- The above figure shows a typical working capital cycle.
- Cash is used to purchase raw materials .
- The raw materials are then turned into finished goods and sold to customers, usually for a credit period.
- Ultimately payment is received in cash from the customer and the cycle repeats.
What Does Negative Working Capital Mean?
- A sudden surge in creditors or dip in debtors can be result of one-off bulk payments and adjustments that make working capital negative but for a short period of time.
- It could be because the finished product is being sold at very low margins or loss. This strategy is sometimes followed by companies who are looking at either increasing their market share or introducing new products.
- Another instance is sizeble bad debts where debtors have gone bankrupt or refused to pay. In such a situation the debtors will have a write-off which would result in a dip in current assets.
- Loss in inventory by accident can also lead to negative working capital.
- So this is an instance of a favourable negative working capital.