Working capital

The money tied up in ordinary trading. The operating version - receivables plus inventory minus payables - excludes cash and borrowings, and is the one that behaves like a use of money.

Example

Northgate's operating working capital rose from 690,000 to 990,000, absorbing 300,000 of cash during the year.

Important

The textbook version, current assets minus current liabilities, mixes trading with the bank balance. Northgate's moved only 25,000 on that definition, concealing the entire 300,000 story.

Related terms

  • Accounts receivable — Money owed to the business by customers who have been invoiced and have not yet paid. Also called trade debtors.
  • Inventory — Goods a business has bought or made and has not yet sold - raw materials, work in progress and finished stock.
  • Cash conversion cycle — The number of days between money leaving the business to buy or make something and money arriving from the customer who bought it. Days of receivables plus days of inventory minus days of payables.

Lessons that explain it

  • Red flags: the signals that mean slow down — A red flag is not a reason to stop. It is a reason to stop moving at the speed you were moving, and to go and find out which of two explanations is the true one. (11 min)
  • A growing company can run out of cash while its revenue rises — How customers pay and how quickly they pay changes cash needs. Diligence checks billing terms, receivables and working capital, not only revenue and profit. (10 min)
  • Working capital: the cash growth eats — Between selling something and being paid for it, a business funds the gap out of its own pocket. Working capital is the size of that gap, and it is why growing companies run out of money. (11 min)
  • Climate and hardware companies need capital before revenue and margins before scale — Physical-product businesses face manufacturing risk, inventory, lower gross margins and large capital needs. Many climate companies also depend on policy and on project finance to deploy their technology. (11 min)
  • Appraising one business: verify the earnings before you price anything else — Seven checks on one specific listing, in an order that puts verifying the earnings ahead of everything the earnings are used to justify - because every other number in the deal is built on top of a figure the seller had every reason to shape. (13 min)

All 578 terms in the Investing glossary