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VIETNAMNATIONALUNIVERSITY HOCHIMINHCITY

INTERNATIONALUNIVERSITY

SCHOOL OF BUSINESS

DETERMINANTS OF WORKING CAPITAL

REQUIREMENT

THE STUDY FROM COMPANIES LISTED ON

HO CHI MINH STOCK EXCHANGE (HOSE)

In Partial Fulfillment of the Requirements of the Degree of

BACHELOR OF ARTS in BUSINESS ADMINISTRATION

Students name: NGUYEN NGOC QUYEN (BAIU09104)

Advisor: PHAM THI THU TRA, Ph.D.

HoChiMinh City, Vietnam

2013

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DETERMINANTS OF WORKING CAPITAL

REQUIREMENT

THE STUDY FROM COMPANIES LISTED ON

HO CHI MINH STOCK EXCHANGE (HOSE)

APPROVED BY: Advisor APPROVED BY: Committee,

________________________ ___________________________________

Pham Thi Thu Tra, Ph.D. Pham Thi Thu Tra, Ph.D, Chair.

___________________________________

Duong Thuy Tram Anh, M.S, Secretary.

___________________________________

Ho Diep, Ph.D.

___________________________________

Nguyen Thi Thuy Trang, MBA.

THESIS COMMITTEE

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ACKNOWELEDGEMENTS

First and foremost, I would like to express my sense of sincere and profound

gratitude to my supervisor, Professor Pham Thi Thu Tra, who has permitted me to do this

thesis under her supervision. I genuinely feel honored when I have a valuable chance to

work with the professional, skilled and enthusiastic supervisor. Furthermore, I have

learned a lot from her insightful guidance, experience and constructive suggestion

throughout all steps of the thesis. The thesis cannot be completed comprehensively

without her encouragement and inspiration. Again, with all of my appreciation, thank

you, my supervisor.

Secondly, it will be my shortcoming if I do not give thanks to the thesis

committee for their contribution to my proposal that helps me consolidate the weakness

of this thesis.

Then, I also like to extend my gratefulness to International University for

sponsoring and assisting for my study.

Last but not least, my heartfelt thanks go to my family who always love me, take

care of me and provide me the continuous supports, which motivates me to achieve the

goals in my life. Thank my friends for all the lovely memory that we shared together and

being by my side when I face the difficulties. Now this is the time for me to apply my

knowledge that I have accumulated during 4 years at International University in the

practice.

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TABLE OF CONTENTS

ACKNOWELEDGEMENTS ................................................................................................ iii

LIST OF TABLES ................................................................................................................. vii

LIST OF FIGURES ...............................................................................................................viii

ABBREVIATION .......................................................................................................... ix

ABSTRACT .............................................................................................................................. x

CHAPTER I. INTRODUCTION .......................................................................................... 1

1.1 Background to the study .................................................................................1

1.2 The objective of the study................................................................................4

1.3 Significant of the study ....................................................................................5

1.4 The scope of the study .....................................................................................5

1.5 The structure of study .....................................................................................5

CHAPTER II. THEORETICAL FRAMEWORK AND LITERATURE REVIEW .... 6

2.1 Working capital requirement..........................................................................6

2.2 Working capital policy ....................................................................................9

2.3 Determinats of working capital requirement ............................................... 12

2.4 The review of empirical evidence on the determinants of working capital

requirement .............................................................................................................. 17

2.5 Conceptual framework .................................................................................. 22

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CHAPTER III. METHODOLOGY .................................................................................... 24

3.1 Data ................................................................................................................ 24

3.2 Model specification ........................................................................................ 24

3.3.1 The model specification .................................................................. 25

3.3.2 Measurement of variables .............................................................. 25

3.3 Estimation ...................................................................................................... 26

3.3.1 The pooled OLS .............................................................................. 27

3.3.2 The fixed effects .............................................................................. 27

3.3.3 The random effects ......................................................................... 27

3.3.4 The Ramsey test .............................................................................. 28

3.3.5 The Hausman test ........................................................................... 28

CHAPTER IV. OVERVIEW OF WORKING CAPITAL REQUIREMENT OF

COMPANIES LISTED ON HOSE ............................................................................... 30

4.1 The working capital requirement of the industry sectors for the period

from 2007 to 2012 ..................................................................................................... 30

4.2 Working capital policy .................................................................................. 33

4.3 The relationship between working capital requirement and profitability of

the industries ............................................................................................................ 35

4.4 The alterations of working capital requirement and sales growth over 6

years .37

CHAPTER V. ANALYSIS, RESULTS AND DISCUSSIONS ...................................... 39

5.1 Descriptive statistics ....................................................................................... 39

5.2. Correlation statistics...................................................................................... 41

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5.3. Regression results for separate years ............................................................ 42

5.4. Regression results of pooled OLS, manufacturing industry and

conservative working capital policy ........................................................................ 45

5.5. Fixed effects and random effects results ....................................................... 52

Chapter VI. CONCLUSION........................................................................................ 55

LIST OF REFERENCES.............................................................................................. 58

APPENDICES ............................................................................................................... 61

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LIST OF TABLES

Table Descriptive title Page

Table 1: Summary of dependent varable and independent variables ......................................... 26

Table 2: Descriptive statistics result (means by year) ................................................................. 39

Table 3: Pearson correlation coefficient .................................................................................... 41

Table 4: Regression results for separate year ............................................................................ 43

Table 5: Regression results of pooled OLS, manufacturing industry and conservative working

capital policy ..................................................................................................................... 45

Table 6: The results of fixed effects and random effects ............................................................ 53

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LIST OF FIGURES

Figure Descriptive title Page

Figure 1: Cumulative capital requirement ................................................................................... 8

Figure 2: The determinants of working capital requirement of companies listed on Hose in

Vietnam ............................................................................................................................ 22

Figure 3: Working capital requirement of the industry sectors from 2007 to 2012 .................... 31

Figure 4: Working capital policies of the industry sectors, 2007- 2012 ....................................... 33

Figure 5: The relationship between working capital requirement and profitability of listed

companies in Hose from 2007 to 2012 .............................................................................. 35

Figure 6: The changes of working capital requirement and sales growth from 2007 to 2012 ..... 37

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ABBREVIATION

ARE Number of days in account receivables

INVT Number of days in inventory

LEV Financial leverage

OLS Ordinary Least Square

OPC Operating cycle

ROA Return on asset

SGR Sales growth

SIZ Size of company

WCR Working capital requirement

RESET Regression Equation Specification Error Test

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ABSTRACT

Over years there are many researches about the impact of working capital

management on firms profitability. Nonetheless, the factors that determine working

capital requirement of company have not been investigated extensively. Consequently,

the study is carried out to examine the determinants influencing the need of working

capital of 265 companies listed on Ho Chi Minh stock exchange (Hose) using panel data

for the period from 2007 to 2012.

For the purpose of this study, the quantitative method is used to test a set of

research hypothesis. The empirical results reveal that most industries exposed in the

study have run their business with the conservative working capital policy in accordance

with high demand of working capital. The company size, profitability and operating cycle

have positive and significant impact on working capital requirement of Vietnamese

companies. Besides, it is also shown that the more financial leverage company employs,

the less working capital it requires. Sale growth factor appears to have no significant

impact on working capital requirement. The moderate effect of such decisive factors as

size, profitability, operating cycle and leverage illustrates the context of working capital

need in a transitional economy as Vietnam. The studys findings offer the basic reference

for future research as well as the implication for managers in operating business.

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CHAPTER I

INTRODUCTION

The first chapter intends to provide the primary aspects which are essential to

get general idea about working capital requirement and the rationale of doing this study.

It includes the research background, research objective, significant implication, the scope

and the structure of the study.

1.1 Background to the study

The transition of Vietnamese economy to become a market-oriented economy

has brought a new look for the country and Vietnamese peoples life. This has been

proved by the notable achievements in the development of economy, increasing the

standards of living, the enhancement of culture and education over the past twenty five

years. However, in recent years, with the global crisis, most of companies in the world as

well as in Vietnam get the difficulties for the expansion. According to the economic

experts, Vietnamese economy has gradually fallen into the stage of stagflation - a

circumstance where the inflation rate is high, the growth rate goes down and the

unemployment rate is still high. That is a major alarm of any economy and gives a signal

of disturbance of cash flows as well as the shrink of business growth. Besides that, with

the increase of bad debt expenses, Vietnamese banks have the policies to tighten the

credit, many companies now try to find the opportunities for improving cash flow and

avoid the stagnancy of operation. Even though Vietnamese government has introduced

numerous policies to support the business sector, particularly the interest rate has

dropped, the Vietnamese companies have not felt excited since they do not afford to

repay the old loans for getting new ones and the problem of unsettled inventories still

exists. Additionally, the decrease of interest rate has not yet helped many companies

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improve their production and business operation due to the lack of working capital

requirement. As a result, working capital requirement is considered as an important

element to ensure the survival and growth of any company and the business may not run

efficiently without the appropriate amount of working capital.

Furthermore, it cannot be ignored the cruciality of working capital

requirement during financial decision making because it is a part of investment in assets

to finance day to day operation and also minimizes the risk of future financial

shortcoming. When the company does not have enough amount of working capital for

running business in short-term, it will affect significantly the businesss value in long-

term. However, in the time of financial decision making, the managers sometimes do not

pay attention to determine the need of working capital as they assume that it just regards

to the investment and financing in short period and does not enhance the return to equity

(Sanger, 2011). If this happens unfavorably, there is the likelihood of discrepancy

between current assets and current liabilities during operating business so it will influence

the companys productivity and growth. Seriously, it can lead to the financial distress or

even the bankruptcy of company.

Traditionally, the corporate finance literature has only concentrated on the

study of long-term finance such as capital budgeting, capital structure and dividend

policy. The short-term finance, on the other hand, should be focused cautiously on how

the current assets and current liabilities are decided because it affects the companys

performance within a period as well as contributes a main resource of capital for small

and medium-sized companies and high growth companies. For instance, a manufacturing

company may invest in excess of a haft of total assets for current assets while a service

company may retain the investment in current assets at low level. Although investing in

working capital is very vital, the way how each company decides an adequate amount of

working capital requirement also influences considerably its performance. As an

inadequate working capital will disrupt the daily production and impair the firms sales.

Consequently, the companys working capital position is not only an internal concern but

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also the indicator of creditors risk. Van Horne and Wachowicz (2004) stated that the

overload of current assets might have a negative impact on companys profitability while

the small amount of current assets can cause the stock out condition and weaken the

liquidity that results in creating obstacles for business operation.

In practice, the paradigm each company requires different level of working

capital has become one of the most significant matters in the field of financial

management. The reason here is that working capital requirement of company is no

longer valid, in which the managers are getting difficulty in recognizing the determinants

of working capital requirement to decide an appropriate amount of working capital.

Generally, each company has to need a minimum amount of source as the working

capital requirement to finance its operational expenses. If the level of working capital is

too high, it implies that the company has the idle funds which are associated with high

opportunity cost. Whereas a small amount of working capital may result in the risk of

insolvency since the company might not be able to finance its short-term liabilities. For

instance, there are many studies carried out by the Bureau of Public Enterprises that

expose the reason for the poor performance of public industry. As a result, the public

industry has the over capitalization in operating business which indicates that the public

companies have too large funds for working capital requirement. This leads to a low level

rate of return and using the resource at a less rate than optimal. Therefore, each company

should focus on determining the working capital requirement.

During running business, working capital requirement of company also varies

from company to another and specifically in one firm, it also changes from time to time.

The differences in production and strategic plans between companies in the same and

different industries are obvious; therefore, the working capital requirement is also not

identical for all companies. And basically, working capital requirement will be relied on

how much and how frequently the company has received the earning, which expenses the

company must cover and how frequently these expenses will be paid. Furthermore,

nowadays, many small companies have troubles to meet their working capital

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requirement with the constraints of their margin and the sales nature while the large ones

can afford working capital requirement and do not have faced any barrier. To get an

adequate working capital requirement, this also raises a straightforward question as to

what factors influence the companys working capital requirement. Consequently, the

company will be going to the insolvency and bankruptcy if it has the shortage of

understanding about the influence of working capital requirement as well as the lack of

transparency about its determinants.

Smith (1973) has figured out that a major failure of company may be the

result of the inability of manager in scheduling the current assets and current liabilities

efficiently. In short, researching the determinants of working capital requirement will

explore the useful aspects that help managers verify the reason why each company has

different level of working capital requirement so they will have a proper preparation in

planning the need of working capital and allocate the funds effectively. Most of studies

tend to examine the relationship between the working capital management and the

companys profitability or the influence of working capital policy on the creation of

value. However, there are few studies about the driver factors determining working

capital requirement among developing countries, especially in Vietnam. Therefore, this

study is carried out to find out the determinants of working capital requirement of

companies listed on Ho Chi Minh stock exchange (Hose) in Vietnam.

1.2 The objective of the study

The conduct of this study intends to figure out the determinants of working

capital requirement of companies listed on Ho Chi Minh stock exchange (Hose).

Furthermore, it also investigates the nature of financial and non financial factors that

decide the requirement of working capital as well as the impact of particular determinants

on the companys working capital requirement.

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1.3 Significant of the study

The study looks for the factors that determine the companys working capital

requirement. Since the working capital plays an important role in making financial

decisions, it should be critical for company to determine an adequate level of working

capital requirement in running daily operation and maintain the short-term investment.

Through the findings, the corporate manager will gain better understanding of the

influence of determinants on working capital requirement.

1.4 The scope of the study

This study is carried out to examine the determinants of working capital

requirement among Vietnamese companies. However, due to the limitation of time and

availability of data, the study primarily collects the data from companies listed on Hose.

Therefore, the results cannot be generalized for all Vietnamese companies.

1.5 The structure of study

This study is organized as follows. The first section is the introduction which

consists of the background to the study, the research objectives, significant of the study,

the scope of the study and structure of the study. Second section presents the literature

review of working capital requirement and conceptual framework of the study conducted

in relating to the previous studies. Third section is research methodology which describes

the sample, measurement of variables and estimation methods. Next section reports an

overview of working capital requirement of listed companies in Ho Chi Minh stock

exchange (Hose). Fifth section exposes the data analysis and discussion of result based on

the data collected. Last section summarizes the main findings of this study and also

provides the suggestions and conclusion.

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CHAPTER II

THEORETICAL FRAMEWORK AND LITERATURE REVIEW

The second chapter figures out the theoretical framework for the study about

working capital requirement, working capital policy, determinants of working capital

requirement as well as the previous researches related to the study problem. This part is

necessary in any research since it not only helps to comprehend various concepts but also

contributes to construct the conceptual framework for the study.

2.1 Working capital requirement

The foundation of working capital requirement is defined as the minimum

amount of resource which a company needs to efficiently wrap the daily costs and

expenses to run the business (Amarjit Gill, 2011). Since each company has typical

features, it will require the level of working capital differently. Accordingly, there is no

optimal level of working capital requirement that is generally suitable to all business

activities from industry to another or even to companies operated in the same industry.

Normally, working capital is considered as the means of existence for any enterprise and

a significant matter throughout financial decision making as it is an element of the

investment in total assets (Bhunia, 2010).So it is impossible to run business smoothly

without a proper amount of working capital. And to avoid this problem, the financial

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managers and executives should have strategic plans to obtain an adequate working

capital. There are two methods of forecasting the working capital requirement:

conventional method and operating cycle method (VirendraC.Jani, 2007). The

conventional method emphasizes the liquidity of business and the compatibleness

between cash inflow and cash outflow. The operating cycle method, on the other hand, is

more active and has high reliability. With the operating cycle method, the working capital

is based on the fundamental of operating cycles length. Besides that, according to The

Institute of Chartered Accounting of India, other methods like ratio of fixed investment

and ratio of sales would be used to forecast the working capital requirement. Specifically,

the working capital requirement is estimated as the percentage of fixed investments by

the ratio of fixed investment method and as the proportion of sales on the supposition

which the current assets change with changes in sales by ratio of sales method.

Moreover, the working capital requirement also responds to the short-term

financial needs for managing business. The lesser need for financing and less cost of

capital are the results of lesser needs of working capital and it simultaneously raise the

amount of cash for stockholder (Ganesan, 2007). The study of Brealey, Mayers and Allen

(2006) stated that the cumulative capital requirement is the cost of capital which a

company acquires time by time. The cumulative capital requirement tends to develop

unpredictably in accordance with the unique cycle of business and is financed by either

short-term liabilities or long-term liabilities. If the cumulative capital requirement is

covered with the excess of long-term financing, there is the surplus of cash. However, the

opposite case will result in acquiring the short-term financing for companys operation.

Therefore, this will indicate two scenarios of company such as short-term lender or

borrower. The below figure illustrates the cumulative capital requirement graphically:

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Figure 1: Cumulative capital requirement

(Source: Adapted from the study of Brealey, Mayers and Allen, 2006)

From the figure1, there are three different strategies that are named A, B and

C. The three lines have upward sloping which demonstrate that the more company

develops, the more capital it needs. The line A signifies a situation that the short-term

assets are invested by the surplus of cash kept constantly. The line B shows a situation

that the company may become the short-term lender in one year and the short-term

borrower in another year. Finally, the need of permanent short-term financing is

demonstrated by the line C. In other words, this figure has specified the way how the

working capital requirement of company has the effect on its financing decisions. The

company with lots of capital invested in current assets can utilize more long-term

financing than the company with appropriate matching between the short-term assets and

short-term liabilities. As a result, it is essential for the study to find out the determinants

of working capital requirement which will help company have the precise decisions for

financing working capital.

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2.2 Working capital policy

As determining an adequate working capital requirement, the working capital

policy is essential in planning working capital precisely. Besley and Brigham (2008)

stated that working capital policy is referred as the companys fundamental policy

relating the objective level for every type of current assets and the way that the current

assets would be financed. Moreover, the working capital policy can be illustrated as the

helpful guideline to direct business as well as match moderately between current assets

and current liabilities in the approach which can release the risk of default. Each

company should control carefully the working capital level in other to maintain the

availability of cash for short-term financing. Unless the companys performance is well

in short-term, its value is not be maximized in long-term. With an inefficient working

capital policy, the companys working capital requirement cannot be met sufficiently

which causes the failure of company. In addition, Hawawini, Viallet and Vora (1986)

pointed out that working capital policy depends on industrys characteristic and changes

from time to time as well as from industry to another or even from different companies in

the same industry. Since every company has different working capital requirement, for

instances, manufacturing industry requires a large amount of working capital whereas

service industry requires less amount of working capital.

From the prior empirical studies (Filbeck and Krueger, 2005; Yadav, Kamath

and Manjreka, 2009), working capital policy has changed over time with the variation of

economic cycles. Therefore, companies have a tendency to need a large amount of

working capital in the high business volatility context and a small one in the low

volatility context. Furthermore, in the case of more instability of future cash flow, the

company will need more cash held and short-term investment to maintain the operational

business. Hence, working capital policy helps manager to decide the correct level of

working capital and to manage working capital effectively. Additionally, the liquidity of

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current assets corresponding with the current liabilities is also dependent on the working

capital policy. With different liquidity positions, the companies will have distinctive

working capital requirements in production process. According to Arnold Glen, 2008,

Corporate financial management, 4th edition, working capital policy is classified into

three types such as conservative policy, aggressive policy and moderate policy.

Conservative policy

Through the conservative policy, the companys fixed assets and major parts

of current assets are financed by long-term fund and the company will hold the excess of

cash and inventory as well as a minimum amount of current liabilities. As a result, in the

conservative policy, the level of working capital is high. In 2009, the study of

Paramasivan and Subramanian revealed that a company can establish the financial

strategy which fits the expected life of asset with the source of funds increased to manage

business successfully under this approach. Although the company can decrease the risk

by diminishing the current liabilities, it still has the side- effect on its profitability due to

higher interest rate of long-term debt. Therefore, this policy is considered as the low risk-

low return strategy. Because it may prevent financial distress generated by the shortage of

funds to finance short-term liabilities, but it also lessens companys profit and raises the

cost of financing.

Aggressive policy

Under the aggressive policy, the company will finance all current assets and

some parts of fixed assets with the short-term debt and also minimize the investment in

current assets. Since the interest rate of short-term debt is relatively lower than long-term

debt so it can enhance the higher return by reducing cost. However, it also exposes the

substantial risk if the short-term interest rate varies unpredictably or the current cash

inflow is not sufficient to cover the current liabilities (Weston and Brigham, 1977,

p.716). Besides that, with aggressive approach, the company will reserve the minimum

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level of inventory in other to decrease the expenses related to carrying inventory.

Therefore, the company can gain more profit but there is existence of the risk that is the

stock out situation. More important, its sale will be missed because of the lack of

inventory, particularly in retail industry. For this approach, the level of working capital is

low and it results in high return that is corresponded with high risk.

Moderate policy

The above approaches have own advantages and disadvantages; in some case,

the company cannot increase the current assets to against the current liabilities followed

the conservative policy or decrease the current assets to against the current liabilities

followed the aggressive policy. Obviously, the moderate policy is not only the

harmonious combination of conservative policy and aggressive policy but also adjusts the

balance of risk and return. In this policy, the short-term assets will be financed by short-

term liabilities and the fixed or permanent assets will be financed by long-term funds.

Within this policy, the companys current assets are matched effectively with the current

liabilities. As it helps manager determine the reasonable level of working capital in other

to decrease the default risk and ensure the operational business. Consequently, the

moderate policy is associated with moderate risk and moderate return as well as fit with

companies in the high volatility context.

Gardner et al, 1986; Weinraub and Visscher, 1998 concluded that the more

aggressive policy company uses, the higher risk and return are in regard to high working

capital. While high availability of cash and inventory under conservative policy lead to

lower risk and return. As a result, the company will set up the suitable working capital

policy which is dependent on the business context to find out an appropriate demand

level of working capital in running the business.

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2.3 Determinants of working capital requirement

In recent years, there are many empirical studies conducted to explore the

working capital subject like Lamberson, M (1995); Moussawi, Laplante and Kitschnick

(2006); Appuhami,B (2008); Melmet, S. and Eda, O. (2009); Owusu- Frimpong and

Martins (2010); Babatunde and Laoye (2011); etc. So the working capital subject is not

only an interesting study for many scholars but also contributes a major part in managing

business. However, most of studies do not research on determinants of working capital

requirement that are vital factors for making capital decision in running day to day

operation. The companys working capital requirement is decided by multiple factors

which are unique for each company and alter from time to time. In the study of

Financial management, Paramasivan and Subramanian (2009) and the study of

Working capital management, Ramamoorthy (1976) reviewed the preceding studies

that pointed out the determined factors affecting demand of working capital. Specifically,

it is classified categorized into two groups like internal factor that needs for own business

concern like nature and size of company, sales growth, financial leverage, operating

cycle, the companys profitability and external factor that can not be administered by the

internal management like the level of economic activity.

Nature of business

Generally, each company always has the representative business nature so the

working capital requirement is also determined differently from company to company as

well as from industry to industry and depends on the strategy that owner and manager

have directed for the development of business. Particularly, trading and financial firms

invest less in fixed asset and require a large amount of working capital since they must

conduct their business in the way of storing stock in trade, receivables and liquid cash.

Similarly, the retail stores contain a great amount of inventory to meet customers need,

manufacturing firms will have to hold more money as working capital and invest in fixed

asset. On the contrary, the public utilities need less working capital and more finances in

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fixed asset. In 2006, Pandey stated that the working capital requirement of public utilities

is normally small because they just provide service and cash sales rather than making

product so there is no fund related to receivables and inventory. Therefore, depending

upon the business manner, the working capital requirement can vary in different ways to

support the business process successfully.

Size of business

The prior studies have researched that size is one of the factors determining of

working capital. In particular, the study of Padachi (2006) conducted on small industrial

firms in Mauritania figured out that the large firms as well as small firms do stress the

working capital. Especially, the working capital takes a considerable role for operation of

small firms because small firms commonly have to contain a high amount of current

assets, less liquidity, volatile cash flow and high dependence on short-term financing.

Moreover, some researcher such as Chiou, Cheng and Wu (2006); Hill, Kelly and

Highfield (2010) had found that there is existence of the positive relationship between

size and working capital requirement. In fact, size is gauged in term of scale of operation.

Under the same kind of business, two firms will have diverse working capital needs that

are based on scale of operation or the level of business activity. The greater scale of

operation the company has, the more working capital it requires. However, in some cases,

small firms still need high level of working capital because of the obstacles getting long-

term funds, high overhead expenses, the shortage of resource. For that reason, size of

business will specify the working capital requirement of company.

Operating cycle

In general, the operating cycle is defined as the length of time from

companys purchase for raw materials, processing into inventory to receiving cash from

selling final goods to customer. The length of operating cycle may be long or short and

depends on the nature of business. In most cases, the companies always want to keep the

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operating cycle as the short as possible for numerous objective reasons, but in some

industries, the long operating cycle is the natural standard. For example, the companies

which produce the consumer products such as shampoo, soap, toothpaste, etc or food

products have the short operating cycle. In contrast, the companies which produce the

luxury products like car, jewelry normally have the long operating cycle. Moreover, a

short operating cycle also means faster return on investment for the companys inventory

while a long operating cycle will make more level of inventory bound with funds.

Consequently, the requirement of working capital moves in the positive direction with the

length of operating cycle. The longer operating cycle is, the more working capital

company demands. And this also implies that the higher inventory cost company incurs

and the more opportunity cost company loses because of the unavailability of investment

fund.

The sales growth of business

In most cases, every company has its own sale growth nature which varies

over time and affects appreciably the firms survival and development. During a year,

the companys manager will have various oriented strategies to expand operational

business by investing in current assets and fixed assets so the capital expenditures also

increase in the regard to the sale growth of business. Correspondently, the company will

require more working capital and the need of fund also changes from time to time.

Although there is no explicit regulation that verifies the specific number of relation

between the increase of sale level and capital needs, the company should create a

provision of working capital to keep up the expansion of production and sale growth. For

instance, the technology industry normally requires large amount of working capital to

support its sale expansion since it belongs to the growth industry and the investing capital

in technology spends a huge amount of money. To achieve the success, the rising of sale

capacity is an important aspect in enhancing the companys profitability. As a result, it

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would not be denied that the growth of sale and working capital requirement move in the

positive direction.

Financial leverage

In business term, financial leverage is the degree to which a company borrows

money from outside to finance its business. Overall, the financial leverage helps company

to get fund resource for its growth and spending or even gain the tax shield associated to

borrowing. However, if company borrows lots of money and cannot afford to repay debt,

it will lead to the financial distress and the risk of insolvency. There is no steady relation

between financial leverage and working capital requirement in the substantial theoretical

framework undertaken. Nonetheless, from the previous empirical studies (Chiou et al,

2006; Nazir and Afza, 2009; Taleb et al, 2010; Olayinka, 2012), they concluded that the

leverage is negatively related to the working capital requirement. Therefore, in this case,

there would be the negative relationship between the financial leverage and working

capital requirement. Since the companies with high leverage would be inclined to require

lower level of working capital and employ less amount of current assets on their

operation as well as focus on the efficient of working capital management to avoid

binding much capital with inventory and account receivables.

The profitability of company

Another determinant, when it comes up with the profitability, the working

capital requirement and the profitability of company have the linear relation. When a

company has more profit which can imply that the company is running its business in the

favorable direction and has attained the prosperous position in the market so the company

should expand its capacity of production to create more products in meeting customers

need. Furthermore, the trade credit to customers is also enlarged by the plans of

company. As a company needs more funds for investing and financing, it will result in

higher working capital requirement. Or in another word, the more profitability company

16

has, the more working capital it requires. In addition, Shin and Soenen (1998); Petersen

and Rajan (1997) stated that the negotiation power with the suppliers has been

consolidated stronger for company with more profitability and the liquidity problem will

be got better through the competitive advantages of company. On the other hand, the

study of Deloof (2003) has confirmed that when there are more resources invested in

working capital for supporting high profitability, the company may lose the more

opportunity costs of investment in the potential projects. Despite of inconclusive studies,

from the empirical evidences, the study will expect the positive relation between the

working capital requirement and the profitability of company.

The level of economic activity

Most of firms performance usually relies on the change in demands of

customer for its goods and services. The changes in economic circumstances will have

the impact on the companys operational business. As a result, the working capital

requirement is also affected by the level of economic activity or business fluctuation.

Generally, the level of economic activity will go through two directions like upswing and

downswing. In the upswing of economy, the firm may experience the increase of sales

that leads to the increased investment in inventories, receivables and book debts. In

addition, to ensure the increase of capacity, the firm should have the additional plans to

invest in fixed assets. Accordingly, it will demand more working capital to maintain these

activities. The opposite case is the downswing of economy which will decrease the

volume of sale; in turn, the working capital requirement will be less due to the shrink of

inventory and short-term borrowing. Besides that, the study of Pandey (2006) also stated

that the correlation of business fluctuation and working capital requirement takes the firm

to deal with the production dilemma. For instance, in the boom period, the increase of

sale will associate with the enlargement of production that is quite expensive for firm; in

the same way, under recession period, the firm will confront the same cost of production

17

as in the ordinary period and also use inefficiently the physical facilities and labor force

to keep the operational business from day to day.

In summary, these above determinants have demonstrated the major impacts

on working capital requirement of a firm. From the study, it is necessary to verify the

determinants affecting working capital requirement. When the firm wants to run business

successfully, it will be aware of the association between these determinants and need of

working capital to decide an appropriate amount of working capital for its daily

operation.

2.4 Review of empirical evidence on the determinants of working capital

requirement

To understand an important role of working capital in operating business,

there are some prior empirical studies that have researched the determinants of working

capital requirement in different countries. Particularly, in 1981, Nunn conducted the

research based on PIMS database to inspect the reason why some product lines need high

level of working capital requirement while other ones need low level of working capital

requirement. His study revealed that the recognized factors like production, sale,

competition position and industry affected the working capital requirement of the product

line perspective. In another research, Hawawini, Viallet and Vora (1986) found the

impact of industry on working capital need. Their study was researched on 1181

American enterprises over the time period of 1960-1979. The conclusion of all findings

was summarized that the industry practices and sale growth have a crucial effect on

companys investment in working capital need. Furthermore, they also suggested that

working capital policies of all firms depend on the industry performance and the

influence of these policies have been maintained stable over years.

In the Pakistani circumstance, Nazir, M.S. and Afza, T. (2008) investigated

204 manufacturing companies from 16 industries listed on Karachi Stock Exchange

(KSE) during a period 1998-2006 to point out the factors determining working capital

18

requirement. They have set working capital requirement as the dependent variable and

operating cycle of firm, leverage, growth of firm, level of economic activity, operating

cash flow, firm size, industry, return on asset and Tobins q as independent variables.

Accordingly, they concluded that the factors like leverage, operating cycle, return on

asset and Tobinq notably determined the firms working capital requirement. Then, in

2009, they also used the regression analysis on the panel data for 132 manufacturing

firms listed on Karachi Stock Exchange (KSE) during the period of 2004-2007. Their

study showed the positive relationships of operating cash flow, return on asset, Tobins q

and negative relationship of leverage with working capital requirement. However, they

did not find any statistical relationship between sale growth, firm size and the level of

economic activity with working capital requirement for the practice of Pakistani firms.

Furthermore, Amarjit Gill (2011) examined the factors influencing working

capital requirement on a sample of 166 Canadian firms listed on Toronto Stock Exchange

for the period of 2008- 2010 by applying the co-relational and non-experimental research

design. His study indicated that the operating cycle, leverage, return on asset,

internationalization of firm, Tobins q and firm size had the impacts on working capital

requirement in Canadian manufacturing industry, whereas the operating cycle, sales of

growth, firm size, the return on asset influence working capital requirement in Canadian

service industry. The research offered that the investor should have a prudent analysis of

firms before making decision about investment in debt and equity securities since

working capital requirement and working capital management differ from industry to

industry or even from country to country.

More recently, Suleiman M. Abbadi and Rasha T. Abbadi (2012) based on a

sample of 11 industrial listed companies for eight years (2004-2011) in Palestine

Securities Exchange to provide the empirical evidence of the determinants of working

capital requirement in Palestinian industrial corporations. They have used the multiple

regression techniques to test two models. The first model contained all variables,

including the internal factors and external factors that have effect on working capital of

19

Palestinian companies, while the second model excluded the external factors such as

interest rate, the economic growth and just examine the internal factors such as leverage,

operating cash flow, cash conversion cycle, profitability, firm size. On the basic of the

results of their study, there were five internal variables that were found as the significant

determinants of working capital requirement. The two external variables did not influence

working capital requirement, this specified the limited support for the straight association

between economic factors and working capital need in Palestine.

For the Asian emerging market, Asmawi Noor Saarani and FaridahShahadan

(2012) studied the determining factors of working capital need using accounting data of

285 Enterprise 50 (E50) firms for a period 2006-2008. The data were analyzed by the

Structure Equation Modeling (SME) technique of Partial Least Squares. In general, the

test confirmed the discriminated and convergent validity of construct for factors loading

and proved the representative developing model satisfactorily. They concluded that

profitability, non-debt tax shield, tangibility of assets and debt were the determinate

factors of working capital requirement for Enterprise 50 (E50) firms in Malaysia.

In one of the African cases, the study of OlayinkaOlufisayoAkinlo (2012)

estimated the determinants of working capital requirement in selected quoted companies

in Nigeria. Based on a panel data for 66 firms in Nigeria from 1997 to 2007, the three

estimations like pooled OLS, fixed effects and random effects were adopted in the study

to test the model specification. After running multiple regressions, the study found that

the operating cycle, growth of sales and size, economic activity and permanent of

working capital were the company specific behaviors positively relating to working

capital requirement but the leverage was negatively relative to working capital

requirement. Generally, the results of study implied the application of some insights from

modern finance theory in Nigeria.

20

2.5 Conceptual framework

Although there are already several earlier researches concerning determining

factors of working capital demand, the conclusive findings are different and dependent on

the country context. Hence, it is requisite to carry out the research on this subject matter,

especially in particular industries in Vietnam. All the above discussions take me to come

up with the conceptual framework for this study. The theoretical arguments and the

previous empirical studies have identified a major number of attributions about

determinants of working capital requirement. Due to the limitation and the application in

the circumstance of Vietnam, it cannot investigate all the factors determining working

capital requirement as the prior studies, instead, this study will focus and research on the

working capital policy, operating cycle, sales growth, profitability of company, financial

leverage, the nature and size of company as the internal company-associated factors and

the level of economic activity as the external macroeconomic factor. In specific, this

study will be hypothesized with the working capital requirement as the dependent

variable; the independent variables including operating cycle, sales growth, leverage,

profitability, company size, the nature of business and the level of economic activity.

Furthermore, the study will highlight the role of working capital policy in deciding

working capital need and the interrelationship between working capital requirement and

working capital policy that create more plentiful features for this study. Firstly, the

operating cycle involves the sum of days in inventory and days in account receivables so

if the company operates business in the industry which has longer operating cycle, it will

need more working capital to keep up day to day operation. Secondly, when the company

has the increase in its sales business over year, this also proves the companys growth

that is responsive to the accumulation of working capital in market. Thirdly, the size of

company influences on the overall working capital requirement; depending on the

industry and size of firm, each company will have different needs of working capital.

Fourthly, the financial leverage is considered as the financial debt ratio which determines

the relationship between the external financing and total assets of firm. Next, if the

21

company operates with short operating cycle, decrease in sales growth, small scale of

operation or high leverage, it might follow the aggressive working capital policy since it

demands a lower amount of working capital requirement and the company will invest less

in current assets as well as maintain the availability to pay short-term liability at maturity.

The conservative working capital policy, on the other hand, is adopted and working

capital requirement is high when the company operates with long operating cycle,

increasing in sales growth, large scale of operation and less leverage because it does not

ensure the future cash inflow and the company must put more investment in liquid assets.

Then, the nature of business has significant impact on working capital requirement and a

company with its own behavior needs different level of working capital. For example, the

manufacturing companies normally have higher level of working capital requirement than

public utility companies. Finally, when there is the upswing of economic activity, the

sales will be enhanced that makes the company require more working capital. Therefore,

the below model can be my summary about the expectation of deciding factors of

working capital requirement of companies listed on Ho Chi Minh stock exchange (Hose)

in Vietnam.

22

+

+

+

+

-

-

+

Figure 2: The expected determinants of working capital requirement of companies

listed on Hose in Vietnam

Operating cycle

(Sum of inventory days and account receivable days)

Sales growth

(Annual percentage change in

sales)

Firm size

(Natural logarithm of total assets)

Financial leverage

(Total debts/equity)

Working capital requirement

(Current assets current liabilities)

The nature of business

(Industry dummy)

The level of economic activity

(Year dummy)

Profitability

(ROA)

23

From the above conceptual framework, the study will be researched with the

following hypotheses:

H1: The size of company will be positively related to working capital requirement

H2: The financial leverage will be negatively related to working capital requirement

H3: The profitability will be positively related to working capital requirement

H4: The operating cycle will be positively related to working capital requirement

H5: The sales growth will be positively related to working capital requirement

H6: The nature of business will be related to working capital requirement

H7: The level of economic activities will be related to working capital requirement

24

CHAPTER III

METHODOLOGY

The third chapter begins with the procedure of doing this study, then the

research data, model specification and variables selected in the study. Methodology with

different analysis techniques used to find out the significance of study.

3.1 Data

Data for this study will cover 265 companies listed on Hose in Vietnam.

However, due to the distinctive traits, there are 16 financial companies such as banks,

credit union, insurance companies and foreign-owned companies excluded from this

study. The secondary data used in the study are constructed from information collected

from companys financial statements during a period 2007-2012. And the data source is

got from Vietcombank Securities (http://www.vcbs.com.vn). In addition, the financial

statements of companies listed on Hose have been audited by reliable audit firms and

approved by State Securities Commission of Vietnam (SSC). Therefore, it will ensure the

credibility of the data.

3.2 Model specification

The nature of study is to find out the determinants of working capital

requirement of companies listed on Hose so this study utilizes the data into a panel data

set which is the combination of the two-dimensional data, including individual company

dimension (cross section) and the time dimension (time series). The panel data is a useful

method to research the quantitative data due to several reasons: firstly, it will help to

http://www.vcbs.com.vn/

25

remove heterogeneity and minimize bias from the time-invariant omitted variables or

unobservable individual company-specific effect. Secondly, because of blending both

time series and cross section observation in panel data, it results in more informative data

points, the increase of degree of freedom as well as the decrease of collinearity among

dependent variable and independent variables. Thirdly, the intricate behavioral effects are

studied efficiently by panel data such as adding the dummy variables into the model

specification for individual disparities between the cross section and time variant. In this

case, the panel data will be analyzed quantitatively through the regression analysis to

estimate the model and show the industry and year effect on determinants of working

capital requirement.

3.3.1 The model specification

From the conceptual framework, the time - varying independent variables of

the study include the operating cycle, the sales growth, firm size, leverage, profitability,

the nature of business and the level of economic activity. Therefore, the model

specification for this study is:

WCRit = 0 + 1SIZit + 2LEVit + 3ROAit+ 4OPCit +5SGRit + 6INDUSTRYit +

7YEARit +it (1)

3.3.2 Measurement of variables

Equation 1 states that the dependent variable is the working capital

requirement (WCR) measured as the difference between current assets and current

liabilities. The independent variables consist of the sales growth (SGR), operating cycle

(OPC), the firm size (SIZ), the financial leverage (LEV) and profitability (ROA), the

nature of business (INDUSTRY) and the level of economic activity (YEAR).

As far as the independent variables and dependent variable are considered, the

measurements of these variables are illustrated as below table:

26

Table 1: Summary dependent variable and independent variables

Variables Abbreviation Measurement

Working capital requirement WCR

Difference between current assets

and current liabilities

Company size SIZ Natural logarithms of total assets

Sales growth SGR Annual percentage change of sales

Leverage LEV The ratio of total debts to equity

Profitability ROA

The ratio of net income to total

assets

Operating cycle OPC

Sum of days in inventory and days

in account receivables

The number of days in

account receivable ARE

(Accounts Receivable x 365)/ Sales

The number of days in

inventory INVT

(Inventory x 365)/ Cost of Goods

Sold

The nature of business INDUSTRY 1 for manufacturing industry

0 for other industry

The level of economic

activities YEAR

1 for year 2007

0 for other year

3.3 Estimation

In researching the determinants of working capital requirement of listed

companies in Hose, there are several estimation techniques like pooled Ordinary Least

Squares (pooled OLS), fixed effects and random effects.

27

3.3.1 The pooled OLS

In this approach, the heterogeneity across individuals will be ignored by the

pooled regression model. It implicitly supposes that the coefficients are the same for

individuals and there are no existences of individual or group effect among companies.

So the error terms have the same variance (homoskedasticity) and do not correlate with

the explanatory variables. Besides, the panel data takes care of the cross section effects

on companies or even on a set of group of companies. Consequently, the evaluation from

pooled OLS regression will have the biased and inconsistent results. In other to adjust

this problem, the pooled OLS should consider the exogeneity influence on the

orthogonality of variable to error term. And the fixed effects or random effects may

constitute the precise approach for panel data.

3.3.2 The fixed effects

The fixed effect model examines the individual disparities in the intercepts by

letting each individual to have its own intercept value. While the intercept value may

vary across individuals, the term fixed effect indicates that the slope coefficients are

constant across individuals. Moreover, the individual specific effect does not change over

time that is the time invariant and there is the correlation between the error component

and other regressors.

3.3.3 The random effects

In contrast to the fixed effects, the random effects estimates the error variance

to groups or times and assumes that there is no association between the individual effect

(heterogeneity) and any regressor. In this approach, the intercept and slopes of regressors

are identical across individuals and the differences among individuals or time variance

are presented in the individual explicit error, not in the intercepts. That is a reason why

the random effect model generally is called the error components model. Greene (2008:

200-201) stated that the number of parameters estimated will be decreased by random

28

effect model but these estimations are not consistent once the individual specific random

effect correlate with the regressors.

3.3.4. The Ramsey test

The Ramsey Regression Equation Specification Error Test (RESET) test is a

statistical hypothesis test in econometrics discovered by Ramsey (1969). It is normally

used to test whether there is existence of non-linear combination of fitted values which

aids to clarify the response variable. If there is any power in making clear the response

variables that is created by the non-linear combination, the model is in the mis - specified

perspective. The null hypothesis of this test is that there is no omitted variable, if the

Ramsey test rejects the null hypothesis, where the results show that the significant level is

lower than 5 percent. This implies that there has the omitted variable.

3.3.5 The Hausman test

Obviously, it is necessary to take care of the nature of unobservable individual

effect to examine the fixed effects model or random effects model which is more

appropriate and significant for the study framework. Therefore, the Hausman test is the

model specified test in econometric proposed by Hausman (1978) and is utilized by many

researchers to figure out both the theoretical and statistical basic in choosing between the

fixed effects and random effects. Under Hausman test, the null hypothesis is that the

individual effects have no correlation with any regressor in the model. And the alternative

hypothesis, on the other hand, is that the individual effects have the correlation with any

regressor in the model. Failing to reject the null hypothesis will result in favor of the

random effects model while the rejection of null hypothesis will support for the fixed

effects model. In this case, the decision of choosing the proper econometric framework is

very important for appreciating the relation between dependent variable and independent

variables. For instance, if there are the correlation of individual effect and conditioning

regressors, the evaluation of random effects will not adjust the endogeneity of

29

conditioning regressors which will give biased and inconsistent appreciation of

conditioning mean. Whereas the unobservable individual effect is taken out randomly

from given population and does not correlate with other conditioning regressor, the fixed

effects will result in consistent, but not efficient evaluation.

Data analysis will be assisted by using Stata software so the data is entered

into Stata and varied types of statistical methods will be used to produce the results for

quantitative analysis and support the rationale of study

30

CHAPTER IV

AN OVERVIEW OF WORKING CAPITAL REQUIREMENT OF COMPANIES

LISTED ON HO CHI MINH STOCK EXCHANGE (HOSE)

The fourth chapter will show the different working capital requirement among

industries, the working capital policy that an industry has managed its operation under.

Furthermore, the relationship between profitability and working capital need, the changes

between sale growth and working capital need are also explored to describe the general

picture about the business context of Vietnamese listed companies in Hose in Vietnam

from 2007 to 2012.

4.1 The working capital requirement of the industry sectors for the period from

2007 to 2012

According to the list of listed companies on Ho Chi Minh stock exchange

(Hose) by industrial classification 2011, there are actually fourteen diverse industries

which are based on Hoses standard about industrial classification. However, to utilize

data effectively, this study has been constructed through the major industries which have

large samples, including manufacturing; construction; whole sale and retail trade;

transportation and storage; real estate activities; service and the industries which have

small samples, including agriculture, forestry and fishing industry; information and

communication industry; mining and quarrying industry, are classified into the other

industries. As presented in the previous section, working capital requirement of each

company is measured by the difference between current assets and current liabilities. To

31

decrease the impact of company size, the measure of working capital requirement was

deflated by total assets. The detailed data (the data in Appendix 2) about working capital

requirement of the industries during a period 2007-2012 has been reported by the below

figure to clarify the alteration of working capital requirement among various industry

sectors

Figure 3: Working capital requirement of the industry sectors from 2007 to 2012

Overall, during 6 years, there is not existence of abnormal changes of working

capital requirement within one industry. The working capital requirement of each

industry is distinct in which real estate activities industry; manufacturing industry and

other industries required highest working capital whereas the services industry;

32

transportation and storage industry required the lowest working capital. This difference

partially has been given details in the review of related literature and has also supported

for the reason why each companies with typical nature of business has different working

capital requirement. Since real estate activities industry, manufacturing industry and other

industries which consist of agriculture, forestry and fishing industry; mining and

quarrying industry; information and communication industry have a greater need for

capital intense assets and longer operating cycle. Especially, the real estate activities

industry contains more unsold inventory in its stock over years, it naturally need largest

amount of working capital. On the other hand, the services industry invests less in current

assets, firstly because of the nature of cash transaction and secondly because of the

operational sales of service activities. Additionally, the transportation and storage

industry mostly invests more in fixed assets rather than the current assets.

Besides, within one industry, working capital requirement has also changed

over year. Generally, working capital requirements of most industries in 2007 and 2010

were higher than other years. This may be explained by the facts that these two years

were the times of starting up and development the business of many companies or the

companies have incurred the influence of economic crisis during this period. Therefore,

the companies must require more working capital to support their enlargement or sustain

their business in the difficult circumstances. In addition, working capital requirement of

manufacturing industry; whole sale and retail trade industry; services industry slightly

varied from 2007 to 2012 compared to other industries. Based on the character of

business, these industries must hold a stable working capital for the following reasons:

firstly, these industries have the steady demand over year so they have to maintain their

operation at the constant level to ensure meeting customers demand; secondly, to rush up

the competition among companies, the guarantee of availability of goods is very

important especially in whole sale and retail trade industry.

33

4.2 Working capital policy

Figure 4: Working capital policies of the industry sectors, 2007- 2012

To correspond with the working capital requirement, each industry also has

different working capital policy. Weinraub and Visscher (1998) figured out the issue of

conservative and aggressive working capital policy through ten different industry groups

in American companies. They concluded that the working capital policy for each industry

was unique and displayed significant constancy over time study period. A company may

follow the conservative working capital policy with high level of current assets as the

percentage of total assets for investing decision or low level of current liabilities as the

percentage of total liabilities for financing decision.

34

In this study, working capital policy is classified into 2 main policy sectors

that are (1) aggressive working capital policy, (2) conservative working capital policy.

And to get a concrete insight of working capital requirement and to point out which

working capital policy each industry has operated, the working capital policy was

analyzed by calculating the ratio of current assets to total assets. As referred to the review

of related literature, the aggressive working capital policy has resulted in investing less in

current assets versus fixed assets and in using high amount of current liabilities which

exposes the liquidity on risk. That also means that the industry which has the lower ratio

of current assets to total assets and higher ratio of current liabilities to total liabilities has

run its business with aggressive working capital policy. In contrast, with the conservative

working capital policy, the industry holds large level of capital in current assets with the

opportunity cost of a smaller amount of profitability that results in higher ratio of current

assets to total assets and less level of current liabilities that results in lower ratio of

current liabilities to total liabilities.

The result shown in figure 4, during period from 2007 to 2012, most of

industries listed on Hose have operated their business under the conservative working

capital policy. Because they have had the ratio of current assets to total assets over

average number 0.5. And there are only two industries such as transportation and storage

industry; services industry which have had the ratio of current assets to total assets below

average number 0.5 have operated their business under the aggressive working capital

policy that are depicted by two depression points in the figure 4. These two industries

also have the lower working capital requirement than different industries which is

illustrated in figure 3.

35

4.3 The relationship between working capital requirement and profitability of

the industries

Figure 5: The relationship between working capital requirement and profitability

of listed companies in Hose from 2007 to 2012

According to figure 5, there is the existence of relationship between working

capital requirement and profitability. The industries like real estate activities industry;

manufacturing industry; other industries have high level of working capital requirement

in accordance with the conservative working capital policy. And the industries like

service industry; transportation and storage industry have low level of working capital

0

0.05

0.1

0.15

0.2

0.25

0.3

0.35

0.4

Relationship between working capital requirement and profitability

WCR

ROA

36

requirement in accordance with the aggressive working capital policy. As a result, over 6

years, the other industries have the highest profitability which is measured by return on

asset (ROA). Since the other industries, including the agriculture, forestry and fishing

industry; mining and quarrying industry; information and communication industry, have

contributed significantly to Vietnamese economy. As Vietnam is a developing country in

Southeast Asia, the national economy has been increasing to become a top agricultural

exporter and attracts many foreign investors. For recent years, the agriculture, forestry

and fishing industry has played critical role in rising of national economy;

simultaneously, it is considered as the shelter in the downswing of economy. In 2012,

the agriculture, forestry and fishing industry kept on being the bright point in the context

of Vietnamese economy with the production value increased to 3.4%. Moreover,

manufacturing industry; information technology and high-tech industries have

contributed to a fast growth for economic enlargement. Although the services industry

required the lowest working capital from 2007 to 2012, it had the third highest

profitability. In the past six years, the development of services industry had outweighed

all other industry groups and today accounts for 37 percent of GDP. Because the services

industry has run its operation under the aggressive policy, as stated in review of related

literature, the aggressive working capital policy is considered as the high risk- high return

strategy.

The real estate activities industry, in contrast, had the highest working capital

requirement, it also was the lowest profitability industry compared to others from 2007 to

2012. In current years, the real estate market is still frozen and the commercial

transaction has not been yet improved considerably due to the difficulties of economy as

well as the psychology of customers about reduced sale price. Furthermore, the real estate

activities industry is in the ever hard state when it has got the pressure of large inventory,

the interest rate burden and the new rules about real estate activities industry are tighter

than previous time. Therefore, the real estate activities industry should have more

37

positive changes to overcome the difficulties and improve the profitability in the near

future.

4.4 The alterations of working capital requirement and sale growth over 6 years

Figure 6: The changes of working capital requirement and sales growth from 2007

to 2012

The figure 6 shown as above has pointed out the direction of changes between

working capital requirement and sales growth for a period from 2007 to 2012. The red

line denoted sales growth of Vietnamese listed companies in Hose has drastically moved

up and down over time whereas the blue line denoted working capital requirement has

moved at the reasonable degree over time. This indicates the obvious difference about

alterations of sales growth and working capital requirement during 6 years. Through the

0

0.2

0.4

0.6

0.8

1

1.2

1.4

0

50

100

150

200

250

300

350

400

450

500

2007 2008 2009 2010 2011 2012

Year

THE CHANGES OF WORKING CAPITAL REQUIREMENT AND SALES GROWTH

WCR

SGR

Billion VND

38

figure, it also implies that working capital requirement does not alter too much across

time periods but there are the obvious changes of working capital requirement across

industry sectors as presented previous. The probable explanation for this disparity might

come from the business indicators of company. High deviation in sales growth also

implied high deviation in demand and the unstable economic condition that make

company get more obstacles in determining the rational level of inventory corresponding

with sales volatility. It is hard for all companies to find the optimal way how to raise

inventory level rapidly in response to increase of sales or to reduce the inventory level in

response to decrease of sales.

Furthermore, the study of Deloof and Jegers in 1996 researched over a sample

of Belgian industrial and wholesale companies stated that there is no relation between the

sale volatility and receivables. Over time, the companies with high sales volatility

possibly get troubles in predicting dairy liquidity resource and financing that make

determining working capital requirement become more difficult. Therefore, in general,

company will not respond to the deviation of sales growth by changing working capital

requirement severely.

39

CHAPTER V

ANALYSIS, RESULTS AND DISCUSSIONS

The fifth chapter states the statistical findings after analyzing collected data in

Stata software. The descriptive statistics, correlation and regression analysis are presented

in this part. Then, it expresses to the discussion of findings and puts forward the final

outcomes about driver factors of working capital requirement.

5.1 Descriptive statistics

Table 2: Descriptive statistics result (means by year)

WCR SIZ SGR LEV ROA OPC

Total sample

Mean 315.9963 27.3121 0.671 1.7155 0.0845 404.315

Std.dev 877.7419 1.1615 6.9344 2.6716 0.0928 795.982

Means by year

2007 184.7495 26.8229 0.7124 1.6082 0.0861 300.964

2008 174.8095 27.0095 0.4859 1.912 0.0814 375.054

2009 287.0730 27.2671 0.8666 1.7517 0.0954 404.29

2010 388.1641 27.4776 1.3254 1.5092 0.0884 390.004

2011 393.1327 27.6025 0.5815 1.8424 0.0758 473.643

2012 468.0487 27.6517 0.0525 1.6601 0.0786 470.81

The descriptive statistics of the collected dependent variable and independent

variables have been shown in table 2 for 265 Vietnamese listed companies in Hose over a

40

period of 6 years from 2007 to 2012. From table 2, the statistics present that the mean,

standard deviation of total sample and means by year of all variables used in this study.

The working capital requirement variable has a mean value of 315.9968 billion VND.

The value of working capital requirement deviates from mean to both sides by 877.7419.

Moreover, the working capital requirement had highest mean value in 2012 and lowest

value in 2008. In general, the positive and high value of working capital requirement has

implied that during a period of 2007-2012, the listed companies in Hose tended to operate

their business under the moderately slack policy relating with working capital need.

The size of company is measured by the natural logarithm of total assets. The

mean value of size is 27.3121 whereas the standard deviation is 1.1615. On average

company size was increasing with the length of time from 2007 to 2012 that had

increased respectively from 26.8229 to 27.6517.

During 6 years, the average values of sales growth have varied appreciably,

ranging from the minimum value 0.0525 in 2012 to the maximum value 1.3254 in 2010.

This may probably be caused by the change of Vietnamese real GDP growth and the

increase in oil price. Since the change of real GDP can reflect the change of company

production over year and the increased oil price might influence on customers

consumption.

Furthermore, the leverage which is measured by the ratio of total debts to

equity has mean value 1.7155. This also indicates that most of companies listed on Hose

from 2007 to 2012 possibly have operated their business with high debt. As long as

profitability is concerned, the average profitability measured by ROA was approximately

8.45 percent with the standard deviation of 0.0928 which was quite high during this

period. Additionally, both leverage and profitability had a tendency to be stable over

years.

The operating cycle is considered as the proxy to state the length of time from

purchase the raw material to receiving money for selling final products. In this case, the

companies must take an average 404 days from initial process to collect payment against

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sales with the standard deviation of 796 days. From 2007 to 2012, the means value of

operating cycle did not alter notably which shows the steady credit policy among

companies.

5.2 Correlation statistics

Table 3: Pearson correlation coefficient

SIZ SGR LEV ROA OPC

SIZ 1

SGR 0.0195194 1

LEV 0.1354120 -0.0168812 1

ROA -0.1189578 -0.0195530 -0.3029658 1

OPC 0.1321511 0.0645634 0.0311131 -0.1697503 1

Theoretically, the definite strength and direction of association between the

different variables are verified by the Pearson correlation analysis. From the correlation

matrix, it represents the outcome of correlation coefficients among independent variables

which consist of comprise size, sales growth, leverage, profitability and operating cycle.

In the bivariate distribution, when independent variables have the cause and effect

relations, they will have strong correlation which leads to the multicollinearity between

variables. Since the intention of this study is to find out the determinants of working

capital requirement of listed companies in Hose; if there is the existence of

multicollinearity, it will distort the results of regression analysis. The result from table 3

indicates that the correlation coefficients of independent variables used in the study are

not sufficiently high to cause the multi-collinear problem among independent variables.

Therefore, the multiple regression analysis was used later to investigate the fundamental

consequence between dependent and independent variables.

As examined the table 3, the result has demonstrated that there are some

correlation coefficients that have higher degree than others. The correlation matrix also

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showed the leverage has correlated negatively with the profitability of companies

(0.3029658), when the companies operate with more leverage, the possible

rationalization is that the companies must pay more interest for their debt that will shrink

the profitability. Although the companies can get the tax shield with more borrowing,

they have to find the effective solution in avoiding financial distress rather than focusing

on running business which may make the disruption of operation and sales lost.

Furthermore, the negative relation between the operating cycle and profitability of

company (0.1697503) was existed. Since there was the higher inventory cost and more

opportunity cost in accordance with the longer operating cycle. As a result, the more

operating cycle company has, the lower profit company has attained in running operation.

Due to the crisis of economy over recent years, the companies may not use their

profitability to re-invest in assets for the increasing in scale of operation or when the

companies have experienced the growth process, they will incur the hidden costs of

growth which have made the size of companies correlate negatively with their

profitability (0.1189578). On the other hand, there is positive relationship between size of