Answer 6

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Read more on working capital in valuation

Data on working capital needs by sector

a.     Should you consider all cash, operating cash or no cash at all when you compute working capital?

The entire reason we consider working capital when computing cash flows is because investments in working capital are considered wasting assets that don't earn a fair rate of return. Thus, money invested in inventory is wasted because inventory sits on your shelves and does not earn a return. Until a few decades ago, the same could be said of cash that would be invested in a checking account. Today, cash at most reasonably run publicly traded firms is invested in commercial paper or treasury bills, earning a low but a fair rate of return (given the lack of risk in these investments). Hence, cash is no longer a wasting asset at most firms and should not be considered part of working capital.

There should be no distinction drawn between operating and non-operating cash for purposes of this analysis. Even if a company needs cash for its operations (a retail firm like Walmart has to maintain large cash balances), if that cash is invested in financial assets like commercial paper, it should not be considered part of working capital because it isnot a wasting asset.

    1. Should you consider short term debt as part of current liabilities?

All interest bearing debt, whether short term or long term, should be considered part of debt for computing cost of capital. Consequently, short term should not be considered part of current liabilities to compute working capital. Supplier credit, accounts payable and accrued items (salaries, taxes etc), should be considered as part of current liabilities.



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