BlogFinance
net-working-capital-vs-working-capital
December 23, 2022
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6
min read
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Written by: 
Nikolaus Hilgenfeldt
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Category:
Finance

Net Working Capital vs Working Capital: What's the Difference?

Net Working Capital vs Working Capital: What's the Difference?

If you ask business owners about different types of financing, they will tell you the best method is to obtain start-up financing and venture capital

They might even tell you that private equity firms are your best bet because they don't require a lot of paperwork.

Business owners often look to improve their cash flow and profitability by looking at the difference between net working capital and working capital. 

Understanding the difference between a company's net working capital and its working capital can make it easier to manage cash flow.

So the question is: What is the difference between net working capital and working capital?

And what does Net Working Capital (NWC) have to do with working capital anyways? 

Ok, so maybe it isn't the most memorable question, but understanding the difference and its usage can be essential for your business.

Let’s dive in!

Net Working Capital vs Working Capital: What's the Difference?

What is working capital?

Working capital is one of finance's most important key performance indicators (KPIs). 

It can be used to measure both liquidity and solvency — two things that are crucial for any business.

Working capital is the amount of money a business has at its disposal to meet short-term obligations. 

It includes cash, accounts receivable, inventories, and other current assets but excludes long-term assets such as buildings and machinery.

Working capital is important in determining a company's financial health because it shows how easy it can pay its bills. 

If a company has enough working capital, it can weather downturns in its business cycle or unforeseen expenses without borrowing money or selling assets.

Contrary, if a company doesn't have enough working capital, it could be forced out of business because it can't pay its bills or payroll. 

A business can increase its working capital by taking on debt, increasing its sales volume, or gaining some kind of working capital financing.

Your business may have the following sorts of assets and financial resources, all of which are incorporated into its current working capital:

  • Cash
  • Inventory
  • Accounts receivable
  • Vehicles
  • Money from loans and funding
  • Investments and Securities

How to calculate working capital?

Working capital is calculated by subtracting an organization's current liabilities from its current assets. 

Working Capital = Current Assets - Current Liabilities

Advantages of working capital

The following are some of the working capital benefits:

1. Allows you to pay your suppliers faster and gain access to more credit at better rates,

2. Enables you to fund growth and expansion,

3. Gives you flexibility in case of emergencies (e.g., natural disasters),

4. Provides a cushion against losses during slow periods, and

5. Helps protect your company from unexpected expenses or sudden losses like fires or floods.

Shortcomings of working capital

Here are some of the weaknesses of having strong working capital:

1. A significant amount of cash can be locked up in short-term assets, such as inventory, which can restrict the company from investing in long-term growth prospects.

2. A strong working capital position may make the company less flexible than its competition since it is less likely to seize opportunities that require an expeditious injection of funds.

What is net working capital?

Net Working Capital (NWC) is also known as working capital and denotes the same concept.

The difference is that Net Working Capital is most frequently calculated by not considering cash and current debt.

How to calculate net working capital?

Net working capital is calculated by subtracting the total liabilities from the total assets.

Net Working Capital = Current Assets (less cash) – Current Liabilities (less debt)

A more restrictive definition focuses only on accounts receivable, accounts payable, and inventory:

Net working capital = accounts receivable + inventory - accounts payable

Advantages of net working capital

Net working capital has distinct benefits compared to traditional working capital:

1. It offers a more precise view of a company's liquidity by accounting for both short-term and long-term obligations. 

2. It is more predictive as it encompasses all assets, not just immediate ones.

Shortcomings of net working capital

Net working capital has some drawbacks as well: 

1. Calculating it can be more troublesome than working capital because a business must have up-to-date financial statements. 

2. It may lead to a false sense of security since a company's liquidity can unexpectedly decline even when the net working capital is robust.

What is the difference between working capital and net working capital?

The terms “net working capital” and “working capital” are synonyms. 

They both show the difference between all present assets and all present liabilities.

The main difference between working capital and net working capital is each concept's time frame. 

Working capital is a short-term measure, while net working capital is a long-term measure.

Conclusion

We hope this article helped you better understand the terminology associated with working capital financing and how these concepts influence your business.

Regardless of what you need cash for, asset-based financing is a fast and low-risk approach to get it.

Traditional funding options are not always feasible for ecommerce stores that lack the credit, official documents, or business background to qualify.

Seeing as the ecommerce sector keeps growing and there is an increasing demand for funding, alternative financing sources for online sellers are becoming more common.

Such as asset-based financing, that Myos provides you with.

Moreover, working with Myos, you don't have to take on the personal guarantee - you share the risk with Myos instead.

Myos is an asset-based finance provider that helps you accelerate growth. 

We hand out working capital loans over 10k£ - 2.5M£ with a monthly fee of 1-3% of the outstanding loan volume. 

Based on AI and Machine Learning, our algorithm allows us to evaluate the product data and determine the financing volume without requiring additional credit checks from you. 

On the other hand, we’re taking the product as collateral, eliminating personal risk and guarantees.

Ecommerce companies who partner with Myos can apply in just a few minutes and have complete freedom to spend the secured cash for any purpose. 

The financing process goes into three steps:

1. Apply - Send a free request for financing based on one or more top-selling products.

2. Get a payout - Negotiate with the supplier or simply use his inventory while Myos will pay the financing amount to you or the supplier.

3. Sell - A part of the goods directly goes into the sale. With first revenues, you’re flexible to pay back the first installment & receive new goods.

Here’s an example of how it works:

myos-example-of-financing-process

So, whatever your ecommerce store's cash needs, asset-based finance with Myos offers a rapid and low-risk solution to get working capital. 

Send a free quote now, and discover the advantages of asset-based finance with Myos to obtain your cash immediately!

FAQ

1. Why is working capital important?

Retaining earnings is crucial to keep a business afloat, regardless of how profitable it may be. 

Profits on paper are not enough to cover any bills that need to be paid—cash must be available. 

For example, suppose a business has had $2 million dollars in profits accumulated over the years and decides to invest all of it simultaneously. 

In that case, it could find themselves without enough current assets for their current liabilities.

2. Is negative working capital bad?

It is not a good sign if a company's current liabilities are higher than its current assets, implying that it does not have enough resources to pay off its short-term debts. 

Therefore, the business must come up with innovative solutions to ensure that it can make payments on time.

3. How can a company improve its working capital?

To improve working capital, a company can increase their current assets by saving cash, stocking up on inventory, prepaying expenses for any cash discounts, and carefully selecting customers to extend credit to (to decrease bad debt write-offs). 

Additionally, the company can reduce their short-term debts by refraining from taking on unnecessary or pricey debt and being aware of spending internally with staff and externally with vendors.

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