What is net working capital?

Definition

Net working capital is a reading of operating current accounts: receivables and inventory minus payables. Cash and short-term debt are left out on purpose so the number shows what the work itself is tying up.

On the books, this is not a separate ledger account. It is a combination of accounts receivable, inventory, and accounts payable.

A landscape crew with cash in checking still computes this slice from the other three balances. The cash is real, but it is not part of this operating need.

The usual working-capital figure includes cash and short-term debt. This page stays on the version that strips those out.

Where it shows up

Balance Sheet: Related to receivables, inventory, and payables, with cash and debt left out.

Cash flow: Related to how much cash those operating accounts are tying up.

P&L: Related to sales and purchases already in those accounts.

See also: Working Capital · Changes In Working Capital · Cash Conversion Cycle

When you look at the Balance Sheet, you will not find a line with this name. You add receivables and inventory, then subtract payables.

Current assets include cash, which this reading leaves out. Current liabilities can include a credit line, which this reading also leaves out.

The Income Statement does not show this total. Sales and purchases already sit in the three accounts that make it up.

On the Statement of Cash Flows, the cash effect of those three accounts moving is changes in working capital. This page stays on the standing operating slice, not on that period movement.

When the number is high, a lot of cash is sitting in invoices and stock relative to what you still owe vendors. When it is low or negative, vendors are funding more of the cycle than customers and shelves are.

How it works

Start with receivables and inventory. Those are operating assets that are not yet cash.

Subtract accounts payable. That is the operating liability vendors have already funded.

Leave cash out. Checking is a store of cash, not a claim on customers or a pile of mulch.

Leave short-term debt out. A draw on a credit line is financing, not an operating payable.

The result is how much of your own cash the operating cycle is using. It is a date snapshot, not a month's change.

Do not add prepaid insurance or payroll taxes payable unless your shop treats them as part of this operating slice. Most small crews keep the reading to the three accounts.

If receivables rise and payables do not, this number goes up. More cash is sitting in invoices.

If you pay vendors down without collecting, the number also goes up. You used cash to shrink payables.

Example

Ridge & Row Landscapes has $15,000 in cash, $20,000 in accounts receivable, $8,000 in inventory, and $12,000 in accounts payable. There is no short-term debt.

Add the two operating assets: $20,000 plus $8,000 is $28,000. Subtract the $12,000 payable, and the operating slice is $16,000.

The $15,000 cash is left out on purpose. Including it would answer a different question about the whole current cushion.

If a $4,000 customer invoice is collected, cash goes up $4,000 and receivables fall $4,000. This operating slice falls to $12,000, and the cash sitting in the bank is not mixed into the answer.

If the crew buys $2,000 of plants on account, inventory and payables both rise $2,000. The operating slice does not change, because the extra stock is vendor-funded.

If they pay that $2,000 bill before the plants sell, payables fall and cash falls. The operating slice rises by $2,000, which is the cash now sitting in unsold plants.

Common mix-ups

This reading is not the same as working capital. Working capital is current assets minus current liabilities, including cash and short-term debt.

This reading is not the same as the cash effect of the accounts moving. That period movement belongs with changes in working capital on the Statement of Cash Flows.

This reading is not a days-to-cash cycle. The cycle counts days between paying for inputs and collecting from customers; this page is a dollar snapshot.

Related terms

• Working Capital: Current assets minus current liabilities, showing short-term operating cushion.
• Accounts Receivable: Money customers owe the business for goods or services already delivered.
• Inventory: Goods held for sale or used to produce goods for sale.
• Accounts Payable: Amounts the business owes vendors for goods or services already received.
• Changes In Working Capital: The cash effect of movements in receivables, inventory, and payables.
• Cash Conversion Cycle: The number of days between paying for inputs and collecting from customers.
• Current Assets: Assets expected to turn into cash or be used up within one year.
• Current Liabilities: Obligations due within the next twelve months.