How is working capital defined and measured?

Definition of Working Capital

Working capital is defined as the amount of a company's current assets minus the amount of its current liabilities usually as of the final moment of an accounting period.

Example of Working Capital

Assume that a company's balance sheet of December 31 reports current assets of $450,000 and current liabilities of $320,000. The working capital at the final instant of December 31 is $130,000 ($450,000 - $320,000).

Even with a significant amount of working capital, a company can experience a cash shortage if its current assets are not turning to cash. For example, if a company has most of its current assets in the form of inventory and sales slow and customers take more time to pay the amounts they owe, the company may not have the cash needed to meet its payroll or to pay other current liabilities when they come due.

It is important for a company to monitor all of its current assets so that the cash keeps flowing into the company's checking account.

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