Define net operating working capital.

A

Net operating working capital (NOWC) is a company’s liquidity or ability to pay off all its operational noninterest-bearing liabilities. It is calculated by subtracting operating liabilities from all the company’s assets.

Explanation:

Net operating working capital is all the company’s resources used in daily business processes. The formula of net operating working capital is: net operating working capital = operating assets – operating liabilities. Operating assets comprises of raw materials and equipment, inventories, cash, and accounts receivable.

It does not include short-term financing receivables and marketable securities. Operating liabilities are accounts payable and accrued expenses. They should be settled in the next twelve months; therefore, do not include interest-bearing liabilities, short-term debts.

For example, a company has cash of 100, accounts receivable of 150, and 50 of them are short-term ones, inventories of 50, property plant and equipment of 200, accounts payable of 75, long-term dept of 100, and short-term debt of 100. It is necessary to calculate net operating working capital to estimate how liquid the company is. The operating assets turn out to be of 450, and the operating liabilities are 175. Net operating working capital is 275.

Net operating working capital is different from net working capital. The second one is about only current assets and current liabilities. Therefore, it excludes long-term depts and includes marketable securities and short-term accounts receivable.

Working capital is the main criterion for the financial stability of any company. A company can be confident if its operating assets are higher than operating liabilities. It means that the positive value of the indicator is an essential condition for the financial stability of the company and its liquidity.

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