Question 1

What is working capital?

Accepted Answer

Net working capital = Current Assets − Current Liabilities. Operationally, it's the cash and near-cash tied up in your day-to-day cycle: receivables you haven't collected, inventory you haven't sold, offset by payables you haven't paid. A pattern I've seen across operator-finance work: payroll crises in Q4 often trace back to working capital hitting zero weeks before the income statement showed it coming. Positive working capital is the buffer that lets you ride out a slow month without missing payroll. Working capital is where cash-flow problems appear first — usually before they show up in the income statement, sometimes before they show up in the cash account itself.

Question 2

What's the difference between current ratio and quick ratio?

Accepted Answer

Current ratio = Current Assets ÷ Current Liabilities — every short-term asset divided by every short-term obligation. Quick ratio (the acid test) excludes inventory: (Current Assets − Inventory) ÷ Current Liabilities. Inventory is the least-liquid current asset — you can't always sell it in 30 days to cover a payable. Quick ratio is the more conservative liquidity measure and the one creditors actually look at when they want to know whether you can pay the rent next month if sales go cold.

Question 3

What's a good current ratio?

Accepted Answer

The general rule is 1.5–2.0. Below 1.0, you can't cover short-term liabilities with short-term assets — that's an insolvency-risk red flag. Above 3.0, you may have working capital sitting idle that could be funding growth, paying down debt, or returning capital. The right answer is industry-specific: retail can run lower because inventory turns fast; manufacturing typically runs higher because inventory and receivables both sit longer. Damodaran (NYU Stern) publishes industry-by-industry working-capital data — pages.stern.nyu.edu/~adamodar — that's the right benchmark, not a single rule of thumb.

Question 4

What is the Cash Conversion Cycle and why is negative CCC valuable?

Accepted Answer

CCC = DSO + DIO − DPO. It measures the days between paying suppliers and collecting from customers. A 60-day CCC means you have 60 days of revenue tied up in working capital at all times. A negative CCC — Amazon, Costco, and Apple all run negative CCC — means you collect from customers before paying suppliers, so the business is partially financed by supplier credit and customer prepayments. That float is effectively free working capital, and it scales with revenue, which is why these companies can grow without raising capital for the working-capital line item.

Question 5

How is working capital related to runway?

Accepted Answer

Working capital is the operational version of runway — the buffer between collections and payments. Runway is how many months of cash you have at current burn; days of working capital is how many days of revenue your NWC represents. Both answer the same question (how long can the business absorb a shock?) at different time horizons. If runway is fine but working capital is shrinking month over month, the cash account is the lagging indicator — the squeeze is already happening upstream in the AR / AP / inventory cycle.

Question 6

What are the three levers to improve working capital?

Accepted Answer

Three levers, in order of leverage. (1) Accelerate AR — drive DSO down via tighter terms, automated invoicing, early-payment discounts, and (carefully) firing chronic late payers. (2) Reduce inventory — drive DIO down by measuring DIO per SKU, killing the long tail, and renegotiating with suppliers for consignment or extended terms. (3) Stretch AP — drive DPO up to the limit your supplier relationships tolerate without damaging terms. Stretching payables is the cheapest financing in the business, and operators I've worked with often leave material cash on the table by paying too fast out of habit. Net-30 with a vendor offering Net-60 routinely leaves five-to-six-figure annual amounts on the table — funding your own growth for competitors instead of yourself.

Question 7

Should I include long-term debt in current liabilities?

Accepted Answer

Only the current portion — the part of long-term debt due within the next 12 months. The remainder stays in long-term debt on the balance sheet. This is FASB ASC 210 (Balance Sheet) classification: anything contractually due within one operating cycle (typically 12 months) is current; anything beyond that is long-term. Including all of long-term debt in current liabilities will make every liquidity ratio look catastrophic and is a common error on founder-built balance sheets.

Question 8

What is the working-capital turnover ratio?

Accepted Answer

Working-capital turnover = Annual Revenue ÷ Average NWC. It measures how efficiently working capital generates sales — higher is better, declining over time signals creeping inefficiency (cash getting trapped in slow AR or stale inventory). Compare against your industry's median turnover; if your business runs structurally below the benchmark, you're carrying more working capital than your peers per dollar of revenue, which is real money that could be redeployed.

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