The cash conversion cycle, also known as the cash conversion cycle or CCC, is a financial term used to measure how long it takes to recover money invested in the business. In other words, the CCC measures how much time elapses between when a company spends money on inventories and salaries, for example, and when it comes back in the form of payments. There are three phases of the cash conversion cycle:
1. The first phase begins when a business spends money to buy goods or services.
2. In the second stage, these goods or services are sold to customers on credit.
3. Finally, payment is made by customers which returns the money to the business. The goal of any business, of course, is to get to this last stage as quickly as possible so they can maintain liquidity and make a profit. So a long CCC can lead to problematic finances and lower profit margins because you have to invest more capital before you can sell your product. Now that we have established what the cash conversion cycle means, let’s look at ways you can calculate it and shorten it!

Calculate cash conversion cycle

To calculate the cash conversion cycle, three variables need to be known. These can be found in the financial statements:

• DSO ratio

Number of days (on average) before a debtor pays the invoice.

• DIO ratio

Number of days (on average) products are in storage or production.

• DPO

Number of days (on average) it takes the company to pay supplier invoices. Once the variables are known, the cash conversion cycle can be calculated using the formula below. Step 1: DSO ratio + DIO ratio =[outcome] à the outcome of step 1 indicates how long a company has had to wait for its payment. Step 2: [outcome step 1] – DPO = cash conversion cycle. Explanation of formula: step 1 of the formula indicates how long a company should wait for its money. The outcome of step 2 represents the number of days the company gets to pay suppliers.

What factors play a role within the cash conversion cycle?

Within the cash conversion cycle, time plays an essential factor; this unit of measurement takes into account the following points:

• How much time a company takes to sell its inventory;
• How much time it takes to collect receivables;
• How much time a company has to pay its bills.

If a company has a long cash conversion cycle, it takes longer before capital can be used for other things. The value of capital is then ”locked in” for a longer period of time and cannot be used for other purposes.

The different phases of the cash conversion cycle

The cash conversion cycle is an important measure of managing a company’s financial health. It measures the time it takes to get cash on hand from the sale of products or services. The cycle consists of three distinct phases: accounts payable, inventory and accounts receivable. In the first phase, businesses pay their suppliers for goods and services delivered. This is also called accounts payable. The goal here is to wait as long as possible to be paid without affecting further business with these suppliers. Next comes the phase where companies must optimize their own inventory management to ensure that there are enough products to sell to customers, while not having unnecessary capital tied up in unsold inventory. Finally, companies must ensure that they are paid promptly by their customers (accounts receivable). Efficient accounts receivable management can help reduce overdue billing and improve liquidity. By keeping these three phases well under control, companies can shorten their cash conversion cycle and thus have more liquidity available more quickly.

How can I shorten the cash conversion cycle?

Shortening the cash conversion cycle is a crucial step in improving your liquidity and working capital. Here are some tips to achieve this: 1. Improve your accounts receivable management: make sure invoices are sent quickly and follow up on outstanding payments. This reduces the time it takes to receive funds. 2. Reduce inventory levels: by managing inventory more efficiently, you can sell faster and spend less time tracking surpluses. 3. Shorten supplier payment terms: if you are able to agree shorter payment terms with suppliers, this will result in reduced pressure on your cash flow. 4. Optimize processes: look at ways business processes can be streamlined to minimize delays or inefficiencies. By adhering to these steps, you will be able to effectively reduce your cash conversion cycle and increase the funds available to enable growth opportunities within the company!