How Does CAPEX Differ from Net Working Capital?
Capital expenditures (CAPEX) and net working capital are both essential for the short-term and long-term success of a company. However, there are distinct differences between the two metrics.
Understanding how CAPEX Differs from Net Working Capital
Capital expenditures are sizable purchases of physical or tangible assets, which will be used for more than one year. In other words, CAPEX might consist of purchases of fixed assets designed to improve earnings for the company in the long term. CAPEX can also include upgrades to existing assets like machinery, for example.
- Capital expenditures (CAPEX) are purchases of physical or tangible assets, such as property, plant, and equipment, with long-term use.
- CAPEX generally have costs spread over several years.
- Net working capital measures if a company has enough current assets (e.g., cash or cash equivalents) to cover its current liabilities, which are financial obligations due within one year.
- Net working capital measures the short-term liquidity of a company, whereas CAPEX is a company's long-term investment.
Other examples of CAPEX include property, plant, and equipment, buildings, computers, and company vehicles. As such, CAPEX items tend to have considerable costs that are spread over several years.
CAPEX can also include intangible assets or non-physical assets, such as patents and licenses. Also, there are instances where research and development can be considered CAPEX.
Different industries require different levels of capital investment. For example, manufacturing companies tend to be capital-intensive, meaning they have substantial amounts of heavy equipment or fixed assets. As a result, they classify both the initial purchase of the equipment and upgrades to existing equipment as a capital expenditure.
Net Working Capital
Net working capital is a liquidity metric used to determine if a company has enough short-term assets, called current assets, to cover its short-term liabilities, aka current liabilities.
Current assets include cash, cash equivalents, accounts receivable, and inventory. Current liabilities are financial obligations that are due in under one year; at most; many are due in 90 days or less.
Current liabilities include accounts payable, income taxes, dividends, short-term leases, and debt that matures within one year. Both current assets and current liabilities are listed on the balance sheet.
Net working capital is calculated by subtracting current liabilities from current assets. The calculation is used to measure the short-term liquidity of a company by creditors and investors.
Net working capital is a liquidity or solvency ratio; it shows how much money a company should have on hand over the next 12 months. Companies with poor net working capital numbers might find it difficult to obtain financing from creditors, investors, and banks.
CAPEX vs. Net Working Capital
Net working capital is different from CAPEX as it measures the short-term liquidity of a company. CAPEX, on the other hand, is a long-term investment in the future of a company.
Net working capital is related to CAPEX, though indirectly. For example, a company that generates positive net working capital consistently should have the financial viability to either make capital expenditures or obtain financing for capital expenditures.