What is working capital?

Working capital is current assets minus current liabilities. Current assets include cash, accounts receivable, and inventory - things that will convert to cash within 12 months. Current liabilities include accounts payable, accrued expenses, and short-term debt due within 12 months. A positive result means the business can cover its near-term obligations from existing assets. A negative result means short-term obligations exceed short-term assets.

Is negative working capital always bad for a startup?

No - negative working capital is structurally normal and healthy for SaaS companies and subscription businesses. When customers prepay annual subscriptions, that cash lands on the balance sheet as a liability (deferred revenue) before the service is delivered. This creates negative working capital without any financial stress. The key distinction is whether the negative position is caused by customer prepayments (good) or unpaid supplier invoices and overdue debt (bad).

How is working capital different from cash flow?

Working capital is a balance sheet snapshot: the difference between current assets and current liabilities at a specific point in time. Cash flow is a statement of movement: how much cash came in and went out during a period. A business can have strong working capital but negative cash flow in a given month, or vice versa. Both metrics are necessary - working capital tells you about solvency, cash flow tells you about survival.

What is a good working capital ratio for a startup?

The working capital ratio (current assets ÷ current liabilities) between 1.2 and 2.0 is generally considered healthy for asset-heavy businesses. For software and SaaS companies, a ratio below 1.0 is common and acceptable as long as the liabilities are primarily deferred revenue rather than debt or overdue payables. What matters most is the composition of the liabilities, not the ratio in isolation.

How does working capital relate to runway?

Runway measures how many months of operating expenses remain if no new revenue comes in. Working capital measures whether current assets exceed current liabilities. They overlap but are not the same: a startup can have 18 months of runway (plenty of cash in the bank) but negative working capital if it has taken on large short-term liabilities. Founders should track both: runway tells you when the lights go out, working capital tells you if creditors can force the issue before then.

Working Capital - Startup Super School

Working capital is the difference between a company’s current assets and its current liabilities.

Working Capital = Current Assets − Current Liabilities

It is one of the most fundamental measures of short-term financial health. A positive number means the business can meet all obligations due within the next 12 months using assets it already controls. A negative number means it cannot - at least not on paper.

The Formula Explained

Current assets are assets expected to convert to cash within 12 months:

Cash and cash equivalents
Accounts receivable (invoices sent but not yet collected)
Inventory (goods held for sale)
Prepaid expenses (e.g. insurance paid in advance)

Current liabilities are obligations due within 12 months:

Accounts payable (bills received but not yet paid)
Accrued expenses (costs incurred but not yet invoiced)
Deferred revenue (cash received for services not yet delivered)
Short-term debt and the current portion of long-term loans

Example:

Current Assets	Amount	Current Liabilities	Amount
Cash	€120,000	Accounts payable	€45,000
Accounts receivable	€60,000	Accrued payroll	€22,000
Prepaid expenses	€8,000	Deferred revenue	€90,000
Total	€188,000	Total	€157,000

Working Capital = €188,000 − €157,000 = +€31,000

Positive vs Negative Working Capital

Position	What it means	Typical causes	Verdict
Positive	Current assets > current liabilities	Cash balance exceeds near-term debts	Generally healthy
Zero	Exactly balanced	Rare; often a warning sign of tightness	Watch closely
Negative (bad)	Liabilities are overdue debt and unpaid suppliers	Late payments, mounting creditor pressure	Financial stress signal
Negative (fine)	Liabilities are mainly deferred revenue	Customers prepaying for future delivery	Structurally normal for SaaS

The most important distinction: not all negative working capital is equal. The composition of the liabilities determines whether the number is a warning or a badge of honour.

Negative Working Capital in SaaS

Consider a SaaS startup with 500 customers each paying €2,400/year upfront in January. On January 2nd, the balance sheet shows:

Cash: +€1,200,000 (received)
Deferred revenue (current liability): -€1,200,000 (earned over the next 12 months)

Working capital = €0 (or slightly negative after other liabilities). Yet the business has €1.2M cash in the bank and a year of contracted revenue. This is healthy - the negative working capital reflects customer trust, not financial weakness.

By contrast, a manufacturing startup with €200,000 in unpaid supplier invoices and only €80,000 in receivables has negative working capital driven by real financial pressure.

Working Capital Ratio

A related metric is the current ratio (also called the working capital ratio):

Current Ratio = Current Assets ÷ Current Liabilities

Ratio	Interpretation
> 2.0	Very liquid; potentially over-reserving cash
1.2 – 2.0	Healthy range for most businesses
1.0 – 1.2	Adequate but tight
< 1.0	Technically insolvent unless liabilities are deferred revenue

For software companies, ratios below 1.0 are routine and unremarkable. For hardware, retail, or services businesses with real payables, a ratio below 1.0 is a genuine concern.

Relationship with Cash Flow and Runway

Working capital and cash flow are related but measure different things:

Metric	Type	What it answers
Working capital	Balance sheet (point in time)	Can we pay near-term obligations?
Cash flow	Flow statement (over a period)	Is cash increasing or decreasing?
Runway	Derived metric	How many months until cash hits zero?

A business can burn €80,000/month (negative cash flow) while maintaining positive working capital - if it started with a large cash reserve. It can also show positive monthly cash flow while having negative working capital, if it collects cash before delivering services (the SaaS prepayment pattern).

For startup founders, the most useful mental model is:

Runway tells you when the money runs out
Working capital tells you if creditors can force a crisis before that
Cash flow forecast tells you how both will evolve month by month

How to Improve Working Capital

If working capital is uncomfortably low and not for good structural reasons, common levers include:

Collect faster: reduce payment terms from net-60 to net-30; offer early payment discounts (e.g. 2% off for payment within 10 days)
Pay slower: negotiate extended payment terms with suppliers (net-45 or net-60 where possible)
Reduce inventory: for physical products, tighten inventory cycles and avoid overstocking
Switch to upfront billing: annual prepay contracts instantly improve cash position and working capital
Use a revolving credit line: a credit facility backed by receivables (invoice financing or a line of credit) can bridge the gap while you fix structural issues

Key Takeaway

Working capital is current assets minus current liabilities. A positive figure is generally healthy; a negative figure requires context - for SaaS companies with customer prepayments it is often a sign of strength, while for businesses with mounting unpaid bills it signals financial stress. Track both the absolute number and its composition. Combined with a current cash flow forecast and a clear runway calculation, working capital gives you a complete picture of whether your startup can meet its obligations today, next month, and through the year.

Working Capital