Working capital is essential for any company to manage its daily expenses and continue its operations. In short, working capital gives an insight into the cash flow of that organisation and is divided into two parts, gross working capital and net working capital.
Gross working capital (GWC) means the accumulation of the total current assets of an organisation. It includes assets that will liquidate quickly.
For instance, liquid cash, inventory, account receivables, marketable securities, and short-term investments are a few examples of gross working capital. Gross working capital is not a useful concept in reality. This is because gross working capital reflects an organisation's short-term financial health.
Since gross working capital consists of only current assets and no liabilities, it does not offer a complete picture of a firm's current financial status.
Gross working capital formula
The formula of gross working capital is:
- Gross working capital = Total current assets
- GWC = Receivables + inventory + short-term investments + cash + marketable securities + other current assets
Now that you know what gross working capital is and its formula, read on to learn how to calculate it.
Gross working capital calculation
As per the formula stated above, gross working capital is the sum of all the company's current assets. You can use the formula mentioned above to calculate the GWC of any company.
A point to remember here is that positive working capital denotes that a company has enough funds to manage its day-to-day operations properly. Negative working capital will portray the opposite, and it is considered an early indication of a firm in financial distress.
Gross working capital example
Here is an example of how to calculate gross working capital. Suppose that a firm has the following current assets:
- Cash and equivalent: Rs. 45,000
- Marketable securities: Rs. 50,000
- Inventories: Rs. 8,000
- Accounts receivables: Rs. 20,000
- Short-term investments: Rs. 70,000
- Other current assets: Rs. 10,000
In this case, the total gross working capital of this firm will be:
Gross working capital = Rs. 45,000 +Rs. 50,000+ Rs. 8,000 + Rs. 20,000 + Rs. 70,000 + Rs. 10,000
GWC = Rs. 2,01,000
Significance of gross working capital
Gross working capital is a financial metric that measures a company's ability to meet short-term financial obligations and fund daily operations. It refers to the total value of a company's current assets, including cash, inventory, accounts receivable, and short-term investments, minus its current liabilities, which include accounts payable, accrued expenses, and short-term debt.
Maintaining an adequate level of gross working capital is crucial for any business because it ensures that the organisation has enough liquidity to cover operational expenses, manage cash flow, and seize growth opportunities when they arise. A robust working capital position enables a company to weather temporary dips in revenue, pay suppliers, and meet payroll obligations, among other things.
Therefore, businesses must monitor their gross working capital position regularly and take proactive measures to improve it, such as reducing inventory levels, negotiating better payment terms with suppliers, and optimising cash collections.
Difference between gross working capital and net working capital
The following are some pointers that will distinguish between gross working capital and net working capital (NWC):
- A GWC represents a company's current assets, and an NWC will portray the difference between current assets and liabilities.
- GWC is a quantitative concept, and NWC is a qualitative concept.
- GWC indicates available funds for current assets, and NWC reports the company's capacity to meet current liabilities and operating expenses.
- GWC is a popular concept in financial management, and NWC is a popular concept in an accounting system.
It is crucial to understand gross and net working capital, their applications, and differences to help business owners understand their firm's financial status. Also, based on that requirement, entrepreneurs can apply for a business loan according.
Frequently asked questions
Net working capital is the difference between a company's current assets and current liabilities, while gross working capital is the total value of current assets minus total value of current liabilities. Net working capital represents the company's financial ability to meet short-term liabilities, while gross working capital measures the company's liquidity position.