Working capital and the cash conversion cycle
Why a profitable company can still run out of money.
Working capital is the money tied up in running the business day to day: stock sitting in a warehouse, invoices customers have not paid yet, less the invoices you have not paid your own suppliers. It never appears as a cost on the income statement, which is exactly why it catches people out. A company can report a healthy profit every quarter and still fail, because profit is recognised when a sale is made and cash arrives when the customer chooses to pay. In a valuation, the change in working capital is a direct deduction from free cash flow, and in a growing business that deduction gets larger every year.
What this course covers
- 01Exclude cash and debt
- 02Convert each line into days
- 03Compute the cash conversion cycle
- 04Forecast the movement, not the balance
- 05Sanity-check against seasonality
What you will be able to do
- Forecasting free cash flow, where the movement in working capital is a cash item
- Diagnosing why a profitable business keeps needing to borrow
- Comparing operational discipline between peers in the same industry
- Sizing a revolving credit facility, which exists to fund seasonal swings
Where it does not apply
- Banks and insurers, where the concept does not map onto the balance sheet
- Comparing across industries: a supermarket and a shipbuilder are not comparable on these ratios
- Treating the year-end balance as typical for a business with heavy seasonality
Predict it first
Not markedCustomers begin paying more slowly and inventory builds up. Every sale still happens and every margin holds; the cash simply arrives later.
ChangeChange in NWC: 12% → 20% of incremental revenue
How this prepares you for the assessment
This is one of 17 courses, and none of them is required for the Verified Valuation Assessment. The credential is earned on two timed drills, graded by the same engine that checks this course, and the drill score decides what it says you are capable of, from Foundation through to Distinction.
- Distinction90%+Works independently across all three core methods.
- Merit75%+Builds the core models with limited supervision.
- Pass60%+Understands the mechanics; works through a model with guidance.
- FoundationcompletedKnows the vocabulary and the shape of each model.