What is working capital?

Working capital measures the short-term resources a business has after covering obligations due within a year. Positive working capital means current assets exceed current liabilities. Lenders also look at the components, namely receivables, inventory and payables, because the time it takes to turn inventory and receivables into cash determines how much financing a business needs.

Working capital analysis is central to sizing revolving lines of credit. Analysts calculate days sales outstanding, days inventory outstanding and days payables outstanding to estimate the cash conversion cycle and the borrower's funding gap. Minimum working capital is also a common covenant. Growing businesses often need more working capital as sales rise, which can strain cash even when profits are strong.

A large working capital balance does not guarantee liquidity if receivables are uncollectible or inventory is obsolete. Analysts should also watch for increases in working capital that absorb cash, which EBITDA does not capture. Using long-term debt to fund working capital, or short-term lines to fund fixed assets, is a structural mismatch that can create repayment problems.