Optimalization Profitability through Working Capital Management and Capital Structure: Evidence from Indonesian Banking Industry 1

Optimalization Profitability through Working Capital Management and Capital Structure: Evidence from Indonesian Banking Industry 1 Titik Agus Setiyaningsih 2 Siti Hamidah Rustiana Siti Jamilah Andi M. Alfian Parewangi Abstract This paper analyze the impact of working capital management particularly working capital and capital structure on banking profitability. We apply panel estimation on monthly data over 105 banks during the period of 2003 2013, covering State-owned Bank, Foreign Exchange Public Bank, Non Foreign Exchange Public Bank, Regional Development Bank, Foreign Bank and Mix Bank. The result shows a significant positive effect of capital structure on banking profitability. The working capital also affect the banking profitability positively. These findings emphasize the importance of the third party fund for the bank, and the neeed to better manage their working capital. Key words : Capital Structure, Working Capital, Bank Performance JEL Classification: G32, C33 1 This paper is prepared for Economic Modelling Conference 16 18 July, Bali, Indonesia. Author thanks to University of Muhammadiyah Jakarta for the funding. We also thank to Bank Indonesia and EcoMod Network for hosting the conference. 2 Titik Agus Setyaningsih (Corresponding Author; tia_titik@yahoo.co.id) is a Master from University of Muhammadiyah Jakarta. Siti Hamidah Rustiana (sitirustiana@gmail.com) is a lecturer at Postgraduate Program, University of Muhammadiyah Jakarta; Siti Jamilah (sjs173@gmail.com) is a lecturer at University of Muhammadiyah Jakarta; Andi M. Alfian Parewangi (alfian.parewangi@gmail.com) is a editor on Bulletin of Monetary Economics and Banking and lecturer at Postgraduate Program, University of Muhammadiyah Jakarta.

1 INTRODUCTION The monetary crisis on July 1997 caused the banking crisis and made banking industry to plunge. Started from the Rupiah exchange value toward USA Dollar which depreciated sharply, many activities in real sector and banking which earned loan in foreign currencies experienced a difficulty to return the loan. This affected to the difficulties of liquidity on baking sector, thus, it forced banks to increase their saving interest rate for more than 70% in order to be able to attract the society s fund and to fulfill the liquidity needs. (Wardiah, 2013). At that time, there were 38 liquidated banks, 9 banks were the private national bank which followed recapitulation program and 73 private national banks which did not follow the recapitulation program (Iskandar, 2013). Therefore, the government issued a Law No. 10 Year 1998 about banking, as banking restructurization program. The Bank Indonesia as the monetary authority also constructs the Indonesian Banking Architecture as the base frame of the banking system in Indonesia, which strengthening the public bank s capitalization in order to increase the ability of bank to manage work and risk, to develop the information technology, and to increase its work scale. A good working capital management will help the firm to reach their goal on maximizing profit. Profitability is one of the measurements of the firm s performance. To draw the ability of firm to gain profit, a ratio to is used to measure it.in banking industry, the ratio to measure the ability of a bank to earn profit (profitability) is on asset (ROA) and return on equity (ROE). Some researches which focused on capital structure were Velnampy and Niresh (2012), Taani (2013), Uniariny (2012), Sri Wahyuni (2012) and Mas ud, Subroto, Salim and Sutrisno (2013). Meanwhile, researches focused on Working capital were conducted byagyei and Yeboah (2011), Raheman, Afza, QoyyumdanBodla (2010), Vourikari (2012) and Ganesan (2007). Velnampy and Niresh (2012) founded that 89% of the total assets on banking sector in Sri Lanka was funded by debt. Whereas Taani (2013) founded that net profit, return in capital employedand net interest margin influenced significantly and positively toward the total debt, and it also found that the total debt was not a significant determiner factor toward return on equity in banking industry in Jordan. In Indonesia, the research about working capital and capital structure toward the profitability in banking sector was conducted by Uniariny (2012) which found that capital

structure influence significantly toward the firm value while the intellectual capital did not influence positively toward the firm value. Marberya and Suaryana showed that the profit growth influenced toward the relation between Debt To Equity Ratio (DER) and profitability. Assessing the impact of working capital toward the banking performance becomes the background of this paper. For banking industry, the role of working capital and its management are different from any other industry. This is because the elements of working capital of banking industry are different. The need of the management of working capital and capital structure for banking industry is really important because until today, banking industry has yet to play an optimum role in the economy of Indonesia. Previous research studied more on manufacturing industry with little samples. Whereas the samples use by the researcher are for about 105 conventional public banks which operate all over Indonesia and has been registered on the website of Bank Indonesia. The writer hopes that this paper can give reference on management of working capital, capital structure, and profitability in banking industry in Indonesia. The next of this paper outline capital structure, working capital, profitability and the role of external toward Firm, section three metodology, section four analyses and discussion, section five conclusions and suggestion. 2 THEORETICAL FRAMEWORK 2.1 Profitability In general, profitability is used to measure firm performance ratio management activity comprehensively based on the amount of earned profit as returning of capital working, sales, and investment, expressed in percentage. Profitability can describe how well company prospect in maintaining life continuity and developing its business in the future. This situation assumes that company can retain its prospect in order to earn profit for lives moreover expand the brighter business. This sort of good company will attract investors to invest. Profitability ratio applied in general namely Net Profit Margin = Earning After Tax / Sales, Return on Investment = Earning After Tax / Asset in Total, or Return on Net Worth = Earning After Tax / Equity (Tampubolon, 2005 : 39). Analogue with that, 3

rentability ratio also used often to analyze or appraise endeavor efficiency level and profitability achieved by the relevant bank. (Dendawidjaya ; 2001 ; 119-122).The Rentability ratio commonly used is Return on assets (ROA), measured the ability of bank management related to gain profit and Return on Equity (ROE), which constitutes as important indicator for stock holders and investor to determine bank proficiency concerned with competence of earning after tax linked to dividend pay out. Another rentability ratio is Operational Expense Ratio, measured the efficiency grade and bank capability to conduct its operational activities. This ratio calculated as percentage of operational cost to operational revenue (BOPO). Net Profit Margin (NPM) is also rentability ratio estimated as earning after tax ratio to operational revenue. This ratio refers to bank operational revenue especially from credit provision work, which practically has several risks. There are many factors influencing the firm s profitability. Among those determiner factors, this research focuses on the influence of structure, quantity and capital management have by the financial institution bank. The next session from this chapter will discuss one by one the factors which influence the firm s performance. 2.2 Capital Structure The analysis of capital structure is one of the elements of solvability analysis, and DER is one of the indicators of the solvability. This ratio of solvability measures the ability of a bank to fulfill its long term liability or the ability of a bank to fulfill its liabilities if bank liquidation occurs (Dendawidjaya:2001: 122). In this research Debt to Equity Ratio (DER) is used as the proxy of capital structure. DER reflects the ability of firm to meet all its liabilities which are shown by some parts of its capital used to pay the debt (Riyanto, 2005). The greater Debt To Equity Ratio (DER) shows that the structure of financing relies much on relative debts toward equity. The size of the ratio of capital structure relates the component of capital structure from one to the other or with its total (Subramanyam:2010:270-271). Besides DER, the other indicators of capital structure are Capital Adequency Ratio (CAR); Long Term Debt to Assets Ratio; Total Debts to Total Capital; Total Debts to Equity Capital; and long term debt toward equity. According to Margaretha (2007:219) the capital structure presents the firm s permanent financing which consists of long term debt and capital. The capital structure is 4

the balance of the total of short term debt which is stable, long-term debt, preference stock and stock (Halim, 2007). Other definition of capital structure is that the equity financing and debt on a firm is sometimes counted based on the relative quantity as the source of financing (Subramanyam, 2010:263). The capital structure of firm is influenced by many factors in which mainly are rate interest, stability of the income, assets composition, assets risk rate, total capital needed, stock market condition, management characteristic and the firm size (Riyanto, 2001; 297-299). The capital structure of the financial institution is fundamentally different from non-financial firm, because the business characteristic or its operational activity is different. Furthermore a bank has to have buffer based on the policy or regulation of the supply of minimum core capital estimated by the monetary authority in which in this case is the central bank, so that it will be able to protect its depositor s fund (Saunders in Siringgoringo,2012). One of them is the capital structure was developed by Franco Modiglani and Merton Miller in 1958, or more known as the theory of MM. It states that the firm value depends on the future earning streams, and therefore, it does not depend on the capital structure. Modigliani and Miller built their model with assumption that every firm had the expectation of certain cash flow. When firm chose certain portion of debt and equity to finance its assets, it meant as dividing cash flow across the types of investor. Investor and firm were assumed to have the same access toward the financial market and possible them to determine the leverage. The other approach is dividend theory. This theory is also developed by Modiglani and Miller, it stated that the dividend policy did not influence the firm value, because every Rupiah of the dividend payment will lessen the retained profit used to buy new assets. Harry Markowitz (1990) proposed portofolio theory and capital asset pricing model. Portofolio theory explained that risk can be decreased by combining some types of risk assets rather by holding one type of asset only. This model, then, was developed by Sharpe, John Litner and Jan Moissin became Capital Asset Pricing Model that separately show that the level of profit signalized to certain risk assets was the function of three factors, which were (i) the non-risk Profit Level; (ii) Profit Level on Portofolio signal with average risk; and (iii) Volatility risk assets profit level. 5

Other theory about capital structure is Agency Theory. This theory is developed by Michael C, Jensen and Wiliam H. Meckling. This theory emphasized the separation between the owner and management. Agency problem arise when an individual (owner) pays an individual (agen) to perform by his name, delegates his authority to make decision to agent or its worker. Husnan and Pudjiastutik (2008) propose pecking order theory, which based on the asymmetric information, where management has more information (about prospect, risk, and firm value) than what capitalist have. Besides, Brealey and Myers (1996) in Husnan and Pudjiastutik (2008) implied that firm prefer internal financing. This is also supported by Sebayang and Putra (2013) which state that firm gives priority to internal equity financing (using retained profit) rather to external financing (publishing new stock) Those capital structures theories above are applicable for non-financial firm and also for banking industry (Marques and Santos in Siringgoringo, 2012). These capital structure theories can be the first step to analyze the performance of banking in Indonesia. If the influence of this capital structure is significant, then, probably there is the best capital structure. Empirically, there are three indicators of capital structure (i) profit before interest and tax; (ii) net profit before tax; and (iii) traditional approach, (Halim, 2007). 2.3 Working Capital Management The working capital management related to the management of current asset elements and current liabilities elements. The system of working capital management have five parts that are related each others. Bussiness Environment Management Goal Management Policy Performance Evaluation Management Mode Figure 1. Management System of Working Capital 6

Firm effectiveness in managing its working capital can be measured by using working capital turnover ratio. Working capital turnover period is started from when cash is invested in working capital components to when it is come back again becoming cash. The shorter the period, the faster the turnover. Working capital policy is a strategy that is implemented by firm in order to fulfill the needs of working capital with the alternative of funding source. Working capital policy that could be taken by firm according to Sutrisno (2012:42-44) are: a. Conservative policy; the plan for fulfilling working capital funding by using more the long term funding source than the short term funding source. b. Moderate policy; firm finances every asset with similar period with its assets turnover period. c. Aggressive policy; firm prefers to a more secured factor so that it result a really big security margin, however it will cause profitability level becomes low. The chosen magnitude of working capital refer to the turnover period or working capital period and the mean of daily cash period (Sjahrial, 2006:107). The working capital period is the period needed for a cash invested into working capital elements to be a cash again. Longer working capital period will increase the number of required working capital and vice versa. The other factors that can influence the size of working capital are the projection of daily cash needs on average and the implemented method of working capital turnover. Working capital management in service industry and manufacture are different because the elements of its working capital are different. Working capital management is the element management of current asset and current liabilities. The elements of current asset are cash, negotiable papers, accounts receivable, treasury and financing (Harjito, 2006). Services industry used as analysis unit in this research is banking. The element of working capital that is different from banking industry is treasury because banking industry result services instead of product as the last result or output. 2.4 The Role of External Factor toward Firm Profitability Industry Characteristic Based on the capital intensify, it can be divided into two; first, intensive capital industry is an industry that is built in a great number of capitals to conduct its operational activity. 7

Second; intensive capital industry is an industry emphasizing in the number of resources belong to it in constructing and conducting this industry. The industry type defines firm based on the scope of operation, firm risk and ability in facing business challenge. Industry type is measured by dividing into high profile and low profile industry. According to Novita Indrawati (2009), in general, high profile companies are firm that get attention from the society because its operational activity has potency to be touched with a wide interest. In other hand, low profile firm is a firm that does not really get a wide attention from the society whenever its operation get failed or miss in specific aspect in its process or production result (Sari,2012). Monetary Policy Capital management in banking is influenced by monetary policy. Monetary policy may influence the real economy activity and price through the real economy (Ascarya:2012). Other literatures explained by Ariccia et all (2010) states that monetary policy changes the bank supervision (risk taken measurement) which depends on the stability of interest rate, shifted risk and leverage. The direct monetary policy is commonly used by central bank or monetary authority in developing countries. Policy that is classified as direct can be in the form of credit ceiling or credit influence the operational target by central bank as monetary authority and the shapes are in the form of minimum liquidity, discount facility, open market operation (OMO), the deposit facility of Bank Indonesia (FASBI), the re discount facility which is funding facility provided by bank Indonesia for bank that need funding through rediscounting its negotiable papers. 3 METHODOLOGY 3.1 Population and Samples of Research The population used in this study was Conventional Banks listed in the publications data of Bank Indonesia during the period of November 2003 to October 2013. As such, the samples taken were around 105 conventional banks operating in Indonesia from 6 types of banks, namely: state-owned banks, foreign exchange banks, non-foreign exchange banks, regional development banks, foreign banks and mix banks. 8

Table1. the Descriptive Statistic of Mix Bank ASSET NWC EQUITY DEBT ROE DER Mean 12691236 990245 1010971 11108093 0.278349 23.7952 Median 5542661 467956.5 403043 4460898 0.090672 11.02673 Maximum 1.24E+08 20282269 17876900 1.13E+08 4.49549 294.2438 Minimum 12909-7974424 50000 67-0.60469 0.00022 Std. Dev. 18121865 2824080 1811215 16478740 0.534258 43.04028 Data source :Processed Data Table 2.The Descriptive Statistic of Foreign Exchange Bank ASSET NWC EQUITY DEBT ROE DER Mean 29034680-649504 1741041 25911342 0.170717 16.68423 Median 5368401-108125 460000 4076008 0.079458 11.69051 Maximum 4.80E+08 40622913 13313348 4.21E+08 8.011549 306.5337 Minimum 262959-7E+07 20000-107566 -0.88106-0.86978 Std. Dev. 57744014 8829741 2650985 52022722 0.359749 21.89921 Data source :Processed Data Table 3. The Descriptive Statistic Non- Foreign Exchange Bank ASSET NWC EQUITY DEBT ROE DER Mean 1355967-36861.7 143746.6 1187591 0.184031 8.789547 Median 592925-27981 92750 487464 0.032933 7.377772 Maximum 16491563 1944707 1229175 14898493 13.29888 47.04909 Minimum 186-1714443 10000-41548 -0.89522-1 Std. Dev. 2003313 212680.9 191516.8 1814716 1.023297 6.897122 Data source :Processed Data Table 4. the Descriptive Statistic of State-owned bank ASSET NWC EQUITY DEBT ROE DER Mean 2.10E+08 4982749 12828419 1.92E+08 0.211163 16.70863 Median 1.97E+08 6267184 9998432 1.79E+08 0.131921 14.08607 Maximum 6.16E+08 45584351 63935703 5.42E+08 2.024405 57.79661 Minimum 525062-38021367 48000 486432 0 1.602301 Std. Dev. 1.42E+08 11566598 7153956 1.26E+08 0.290257 10.24409 Data source: Processed Data Tabel 5. The Descriptive Statistic of BPD ASSET NWC EQUITY DEBT ROE DER Mean 9991416-1864383 460207.2 8789913 0.289176 18.17012 Median 5299636-865208 292225 4605600 0.248509 17.63283 Maximum 4.23E+08 11802909 5319778 3.75E+08 2.209267 79.72961 Minimum 214440-7E+07 12551-2413415 -0.5807-2.28277 Std. Dev. 26211305 4141143 631245.1 23705125 0.234134 7.499295 Data source :Processed Data 9

Table 6. The Descriptive Statistic of Foreign Bank ASSET NWC EQUITY DEBT ROE DER Mean 19052982 2120863 403692.4 17550508 128.2605 17400.62 Median 11657381 447412.5 140210 11209206 0.739437 274.8471 Maximum 87006417 49035837 1942569 78378989 71200.6 12561177 Minimum 285794-8175992 -8297-6049 -477.031-59285.1 Std. Dev. 19443828 6148036 597342.2 18085993 2179.459 383337.7 Data source :Processed Data 3.2 Empirical Model, Variables and Proxy The empirical model estimated in this thesis is as follows: ln ROE it =β 0 + β 1 *NWC it + β 2 * lnasset it +β 3 * DER it + β 4 * DIVit+β 5 * SIZE + β * 6 GDP it +β * 7 Inflation it +e it The dependent variable in this study is the performance of banks measured by Return on Assets (ROE). This bank performances are influenced by a range of independent variables (independent), including Net Working Capital (NWC), Debt to Equity Ratio (DER), bank size (SIZE), the diversification of income sources (DIV), and macroeconomic conditions (GDP and inflation). Table7. Variables, Operational Definitions and Indicators No Variables Definitions 1 ROE bank's ability to obtain net income attributed to the dividend payment. 2 DER bank's ability to cover part or all of its debts, both long term and short term, with funds derived from the bank 's own capital 3 NWC current assets nett of their current liabilities or short-term debts Source: Dendawidjaya (2001) Sub variables Profitability Solvability Liquidity Indicators 100 % 100 % x x Scales Ratio Ratio Nominal 10

4 ANALYSIS AND DISCUSSION 4.1 Estimation Result We estimate 4 (four) model specification, to test the sensitivity of estimation result toward the specification of model. The estimation result of these four models shown on Table 8. The Selection Test between Generalizes Least Square (GLS), Fixed Effect Model (FEM) and Random Effect Model (REM) shows that the specification of FEM is more precise relative to GLS or REM. As what have been mentioned before, variables used on those four models above include ROE or Return on Equity, DER or Debt Equity Ratio; NWC or Net Working Capital; EQTA or Equity Quality to Total Asset; LOTA or Loan to Total Asset; PRTO or Provision to Total Asset; DETA or Debt to Total Asset; NETA or Non interest Expense to Total Asset; TOPB or Taxes Over Operating Profits Before Tax; DIV or Diversification; Size or the size of Bank; INFL or Inflation; and GDP or Gross Domestic Product. This research focuses on three (3) main variables: profitability (ROE), capital structure (DER), and working capital (NWC). Generally, the performance of Model 1 and Model 3 which are measured by R- square (each is for about 99%), are better than that of Model 2 and Model 4 (each is for about1,1% and 31,78%). Model 1 and Model 3 use variable of Debt to Equity Ratio (DER) to represent the capital structure. On Model 2 and Model 4, Debt and Equity are included separately on the model, as the ratio toward the total assets of bank. 11

Table8. The Estimation Result Variable Model 1 Model - 2 Model 3 Model - 4 C 1.287653-89.90701-4.592682 9.402949 (0.669145)* 101.5718 (0.533973)* (0.578340)* DER? 0.005668 0.005668 (4.81E-08)* (5.69E-08)* 9.21E-09 NWC? 7.96E-09 1.09E-06 (1.54E-09)* 8.35E-09 (1.50E-09)* (1.27E-06)*** (1.87E-09)* EQTA? 2.202004-0.434889 (0.989936)** (0.073326)* LOTA? 0.03228 (0.006100)* PRTO? 0.02738 0.004564 (0.029598)*** (0.024902)*** DETA? -1.730145-0.406766 (0.769939)** (0.098346)* NETA? 3.394978 61.20638 8.73039 4.436916 (1.368043)* (38.19654)*** (0.345636)* (0.592147)* TOPB? 0.000477 0.001868 (0.001318)*** (0.000557)*** DIV? -0.606539 78.89704-0.591068-0.350748 (0.149493)* (102.1682)*** (0.116953)* (0.189849)** SIZE? 0.062728 0.082743 (0.013778)* (0.021830)* INFL -0.363561-11.27557 0.594322 0.290967 (0.193711)** (21.24857)*** (0.403514)*** (0.208682)*** GDP 0.119163 7.150147 0.47198 0.199536 (0.050121)* (7.225000)*** (0.040960)* (0.032628)* R-squared 0.999985 0.011889 0.999985 0.317799 Sum squared resid 946389.3 5.05E+09 9.997831 1.83E+08 F-statistic 5452356 1.296241 5452356 38.34899 (9.997831)* 0.020069 (9.997831)* (138.9384)* Durbin-Watson stat 0.507371 2.042707 0.507371 0.975631 Note: dependent variableisreturn on Equity (ROE). The number in the bracket below the coefficient shows the standard error*) significanton1%, **) significanton 5%, ***) significant on 10%. 12

4.1.1 The Influence of Capital Structure to Profitability The estimation result shows a significant influence of capital structure toward profitability of bank. Every 1 (one) percent of increase of Debt to Equity Ratio will cause the increase of banking profitability for about 0,0056 percent (see Model 1 and Model 3). This means that banking which tend to rely on external capital source in the form of debt tend to have a greater performance. On model 2 and 4, the variable of Debt to Equity Ratio (DER) is divided based on its components which are debt and equity. The estimation result shows that DETA (Debt to Total Assets) and EQTA (Equity Quality to Total Assets), in fact, cannot really explain its dependent variables because the result of R 2 are 0.011889 and 0.317799. Besides, the divide of this variable components result an inconsistent estimation result parameter toward hypothesis, in which the influence of the addition of debt capital will only decrease the performance (-1,7 on Model 2 and -0,4 on Model 4). 3 Back to Model 1 and Model 3, the estimation result gained is in a line with the research conducted by Abor (2005) in Subhita & Asawalhah (2012) which states that there is positive and significant influence of capital structure to profitability proxied by ROEon the firm listed in Ghana Stock Exchange. The research conducted by Taani (2013) on banking industry in Ghana also supports that statement. Saeed et.al. (2013) support the statement that there are significant and positive between capital structure and profitability on the banking industry in Pakistan. On the case in Indonesia, Wahyuni (2012) also finds that the capital structure (DER) has positive and significant toward profitability (ROE). From six groups of bank (Shareholder, BPD, Foreign Exchange, Non-Foreign Exchange, Mix, and Foreign), the debt of foreign banks are relatively high. The highest debt within the group of state-owned bank is Bank Mandiri, with the value of debt Rp 542.000.000 (in thousands), while the lowest one is Regional Development Bank of North Sulawesi. 3 The reason of this specification is to seen the individual influence of every source of financing of capital of bank. 13

2003M11 2004M05 2004M11 2005M05 2005M11 2006M05 2006M11 2007M05 2007M11 2008M05 2008M11 2009M05 2009M11 2010M05 2010M11 2011M05 2011M11 2012M05 2012M11 2013M05 Thousands Thousands Thousands 2003M11 2004M03 2004M07 2004M11 2005M03 2005M07 2005M11 2006M03 2006M07 2006M11 2007M03 2007M07 2007M11 2008M03 2008M07 2008M11 2009M03 2009M07 2009M11 2010M03 2010M07 2010M11 2011M03 2011M07 2011M11 2012M03 2012M07 2012M11 2013M03 2013M07 2003M11 2004M04 2004M09 2005M02 2005M07 2005M12 2006M05 2006M10 2007M03 2007M08 2008M01 2008M06 2008M11 2009M04 2009M09 2010M02 2010M07 2010M12 2011M05 2011M10 2012M03 2012M08 2013M01 2013M06 Thousands Thousands 2003M11 2004M04 2004M09 2005M02 2005M07 2005M12 2006M05 2006M10 2007M03 2007M08 2008M01 2008M06 2008M11 2009M04 2009M09 2010M02 2010M07 2010M12 2011M05 2011M10 2012M03 2012M08 2013M01 2013M06 tahun 2004M03 2004M08 2005M01 2005M06 2005M11 2006M04 2006M09 2007M02 2007M07 2007M12 2008M05 2008M10 2009M03 2009M08 2010M01 2010M06 2010M11 2011M04 2011M09 2012M02 2012M07 2012M12 2013M05 Thousands Thousand Figure1. Bank Capital based on group 100000 90000 80000 70000 60000 50000 40000 30000 20000 10000 0 Capital of State-Owned Bank 2500000 2000000 1500000 1000000 500000 0 Capital of Foreign Bank Americans Express Bank Ltd Citibank NA Bank Tabungan Negara Bank Mandiri Bank BNI Bank BRI The Bangkok Bank Comp LTD Korea Exchange Bank Danamon The Hongkong & Shanghai BC Deutsche Bank AG 45000 40000 35000 Capital of Foreign Exchange Bank 25000 20000 Capital of Mix Bank 30000 25000 20000 15000 10000 5000 15000 10000 5000 0 0 Bank NISP Bank Panin Bank Danamon Bank Niaga Bank BCA ANZ Panin Bank Rabobank International Indonesia Bank Mizuho Indonesia Bank Resona Perdania Bank Sumitomo Mitsui 14000 12000 10000 Capital of BPD 1800 1600 1400 1200 Capital of Non Foreign Exchange Bank 8000 1000 6000 800 600 4000 400 2000 0 200 0 BPD Papua BPD Kalteng Bank Jatim Bank SULUT BPD Kaltim BPD DIY Bank Yudha Bhakti Bank Ina Perdana Bank Artos Ind Bank Alfindo Prima Master Bank Figure 2 shows the capital invested by every group of banks to run its operation, the capital in this case is the invested besides debt. Maximum capital expends within the state-owned bank group which is Bank BNI on Rp 63.935.703 (in thousands). For the group of foreign bank, the biggest proportion of debt in the capital structure belongs to The Hongkong& Shanghai B.C. and Citi Bank, Deutche Bank is the third. Figure 2 illustrate the ability of the Hongkong & Shanghai BC and Citi bank on collecting thierd 14

tahun 2004M02 2004M06 2004M10 2005M02 2005M06 2005M10 2006M02 2006M06 2006M10 2007M02 2007M06 2007M10 2008M02 2008M06 2008M10 2009M02 2009M06 2009M10 2010M02 2010M06 2010M10 2011M02 2011M06 2011M10 2012M02 2012M06 2012M10 2013M02 2013M06 Thousands party fund in Indonesia, since January 2006. Starting from October 2011, the Hongkong & Shanghai BC exceeded the Citi Bank Figure2. The Debt of Foreign Bank 80000000 70000000 60000000 50000000 40000000 30000000 20000000 10000000 0-10000000 Americans Express Bank Ltd The Bangkok Bank Comp LTD Korea Exchange Bank Danamon Citibank NA The Hongkong & Shanghai BC Deutsche Bank AG 4.1.2 The influence of Working Capital toward Profitability The estimation result shows that Net Working Capital (NWC) influence positively and significantly the performance of bank, with coefficient of about 7. 96E-09. Thus, it can be concluded that the improvement of working capital for about Rp1 billion, will result an increase of ROE for about 7,9 per cent. The positive influence of this working capital is supported by Agyei &Yeboah (2011) which state that the elements of working capital influence significantly and positively the profitability of the banking industry in Ghana. The research conducted by Raheman, et al (2010) also supports that elements of working capital influence positively and significantly toward the manufacturing sector in Pakistan. However, the research conducted by Ganesan (2007) states that working capital influence negatively and insignificantly toward the profitability of telecommunication firm. This is supported by the research conducted by Saghir, et al (2011) on textile firm in Pakistan that there is a negative but significant relation between the elements of working capital and profitability. As the illustration, on the group of state-owned bank, the biggest working capital of state-owned bank belongs to BRI which is Rp1,43x10 8. Seen from figure 3 and 4 the 15

2003M11 2004M02 2004M05 2004M08 2004M11 2005M02 2005M05 2005M08 2005M11 2006M02 2006M05 2006M08 2006M11 2007M02 2007M05 2007M08 2007M11 2008M02 2008M05 2008M08 2008M11 2009M02 2009M05 2009M08 2009M11 2010M02 2010M05 2010M08 2010M11 2011M02 2011M05 2011M08 2011M11 2012M02 2012M05 2012M08 2012M11 2013M02 2013M05 2013M08 Thousands 2003M11 2004M03 2004M07 2004M11 2005M03 2005M07 2005M11 2006M03 2006M07 2006M11 2007M03 2007M07 2007M11 2008M03 2008M07 2008M11 2009M03 2009M07 2009M11 2010M03 2010M07 2010M11 2011M03 2011M07 2011M11 2012M03 2012M07 2012M11 2013M03 2013M07 Thousands assets and liabilities on state-owned banks, bank mandiri greater than the value of their assets bank bri, in terms of current debts when seen in the figure also shows the bank mandiri debts greater than other similar banks. But the graph in Figure 8 shows that working capital Bank BRI better than Bank Mandiri in terms of working capital management. On November 2003 working capital Bank Mandiri has shown a great value compared to Bank BRI, December 2005 to October 2010 Bank Mandiri working capital and Bank BRI almost the same but after that Bank Mandiri increased working capital compared to Bank BRI more stable. Adequate working capital make the firm to survive during crisis, besides to meet up its current liabilities on time. 700000 Figure3. The Graph of Assets of State-owned Bank 600000 500000 400000 300000 200000 100000 0 Bank BRI Bank Mandiri Bank BNI Bank Tabungan Negara 600000 Figure4. The Graph of Debt of State-owned bank 500000 400000 300000 200000 100000 0 Bank BRI Bank Mandiri Bank BNI Bank Tabungan Negara 16

2003M11 2004M02 2004M05 2004M08 2004M11 2005M02 2005M05 2005M08 2005M11 2006M02 2006M05 2006M08 2006M11 2007M02 2007M05 2007M08 2007M11 2008M02 2008M05 2008M08 2008M11 2009M02 2009M05 2009M08 2009M11 2010M02 2010M05 2010M08 2010M11 2011M02 2011M05 2011M08 2011M11 2012M02 2012M05 2012M08 2012M11 2013M02 2013M05 2013M08 Thousands Figure5. The Graph of NWC of State-owned bank 200000 150000 100000 50000 0-50000 -100000 Bank Tabungan Negara Bank Mandiri Bank BNI Bank BRI Picture 6 shows the dynamics of working capital of state-owned bank, where the net working capital of Bank Rakyat Indonesia tends to be more stable relative to other bank on the group. This is supported by Picture 4 and 5 where the assets of BRI experience an increase for the last 10 years; therefore BRI can cover his current liability, even the debt of this bank also increase. Thus, the indicate of the liability is balanced by the increase of its current assets, and even though its current liability goes up, the management of Bank Rakyat Indonesia can manage its working capital so that it can save its adequacy of working capital. 4.1.3 The Impact of External Factors on Profitability Based on table 8 of estimation result, showing that SIZE (the bank size) has a positive and significant influence on the model 3 and 4. It means that the greater the bank size the greater the bank profit and vice versa. This statement is propped by Omar and Mutairi (2008) assert that the bank size has positive effect. Moreover the researchers who support this analysis result are Akhavein, Berger & Humhfrey, 1997; Bourke, 1989; Molyneux & Thornton, 1992; Bikker & Hu, 2002; Goddard, Molyneux & Wilson, 2004 in Sufian & Chong (2008). Whereas the research conducted by Athanasoglou et.al. in Omar & Muatiri (2008) states that SIZE of bank does not affect on profitability. On table 8 indicates that GDP has positive and not significant impact on model 2, on the other hand model 1, 3, and 4 have positive and significant effect. These things are driven by study of Sufian & Chong (2008) that do research on banking in Philipines and 17

also Roman & Danileteu (2013) executes case study on Romania banking which supports model 1,3, and 4. Roman & Daniteleu research (2013) describe that GDP variable affects positively and significantly at 1 % on profitability of Romania banking. Picture 12 shows GDP graph that increases during research period from 2003 until 2013. This thing represents that economic growth in Indonesia has increased from year to year and turned out to be a positive impact on the profitability of banks in Indonesia. The research result illustrates graph of fluctuate inflation movement from 2003 until 2013, i.e. in 2004 there is president election induces inflation increase from 0.36 in March becomes 0.97 and 0.88 in April and May. The sharp Inflation fluctuation increase occurs in 2005, which amounted to 17.11%. This year, the President of the Republic of Indonesia established the reduction of subsidies for fuel oil so that the price of fuel has increased. In May year of 2006 there was an earthquake in Central Java and Jogjakarta, so that inflation increased from 0.05 in April to 0.37 in May. Fluctuations occurred in 2008 because of the global crisis ensued in the United States that ultimately affect the exchange rate of Rupiah against Dollar. Based on the estimation results of external factors variable, it can be concluded that GDP variable effect on profitability which is supported by former research on banking sector in various countries, as Philippines, Romania, Pakistan, Ghana, and Tunisia. Most research conducted in several countries showed GDP variable is economic growth variable in a country influence positively and significantly to profitability. 5 CONCLUSION The aim of this research is to find out the influence of capital structure and working capital toward the profitability of banking industry. By the samples of research are 105 conventional banks listed in the website of Bank Indonesia. The result of the research concludes that the capital structure proxied by Debt to Equity Ratio (DER)gives a positive and significant impact toward the variable of Return On Equity (ROE),which means that the greater fund from debt (Debt to Equity Ratio), the greater profitability(return On Equity). This occurs because most of the capital used in banking industry is debt or the third-party fund. And also the working capital which is proxied by Net Working Capital (NWC) results a positive and significant influence toward variable Return On Equity (ROE).This shows that the greater the value of Net 18

Working Capital, the greater profitability (ROE) of banking industry, which means that the management is successfully managed the elements of working capital to have faster turnover. Based on the results of the estimation of the variable Gross Domestic Product (GDP) showed a positive and significant impact while the Inflation variables (INFL) showed insignificant influence on almost all models tested so that it can be concluded that external variables affect the profitability of variable is GDP. It is hoped that banking industry pays attention to its capital management and to improve its management and supervision on current assets and current liabilities in an effective and efficient way to create a fast capital turnover so that it can improve its profitability. Moreover, the fund source from debt is also needed to be noticed so that banking will not experience a financial difficulty abd it can meet up its short-term and long-term liability. For the next research, it is hoped that it can make different model of variation so that more external variables influence profitability are known and it can add more samples number because in this research there are still many Islamic banks which have yet to be included as the sample of the research. 19

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