Research ProposaL

Effects of Working Capital Management on SME Profitability

Submitted By:
NIDA AHMED
KASHIF SHAIKH
 Effects of Working Capital Management on SME Profitability

To: Mr. Danish Iqbal

From: Nida Ahmed & Kashif Shaikh
Date: 23rd March, 2013
Subject: Research Proposal
Proposed Research Topic: Effects of Working Capital Management on SME Profitability

Introduction
Small and Medium Enterprise (SME) means an entity, ideally not a public limited which does not employ more
than 250 persons (if it is manufacturing/service concern) and 50 persons (if it is trading concern) and also
fulfills the following criteria of either ‘a’ and ‘c’ or ‘b’ and ‘c’ as relevant:

a. A trading/service concern with total assets at cost excluding land and building upto Rs. 50 million.
b. A manufacturing concern with total assets at cost excluding land and building upto Rs. 100 million.
c. Any concern (trading, service or manufacturing) with net sales not exceeding Rs. 300 million as per
latest financial statements

Working Capital mainly represents the current assets of a firm which mainly comprise of cash, prepaid
expenses, short-term investments, accounts receivable, inventory and other current assets. Net working
capital can be calculated by subtracting current liabilities of a firm from its current assets. If the value of
current liabilities is higher than current assets then net working capital would have a negative value
showing a deficit working capital. When any business entity takes the decisions regarding its current
assets and current liabilities then it can be termed as working capital management. The management of
working capital can also be defined as an accounting approach that focuses on maintaining proper levels
of both current assets and current liabilities.

Profitability can also be termed as the rate of return on investment. If there will be an unjustifiable over
investment in current assets then this would negatively affect the rate of return on investment (Vishnani &
Shah, 2007).

The main objective of managing working capital is to control current financial resources of a firm in such a
way that a balance is created between profitability of the firm and risk associated with that profitability.

There are different approaches for the management of working capital. Two basic policies of working
capital management are namely aggressive working capital management policy and conservative working
capital management policy. An aggressive investment policy with high levels of fixed assets and low
investment in current assets may generate more profits for a firm. On the other hand it also accompanies
a risk of insufficient funds for daily operations and for payment of short term debts. A conservative
investment policy is opposite to it with less investment in fixed assets and more in current assets. For
financing of working capital aggressive policy implies that current liabilities are maintained in a greater
portion as compared to long-term debts. High level of current liabilities requires more resources to be in

RESEARCH PROPOSAL PAGE 1 OF 4

 Effects of Working Capital Management on SME Profitability

liquid form to pay back debts earlier. But current payouts bear less rate of interest and hence can cause
more savings. In conservative working capital financing policy a greater portion of long-term debts is used
in contrast to current liabilities (Sumaira Tufail, 2013).

There is certainly a relationship exists between working capital management and profitability with each
other and so much detailed research work is available between this relationship. But when we focus on
SMEs especially in Pakistan, then there is no detailed literature available related to the significance of
working capital management and its impact on profitability in SMEs. So the aim of this research paper is to
investigate and find out “Does efficient working capital management have any impact on the profitability
of SMEs in Pakistan?”

Research Hypothesis
H0: Working Capital Management has insignificant impact on SMEs’ Profitability.

H1: Working Capital Management has significant impact on SMEs’ Profitability.

Research Plan
We have plan to explore the relationship between working capital management and profitability focusing SMEs
of Pakistan. We will conduct our research using quantitative methods in order to find better results. Data will
be taken from the Annual Financial Statements of Firms for last 3 years. These statements will be collected
from reliable resources including firm’s website, State Bank’s website and other financial institutions’ website.
We have planned to examine and analyze various variables of the firm including inventory turnover, cash
conversion cycle, current and quick ratios, asset ratios etc. to find out the impact of working capital
management on profitability.

Expected Conclusions
H1: Working Capital Management has significant impact on SMEs’ Profitability.

We expect that conclusion of this study and research paper will be in favor of H 1 which states that there is a
significant impact of working capital management on SMEs’ profitability.

References
Vishnani, S., & Shah, B. K. (2007). Impact of Working Capital Management Policies on Corporate
Performance—An Empirical Study. Global Business Review, 8(2), 267-281.

Sumaira Tufail, 2013, Impact of Working Capital Management on Profitability of Textile Sector of Pakistan,
viewed 12th March 2013, <http://cgr.umt.edu.pk/icobm2013/papers/index.html#.UUwhhBdHJbQ>

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