Definition of Working Capital

Working capital is one of the most important financial indicators in corporate management, defined as the difference between a company's current assets and current liabilities. This concept represents the amount of liquid cash available to the company to finance its daily operations and meet its short-term obligations.

Formula: Working Capital = Current Assets - Current Liabilities

Components of Working Capital

Working capital consists of two fundamental elements: current assets and current liabilities:

Current Assets

Include cash and bank balances, accounts receivable from customers, inventory of goods and raw materials, and short-term investments that can be converted to cash within one year.

Current Liabilities

Comprise accounts payable to suppliers, short-term loans due within the year, employee salaries and accruals, and taxes owed to the government.

Difference Between Working Capital and Net Working Capital

The term working capital is used to refer to the total current assets of a company only, without taking into account any obligations or liabilities, thus showing the volume of available short-term resources. Net working capital, on the other hand, represents the difference between current assets and current liabilities, reflecting the actual net liquidity available to the company after deducting all short-term obligations.

The fundamental difference between them is that working capital measures total resources while net working capital measures the real ability to finance operations and meet obligations, making it a more accurate indicator of short-term financial health.

Factors Affecting Working Capital

Working capital requirements are influenced by several internal and external factors that affect the liquidity and operational processes of the organization, including:

• Industry Nature - Different sectors require varying levels of working capital
• Seasonality - Seasonal fluctuations in sales and production
• Business Growth - Expansion increases the need for working capital
• Credit Policies - Terms of deferred sales and purchases
• Inventory Management - Levels of inventory maintained
• Economic Conditions - Inflation and interest rates
• Company Size - Large companies need greater working capital
• Operating Cycle - Length of cash conversion period
• Management Efficiency - Effectiveness of financial resource management

Importance and Benefits of Working Capital Management

Working capital management is considered one of the most important financial practices that provides organizations with multiple advantages at both operational and strategic levels, such as:

• Improving Financial Liquidity and ensuring the company's ability to meet its short-term obligations without difficulty
• Reducing Financing Costs through effective management of cash resources and avoiding unnecessary borrowing
• Increasing Operating Cycle Efficiency and accelerating the conversion of investments to cash to improve cash flow
• Enhancing Confidence Among Suppliers and Lenders which improves dealing terms and obtaining better facilities
• Providing Financial Flexibility necessary to exploit emergency investment opportunities and business expansion
• Reducing Bankruptcy and Financial Difficulty Risks by maintaining an appropriate safety margin