Working Capital Management, Liquidity and Profitability of the Manufacturing Sector in Palestine: Panel Co-Integration and Causality

Abstract

This study aims at providing an idea about the directional effect of working capital management and liquidity on profitability and vice versa. Econometric techniques of the unit root tests, co-integration, and two-step Engle and Granger method with error correction model are all applied on a panel data for 11th manufacturing firms listed in the PEX over the period from 2007 to 2012. The findings show that there is a bidirectional causal relationship between working capital management and profitability, and a unidirectional causal relationship running from liquidity to profitability. Accordingly, the paper concludes, in its attempt to investigate the directional long run relationship between gross operating profit, cash conversion cycle and current ratio, that managers should concentrate on managing working capital efficiently in order to generate cash and profits to their firms, besides mangers of profitable firms tend to manage their working capital efficiently. For policy makers, this study, confirms the necessity of future researches about efficiency of working capital management, tradeoffbetween liquidity and profitability, and directional relationship of components of working capital management on profitability. [PUBLICATION ABSTRACT]