What does the net change in working capital measure in free cash flow calculations?

• A. Changes in current liabilities
• B. Changes in current assets
• C. Operational efficiency
• D. Both current assets and current liabilities

Answer: (D)

In free cash flow calculations, the net change in working capital measures the difference in both current assets and current liabilities over a specific period. This measurement is crucial because it reflects how effectively a company is managing its short-term assets and liabilities to generate cash flow. By accounting for both current assets, such as inventory and receivables, and current liabilities, like payables, this measure provides insight into the company's operational efficiency and liquidity needs.

When current assets increase, it might indicate that more cash is tied up in inventory or receivables, which could reduce free cash flow. Conversely, an increase in current liabilities can enhance cash flow by deferring payment obligations. Thus, the net change in working capital is a comprehensive measure that incorporates the dynamics between both aspects, helping investors understand how well a company is managing its cash flow in relation to its operational activities.