Working Capital and Liquidity

How long cash is tied up between paying suppliers and collecting from customers (the cash conversion cycle), how working capital is measured, what makes an issuer liquid, how analysts compare liquidity with the current, quick and cash ratios, and how issuers choose a conservative, moderate or aggressive approach to working capital and short-term funding.

1. 1. The operating cycle and the cash conversion cycleThe cash conversion cycle counts the days between paying suppliers and collecting cash from customers: the shorter it is, the less financing the business needs.Video · 6 minFree13 min
2. 2. Shortening the cycle and the cost of trade creditFirms shorten the cash conversion cycle by cutting inventory days, collecting faster and paying later, but paying later can mean giving up a supplier discount that is a very expensive form of borrowing.Video · 6 min13 min
3. 3. Total and net working capitalWorking capital is short-term assets minus short-term liabilities; net working capital keeps only the operating items, and its size relative to sales moves with the cash conversion cycle.11 min
4. 4. Liquidity and its primary and secondary sourcesAn issuer is liquid when it can meet its short-term obligations; it draws first on cash, borrowing and operating cash flow, and turns to costly secondary sources only under stress.13 min
5. 5. Drags, pulls and liquidity ratiosDrags slow cash coming in and pulls speed cash going out; the current, quick and cash ratios measure how well short-term assets cover short-term liabilities.Video · 6 min13 min
6. 6. Conservative, moderate and aggressive working capitalFirms choose how much current assets to hold and how to fund them: conservative firms hold more and fund long term, aggressive firms hold less and lean on short-term debt, and moderate firms match the two.Video · 5 min14 min
7. 7. Short-term funding strategyA prudent short-term funding strategy keeps several adequate, competitively priced sources of credit, counts implicit as well as explicit costs, and is shaped by the firm's size, credit quality, legal and regulatory setting and assets.11 min