The Case of the Missing Cash: How Working Capital Gets Tied Up
The Disappearing Act
We arrived, metaphorically, at the headquarters of “Veritas Vials Ltd,” a fictional mid-sized pharmaceutical distributor. Their income statement gleamed with optimism—double-digit profits, growing sales—but the balance sheet told another tale. Cash was alarmingly low, borrowings high. How can a profitable company become cash-poor?
Holmes peered over the latest ledger. “Observe the increase in receivables and inventory. Capital is not lost, Watson—it’s simply… detained.”
The Triad of Working Capital
Working capital is composed of three main players:
| Component | Explanation | Red Flag |
|---|---|---|
| Accounts Receivable | Cash owed by customers | Days Sales Outstanding (DSO) > 60 |
| Inventory | Stock sitting unsold | Slow turnover or obsolete stock |
| Accounts Payable | Cash owed to suppliers | Overdue payables or early payments |
If receivables climb, inventory balloons, and payables are settled prematurely, cash becomes a hostage—while your P&L continues to smile.
Historical Crimes of Cash Constraint
Many a corporate tragedy has been tied to poor working capital management. Take Enron, for instance: aggressive revenue recognition created massive receivables while liquidity ran dry. WeWork, flush with investor money, splurged on long-term leases—locking capital in illiquid assets. And Luckin Coffee? Inflated revenues came with bloated receivables and fake transactions.
“Cash flow is reality; everything else is opinion.”
Forensic Techniques: Detecting the Bind
When investigating a company’s financials, Holmes recommends the following tests:
| Test | Ideal Range | Danger Sign |
|---|---|---|
| DSO (Days Sales Outstanding) | < 45 days | > 60 days |
| DIO (Days Inventory Outstanding) | 30–60 days | > 90 days |
| DPO (Days Payable Outstanding) | 60–90 days | < 30 days |
Cash Flow from Operations (CFO) should always be juxtaposed with net income. If CFO lags behind for multiple years, it’s a red flag. In the financial fog, consistency is the lamp that reveals the ledger.
Watson’s Warning Signs
- Profits growing, but cash decreasing
- High inventory growth without proportional sales growth
- Receivables growing faster than revenues
- Sudden drop in payables or change in supplier terms
Escape Routes: Unshackling Cash
Not all hope is lost. Holmes suggests:
- Tightening credit policies and following up receivables
- Optimizing inventory levels—just enough to meet demand
- Negotiating longer payment terms with suppliers
- Monitoring working capital ratios regularly
Detective’s Note
Working capital is not just an accounting term—it is the invisible rope that binds or frees a business. The P&L may paint a beautiful portrait, but only the cash flow statement reveals if the painting is wet. Always follow the cash, trace the ties that bind it, and you shall uncover the truth.
“It is a capital mistake to theorize before one has data.” – Sherlock Holmes