Question

1. A small company has current assets of $112,000 and current liabilities of $117,000. Which of the following statements about that company are most likely to be true?

a.   Since net working capital is negative, the company will not have enough funds to meet its obligations.

b.   Since net working capital is high, the company will likely have little difficulty meeting its obligations.

c.   Since net working capital is very high, the company will have ample money to invest after it meets its obligations.

d.   Since net working capital is nearly zero, the company is well run and will have little difficulty attracting investors.

e.   All of the above.

Answer 1

The net working capital is computed as shown below:

= Current Assets - Current Liabilities

= $ 112,000 - $ 117,000

= - $ 5,000

Since the net working capital is negative, it implies that the amount of current liabilities exceeds that of current assets and as a result the firm does not have enough sources of funds to meet its obligations. In other words we can also say that the firm's current ratio is less than 1.

So, the correct answer is option a i.e. Since net working capital is negative, the company will not have enough funds to meet its obligations.

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