Financial modelling terms explained

Working Capital

Working capital is the amount of money a company has available to pay short-term obligations. Working capital is the difference between current assets and current liabilities. It includes cash, accounts receivable, inventory, and notes and loans payable.

What Is Working Capital?

Working capital is a measure of a company's liquidity and its ability to meet short-term obligations. It is calculated as current assets minus current liabilities. Current assets include cash and cash equivalents, accounts receivable, and inventory. Current liabilities include accounts payable and short-term debt.

A company with a high working capital ratio is more likely to be able to meet its short-term obligations. A company with a low working capital ratio may be in danger of defaulting on its debt.

A company's working capital can be used to finance its growth by investing in new assets or by issuing new equity. It can also be used to repay debt or to pay dividends to shareholders.

How Do You Calculate Working Capital?

The calculation of working capital is a simple process that takes into account a company’s current assets and liabilities. Working capital is calculated as current assets minus current liabilities. This calculation gives a snapshot of a company’s liquidity at a given point in time.

A company’s current assets typically include cash, accounts receivable, and inventory. Current liabilities typically include accounts payable, short-term debt, and accrued expenses.

The calculation of working capital can be used to help assess a company’s financial health and liquidity. A company with a negative working capital is less liquid than a company with a positive working capital. A company’s working capital can also be used to measure its short-term solvency.

Why Is Working Capital Important?

Working capital is important because it is a measure of a company's liquidity. It is the difference between a company's current assets and its current liabilities. A company's current assets are the assets that can be turned into cash within a year, while its current liabilities are the liabilities that must be paid within a year. A company's working capital measures how much money it has to pay its current liabilities. A company with a lot of working capital is more liquid than a company with little working capital. This means that the company can more easily pay its bills and meet its obligations. A company with a lot of working capital is also more likely to be able to borrow money and invest in new projects.

What Are Some Examples of Working Capital?

Working capital is a measure of a company's liquidity and its ability to meet short-term obligations. It is calculated as current assets minus current liabilities. A company's working capital can be used to finance its short-term operations, such as paying its employees and suppliers.

Some common examples of current assets include cash, accounts receivable, and inventory. Common examples of current liabilities include accounts payable, short-term debt, and wages payable.

A company's working capital can be increased by collecting accounts receivable faster, collecting more cash, and reducing inventory. A company's working capital can be decreased by extending accounts payable, issuing more short-term debt, and increasing inventory.

How Do You Calculate Working Capital Turnover?

Working capital turnover is a measure of how efficiently a company is using its working capital. It is calculated by dividing net sales by average working capital. This measures how many times a company's working capital turns over during the year. A high working capital turnover means that the company is using its working capital efficiently. A low working capital turnover means that the company could be using its working capital more efficiently.

What Is the Working Capital Cycle?

The working capital cycle is the time it takes for a company to convert its cash into inventory and then sell that inventory. The cycle is made up of three phases: the cash conversion cycle, the inventory conversion cycle, and the receivables conversion cycle. The cash conversion cycle is the time it takes for a company to receive cash from customers and then pay suppliers. The inventory conversion cycle is the time it takes for a company to sell its inventory and then receive payment from customers. The receivables conversion cycle is the time it takes for a company to receive payment from customers and then pay its suppliers.

What Is the Working Capital Ratio?

The working capital ratio is a measure of a company's liquidity and is calculated as:

working capital = current assets - current liabilities

A high working capital ratio indicates that a company has a lot of liquidity and can easily meet its short-term obligations. A low working capital ratio indicates that a company may have difficulty meeting its short-term obligations.

What Are the Differences Between Working Capital and Cash Flow?

There are a few key differences between working capital and cash flow:

-Working capital is a measure of a company's liquidity, or how easily it can meet its short-term obligations. Cash flow, on the other hand, is a measure of a company's ability to generate cash from its operations.

-Working capital reflects a company's current assets (such as cash, inventory, and accounts receivable) minus its current liabilities (such as accounts payable and short-term debt). Cash flow, by contrast, includes all of a company's cash receipts and payments, both short-term and long-term.

-Working capital is a snapshot of a company's finances at a particular point in time. Cash flow, by contrast, is a rolling measure that provides a more complete picture of a company's liquidity over a period of time.

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