Working Capital Definition
Working Capital Definition – “A measure of a company’s day-to-day liquidity. It equals the difference between a company’s current assets and its current liabilities”.
In simple words, it is the money for carrying out the day to day operations of the company. The working capital ratio measures the short term financial performance of the firm. In addition to this, it also measures the efficiency of a firm and hence is one of the type of efficiency ratios. Efficiency in the sense that how efficiently the enterprise is using its current assets to meet out the short term debts that is current liabilities.
Working Capital Formula
W/C = Current Assets – Current Liabilities
Working Capital Example
Balance Sheet of XYZ Pvt Ltd as on 31st March 2017
|Cash and cash equivalents||60,000||Accounts Payable||30,000|
|Marketable securities||5,000||Accrued expenses||20,000|
|Prepaid expenses||3,000||Outstanding rent||5,000|
|Inventory/ Stock||17,000||Bills payable||5,000|
|Total Current Assets||1,00,000||Total Current Liabilities||85,000|
Working capital = 1,00,000 – 85,000
Net Working Capital/ Working Capital Ratio = Current Assets/ Current Liabilities
Importance of Working Capital
Without knowing the importance of working capital, it is quite difficult to understand Working capital definition. The logic behind W/C is very simple. If current assets exceeds current liabilities, it means that company can repay their short term debts. Continuation of situation ultimately leads to insolvency.
If the ratio is less than 1, it means company has negative working capital. At the same time ratio more than 2 or 2 means that company is not utilizing their assets to the optimal level.
Thirdly, it also provides a clear picture of the company’s operational efficiency. So, it is very important for the company to operate in the most efficient manner to tackle with the working capital related problems.