Walmart has a negative working capital while Coca-Cola has a positive one, which company is doing better? Another question for you. Being in Supply Chain and Procurement, how can you improve working capital?
This article has the answers, as we are going to cover the following points:
- What’s working capital?
- What’s the difference with cash?
- What are the metrics we can use?
- How can we improve working capital?
- What’s the impact of inventory on working capital?
Working Capital and Cash Concepts
Conceptually, the working capital shows whether a company has cash and other liquid assets—including receivables and inventory—to meet its short-term obligations.
The calculation of working capital consists of current assets deducted by current liabilities. Current assets are those that can turn into cash in less than 12 months. Current liabilities are those that are due in less than 12 months.
Let’s see working capital calculations in real life with Walmart and Coca-Cola. You can find the information in the 10-K.
This is an annual comprehensive report that the U.S. Securities and Exchange Commission (SEC) requires from publicly traded companies to show their financial performance.
To calculate the working capital, we need to look at the balance sheet that contains assets, liabilities, and shareholders’ equity. In the exhibits below are the working capital calculations for Walmart and Coca-Cola.
For 2023 and 2022, Walmart has a negative working capital of -$16,543 and -$6,309. These negative dollar amounts are in millions.
Coca-Cola, instead, has a positive working capital, $2,867 for 2023 and $2,595 for 2022; these figures are in millions too.
| (Amounts in millions) | 2023 | 2022 |
|---|---|---|
| ASSETS | ||
| Current assets: | ||
| Cash and cash equivalents | $8,625 | $14,760 |
| Receivables, net | $7,933 | $8,280 |
| Inventories | $56,576 | $56,511 |
| Prepaid expenses and other | $2,521 | $1,519 |
| Total current assets | $75,655 | $81,070 |
| LIABILITIES | ||
| Current liabilities: | ||
| Short-term borrowings | $372 | $410 |
| Accounts payable | $53,742 | $55,261 |
| Accrued liabilities | $31,126 | $26,060 |
| Accrued income taxes | $727 | $851 |
| Long-term debt due within one year | $4,191 | $2,803 |
| Operating lease obligations due within one year | $1,473 | $1,483 |
| Finance lease obligations due within one year | $567 | $511 |
| Total current liabilities | $92,198 | $87,379 |
| (Amounts in millions) | 2022 | 2021 |
|---|---|---|
| ASSETS | ||
| Current Assets | ||
| Cash and cash equivalents | $9,519 | $9,684 |
| Short-term investments | $1,043 | $1,242 |
| Total Cash, Cash Equivalents and Short-Term Investments | $10,562 | $10,926 |
| Marketable securities | $1,069 | $1,699 |
| Trade accounts receivable, less allowances of $516 and $516, respectively | $3,487 | $3,512 |
| Inventories | $4,233 | $3,414 |
| Prepaid expenses and other current assets | $3,240 | $2,994 |
| Total Current Assets | $22,591 | $22,545 |
| LIABILITIES | ||
| Current Liabilities | ||
| Accounts payable and accrued expenses | $15,749 | $14,619 |
| Loans and notes payable | $2,373 | $3,307 |
| Current maturities of long-term debt | $399 | $1,338 |
| Accrued income taxes | $1,203 | $686 |
| Total Current Liabilities | $19,724 | $19,950 |
You can see that the working capital of Walmart is negative while Coca-Cola’s is positive. However, from these calculations, we can’t say that Coca-Cola is performing better than Walmart or vice versa.
For a comparison to be meaningful, companies must belong to the same industry; for example, Walmart against Amazon, Costco, Kroger and Target. The good news is that you now know how to calculate working capital with the 10-K.
To better understand working capital, we want to dive into its key components within current assets and current liabilities.
Like with Walmart and Coca-Cola, most companies show cash and cash equivalents, accounts receivable, and inventory within current assets. On the current liabilities’ side, it is common to find accounts payable and short-term debt.
Breaking down the working capital formula, you can see the different components, cash being one of them.
Metrics to Use
It is helpful to convert the dollar amounts into days to compare working capital among companies. A key metric to use is the cash conversion cycle.
This metric shows the time that it takes for a company to turn inventory into cash. It represents how well the business is managing working capital.
The cash conversion cycle has three components in the calculation:
- Days of inventory outstanding (DIO)
- Days of sales outstanding (DSO)
- Days of payables outstanding (DPO)
Take the example of Coca-Cola that we have been following. Coca-Cola buys ingredients and packaging to then manufacture the final products.
While such inventory is sitting in their warehouse or being used in production, Coca-Cola is not making money during that time. This is days of inventory outstanding.
When Coca-Cola sells to Walmart, for example, Walmart may not pay Coca-Cola right away. While Walmart doesn’t pay Coca-Cola, Coca-Cola doesn’t make any money either. This is days of sales outstanding.
On its side, Coca-Cola doesn’t pay its suppliers immediately. It probably has contracts in place with agreed payment terms.
During that time, Coca-Cola can keep its cash while putting the inventory into use. This is days of payables outstanding.
The cash conversion cycle calculation considers these three elements by adding up days of inventory and days of sales outstanding—time in which the company is not making money; and deducting days of payables outstanding—time in which the company can use the inventory without having to pay. Let’s see how Coca-Cola is performing on the cash conversion cycle.
Keep in mind the following calculations:
- DIO = (Average Inventory/ Cost of Goods Sold) X 365
- DSO = (Average Accounts Receivable/ Total Credit Sales) X 365
- DPO = (Average Accounts Payable/ Cost of Goods Sold) X 365
The tables below show the calculation of three components.
| (Amounts in millions) | 2022 | 2021 |
|---|---|---|
| Current Assets | ||
| Cash and cash equivalents | $9,519 | $9,684 |
| Short-term investments | $1,043 | $1,242 |
| Total Cash, Cash Equivalents and Short-Term Investments | $10,562 | $10,926 |
| Marketable securities | $1,069 | $1,699 |
| Trade accounts receivable, less allowances of $516 and $516, respectively | $3,487 | $3,512 |
| Inventories | $4,233 | $3,414 |
| Prepaid expenses and other current assets | $3,240 | $2,994 |
| Total Current Assets | $22,591 | $22,545 |
| Net Operating Revenues | ||
| Cost of goods sold | $18,000 | $15,357 |
| (Amounts in millions) | 2022 | 2021 |
|---|---|---|
| Current Assets | ||
| Cash and cash equivalents | $9,519 | $9,684 |
| Short-term investments | $1,043 | $1,242 |
| Total Cash, Cash Equivalents and Short-Term Investments | $10,562 | $10,926 |
| Marketable securities | $1,069 | $1,699 |
| Trade accounts receivable, less allowances of $516 and $516, respectively | $3,487 | $3,512 |
| Net Operating Revenues | $43,004 | $38,655 |
| Cost of goods sold | $18,000 | $15,357 |
| (Amounts in millions) | 2022 | 2021 |
|---|---|---|
| Current Liabilities | ||
| Accounts payable and accrued expenses | $15,749 | $14,619 |
| Loans and notes payable | $2,373 | $3,307 |
| Current maturities of long-term debt | $399 | $1,338 |
| Accrued income taxes | $1,203 | $686 |
| Net Operating Revenues | $43,004 | $38,655 |
| Cost of goods sold | $18,000 | $15,357 |
Considering the DIO, DSO, and DPO results, we arrive at a negative cash conversion cycle of 200 days (78+30-308). This means that Coca-Cola receives payments before having to pay its suppliers.
This is a good position to be in. The situation can be completely different for other companies in other industries with extended cash conversion cycle. In the next section, we will cover how to improve working capital.
Working Capital Improvements
There are three main action paths. They are not exclusive of each other. A company may decide to follow only one or the three at the same time.
- Optimizing inventory
- Extending payment terms to suppliers
- Shortening terms with customers
An effective S&OP/ IBP process improves inventory management, a critical area with high impact on the working capital. By looking at the calculation, when inventory decreases, working capital improves. Instead, when inventory increases, working capital deteriorates.
Note that the first point listed is “optimizing” and not minimizing inventory. The resulting inventory plan from S&OP/ IBP needs to consider both the top and bottom lines of the P&L or Income Statement.
By adopting a bottom-line approach only, the company could experience lost sales, preventing it from generating additional profit.
Too much or too little inventory is not good. Companies want to strike the right inventory balance. Take the example of Walmart.
The company went from empty shelves (lost sales) to excess inventory, having stockpiles at the stores. The inventory plan as output of the S&OP/ IBP process becomes critically important for operations and for financial performance including working capital.
Conclusion
Working capital shows whether a company has cash and other liquid assets to meet its short-term obligations. The calculation of working capital consists of current assets deducted by current liabilities.
It is helpful to convert the dollar amounts into days to compare working capital. Cash is a current asset. A key metric to use is the cash conversion cycle that shows the time that it takes for a company to turn inventory into cash.
It represents how well the business is managing working capital. The inventory plan as output of the S&OP/ IBP process becomes critically important for operations and for financial performance including working capital.
