Keeping a company running requires planning. Because of this, entrepreneurs devote a lot of time to develop studies that can help them with this mission. An example of this quest is to better understand the net working capital.
If you are not sure about what this term means, don’t worry. This article will explain what the net working capital is and how to calculate it. Shall we?
What is the net working capital?
A company cannot wait for all their customers to pay their debts to continue its operation, right? After all, it takes a few months to bring a return to investors after a business starts to operate. Even then, it has to bear the costs. During this period, what keeps the company running? The answer is: the working capital.
Using this resource, a dealer can restock his store after selling almost everything, even if, for example, his customers have paid in installments.
Therefore, the working capital is restricted to the amount needed to make the venture operate. In turn, the net working capital has an even more specific function. Its purpose is to define the amount the business needs to honor its debts.
As such, it is a study that tends to reveal the ability of your company to continue operating, but also pay your debts.
How to calculate the net working capital?
The first step is to identify the current assets and liabilities. Current asset is an accounting term that shows all the goods a company has, in addition to all the capital it will receive in the short term (up to 12 months). This information is on the company’s balance sheet.
With it, we find the liquidity of the business. Note that each item in the current assets has its own liquidity.
Current liability is the portion of the balance sheet that contains the debts in the short term (12 months). Typically, it refers to the payment of suppliers, taxes, financial charges etc.
To know the amount of the current working capital, the following calculation must be made: Net Working Capital (NWC) = Current Assets (CA) – Current Liabilities (CL).
If the result of this calculation is negative, it could mean that the company will have to resort to third-party capital, such as a bank loan, in order to pay its debts.
Why is it important to know the net working capital?
The goal of a venture is to bring financial return to investors. That is why a company that cannot pay the bills needed for its operation will hardly be seen as a good investment.
In many cases, there is a demand for the product or service marketed, but because administrators don’t study the company numbers with attention, they make the wrong financial decisions.
A company needs the working capital to operate, and an entrepreneur has to know the value of the net working capital to understand the debt capacity of a business, as this will determine the direction of investments, influence negotiations with suppliers, and reveal the liquidity of the company’s assets.
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