Working capital has again come into focus for Indian businesses. The July manufacturing PMI, released in early August, showed Indian manufacturers rebuilding input stocks, while finished-goods inventories rose at their fastest pace in more than 11 years. Parliament has also recently amended the MSME law to address, among other issues, delays in payments. Both bear directly on a familiar corporate-finance problem – how much money should a firm allow to remain tied up in inventories, receivables and other short-term operating assets?

Working capital is central to a firm’s day-to-day operations. In simple terms, it is the money committed to inventory and receivables after taking into account short-term operating liabilities such as payables. The cash conversion cycle (CCC) measures how long that money remains tied up before sales are converted back into cash. For years, the dominant advice has been to keep this cycle lean. The intuition is easy to understand. Faster inventory turnover, quicker collection from customers, and disciplined payment management release cash that can be used elsewhere, primarily in capital expenditure.

Drawing on the same trade- off logic used in capital-structure theory, researchers later argued that firms should aim for an optimum level of working capital. Too little can cause stock-outs or liquidity stress; too much leaves scarce capital sitting in low-return assets. Studies based largely on US and European firms often found an inverted-U relationship between working-capital efficiency and firm performance, encouraging managers to benchmark themselves against an industry norm.

That prescription is harder to apply without qualification in an emerging market such as India. Indian manufacturers face operating conditions that complicate........

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