The effect of working capital management policy on profitability of firms listed at the Nairobi Securities Exchange

Abstract

Working Capital Management policy has its effect on liquidity as well as on profitability of the firm. To achieve this objective, the study used secondary data obtained from the annual reports and financial statements of selected sample of 32 Kenyan firms listed on Nairobi Securities Exchange for a period of 5 years from 2007 – 2011, was studied the effect of different variables of working capital management policy including the aggressiveness or conservativeness of the policy on the return on assets. The size of the firm as well as the leverage has been used as control variables. Pearson‟s correlation and regression analysis (general least square with cross section weight models) are used for analysis. The results show that there is a strong negative relationship between variables of the working capital management and profitability of the firm apart from the aggressiveness of the policy adopted. It was found out that that there is a significant negative relationship between working capital policy adopted and profitability. The results indicate that the model examined in this study is significant with an adjusted R2 of 57.8% and also that all the independent variables had a significant relationship individually with the ROA. The study concluded that working capital management policy affects profitability of the company and if the firm can effectively manage its working capital, it can lead to increasing profitability. Therefore, it will be important for a firm‟s management to understand the relationship that exists between various working capital components and profitability and the direction that they affect the profit for effective management of the working capital. To the government and regulatory bodies, it is important to develop appropriate guidelines that will suggest the appropriate level of working capital that need to be held by a firm and even consider giving incentives in form of tax rebates those firms maintain an optimal working capital policy that leads to improved profits. To the academia, there is need to research on the appropriate working capital policy that will be suitable for particular sector industries.