Optimal Working Capital Management and Stock

Based on the working capital management trade-offs, this paper investigates the existence of an optimal point not only of the cash conversion cycle, but also of its components, which maximizes the stock returns of European listed firms. Most studies analyze the nonlinear relationship between working capital management and accounting profitability. Studies analyzing stock returns focus on a linear relationship. Therefore, this work adds new knowledge for the literature. The relation between working capital management and stock returns is analyzed with panel data models, in which the quadratic function of cash conversion cycle, or of its components (days sales outstanding, days sales inventory, and days payable outstanding), is considered to capture the existence of an optimal point. The results confirm the existence of an optimal cash conversion cycle point that maximizes stock returns. The conclusions are relevant for managers, investors, and shareholders, as they prove that firms able to efficiently manage working capital trade-offs reward shareholders with higher returns.