It is the money available to a business to meet its current and short-term obligations, such as paying suppliers or covering daily expenses.
Working capital ensures businesses run smoothly daily. That's why assessing a company's working capital efficiency is important. There are a few ratios that can help.
It assesses if a company can cover short-term debts. Calculated as current assets divided by liabilities. Ideal ratio: 2 or more, signalling assets double liabilities.
It shows how often a company replenishes its stock. Calculated by dividing sales by average inventory. A higher ratio is ideal but could indicate low inventory.
Measures frequency of payment collection from customers. Calculated by dividing sales by average receivables. A higher ratio is ideal, indicating frequent collections.
It indicates payment frequency to creditors. Calculated by dividing purchases by average payables. Ideally, it should be lower than the receivables turnover.
They must be viewed together for better understanding. This is where the cash conversion cycle comes into play.