Published: 09th Oct 2024
By: Value Research
Negative working capital is when short-term or current liabilities exceed current assets, meaning the business is strained, with low capital available to run daily operations. This is a red flag and should invite caution. But there are cases when it’s actually a good thing.
For some businesses, it signals efficient inventory management. With high trade payables, a company will have negative working capital. But it’s not a concern if receivables are low and cash conversion is quick. Swipe to see an example:
The Pizza Hut operator buys raw material on credit that leads to high payables. But it gets paid from customers right after sale, turning its inventory & receivables to cash before it pays suppliers. This leads to a sustained cash pool despite high liabilities. A negative working capital is not a concern in this case.
However, keep an eye on short-term borrowings. Negative working capital due to high short-term debt is worrisome, which might worsen if cash conversion takes longer.
When to invest in a business with negative working capital? If it ticks these boxes: faster customer payments than supplier dues, quick cash conversion, and high trade payables but low short-term debt. Our full story lists companies that have managed to cruise smoothly in the past despite negative working capital. Read from the link below.
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