What Is Net Working Capital and How to Calculate it

June 9, 2022

What Is Net Working Capital and How to Calculate it

No matter what kind of business you have, you are going to need working capital. This is money that you have available to finance the provision of services or manufacturing of products that your customers order from you. 

The more working capital you have available, the easier it will be to keep your business running smoothly. But what is net working capital? How to calculate net working capital? Is there an NWC formula you can use? Let’s take a closer look. 

What Is Net Working Capital?

Net working capital is money that your company has available to use when manufacturing products or delivering services to your customers. It can be used to fund materials and labor, but it could also be used to make purchases like equipment that you will use to complete orders for your customers. 

While it is possible to start a business with low or even no working capital, it’s a lot harder. So it’s a good idea to have some net working capital in the bank if you’re thinking of starting a business! 

Sometimes, people start companies with their own money. But you can also borrow some capital from a bank or another financier. Don’t forget that if you lend money for working capital, you will need to factor repayments and interest into your expenses. 

What Is the Net Working Capital Formula?

The net working capital formula (or NWC formula as it’s sometimes referred to) is very simple: your current liabilities are deducted from your current assets. The amount that is left over is your net working capital. 

NWC = Current Liabilities - Current Assets

If you’re wondering how to calculate net working capital, you can simply look at your Balance Sheet which you can automatically generate from your QuickBooks with LiveFlow. It should tell you everything you need to know about how much capital you have available.

 

Balance Sheet Example generate with LiveFlow

What Is the Difference Between Working Capital and Net Working Capital?

There is no difference between working capital and net working capital. The terms are used interchangeably, and they both refer to the amount of money or assets your company has available to finance its operations. 

Why Is Net Working Capital Important?

If you’re new to running a business, you might focus a lot on your revenue and your profits. Those are both good indicators of how your business is doing and whether your company is growing. 

However, there’s another important factor in the success or failure of your business: Cash Flow

Often, payments from your clients might be delayed for thirty days or even longer. This means that you have to finance the cost of producing goods or providing services yourself. 

When companies are growing quickly, this can become a problem. While they might have plenty of sales in the pipeline and lots of money coming from customers, they might find that they have no liquid assets that they can use to finance the other projects and orders they’re working on. 

Sometimes, delays in payments can even cause companies that are doing well on paper to be unable to continue operating. While they might have funds coming on paper, they might not have enough to pay wages and salaries or pay for goods and services. 

Having a healthy amount of net working capital in your bank account means that even if there are delays in receiving payments from your customers, you have sufficient funds to keep operating and delivering customer orders. 

Keep a Close Eye on Working Capital

Now that you know what working capital is and that the working capital definition is that it’s the money you have available to fund your day-to-day operations, you know just how important it is. 

As your company grows, the available working capital should also grow. You should actively work to ensure that you have enough capital in your company’s bank accounts so that you can keep your business going even if a few customers pay slowly. 

Try to structure your own accounts and credit facilities so that you’re not paying more money out than you receive every month so that you can preserve the working capital you have available. 

Don’t be tempted to take on projects that are outside of your financial capacity either. Although it might be tempting to get a very large order from a customer, you could find yourself in trouble if you tie up too much of your working capital. 

Most financial problems that businesses face are short-term, but even short-term problems can cause permanent damage to your company. 

As with most issues related to accounting and financial management, managing your working capital takes thought and planning. However, if you get it right, you should always have the funds you need to produce what your customers expect. 

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