Net working capital: a management formula

Net working capital firms calculate as the difference of current assets and liabilities. In the usual sense, working capital is often equated with current assets. Similarly, current assets and in the Russian balance sheet as a whole coincide with the concept of the current asset, despite the fact that accountants often identify working capital with pure working capital.

They also operate with the concept of working capital provided by operating activities. This economic category, which is also called the flow of funds received from operations, is related to the amount of non-cash costs and net profit.

Current and net current assets and liabilities

Current assets include what can be converted into money in a relatively short period of time. Current liabilities include obligations that must be repaid in the near future. In the Russian standard of accounting, one can find an explanation for such a delimitation of liabilities and assets. It is assumed that short-term and long-term values are delineated by a one-year time interval. However, in order to develop, plan and analyze financial policies, the organization often adopts its own time criteria. Everything depends on the direction of its work, the profitability of its products and its position in the market.

Less significant data criteria for companies that require a rapid turnover of funds, such as retail. And, on the contrary, for organizations with slow turnover, for example, shipbuilding, these indicators take on greater importance. A very important issue for the company is the coordination of payments on short-term assets and receipts on short-term obligations.

The internal source, which is supplemented by net working capital, is retained earnings and other accumulations, deferred or non-monetary costs, such as tax arrears, depreciation and sale of fixed assets. External sources replenishing working capital include commercial and bank short-term loans, securities issue and other loans, funds from which were not invested in fixed assets.

Net working capital: a management formula

An important task of the company's economic policy is to manage the net working capital. The reason for this lies in the fact that the net working capital - this is not entirely accurate, but still characteristic of the liquidity of the firm, its ability to fulfill obligations, guarantee the inadmissibility of bankruptcy. If the current short-term liabilities exceed the assets, we can say that the risks of the company's insolvency are significantly increased.

In addition, a large number of net working capital can speak of a significant accumulation of unpaid receivables or illiquid, unrealized stocks (current liquidity equals the ratio of current assets and liabilities). This factor is the reason why net working capital can not be an accurate characteristic of the firm's stability.
In addition, stocks, which are an important part of current assets, can be valued using different methods, as a result, the amount of working capital can vary significantly. There is some regularity that shows that an increase in working capital means both improving the wealth of shareholders, and reducing the fixed capital or raising long-term debt.

Thus, the management of net working capital should solve the problem of finding the best balance between profitability and liquidity. Typically, current assets have better liquidity, but less profitability, unlike fixed assets.