THE CASH CONVERSION CYCLE AND PERFORMANCES OF CONSUMER PRODUGTS IN MALAYSIA
Nur Shafiqah Binti Tukino
Bachelor of Finance (Honours) 2012
0' Pusat Khidmat MakJumat Akademik UNlVERSm MALAYSIA SARAWAK
THE CASH CONVERSION CYCLE AND PERFORMANCES OF CONSUMER PRODUCTS IN MALAYSIA
P.KHIDMAT MAKLUMAT AKADEMIK
111111111 fliIIII" 11111 1000245047
NUR SHAFIQAH BINTI TUKINO 24624
This project is submitted in partial fulfillment of
the requirement for the degree of Bachelor of Finance with Honours
(Finance)
Faculty of Economics aJld Business UNIVERSITI MALAYSIA SARA W AK
2010
,V
1
Statement of Originality
The work described in this Final Year Project, entitled
The Cash Conversion Cycle and Performances of Consumer Products in
Malaysia I
is to the best of the author's knowledge that of the author except where due reference is
made .
.'
7/k'LotL-J~e 1011
(Date submitted) (Student's signature)
Nur Shafiqah Binti Tukino
24624
...
I
ABSTRACT
THE CASH CONVERSION CYCLE AND PERFORMANCES OF CONSUMER
PRODUCTS IN MALAYSIA
By
Nur Shafiqah Binti Tukino
The purpose of this research is to explore the relationship between the firm's Cash
Conversion Cycle with its profitability, size and cash flow. The collected data of this study
was obtained from the DataStream ofthe consumer products listed on Bursa Malaysia for the
period from 2006 to 2010. They were 119 finns - data collected after deleted non-applicable
items. The researcher utilized Simple Linear Regression and Spearman's Correlation
Analyses for empirical investigation on the hypotheses. These results in regression analysis
provide a strong negative significant relatioQ.Ship between Cash Conversion Cycle and firm's
size and firm's cash flow. Nevertheless, the relationship between Cash Conversion Cycle and
firm's profitability showed no significant relationship between the two variables measured.
Thus, this reveals that the increasing of independent variables (Net sales, Total assets, Cash
& short tenn investment) results to lower Cash Conversion Cycle. Hence, in purpose to create
shareholder value, the managing director sho~dd emphasize and concern on generating
ultimate firm's siZe and firm's cash flow as to experience well perfonnance in Cash
Conversion Cycle.
ABSTRAK
KITARAN PENUKARAN TUNAl DAN PERSEMBAHAN PRODUK PENGGUNA DI
MALAYSIA
Oleh
Nur Shafiqah Binti Tukino
Tujuan kajian ini adalah untuk meneroka hubungan antara kitaran penukaran tunai
fU'ma dengan keuntungan, saiz dan ali ran tunai. Data yang dikumpul dalam kajian ini didapati
daripada DataStream bagi sektor produk pengguna yang tersenarai di Bursa Malaysia dari
tahun 2006 hingga 2010 setelah menyisihkan data yang tidak lengkap, 119 fmna - data telah
dikumpul dan digunakan. Penyelidik menggunakan Regresi Linear Mudah dan Analisis
Korelasi Spearman untuk siasatan empirikaL Keputusan analisis regresi menunjukkan
hubungan negatif yang signiflkan di antara kitaran penukaran tunai dengan saiz flrma dan
firma aliran tunai yang kukuh.Oleh itu, ini menunjukkan bahawa peningkatan pembolehubah
tak bersandar Uualan bersih, .Tumlah aset, Tunai & pelaburan jangka pendek) menyebabkan
penurunan kitaran penukaran aliran tunai. Oleh itu, bagi tujuan untuk mewujudkan nilai
pemegang saham, pengarah urusan perlu memberi perhatian dan penekanan tentang menjana
saiz firma dan tunai firma yang optimum bagi mencapai prestasi yang baik dalam kitaran
penukaran tunai.
ACKNOWLEDGEMENT
This research project would not have been possible without the support of many
people. The researcher wishes to express her gratitude to her supervisor, Puan Salawati Binti
Sahari who was abundantly helpful and offered invaluable assistance, support and guidance.
The researcher would also like to convey thanks to the Faculty of Economics and Business for
providing the financial means and laboratory facilities. Also, the researcher would like to
thank Ahmad Hafiz Bin Rozlan for his insightful suggestions and help. Words are inadequate
in offering my thanks to Shafizza Binti Sahdan for her encouragement in carrying out the
research. Finally, yet importantly, the researcher wishes to express her love and gratitude to
her beloved families for their understanding & endless love, through the duration of her
studies.
I
Pusat Khidmat MakluRllt Akademik VNlVERSm MALAYSIA SARAWAK
TABLE OF CONTENTS
LIST OF FIGURES IX
LIST OF TABLES X
CHAPTER ONE: INTRODUCTION
1.0 Preamble
1.1 Problem Statement 4
1.2 Research Objectives 5
1.2.1 General Objectives 5
1.2.2 Specific Objectives 5
1.3 Research Significant 5
1.4 Scope of Study 6
CHAPTER TWO: LITERATURE REVIEW
2.0 Introduction 7
2.1 Cash Conversion Cycle 7
2.2 The Relationship Between CCC and Firm's Profitability 11
2.3 The Relationship Between CCC and Firm's Size 17.'2.4 The Relationship Between CC<; and Firm's Cash Flow 19
CHAPTERTHREE:METHODO~OGY
3.0 Introduction 22
3.1 Theoretical Framework 22
3.1.1 The CCC and Firm's Profitability 23
3.1.2 The CCC and Firm's Size 23
vi
3.1.3 The CCC and Firm's Cash Flow 24
3.2 Data Measurement d' 24
3.3 Research Design 25
3.3.1 Sample Size 25
3.3.2 Data Collection 25
3.3 .3 Data Analyses 26
3.4 Research Hypotheses 28
CHAPTER FOUR: FINDINGS AND DISCUSSIONS
4.0 Introduction 29
4.1 Demographic Proftle 29
4.2 The Analyses 0 f CCC and I ts Independent Variables
(Profitability, Size and Cash Flow) 37
4.2.2 Normality Test 37
4.2.3 Spearman's Correlation Analyses 38
4.2.3.1 The Relationship between CCC and Firm's Profitability 40
4.2.3.2 The Relationship between CCC and Firm's
Size 41
4.2.3.3 The Relationship between CCC and Firm's
Cash Flow 44
., 4.2.4 Regression Analyses 45
4.2.4.1 The CCC and Firm's Profitability 47
4.2.4.2 The CCC and Firm's Cash Flow 48
4.2.4.3 The CCC and Firm's Size 49
vii
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I'
CHAPTER FIVE: CONCLUSION
505.0 Introduction
5.1 Concluding Remarks 50
5.2 Recommendations 52
5.3 Limitation of the study 52
535.4 Future Research
54REFERENCES
APPENDIX 1: Table of Regression Tests
APPENDIX 2: Final Year Project Semester 1 Session 201112012 Time Frame
APPENDIX 3: Final Year Project Semester 2 Session 201112012 Time Frame
APPENDIX 4: List ofConsumer Products Listed in KLSE: Sample for this study
APPENDIX 5: Slide Presentations
viii
I
PAGELIST OF FIGURES
Figure 1: The Independent Variables and Dependent Variable 22
Figure 2: Mean (Net Sales) 30
Figure 3: Mean (Total Assets) 31
Figure 4: Mean (Cash & Short Term Investment) 32
34Figure 5: Mean (ROA)
35Figure 6: Mean (ROE)
Figure 7: Mean (Cash Conversion Cycle) 36
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LIST OF TABLES PAGE
,/'
Table 1: Definition ofCCC by Various Researchers 8
Table 2: The Cash Conversion Cycle 9
Table 3: The Variables Measurement 24
Table 4: Mean (Net Sales) 30
Table 5: Mean (Total Assets) 31
Table 6: Mean (Cash & Short Term Investment) 32
Table 7: Mean (ROA) 33
Table 8: Mean (ROE) 35
Table 9: Mean (Cash Conversion Cycle) 36
Table 10: Tests ofNormality 37
Table 11: Rules of thumb: Spearman's Correlation Analyses 39
Table 12: Correlations between Cash Conversion Cycle and ROA 40
Table 13: Correlations between Cash Conversion Cycle and ROE 41
Table 14: Correlations between Cash Conversion Cycle and Net Sales 42
Table 15: Correlations between Cash Conversion Cycle and Total Assets 43
Table 16: Correlations between Cash Conversion Cycle and
44Cash & Short Term Investment
x
47 Table 17: Model Surnmaryb (Net Sales and CCC)
d'
Table 18: Model Surnmaryb (Total Assets and CCC) 48
Table 19: Model Surnmaryb (Cash & Short Tenn Investment and CCC) 48
Table 20: Model Surnmaryb (ROA and CCC) 49
Table 21: Model Surnmaryb (ROE and CCC) 49
xi
CHAPfERONE
INTRODUCTION
1.0 Preamble
First and foremost, in Investopedia (2011) do explain about the Cash
Conversion Cycle. It is when a company acquires inventory on credit, the accounts
payable is announced. Besides that, a company also sell merchandise on credit which
results in accounts receivable. Therefore, cash is not involved until the company
pays the accounts payable and collects accounts receivable. Thus, the Cash
Conversion Cycle measures the time between outlay ofcash and cash recovery. This
Cash Conversion Cycle is essential for retailers and others businesses because it
shows how effective and quickly a firm can convert its products into cash through
sales. [ndeed, the shorter the cycle, the less time capital is tied up in the business
process, and thus the better for the company's·bottom line.
According to Eugene F. Brigham and Joel F. Houston (2007) in the book of
Essentials of Financial Management, pp 512, mentioned that all firms follow a
"working capital cycle" in which they purchase or produce inventory, hold it for a
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time, and eventually sell it and receive cash. This process is also known as the Cash
Conversion Cycle.
According to Lyroudi and Lazaridis (2000), the interest in working capital
management has increased during the last two decades and both academics and
financial officers are showing more interest in working capital management. Apart
from that based on Ruback and Sesia (2000) Dell and Wal-Mart declare that their
working capital management practices are an important source of their competitive
advantage. An advantage about the essential of the efficiency of a corporation's
working capital management is given by Shin and Soenen (1998).
They point out that Wal-Mart and Kmart had similar capital structures in
1994, but Kmart had a Cash Conversion Cycle of roughly 61 days while Wal-Mart
had a Cash Conversion Cycle of 40 days. The probably reason is according to
Moussawi et ai, 2006 Kmart faced an additional $198.3 million per year in financing
expenses. Such evidence demonstrates that Kmart's poor management of its working
capital contributed to its bankruptcy. Therefore, efficiency of working capital
management is based on the principle of speeding up collections as much as possible
and slowing down disbursements as much as possible. This working management
principle is introduced by Richards and Laughlin (1980) which is based on the
. traditional concepts of the Cash Conversion Cycle. It is a powerful performance
measure for assisting how well a company is managing its working capital. Gentry et
al. (1990) argue that a short Cash Conversion Cycle is indirectly related to firm's
value. A short Cash Conversion Cycle indicates that the firm is collecting the
receivables as quickly as possible and delaying the 3 payments to suppliers as much
2
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as possible. This leads to relatively high net present value ofcash flow and relatively
high firm value. " However, Cash Conversion Cycle definitions are not constant. For example,
Stewart (1995) defmes a Cash Conversion Cycle as to describe the average period of
time needed to tum a dollar invested in raw materials into a dollar collected from a
customer. Other than that, Besley and Brigham (2005) describe a Cash Conversion
Cycle as the average length of time from the payment for the purchase of raw
materials to until the collection of receivables associated with the sale of the product.
A shorter Cash Conversion Cycle could be worked with high profitability
because it improves the efficiency of using the working capital. A short Cash
Conversion Cycle indicates that the firm handles and processes inventory more
quickly, collects cash from receivables more quickly and slows down cash payments
to suppliers. As a result, this incre~es the efficiency of internal operations of a firm
and results in higher profitability, higher net present value of cash flows, and higher
market value of a firm referred to Gentry et ai, 1990. In a solution, the Cash
Conversion Cycle can be shortened by reducing the time that cash is tied up in
working capital. This could happen by shortening the inventory conversion period
via quicker processing and seBing goods to customers, or by shortening the
receivable collection period via speeding up collections, or by lengthening the
payable deferral period via slowing down payments to suppliers.
On the other hand, shortening the Cash Conversion Cycle could harm the
flfOl'S operations and lead to poor performance. Reducing the inventory conversion
period could increase the shortage cost and make the company's lose its good credit
3
customers, and lengthening the payable period could damage the fum's credit
reputation.
As the whole defmition, the Cash Conversion Cycle is a useful way of
assessing the liquidity of a firm, especially for small companies that are usually
operated with fewer fmancial resources, compared to larger companies that have
better access to both money and capital markets. Shortening the Cash Conversion
Cycle could be one important source of fmancing for small fums.
The purpose of this paper, therefore, is to investigate the relation between the
length of Cash Conversion Cycle and profitability for 595 samples firms' years
covering the period 2006-2010 for consumer product's listed on the Kuala Lumpur,
to examine the relation between the length of the Cash Conversion Cycle and firm
sizes and to identify the relation between the length of the Cash Conversion Cycle
and cash flow .
The rest ofthe paper is organized along the following lines. The next chapter
discusses the existing literature review. Chapter three reviews the methodology used
in this study, section four discusses the findings, section five reviews the discussion,
and finally section six concludes the paper.
1.1 Problem Statement
The consumer products sectors are facing the difficulties in achieving an
efficient Cash Conversion Cycle. This is due to the changes in profitability, firm's
size and firm's cash flow. Literally, if the firm's profitability is lower the Cash
Conversion Cycle might be longer because a fum is slow in collecting cash from
receivables. Next, the smaller firms have longer Cash Conversion Cycle by Moss
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Pusat Khidmat Maklumat Akademik VNIVERSITI MALAYSIA SARAWAK
and Stine (1993). Finally, according to Schilling (1996) mentioned that if the
minimum liquidity required increases it will lengthen the Cash Conversion Cycle.
1.2 Research Objectives
1.2.1 General Objective
It is to identify the determinants which affect the relationship between
the implementation of Cash Conversion Cycle towards the firm's
performance.
1.2.2 Specific Objectives
I To clarify the relationship between Cash Conversion Cycle and
profitability.
II To examine the rel~tionship between Cash Conversion Cycle and
firm's size.
III To identify the relationship between Cash Conversion Cycle and
firm's cash flow.
1.3 Research Significant
This 'research is benefit for the young ~ntrepreneur whom is interested to set
up a new business in Consumer Products sector. Apart from that, the local \ ,
companies may refer to the data provided in this research as to help to generate a
good system in Cash Conversion Cycle which are affected from profitability, firm's
size and firm's cash flow. In depth, the academicians may implement the output as to
conduct the future research related with different sectors listed in Bursa Malaysia.
5
1.4 Scope of Study
This study will be conducted towards the consumer products sectors which
are listed in Bursa Malaysia with 595 samples in Malaysia. The purposes to study
these samples are to identify the nexus between the Cash Conversion Cycle and its
independent variables (Net Sales, Total Assets, ROA, ROE, and Cash & Short Term
Investment).
6
CHAPTER TWO
LITERATURE REVIEW
2.0 Introduction
In this section, the researcher reviews the existing literature on the link
between the length of Cash Conversion Cycle and profitability, firm's size and
firm's cash flow from different views and in different environments.
2.1 Cash Conversion Cycle
In textbooks related to finance, Cash Conversion Cycle is mentioned in the
context of working capital management (Keown et al., 2003; and Bodie and Merton,
2000). The Cash Conversion Cycle is used as a comprehensive measure of working
capital as it shows the time lag between expenditure for the purchases of raw
materials and the collection of sales of finished goods (Padach~ 2006). Definitions of
Cash Conversion Cycles are not consistent. Oefinitions made by various authors are
given in Table 1.
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Table 1
Definition of Cash Conversion Cycle by various researchers
DESCRIPTION
Cash Cycle time
Cash Conversion Cycle
Cash Cycle
Cash Gap
.
DEFINITON
The number of days between the
date the flrm must start to pay cash
to its suppliers and the date it
begins to receive cash from its
customers.
The sum of days of sales
outstanding (average collection
period) and days of sales in
inventory less days of payables
outstanding.
The number of days that pass . before we collect the cash from
sale, measured from when we
actually pay for the inventory.
It measures the length of time
between actual cash expenditures
on productive resources and actual
cash receipts from the sale of
products 'or services.
SOURCE
Bodie and Merton
(2000)
Keown et al. (2003)
Jordan (2003)
Eljelly (2004)
8
Keown et al. (2003) express Cash Conversion Cycle with the following
equation similar to many researchers as follows:
CCC Days of Sales Outstanding + Days of Sales in Inventory Days of Payables Outstanding
In the formula above, the three variables to which Cash Conversion Cycle is
dependent are defmed as follows:
Table 2
The Cash Conversion Cycle
Days of Sales Outstanding Accounts receivables
Salesl365
Days of Sales in Inventory Inventories
Cost of goods sold/365
Days of Pay abies Outstanding Accounts payables
Cost of goods soldl365
Source: Jordan (2003)
By (Hutchison et al., 2007) Cash Conversion Cycle is likely to be negative as
well as positive. A positive result indiCates the number of days a firm must
borrow or tie up capital while awaiting payment from a customer.
Meanwhile, a negative result indicates the number of days a firm has
received cash from sales before it must pay its suppliers.
9
The ultimate goal is having low Cash Conversion Cycle which is in negative
due to the shorter the Cash Conversion Cycle, the more efficient the firm
handling its cash flow.
Based from the equation of Cash Conversion Cycle above, (Bodie and
Merton, 2000) mentioned that it is seen that a fInn can reduce its need for
working capital by:
• Reducing the amount of time that goods are held in inventory. This can be
done by improving the inventory control process or by having suppliers to
deliver raw materials exactly when they are needed in the production process.
• Collecting accounts receivable more quickly. Among the methods available
to speed up the collection process are improving the efficiency of the
collection process, offering discounts to customers who pay faster, and
charging interest on accounts that are overdue.
• Paying its mvn bills more slowly. The fInn must pay the obligations within
the longer days given as to maintain the cash flow.
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2.2 The Relationship between Cash Conversion Cycle and Firm's Profitability
As said by Deloof (2003) showed significant and negative relationships
between Cash Conversion Cycle and profitability of Belgian firms. In line with Shin
and Soenen (1998) also reported significant negative relationship between net trade
cycle and profitability for US flffilS.
On the other hand, ALShubiri, (2011) argues that funds committed to
working capital can be seen as hidden sources that can be used for improving firm's
profitability. As a comparison to the results of the study of Karaduman, et aI., (2010)
showed significant and negative relationship between the Cash Conversion Cycle
and profitability measured by return on assets of companies listed on Istanbul Stock
Exchange. The above statement grabs the same credit as the study by Deloof(2003).
In addition, the relationship between profitability and working capital
management for firms listed on the Athens Stock Exchange was examined by
Lazaridis and Tryfonidis (2006). The results showed significant relationship between
operational profitability and the Cash Conversion Cycle, the results also showed that
executives can increase profitability of their firms by correctly handling the
individual components of working capital to an optimal level. Most of the results
show the relationship between Cash Conversion Cycle and profitability is a negative p '
overview.
Nevertheless, the results of Besley and Brigham (2005) describe a Cash
Conversion Cycle as the average length of time from the payment for the purchase of
raw materials to until the collection of receivables associated with the sale of the
product. A shorter Cash Conversion Cycle could be associated with high
profitability because it improves the efficiency of using the working capital.
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Arcos and Benavides (2006) wanted to estimate the entrepreneurial
efficiency ofa set ofcompanies in the nonfinancial sector in Colombia for the period
from 2001 to 2004. The results obtained were consistent with similar studies
conducted abroad in that the Cash Conversion Cycle was inversely related to the
profitability ofthe companies when measured with respect to the level of sales.
The relationship of Cash Conversion Cycle with firm size and profitability
for firms listed at Istanbul Stock Exchange was studied by Uyar (2009) using
ANOVA and correlation analysis. The results showed retail/wholesale industry has
shorter Cash Conversion Cycle than manufacturing industries. Furthermore, study
found significant negative correlation between Cash Conversion Cycle and
profitability as well as between Cash Conversion Cycle and firm size.
Furthermore, managers can create profit by correctly handling the individual
components of working capital to an optimal level. Padachi (2006) has examined the
trends in working capital management and its impact on firm's performance for 58
Mauritian small manufacturing firms during 1998 to 2003. He explained that a well
designed and implemented working capital management is expected to contribute
positively to the creation of firm's value. The results indicated that high investment
in inventories and receivables is associated with low profitability and also showed an
increasing trend in the short term component ofworking capital fmancing.
In the study of Ganesan, (2007) analyze the working capital management
efficiency of flf1l1S from telecommunication equipment industry. The variables used
to represent the working capital are day's sales outstanding, days inventory
outstanding, days payable outstanding, days working capital, and current ratio while
profitability and liquidity represent by cash conversion efficiency, income to total
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