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Working Capital and Liquidity |
Working capital and Net Current Assets |
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As far as Business Studies is concerned, working capital is another term for the figure that appears in the Balance Sheet as Net Current Assets. (Accountants might see it otherwise.)
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Working capital appears as current assets less current liabilities and is equivalent to the accounting term, Net Current Assets.
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We ask a number of questions.
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Why is it useful to distinguish between fixed assets and current assets, and between long term liabilities and short term liabilities?
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What are the current assets and current liabilities?
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Why is working capital called “working” capital?
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Why can you not run a business without working capital?
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Further Questions
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| 1 | | Define working capital, net assets and capital employed. |
| 2 | | Why is the point that a machine cannot run without oil useful in understanding the operation of working capital in business? |
| 3 | | Why is it possible to run a business without working capital? |
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The working capital time clock |
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The following diagram represents the movement of capital through a business.
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What does the working capital time clock show us about why working capital exists?
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It shows us that working capital exists because of the time taken to produce and sell goods.
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The diagram is called the working capital time clock or the working capital cycle.
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Why is it desirable to reduce working capital to a minimum?
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How can working capital be reduced to a minimum?
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Does having a minimum working capital mean that capital is being run-down?
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Liquidity |
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What might be meant by a breakdown in the working capital cycle, and what could cause such a breakdown?
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How can a liquidity crisis be predicted?
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Questions
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| 1 | | How does the distinction in the working capital time clock diagram between “reservoirs” and “pipes” help us to analyse the causes of a failure of efficiency? |
| 2 | | Why does the term “liquidity crisis” normally refer to the depletion of cash? In what other ways can the working capital cycle break down? |
| 3 | | Is there any other way of predicting a cash-flow crisis, other than by examining the company accounts? |
| 4 | | Does getting all your working capital to a minimum mean having no working-capital at all? |
| 5 | | Two companies are in direct competition with each other. Company A has an optimum working capital. Company B does not. Company A, however, does have sufficient liquid assets to meet current liabilities. Does Company B have a problem? |
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