What is working capital?

What is working capital?

• A. Current assets minus current liabilities
• B. Current assets plus current liabilities
• C. Total assets minus equity
• D. Net income

Answer: (A)

Working capital is a measure of a company’s ability to meet its short-term obligations from its day-to-day operations. It is calculated as current assets minus current liabilities. Current assets are things expected to be turned into cash within a year (such as cash, accounts receivable, and inventory), while current liabilities are obligations due within a year (such as accounts payable, short-term borrowings, and accrued expenses). A positive working capital means the company can cover its short-term debts with its short-term assets, facilitating smooth operations; a negative figure suggests potential liquidity problems. This definition focuses on short-term liquidity, not on profitability or long-term financing. It’s not the sum of assets and liabilities, which would misstate liquidity; it’s not total assets minus equity, which relates to net asset position; and it’s not net income, which reflects profitability rather than liquidity.

Working capital is a measure of a company’s ability to meet its short-term obligations from its day-to-day operations. It is calculated as current assets minus current liabilities. Current assets are things expected to be turned into cash within a year (such as cash, accounts receivable, and inventory), while current liabilities are obligations due within a year (such as accounts payable, short-term borrowings, and accrued expenses). A positive working capital means the company can cover its short-term debts with its short-term assets, facilitating smooth operations; a negative figure suggests potential liquidity problems. This definition focuses on short-term liquidity, not on profitability or long-term financing. It’s not the sum of assets and liabilities, which would misstate liquidity; it’s not total assets minus equity, which relates to net asset position; and it’s not net income, which reflects profitability rather than liquidity.