Future Business Leaders of America (FBLA) Agribusiness Practice Test

How is working capital calculated?

1. Current assets minus current liabilities

2. Current liabilities minus current assets

3. Gross pay minus tax withholding

4. Fixed costs minus variable costs

The correct answer is: Current assets minus current liabilities

Working capital is calculated by taking current assets and subtracting current liabilities. This measure provides insights into a company's short-term financial health and operational efficiency. Current assets typically include cash, accounts receivable, and inventory—resources that are expected to be converted into cash or used up within a year. Current liabilities encompass obligations that are due within the same timeframe, such as accounts payable and short-term loans. When current assets exceed current liabilities, it indicates that the business has enough resources to cover its short-term obligations, reflecting positive liquidity. This is crucial for maintaining smooth operations, as it shows the company's ability to meet its debts and continue its activities without facing financial strain. The other calculations mentioned in the options relate to different financial measures not relevant to working capital. Gross pay minus tax withholding pertains to net income for employees, while fixed costs versus variable costs relate to different aspects of cost accounting and profitability analysis. Thus, the correct understanding of working capital is tightly linked to the distinction between current assets and current liabilities, underscoring the importance of liquidity in business management.