۱- Introduction

۲- Review of theory and empirics

۳- Data and method

۴- Empirical results

۵- Conclusions

References

Abstract

Purpose – The purpose of this paper is to examine the relationship between working capital financing and firm performance for a sample of 437 non-financial Indian companies. In addition, this study examines the impact of financial constraints on working capital financing–performance relationship.
Design/methodology/approach – The study is based on secondary financial data of 437 non-financial Indian companies obtained from Capitaline database, pertaining to a period of 10 years (2007–۲۰۱۶). This study employs two-step generalized method of moments techniques to arrive at results.
Findings – Results of the study confirm the inverted U-shape relationship between working capital financing and firm performance. In addition, the authors also found that the firms that are likely to be less financially constrained can finance greater proportion of working capital using short-term debt.
Originality/value – This study contributes to the scant existing literature by testing the impact of financial constraints on the relationship between working capital financing and firm performance, representing a typical emerging market in India.

Introduction

Working capital is actually a difference between current assets and current liabilities. If the difference is positive or if current assets are more than current liabilities, then there is a need for the firm to finance its positive working capital requirement. However, the way firm finances its working capital has an impact on its performance (Baños-Caballero et al., 2016). Firms may either adopt a conservative working capital management strategy by investing larger amounts in current assets that are financed by utilizing low proportion of short-term sources of funds. This strategy allows a firm to reduce both the refinancing and interest risk at the same time this approach might force a firm to bear the high cost of liquidity. Conversely, a firm may adopt an aggressive working capital management strategy by investing smaller amounts in current assets that are financed by utilizing the high proportion of short-term sources of funds. This strategy might allow a firm to reduce its financing costs and also mitigate agency costs, however, this approach might push the firm to bear the high cost of illiquidity. Based on these arguments it can be amplified that both conservative and aggressive approach have their cost and benefits attached to it that might affect the performance of the firm. Thus, it might be expected that a firm’s need strikes a trade-off between costs and benefits while financing working capital. Accordingly, a non-linear relationship between working capital financing and firm performance might be expected, thereby emphasizing the need to study the functional form possibilities of working capital financing and performance relationship. It is thus, assertive that investment in working capital is not the only factor that affects the performance of firms, financing of working capital might also affect the performance of the firm.