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John Hay

What is the meaning of negative working capital?

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  1. This answer was edited.

    The term negative working capital is derived from the concept of working capital. To begin with, I would like to briefly explain the meaning of working capital.

    In simple terms, Working Capital refers to the total amount of current assets excluding the total amount of current liabilities in a business. It can have a positive or a negative value, wherein the two are an indicator of the well-being of a business. The formula to calculate working capital is as follows:

    WORKING CAPITAL  = TOTAL CURRENT ASSETS – TOTAL CURRENT LIABILITIES

    Negative Working Capital

    In simple words, Negative working capital refers to the excess of net current liabilities over the net current assets. As the word itself suggests, a ‘negative’ working portrays a downfall in the financial position of a business and its inefficient functioning. A company is said to be facing financial difficulty and is not in a position to pay off its debts when the value of working capital is negative.

    NEGATIVE WORKING CAPITAL  = TOTAL CURRENT LIABILITIES > TOTAL CURRENT ASSETS

    EXAMPLE

    Calculate the working capital of XYZ Ltd.

    (Extract of Balance Sheet)

    PARTICULARSAMOUNT
    CURRENT ASSETS
    Cash and Cash Equivalents36,000
    Accounts Receivables20,000
    Stock Inventory15,000
    Marketable Securities35,000
    Prepaid Rent7,000
    TOTAL CURRENT ASSETS1,13,000
    CURRENT LIABILITIES
    Accounts Payable15,000
    Accrued Expense4,000
    Deferred Revenue40,000
    Taxes Payable50,000
    Short – Term Debt10,000
    Interest Payable7,000
    TOTAL CURRENT LIABILITIES1,26,000

    Note: As we can see the total current liabilities of XYZ Ltd. are exceeding the total current assets therefore, the working capital is negative.

    Working capital = Total current assets – Total current liabilities

    = 1,13,000 – 1,26,000

    = (13,000)

    Hope this helps.

     

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