The Daily Technical #37: Why are cash and debt excluded in the calculation of net working capital (NWC)?

Good morning. Welcome to the 37th edition of The Daily Technical. You’re here for one reason so let’s dive in.

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OVERVIEW OF YESTERDAY’S QUESTION
Walk me through the income statement.

The income statement shows a company's profitability over a period. It tracks how revenue turns into net income after various deductions. Think of it as the story of how a company makes (or loses) money.

1. Start at the Top Line

Begin with Net Revenue (or Sales) - this represents all money generated from selling goods and services. It's called the "top line" because it's literally the first line of the income statement.

2. Production Costs

Subtract Cost of Goods Sold (COGS) - these are direct costs of producing goods or services (materials, direct labor). This gives you Gross Profit, your first profitability metric:

Gross Profit = Revenue - COGS

3. Operating Expenses

Next come the operational costs:

• Selling, General & Administrative (SG&A): Think overhead, marketing, and payroll

• Research & Development (R&D): Product development and innovation costs

After subtracting these, you reach EBITDA (Earnings Before Interest, Taxes, Depreciation & Amortization).

4. Non-Cash Expenses

Subtract Depreciation & Amortization (D&A) to reach Operating Income (EBIT). This shows how much the company makes from its core operations.

5. Financing Costs

Deduct Net Interest Expense (interest paid minus interest earned) to get Pre-Tax Income (EBT).

6. The Bottom Line

Finally, subtract Tax Expense to get Net Income. It's the "bottom line" that shows the company's final profit or loss.

Common Mistakes

1. Randomly bouncing between different sections of the income statement. This suggests disorganized thinking and can confuse your interviewer. Always maintain a top-to-bottom flow.

2. Reciting the components mechanically without explaining their business significance. Don't just say "Then we subtract COGS" - explain that COGS represents direct production costs and why it's different from operating expenses.

3. Mishandling technical terms. Students often throw around terms like "EBITDA" or "D&A" without being able to explain them fully. Either define acronyms when you first use them, or avoid them entirely if you're not 100% confident about their meaning.

Key Takeaways / TLDR

• Start with "The income statement shows a company's profitability over time" - then begin with Revenue (top line)

• Walk down sequentially: Revenue → COGS → Gross Profit → Operating Expenses → EBITDA → D&A → EBIT → Interest → EBT → Taxes → Net Income

• Explain the logic behind each component (not just the procedure)

• Keep it structured and avoid technical jargon unless you can fully explain it

TODAY’S QUESTION
Why are cash and debt excluded in the calculation of net working capital (NWC)?

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THAT’S A WRAP
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See you tomorrow,

The HirePrep Team