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A profitable company can still run short of cash. Here's how to calculate, monitor, and improve the working capital that keeps operations funded.
A profitable business can still run short of cash. Receivables take time to collect, inventory ties up funds, and bills can come due before customers pay. Effective working capital management helps a business maintain liquidity and stay ready for growth opportunities or unexpected challenges.
What Is Working Capital, & How Do You Calculate It?
Calculating working capital is straightforward: subtract current liabilities from current assets. The math is simple, but the result needs context.
Current assets generally include items expected to convert to cash, sell, or be consumed within one year. Common examples are:
- Cash and cash equivalents
- Accounts receivable
- Inventory
- Short-term investments
- Prepaid expenses
Current liabilities generally include obligations due within that same window, such as accounts payable, accrued expenses, short-term loans, and the current portion of long-term debt.
Organizations need enough working capital to run smoothly, but excessive amounts can hinder growth and returns. The right amount depends on a company's operations and industry.
Why The Cash Conversion Cycle Matters
Working capital management is often measured through the cash conversion cycle (CCC), a function of three turnover ratios: days sales outstanding (how long it takes to collect from customers), days inventory outstanding (how long inventory sits before it sells), and days payable outstanding (how long a company takes to pay its suppliers). The formula is DSO plus DIO minus DPO.
A positive CCC means a company ties up cash while waiting on customer payments. A negative CCC means it collects from customers before it has to pay suppliers, a position mostly seen in cash-heavy businesses.
According to The Hackett Group's 2025 U.S. Working Capital Survey, the average CCC among the 1,000 largest U.S. public companies improved 4% to 37 days in 2024, but the gains were uneven. The rebound was driven mainly by a 3% improvement in days payable outstanding, while days sales outstanding and days inventory outstanding both worsened slightly. Despite the overall improvement, the study found $1.7 trillion still trapped in excess working capital, representing 35% of gross working capital and 11% of aggregate revenue. Receivables now represent the largest share of that trapped cash, an opportunity valued at $600 billion. The takeaway for closely held businesses: even well-run companies tend to leave cash on the table when receivables, inventory, and payables aren't actively managed together.
Three Levers To Strengthen Working Capital
Receivables
Review aging reports regularly, address disputed or overdue invoices promptly, and set credit limits and payment terms based on customer risk. Issuing invoices quickly, offering electronic payment options, and automating reminders can speed collections. Weigh any early payment discount against its cost, and keep an eye on customer concentration, since receivables add little to liquidity if they aren't collected on time.
Inventory
Excess or obsolete inventory consumes cash and adds storage, insurance and handling costs, but cutting inventory too aggressively risks stockouts and lost sales. Review turnover and demand forecasts regularly, and consider inventory systems that help identify purchasing trends and automate reorder points.
Payables
Use the full payment period available under vendor agreements without exceeding the due date, and evaluate whether early payment discounts are worth taking. Short-term cash forecasts help avoid surprises, and if existing terms create pressure, it's worth negotiating longer payment periods before balances go past due. Businesses exploring financing to bridge short-term gaps can also review the U.S. Small Business Administration's overview of working capital options.
Track The Right Metrics
A few recurring metrics help management see whether improvements are sustainable:
- Current ratio: current assets divided by current liabilities
- Days sales outstanding (DSO): average days to collect payment
- Days inventory outstanding (DIO): average days inventory is held before sale
- Days payable outstanding (DPO): average days a business takes to pay suppliers
What is a good cash conversion cycle?
There's no single benchmark. A shorter CCC generally signals more efficient use of cash, but the right target depends on industry norms, credit terms and how much control a company has over supplier and customer relationships.
Make Liquidity Part Of Your Strategy
At smaller businesses, the owner often leads this effort. At midsize companies, working capital management should involve finance, sales, purchasing and operations, since decisions in any one area can create cash flow problems elsewhere. Reliable technology matters too. Not every business needs a full enterprise resource planning system, but electronic invoicing, payment portals and automated reminders can shorten collection times and reduce manual entry.
It's common for business owners to focus on the income statement while the balance sheet gets less attention. Regularly monitoring working capital can surface issues, like slow-paying customers or unfavorable payment terms, before they become larger cash flow problems. GBQ's outsourced accounting and advisory team can help benchmark your cash conversion cycle and build a plan to strengthen it. Contact GBQ to talk through your working capital position.
