLS and REM method, respectively, 0.0058 (significance at 10% level) and 0.0082 (significance at 1% level). But the Sale size (Ln(sale)) has the positive effects at 1% significance level on the ROA in GMM method with the coefficient of 0.0064. Table 11: The relationship between the CCC and the TQ (Model 4b) Dependent Variables TQ OLS Hausman test GMM FEM REM Independent variables C -0.4026 -3.7636*** -0.7474 CCC -0.0003** -0.0003 -0.0004* FS -0.0582* 0.0125 -0.0454 SG -0.0102 -0.0687 -0.0111 CR 0.0137 -0.0032 0.0150 LEV -0.4683 -0.2887 -0.5183 Ln(sale) 0.1400 0.2299*** 0.0144*** R2 0.1376 0.6062 0.3134 Observations 352 352 308 Hausman test (P-value) 0.0410 Instrument specification TQ(-1) Note: *, **, *** indicated respectively the significance at 10%, 5% and 1% levels. (Source: Collected and processed by author) Table 11 presents the relationship between the CCC and the TQ by three models: OLS, FEM and GMM. The results show the negative effects of the TQ with the CCC. Meanwhile, it has the significant and positive impacts between the TQ and the Sale size (Ln(sale)). However, there are no relationship of the ROA with the SG, the CR and the LEV. The results of two models: OLS and GMM show that the CCC have respectively the statistically significant and opposite effect with a coefficient of 0.0003 (significance at 5 level) and 0.0004 (significance at 10% level). This shows that the shorter the time of the CCC, the higher the profitability of a business. The control variables - Sale size has the significant and positive effects at 1% significance level on the TQ in FEM and GMM models, respectively, 0.2299, and 0.0144. 3.2. Discussion 699 This study examines how the WCM influences operating profitability. Overall, this study reveals that WCM has a significant and negative relationship with firm profitability including book value (the ROA) and market value (the TQ). Firstly, the CCC has the negative and significant impact with the firm profitability (including ROA and TQ). It means that the reduction of the CCC help the profitability of company to increase. Then the CCC is shortened at the maximum level without affecting the production and business activities that helping the company has the funds for the next business cycle, reduce external funding, decrease costs and risks for the company, so can increase the firm profitability. Secondly, the ARD also has the negative and significant impact with the firm profitability (including ROA and TQ). This means that the company collects money from customer as soon as possible to increase profitability. This result is also the most consistent with the theory and previous studies that a tightening credit policy will increase the profitability of the business as long as the policy does not affect sales. Thirdly, the INVD only has the negative and significant impact with the ROA. This shows that the longer the storing time of inventory, the lower the profitability so it is difficult for the company to compete with competitors in the market. However, corporate executives should also keep their inventory at a sufficient level. That means not "too much" or "too little". Because inadequate inventory will reduce sales, it can also lead to customers switching to competitors when their needs are not met. Therefore, to increase the firm profitability from inventories, companies need to develop effective sales policies to shorten the storing time of inventory rather than reduce the quantity of inventories. Fourthly, the APD also has the negative and significant impact with the firm profitability (including ROA and TQ). This means that the company pays for suppliers as soon as possible to increase profitability. This result is inconsistent with the theory because in theory, the company should maintain the payment time as high as possible as this is a non- interest-bearing loan that the company takes from the supplier. However, it is consistent with previous studies. In practice, due to the high levels of the payment time to suppliers, companies are struggling to raise capital to maintain production and lose a purchase discounts. So increasing the payment time to supplier will reduce the firm profitability. Lastly, the sale size has the positive and significant impact with the firm profitability. It reveals that the company with the high sale size will contribute in increasing the profitability. Not only that, the LEV has the negative and significant impact with the firm profitability. This result shows that many of the firms that are in the high debt proportion are struggling to reduce their profitability. These findings are consistent with results of previous study such as Bui Ngoc Toan (2014); Gul et al. (2013), Gamze et al. (2012), Lazaridis and Tryfonidis (2006) which suggested that an optimal WCM exists for firm performance. However, these studies only 700 used the book value of profitability as the dependent variables. With Gamze et al. (2012) works, group of authors used TQ as market value of profitability and the results for TQ were insignificant. But the results of this study for TQ are significant. 4. Conclusion and Policy Implications Within the framework of this paper, eight models are implemented to test the impacts of the WCM on the firm profitability of 44 industrial enterprises listed on the HOSE in the period from 2010 to 2017. The study applies the regression methods including: OLS, Hausman test, and GMM models to provide the most robust results. Research results show the impacts of the WCM on firm profitability including book value (the ROA) and market value (the TQ). In addition, the investigation also finds the impact of the LEV, the Sale size on the ROA and the TQ. Creating a reasonable working capital policy will enable businesses to increase the profitability and create value for investors. It means that the optimization of the CCC, which includes (1) shortening the time to collect from customers, (2) accelerate inventory flow and (3) reduce the payment time to suppliers. As a result, it positively influences the financial position of the company, helping the company easier to choose the right financing method. With the results of this study, the paper proposes some policy implication to improve the efficiency of WCM in order to increase the profitability of industrial firms as follows: Firstly, Building and developing some cash forecasting models. Cash flow is often unstable; companies need to use forecasting models to eliminate that instability and balance the short term - account receivables with current liabilities. It means that the manager needs to predict the cash inflow and cash outflow that based on the characteristic of business period, seasonal and the business development plan in each period. So, forecasting the demand for WCM in general and the demand for cash in particular is very important, because it will help businesses proactively in the process of production and business, maintain the solvency, take advantage timely opportunities as well as reduced opportunity costs due to excessive cash reserves. Secondly, Improving the management of account receivables. The company should strengthen the financial assessment of customers before making the decision to sell on credit. This assessment is based on the business performance of customers over time. The company should concern the budget and solvency of customers, and decide reasonably the commercial credit policy. For businesses that are not recovering their debt effectively, investing in risk mitigation measures is a necessity. Effective debt recovery measures as well as effective risk mitigation measures are now being applied such as the use of professional debt recovery agents, sale discounts or credit insurance. In addition, for companies with large sales networks and large accounts receivable, complex debt management and more difficult, they can invest in debt management software that help the debt reduction fatly, accurately, effectively. Thirdly, Improving effectively the use of inventory inflow and outflow. The company needs to keep the inventory balance at the optimal level. It is very important to calculate the precise 701 ordering time. Timely ordering will result in decreasing the storing costs and delivering to your customers in a timely manner, guaranteeing the business credibility. It must be calculated that the time of receipt and delivery time is in line with the time of pickup of customers. Moreover, in the context of foreign companies with modern management platform is entering the Vietnam market, the business of our country must further improve the inventory management system as well as supply chain management to keeping up with business demands is essential. In the world, many foreign businesses apply the advanced inventory management systems such as Just In Time (JIT), Supply Chain Management (SCM) or Enterprise Resource Planning (ERP). The successful application of this system not only helps companies reduce a significant amount of inventory, but also reduces the inventory storing costs, improves operational efficiency and reduces product delivery times. This helps to significantly improve revenue and cash flow of the business in order to improve the firm profitability. Lastly, Managing effectively the current liabilities. The company should often check and reconcile the current liabilities with the solvency to actively pay at maturity date. Moreover, the company needs to choose the suitable, safe and effective payment method. *Acknowledgment: This research is funded by National Economics University (NEU) under grant number KTQD/V2018.60. 5. References Arellano, M., Bond, S., (1991). 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