Working Capital and UCA Cash Flow
Q: It seems strange that more working capital is generally perceived as positive, if it opposes cash flow.
A: An increase in working capital is, as you note, generally considered a positive development. It is considered as such because it implies that the company will have more cash from current asset conversion in the next period to meet the cash requirements as today's current liabilities become due in the next period. But, as we note, an increase in working capital is invariably accompanied by a decrease in operating cash flow in the present period since a relative build-up in working capital drains operating cash flow. In a growing company that has negative cash flow driven by sales growth and proportionate growth in accounts receivable, inventory, and accounts payable (which means no change in the financing gap), a strong current ratio compounded with profitability is perceived as positive.
A key point to keep in mind is that an increase in working capital is not an increase in cash flow in the present period. Quite the opposite. Whether an increase in working capital is an increase in operating cash flow in the next period is an open question and depends on the manner in which the company manages its profitability, its operating assets, such as receivables and inventory, and its operating liabilities, such as payables and accruals.
Course overview: Working Capital and UCA Cash Flow