ACCA Financial Management (F9) Certification Practice Exam

How is net working capital calculated?

1. Current assets + current liabilities

2. Current assets - current liabilities

3. Current liabilities - current assets

4. Current assets divided by current liabilities

The correct answer is: Current assets - current liabilities

Net working capital is calculated by subtracting current liabilities from current assets. This formula provides insight into a company's short-term financial health and operational efficiency. Current assets are the resources a company expects to convert to cash or use up within one year, including cash, inventory, and accounts receivable. Current liabilities are the obligations that a company must settle within the same time frame, such as accounts payable and short-term debt. By determining the difference between these two categories, net working capital reflects the liquidity available for meeting short-term obligations. A positive net working capital indicates that a company has enough assets to cover its short-term liabilities, which is generally a favorable sign for creditors and investors. Using the alternative methods mentioned leads to misunderstandings in financial health assessment. For example, simply adding current assets to current liabilities or calculating the difference in the opposite order would not provide an accurate view of liquidity. Additionally, dividing current assets by current liabilities results in a ratio that may indicate liquidity, but it does not directly quantify the net working capital. Understanding this fundamental aspect is critical for effective financial management and decision-making.