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What Is Gross Working Capital?

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  • Written By: Anna B. Smith
  • Edited By: Michelle Arevalo
  • Last Modified Date: 27 August 2014
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Gross working capital is the total cash, and cash equivalents, that a business has on-hand. Cash equivalents may include inventory, accounts receivable, and investments, such as marketable securities, which may be liquidated within the calendar year. This may also be known as current assets or circulating capital.

A business requires cash to start, so that it may purchase property, inventory, and hire employees. The company then uses its employees to sell the goods and generate more cash. This money is then converted into more inventory and also serves to pay for the location and employees' salaries. This continuous conversion of corporate assets — comprised, in this example, of the inventory, offices, and employees — is known as working capital.

Two types of working capital exist — gross and net. Gross working capital generally deals with all corporate assets. Net working capital is the amount of assets or cash that remain after subtracting a company’s liabilities from its total current assets. Liabilities can include all of the debt owed by a company that must be paid within one year, such as accruals and accounts payable.

The goal of a company is to become profitable to its owners and shareholders. This happens when the amount of the gross working capital exceeds the amount of current liabilities. This is referred to as positive net working capital. Negative net working capital occurs when the reverse is true, and the liabilities exceed the assets.

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A business' balance sheet will typically show the amount of cash invested in current assets and the amount of cash tied up in current liabilities. Balancing these two amounts is commonly the responsibility of a corporate financial manager. This job is known as short-term financial management.

A company must consider its cash inflow when evaluating its total gross working capital. Cash inflow refers to how quickly any aspect of the current assets, such as the inventory and marketable securities, can be converted into liquid cash. These funds are then used to pay corporate bills when they come due.

Cash inflow is typically somewhat unpredictable due to its dependence on the various markets in which corporate goods are sold. This unpredictability requires most companies to maintain a much higher gross working capital than current liabilities, to ensure that all bills will be paid in a timely manner. After a certain period of time, operational costs may be re-evaluated and cash inflow more reasonably predicted, allowing a company to maintain a lower level of current assets on hand.

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Charred
Post 4

@MrMoody - Before you get into corporate bonds, look at the balance sheet so you can perform an accurate working capital analysis.

I am not a financial analyst but in my book assets should be a lot greater than liabilities. That means I stay away from a lot of infrastructure heavy investments that tend to incur very high business loans.

To me it’s not enough for a company to say that they are simply “servicing their debt.” They have to seriously pay it down, for me to look at them from an investment standpoint.

MrMoody
Post 3

@everetra - The cash inflow distinction is illuminating. Businesses must be able to quickly liquidate some assets to pay corporate bondholders.

I’ve always thought investing in business corporate bonds was a riskier proposition than investing in traditional government bonds, for that reason.

Businesses may not always be in a position to easily liquidate assets, or worse, the liquidation may take the form of a bankruptcy proceeding.

In that case, the corporate bond holders could be on the short end of the stick. Of course, however, that’s why corporate bonds pay more too; with the greater risk comes greater reward.

everetra
Post 2

@SkyWhisperer - I envy you. Most businesses incur at least some liabilities. It depends on what kind of business you’re in really.

If it’s mainly services, then the inventory part of your working capital ratio will be on the low end. I worked in telecommunications for years, however, and I can tell you that the inventory was on the high end.

The telecom industry operated with negative working capital for many years, with liabilities greater than our assets. Like many players in the industry, we were eventually bought up by bigger companies with deeper pockets.

They desperately wanted a piece of our network, like our vast fiber resources, even if sales revenue was a bit sluggish.

SkyWhisperer
Post 1

We built our software business on a pure cash basis from the start, something that is rare for many businesses.

As a result, we had very little in the way of liabilities. We took our sales, reinvested them into the business, and our net business working capital was high.

This is both a good and a bad way to run a business. It’s good in that you have little in the way of liabilities. It’s bad in that when sales are sluggish, it can be a struggle to meet payroll every month.

We have a certain dollar amount that we must hit in sales to meet payroll. Fortunately the boss is smart enough to buffer away a certain amount of money so he can still make payroll. When sales boom again, he can use some of the excess cash to add to that buffer.

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