Working capital

What is working capital?

Working capital is what is left when you subtract what you owe in the next twelve months from what you own or will collect in the next twelve months. Current assets are cash, receivables and inventory. Current liabilities are payables, short term debt, the next year of loan payments, and taxes due.

Positive working capital means you can pay your bills from what is coming in. Negative working capital means you depend on new sales or new borrowing to stay current. Profitable businesses go negative all the time, usually because they grow fast and customers pay slowly. Our page on working capital loans covers the products built for that gap.

How is working capital calculated?

Subtract current liabilities from current assets. Lenders also divide the two to get the current ratio.

• Cash $40,000, receivables $90,000, inventory $50,000. Current assets total $180,000.
• Payables $70,000, credit card balance $15,000, loan payments due this year $25,000. Current liabilities total $110,000.
• Working capital is $180,000 minus $110,000, which is $70,000.
• Current ratio is $180,000 divided by $110,000, which is 1.64.

Now suppose a large customer pays 90 days late. Receivables stay on the books but cash falls, payroll still goes out, and the business draws on a line of credit to bridge it. That is a working capital gap, the most common reason small businesses borrow.

What do lenders consider normal?

Most banks want positive working capital and a current ratio of about 1.2 or higher, with 1.5 to 2.0 considered comfortable. Below 1.0 is a flag. Some industries run lower by nature: restaurants and retailers collect cash immediately and carry little receivable, so a ratio near 1.0 can be fine there. Contractors and wholesalers with slow paying customers need more.

Online lenders rarely compute the ratio. They read bank balances and deposit patterns instead, which measure the same thing in a rougher way. If your balance drops near zero before each payroll, that is a working capital problem whatever the balance sheet says.

What should you watch for?

Watch the match between the loan and the gap. A shortfall that repeats every month is best covered by a line of credit you draw and repay. A one time gap from a big order or a slow season fits a short term loan. A permanent shortfall, where the business is always behind, means the business needs more equity or a lower cost base, and borrowing only delays that.

Watch for expensive products sold as working capital loans. A cash advance repaid daily from sales reduces working capital every day it runs, so compare the daily payment with your margin before you sign. Our cash flow gap page helps you pick the right fit.

Related terms

Working capital sits beside DSCR as the second cash flow test in underwriting, and receivables and inventory, its main pieces, are also common collateral. You will see the term most on working capital loans and lines of credit. You can apply here, or ask your AI assistant to calculate your working capital from your balance sheet and apply for you through our MCP server.