Working Capital Ratio

A working capital ratio is used to determine a company's ability to sustain their business through time. The ratio shows the liquid reserve available to handle the costs of liabilities, operations, and miscellaneous expenses. The working capital ratio is determined by subtracting current liabilities from current assets.

A company's working capital ratio is the easiest of all the balance sheet calculations and is usually included in the business' financial statements. It tells you what would be left if a company raised all of its short-term resources and used them to pay off its short-term liabilities. The more working capital, the less financial strain a company will experience. By studying a company's position, a financial provider can clearly see if it has the resources necessary to expand internally or if it will have to turn to additional resources and assume additional liabilities.

When a business applies for external sources of capital, the financial product provider can run a working capital ratio to determine if the company has a positive or negative working capital ratio (also called net working capital). A positive working capital ratio means that the company is able to pay off its short-term liabilities. A negative working capital ratio means that a company currently is unable to meet its short-term liabilities with its current assets.