Every business will have a constant cash flow either as profit or loss, but an ideal company will have to garner enough money to stay stable through the initial stages to reach the expected success. Many factors come into play to determine the current status of a company, and net working capital is one such aspect that defines the liquidity. It is defined as the difference between a company’s current assets and current liabilities.
The value of NWC will decide a company’s ability to stay debt-free for a short period in the future. A positive value will indicate that the company has enough funds to pay off its current financial obligations and make new investments. If your company has current assets of around $60,000 and current liabilities of $15,000, the NWC will be $45,000. Although it is quite simple to calculate the net working capital of a company, if you are an entrepreneur, you must check the basics of NWC, its calculation steps, pros and cons, and steps to increase it.
Formula to Calculate Net Working Capital Formula
Data about the net working capital should be produced on a balance sheet annually to have a clear picture of the current state of your company. Follow the formula to calculate your company’s value.
That is the short formula for calculating the NWC value, in which, the current assets and current liabilities will include several variables.
Short-term assets on your balance sheet that have to be converted to cash in a year are the current assets of a company. Cash and cash equivalents are the typical constituents of current assets, which include short-term government bonds, money market funds, treasury bills, and commercial paper. Inventories, marketable securities, and accounts receivables also make for the current assets. If your company has cash and cash equivalents of $20,000, inventories worth $5000, and accounts receivable of $6000, the total current assets can be found by summing up all these values.
Short-term financial obligations that are due in one year are the current liabilities of a company. The major constituents of current liabilities are lines of credit, short-term loans, accrued liabilities, accounts payable, and debts coming from credit cards, vendor notes, trade debts. Small business loans and commercial real estate loans are current portions of long-term debts, and they are also a part of the current liabilities. When your company has accounts payable of $3,000, short-term loan of $20,000, and accrued liabilities of about $5,000, the total current liability value is the result of summing up all these numbers.
This way, you can calculate the current assets and current liabilities of your company. This can then be subtracted to find the net working capital value.
Net Working Capital = (Cash and Cash Equivalents) + (Trade Accounts Receivable) + (Inventory) + (Marketable Investments) – (Trade Accounts Payable)
By simply substituting these values to the formula, the NWC value of your company can be found out. The net working capital value could be zero, negative, or as meagre a positive value to be of no much use to the company. This value can be increased by selling long-term assets, increasing inventory turnover, or refinancing short-term debt with long-term obligations.