Gross working capital plays a vital role in assessing a firm’s stability. Measuring a company’s cash flow indicates the efficiency of accounting procedures. Depending on the results, a firm owner can work towards growth and expansion.
1) What Does The Gross Working Capital Mean?
2) How To Calculate Gross Working Capital?
3) What Is The Difference Between Gross Working Capital And Net Working Capital?
The availability of current assets further substantiates a firm’s credibility in financers’ eyes. Hence, companies should adopt ways to manage the working capital effectively for enhanced liquidity.
To that end, entrepreneurs can seek out financing solutions like invoice discounting. It allows businesses to free up their tied-up cash in accounts receivables early to manage working capital better. KredX, a leading integrated cash flow solution, offers invoice discounting solutions in less than 72 hours.
Gross working capital is the total sum of a firm’s current assets, convertible to cash within a year. The assets include account receivables, cash, marketable securities, inventory, and short-term investments. It usually denotes a company’s financial strength to meet the current liabilities.
It is imperative to know that a company's balance sheet can be assessed by subtracting current liabilities from gross working capital. This will be equal to net working capital.
Though gross working capital gives a glance at a firm’s operational strength, it isn’t practical to judge a company completely based on it. That’s because it shows an enterprise’s short-term financial health and resource usage, not the current liabilities.
A positive working capital indicates current assets outvalue current liabilities. This can be expressed through the working capital ratio. When the ratio is less than 1.0, a firm may have issues with clearing the dues in the short term.
In this situation, borrowing finances may leverage the gross working capital but increases current liabilities. This will draw a negative picture and degrade a company’s reputation in terms of working capital management.
Financers would believe a firm is unable to meet its regular cash requirements and avoid lending. Hence, a healthy gross working capital is essential to maintain the brand name and keep everyday operations afloat.
The gross working capital used by a business can be calculated with the below-mentioned formula.
Gross Working Capital = Cash and marketable securities + cash receivables + short-term investments + inventory + other paid expenses
One can easily determine the gap between gross working capital and current liabilities to evaluate a firm’s short-term financial health. Here, a positive picture would indicate that the current assets are greater than its current liabilities.
To analyse year-on-year or quarter-on-quarter improvement, individuals can compare the changes in current assets and liabilities over the years.
For instance, suppose a company has trade receivables of Rs. 4 lakhs, inventory worth Rs. 6 lakhs and a cash equivalent of Rs. 3 lakhs. The gross working capital will be the sum total of the mentioned data.
Following the formula, Gross working capital = Rs. 4 lakhs + Rs. 6 lakhs +Rs. 3 lakhs.
The value stands at Rs. 13 lakhs. Let’s say it was Rs. 10 lakhs in the previous fiscal year.
However, the current liabilities of the same firm in the current year shows Rs. 10 lakhs while it was Rs. 6 lakhs in the previous year.
Therefore, the company’s gross working capital grew nearly Rs. 3 lakhs, but net working capital reduced by Rs. 1 lakh.
This assessment can be used to determine a firm’s operational efficiency and how it’ll fare in terms of growth. What’s more important to see is whether a decrease or increase in net working capital adds to the productivity or operation efficiency of a firm or is it a product of poor working capital management.
Since both net working capital and gross working capital play a crucial part in evaluating a firm’s operation profile, understanding the difference becomes crucial.
The table underneath focuses on the basic differences between these accounting concepts.
|
Factors |
Gross Working Capital |
Net Working Capital |
|
Evaluation method |
Gross working capital is calculated by adding all current assets of a firm. |
It is evaluated by subtracting a firm’s current liabilities from current assets. |
|
Indication |
This denotes a company’s current assets. |
It shows whether a firm can pay off the operational expenses and dues or current liabilities. |
|
Formula |
Gross Working Capital equals cash and marketable securities + receivables + inventory + short-term investments + other assets |
Net working capital is equivalent to total current assets – total current liabilities. |
|
Usage |
Gross working capital is useful in financial management. It helps in determining the short-term financial strength of a firm. |
Net working capital is useful for an accounting system. It is a financial tool that estimates a company’s operational competence. |
Understanding the importance of gross working capital is essential for companies in their growth stage. They can easily track down the loopholes and work on their improvement. It would further aid them in managing current liabilities better and perk up the working capital ratio for a strong brand name. For that purpose, invoice discounting solutions from KredX can help companies avoid the strain of a liability on their balance sheet while ensuring their cash flow is never in the negative.
Gross working capital is the sum of total assets prior to the deduction of liabilities due in a year.
A company’s gross working capital increases when its trade receivables are up, cash is realised, it’s stocked up on inventory, or made short-term investments in various channels.
The gross working capital is based on a quantitative concept as it emphasises analysis of pre-existing numerical data. Moreover, gross working capital is the sum total of all the company's current assets.