The Net Cash Position (NCP)

The NCP is equal to

the liquid assets : cash, marketable securities and short term investments
- short term borrowings : short term bank loans

If WC > WCR : we have a positive net cash position
If WC < WCR : we have a negative net cash position (need fot short term borrowings)

The fundamental Balance sheet equation : static version

NCP = WC - WCR

This relation will be used more often in its dynamic version (instead of its static one), where the variations, the changes would be considered (and not the absolute amounts).

The fundamental Balance sheet equation : dynamic version

Variation NCP = Variation WC - Variation WCR

The fundamental Balance sheet equation leads to 3 main comments :

The liquidity position of a company is the result of :

• strategic (long term) and
• operating (short term) policies of the firm.

What is important

• is not the level of WC as such
• but its relation with the WCR.

A company with a high WC might be in financial difficulties if its WCR are even higher.

On the other hand, a firm with a tiny WC (or even a negative one) might be in a good financial position if its WCR are even smaller (or more negative) than its WC.

Finally, this relation will be used more often in its dynamic version (instead of its static one), where the variations, the changes would be considered (and not the absolute amounts).

Liquidity is a direct consequence

• of decisions affecting the WC : strategic decisions :
  • investment or divestment
  • stock issue or share repurchases
  • long term debt issue or retirement
  • dividend decisions which have an impact on the retained earnings level...
• and decisions affecting the WCR : operating decisions changing
  • the level of inventories
  • accounts receivable
  • accounts payable
  • net accruals.

Operating managers (in the production field, or in the commercial activities, or in purchasing functions) influence the liquidity of the firm every day.

Variation NCP = Variation WC - Variation WCR

Strategic decisions	Operating decisions
WC	WCR
NCP

 

Sources :

Understanding Financial Statements, 1999, Marc Bertonèche, Ph. D. in Finance from the Northwestern University, Professor at the Bordeaux University and at Sciences-PO Paris, Visiting Professor at Harvard Business School and Oxford University.

Corporate Finance Course, Bernard Jaquier, Professor in Economics & Finance, Lausanne, Switzerland, 2021