Days Working Capital
Days working capital is a measurement that reports the number of days it takes for the working capital to be converted into revenue. Days working capital is a liquidity indicator. The higher the indicator, the more time it takes for a company to turn working capital into sales in a certain period.
The figure of days working capital effectively tells us about a company’s efficiency. Simply put, businesses that require fewer days to convert working capital into sales are more efficient than companies that have a higher measurement. The main cause of high days working capital is generally the decreasing cash inflow from sales.
Just like with most indicators and ratios, it’s better to compare the results against other companies of the same type/industry. This action will give us a better picture of how efficient a business is. Different kinds of companies handle working capital differently, so the standards for each field may vary. Furthermore, keeping track of days of working capital from a company’s previous periods is also a good idea to see if the business’s efficiency is rising or falling over time.
Days Working Capital Formula
To calculate this formula, first, we need to know the value of average working capital. Working capital, often referred to as net working capital (NWC), equals current assets minus current liabilities.
Current assets are assets of a company that are expected to be used or sold in the span of one year. Some of examples of current assets are cash & cash equivalents, accounts receivable (unpaid money due to goods or services to customers), and inventories (goods for sales & raw materials).
Meanwhile, current liabilities are any financial obligations that mature within a year. This includes debt and non-debt obligations such as accounts payable (unpaid money due to goods or services from suppliers to a company) and unearned revenue (cash from pre-paid services).
Working capital is a liquidity measurement on its own. Corporations with positive working capital have the potential to invest and grow. This happens since the figure for current assets exceeds the current liabilities’. Thus, the business has the option to put its funds into other things.
Average working capital is simply the added value between the beginning and ending value of working capital, then divided by 2. We use average working capital as it often gives a more accurate presentation of a business’ condition than simply the end value of working capital.
The second variable we need is sales revenue. Sales revenue refers to the total earnings obtained through sales. This value is usually found at the very top of the income statement.
It represents the sales earnings before any deductions are taken into account. However, companies sometimes put the figure of net sales—gross sales minus returns, discounts, and allowances—at the top instead. If available, use the figure of net sales since it better represents the real value of total income a company manages to get.
After we divide the value of average working capital by sales revenue, the outcome will then be multiplied by the number of days in a period. In the formula above, we use 365 to represent the number of days in a year. Otherwise, you can use 90 for a quarterly calculation instead of yearly.
Days Working Capital Example
In this example, we take a look at the balance sheet and income statement of an American technology corporation, eMarket.com., for the fiscal year of 2019. From the balance sheet, we can get the value of working capital by subtracting current liabilities from current assets. Their working capital at the end of 2019 is $8,533 million.
Meanwhile, the working capital for the end of 2018 is $6,720 million. To determine the beginning value of working capital, we simply need to see the end value of the previous period. Finally, we can get the figure for sales by looking at the top of the income statement, which is $280,552 million. What is the days working capital of eMarket.com?
Before we begin calculating days of working capital, first, we need to determine the average working capital. Add 8,533 and 6,720 together, then divide the result by 2. Thus, the value of the average working capital is 7,627.
Now, let’s break it down to identify the meaning and value of the different variables in this problem.
- Average working capital = 7,627
- Sales revenue = 280,552
Now let’s use our formula and apply the values to our variables to calculate days working capital:
In this case, the days working capital would be 9.92 days.
From this result, we can see that it takes about 10 days for the company to convert its working capital into sales. We can assume that the corporation manages to operate efficiently, although we need to look at other companies from the same industry to get a better general outlook.
If the company were able to get even more sales income, let’s say $350,000 million, the indicator would be down to an even lower figure of slightly less than 8 days.
Days Working Capital Analysis
A higher value of days working capital means that it takes longer for a company to convert working capital into sales. And the opposite is also true. It’s useful to estimate the efficiency of a company, especially since it’s one of the most important factors that investors monitor.
Keep in mind that days working capital is only a figurative measurement. The number of days as an absolute number that results from the calculation may not always reflect the company’s operational method.
Additionally, we also discussed that working capital is the difference between current assets and current liabilities. Some companies have more current liabilities than current assets. As a result, the working capital of these companies is a negative number, meaning the companies are already struggling to pay off their short-term obligations, let alone invest.
This will also mean that the value of days working capital is negative, creating a vague result. To avoid this, it’s better to use the calculation for companies with positive working capital.
Another important thing to note is that days of working capital may give you a wrong impression. For instance, consider a company that experiences a sudden cash inflow from an unusual source in the period. This causes a rapid increase in current assets. The event will make the days working capital appear bigger.
Any companies and investors will surely delight in this kind of development. But days working capital reports a decrease in efficiency instead. To prevent misinterpretation, dig deeper into the current assets and liabilities for a real picture of which assets impact the calculation.
Days Working Capital Conclusion
- The days working capital is an indicator measuring how many days a business takes to turn working capital into sales revenue.
- The formula for days working capital requires two variables: average working capital and sales revenue.
- We use the average value of working capital as it often gives a more accurate presentation of a company’s condition.
- Days working capital has some weaknesses. It’s rather pointless for businesses with negative working capital and also may give an inaccurate impression in special cases.
- Compare the company’s results against competitors from the same industry as well as past results.
Days Working Capital Calculator
You can use the days working capital calculator below to quickly measure how many days a business takes to turn working capital into sales revenue by entering the required numbers.
1. What is days working capital?
2. What does days working capital show you?
For example, if the days working capital increases, it may be a sign that the company is not doing as well as it used to.
If the days working capital decreases, it may be a sign that the company is doing better than before.
3. How do you calculate days of working capital?
The formula is:
DWC = Average Working Capital×365 / Sales Revenue
4. Why do days of working capital matter?
It can also be used to compare the company against its competitors and past results.
5. What are the limitations of days of working capital?
It is also important to compare the company’s results against its competitors and past results to get a more accurate understanding of how well it is doing.
Another limitation of days working capital is that it does not consider the company’s liabilities. This means that it can give a false impression of how well the company is doing.