Authored by Phil Cohen
Working capital is the difference between a business’s current assets and current liabilities, and it measures the company’s ability to fund day-to-day operations.
In simple terms, working capital tells you whether your business can pay its short-term obligations—such as payroll, rent, and suppliers—without financial stress. Positive working capital means flexibility; negative working capital signals risk.
Simple Definition of Working Capital
Working Capital = Current Assets − Current Liabilities
Current assets are resources you can convert to cash within 12 months
Current liabilities are obligations due within 12 months
If assets exceed liabilities, working capital is positive.
If liabilities exceed assets, working capital is negative.
What Counts as Current Assets?
Common current assets include:
Cash and bank balances
Accounts receivable (unpaid invoices)
Inventory
Short-term investments
Prepaid expenses
These are the resources your business uses to operate daily.
What Counts as Current Liabilities?
Common current liabilities include:
Payroll and payroll taxes
Accounts payable (vendor bills)
Rent and utilities
Short-term loan payments
Credit card balances
Accrued expenses
These are the obligations your business must pay soon.
How to Calculate Working Capital (Step-by-Step)
Step 1: Add Up Current Assets
Example:
Cash: $25,000
Accounts receivable: \$60,000
Inventory: $15,000
Total current assets: $100,000
Step 2: Add Up Current Liabilities
Example:
Payroll due: $30,000
Vendor bills: $20,000
Short-term loan payment: $10,000
Total current liabilities: $60,000
Step 3: Subtract Liabilities From Assets
$100,000 − $60,000 = $40,000 working capital
What Is Positive vs. Negative Working Capital?
Positive Working Capital
Indicates short-term financial health
Business can cover operating expenses
Easier to manage growth and surprises
Negative Working Capital
Signals cash flow strain
Payroll and vendor payments may be at risk
Growth can increase financial pressure
Key insight:
A profitable business can still fail if working capital is negative.
Why Working Capital Matters
1. It Determines Whether You Can Pay Bills on Time
Working capital directly affects:
Payroll reliability
Vendor relationships
Rent and utilities
Tax obligations
Without enough working capital, even strong sales can’t prevent cash crises.
2. It Supports Daily Operations
Businesses spend money before they collect revenue.
Working capital fills the gap between:
Delivering goods or services
Receiving customer payments
This gap is especially large in B2B industries with Net 30–60 terms.
3. It Enables Growth Without Financial Stress
Growth increases:
Payroll
Inventory purchases
Operating expenses
If working capital doesn’t grow with revenue, expansion becomes risky instead of profitable.
4. It Protects Against Late Payments
Customers rarely pay exactly on time.
Adequate working capital provides a buffer when:
Payments are delayed
Invoices are disputed
Sales fluctuate
5. It Affects Financing Options
Lenders and investors evaluate working capital to assess:
Liquidity
Risk
Financial discipline
Strong working capital improves approval odds and borrowing terms.
Common Working Capital Problems
Problem: Too Much Money Tied Up in Receivables
Clients pay slowly
Cash is locked in invoices
Problem: Inventory Overload
Cash tied up in unsold products
Problem: Payroll Exceeds Available Cash
Common in staffing and service businesses
Problem: Rapid Growth Outpaces Liquidity
Sales increase faster than cash availability
How Businesses Improve Working Capital
Common strategies include:
Faster invoicing and collections
Shorter payment terms
Better inventory management
Improved expense control
Using receivables-based financing when payment cycles are long
Key principle:
Improving timing often matters more than increasing profit.
Industries Where Working Capital Is Especially Critical
Staffing and recruiting
Manufacturing
Transportation and logistics
Wholesale and distribution
Professional services
Construction and trade services
These industries typically pay expenses weekly but collect revenue monthly.
Key Takeaways
Working capital measures short-term financial health
Positive working capital enables stability and growth
Negative working capital creates risk—even in profitable businesses
Cash flow timing drives working capital challenges
Managing working capital is essential to daily operations