A:

Working capital represents the difference between a firm’s current assets and current liabilities. For well-run firms, managing working capital is simply a daily occurrence that can be handled easily. For other firms, the way the process is handled can indicate financial distress.

The impact of working capital changes are reflected in a firm’s cash flow statement. Specifically, the operating cash flow (OCF) section of the cash flow statement details changes in its shorter-term working capital needs. An increase in working capital figure (current assets are greater than current liabilities) requires additional cash to be tied up in operations because an increase in current assets is a net outflow. In contrast, a decrease in working capital position means the firm has more cash available that can be used for other projects since an increase in current liabilities is a net inflow. Analyzing changes in working capital can be important for any business, but is especially important for firms with seasonal or erratic cash flow needs.

Retailing giant Wal-Mart Stores Inc (WMT), like most retailers, spends a considerable amount of working capital prior to the holiday season.

Looking at Wal-Mart’s 2016 cash flow statement for the fiscal third quarter ended October 31, 2016, we can see that it spent $6.57 billion (reflected as a cash outflow) on inventory. This contrasts sharply with the other three quarters. In its first and second quarters, spending on inventory was minimal and came in at $264 million and $791 million (both cash inflows), respectively. In the fourth quarter, inventory decreased by a wide margin and the change in working capital went up from -$10.73 billion to -$9.24 billion.

The Bottom Line

Most of the time, a company’s working capital is simply a core part of its daily operations. But it can indicate financial problems, especially when working capital runs in the negative for an extended period of time.

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