Working Capital vs. Cash Flow: The Differences and How to Better Manage Them

Working capital usually affects cash flow, this is why two of these can be confusing at times. Both of working capital and cash flow are crucial to the running of a business, and while it might seem to have some overlap, they show two specific metrics. In this article, we are going to look further in detail of how working capital and cash flow differs and once you understand the fundamentals of each, it will be easier for you to manage them.

What is Cash Flow?

Basically, cash flow is exactly what it sounds like: the money that is flowing through your company. It projects all income and expenses over a certain timeframe. If you have trouble determining the cash flow, do a simple Google search for a cash flow tool to help. As most companies usually sell on credit and borrow money after, one important factor to take note of is that cash flows do not equal net profit. This is because it doesn’t subtract your liabilities however it will show the amount of cash you generate in that timeframe.

What is Working Capital?

Working Capital is the overall operating money that is available after deducting the debts from your company. This is calculated by taking away your current assets from current liabilities. Current liabilities are factors such as inventory, equipment, investment value, cash on hand, accounts payable, deferred revenue, and debt. One important part of any finance management is having access to positive working capital, as it can help your business to prevent against unexpected events. With that being said, the benchmark that provides a good indicator of your working capital is the current ratio. Current ratio measures all of your company’s assets against liabilities no matter short term or long term therefore you must know how to carefully read a balance sheet to check for the correct ratio and make informed decisions.

The Difference?

To break it down, the main difference between these two is cash flow describes how money is moving in and out of your company in a specific period whereas working capital compares the assets and liabilities in your business. Working capital gives you a clearer direction of how quickly your company can pay off immediate liabilities due to your monthly or quarterly cash flow will differ from the amount of money generated in a year. This means cash flow is more of a forecast function. Nonetheless, if your working capital is low but still have a strong cash flow, your company should be able to generate sufficient cash provided there is enough time. However, if creditors aren’t willing to give you enough time, you may be facing some serious financial difficulty, including the possibility of bankruptcy.

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