Final answer:
Service businesses receiving cash deposits in advance usually experience increased working capital due to the boost in liquid assets, resulting in fewer cash flow problems. These prepayments do not affect the equity position until the service is actually rendered and the revenue is recognized.
Step-by-step explanation:
When service businesses receive cash deposits in advance of providing a service, these businesses tend to have an immediate boost in liquid assets, which is reflected in increased working capital. Working capital is the difference between a company's current assets and current liabilities, and is a measure of its short-term liquidity, and hence its ability to cover short-term obligations without needing additional cash inflows. Since prepaid services represent cash received before the service has been rendered, they are classified as a liability (deferred revenue). However, the cash inflow improves the business's liquidity, resulting in fewer cash flow problems.
Such prepayments do not immediately affect a company's equity position, as this would only change when the revenue is actually earned and recognized. Increased working capital can help a business to more easily manage its day-to-day operations, make timely payments to suppliers, and invest in quick opportunities without the pressure of immediate revenue generation.