Working capital refers to the difference between total current assets and total current liabilities. Working capital helps to understand the short-term financial health of the company. If the working capital is positive it indicates that the company has enough short-term assets to pay off its short-term liabilities.
The cumulative effect of change in current asset and current liability over the past year is captured in the data item changes in working capital.
|Components of working capital||Change||Effect on working capital|
When the current assets of a business are increasing it is usually because items like accounts receivable, inventory and prepaid expenses are increasing. This means cash is going out of the business as sales are not being made or it is being made on credit. Because of this, change in working capital is positive.
When current liabilities of a business is increasing it is because accounts payable, accrued expenses etc. is increasing i.e. company has been slowing down the payment of dues and retaining cash. Change in working capital is negative because of this.