Definition
Represents the capital required by a company to fund its ongoing, day-to-day operations. It measures the difference between short-term operational assets and liabilities.
Formulas
- Basic Definition:
- Operational Definition (NWC / Operating WC): Often more practical for analysis, focusing purely on operations:
- Rationale for Exclusions: Cash is typically excluded as WC changes explain cash movements, rather than being an input. Short-term debt is excluded as it relates to financing activities, not core operations.
- Common NWC Components: Accounts Receivable, Inventory, Prepaid Expenses (Assets); Accounts Payable, Accrued Expenses (Liabilities).
Significance & Cash Flow Impact
- NWC represents the net investment tied up in the operating cycle.
- Changes in NWC directly impact cash flow and are a key adjustment in the Cash from Operations (CFO) section of the Cash Flow Statement:
- Increase in NWC: More cash is tied up (e.g., higher inventory/receivables, lower payables) → Use of Cash (subtracted in CFO).
- Decrease in NWC: Cash is freed up (e.g., lower inventory/receivables, higher payables) → Source of Cash (added back in CFO).
Analysis Use
- Monitoring NWC trends helps assess operational efficiency, liquidity management, and funding needs.
See also: Current Assets, Current Liabilities, Cash Flow Statement, Liquidity, Accounts Receivable, Inventory, Accounts Payable