Financial Accounting - Part 2
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Description
Description: This course enables a better understanding and interpretation ability of a company’s cash-flows and profit, different classes of assets, liquidity positions, operating efficiency.
Background: Working Capital and Liquidity – Debtors, Creditors and Inventory Day
In accounting and financial statement analysis, working capital is defined as the firm’s short-term or current assets and current liabilities. Net working capital represents the excess of current assets over current liabilities and is an indicator of the firm’s ability to meet its short-term financial obligations.
A pure accounting measurement of working capital is the difference between Current Assets and Current Liabilities (Working Capital = Current Assets – Current Liabilities).
Working capital and Business Cycle
A business cycle is a time taken for a product to be made (or brought in) then on-sold, money received and cleared at the bank. Generally, the longer the business cycle the more working capital you require.
Business Uses of Working Capital
Just as working capital has several meanings, firms use it in many ways.
the first, and most critical, use of working capital is providing the ongoing investment in short-term assets that a company needs to operate. A business requires a minimum cash balance to meet basic day-to-day expenses and to provide a reserve for unexpected costs.
A secondary purpose of working capital is addressing seasonal or cyclical financing needs. Working capital is also needed to sustain a firm’s growth. As a business grows, it needs larger investments in inventory, accounts receivable, personnel, and other items to realize increased sales.
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