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Cash Conversion Cycle

 

Cash conversion cycle is a measure that shows how many days take to convert the cash of a company in to production and to sell it. However, the formula of conversion cycle also includes ‘days payable outstanding’ which means that payables are shortening the cycle, so basically this ratio shows how long the company needs to finance its working capital till cash come backs on average. 

 

Cash conversion cycle formula


Cash conversion cycle = Days inventory outstanding + Days sales outstandingDays payable outstanding

 

Cash conversion cycle is mostly related to working capital management. If working capital is managed efficiently, cash conversion cycle will be shorter which means company needs less capital to fund its working capital. Of course, this ratio mostly depends on the industry and will be different for companies from different segments. To measure company’s efficiency of the working capital management only similar companies should be compared. Mostly, this ratio is important for retailers and wholesalers as working capital is very significant in their capital structure but manufacturers also do care a lot about this one. 

 

Yet, to understand working capital management of a company, all the ratios (‘days inventory outstanding’, ‘days sales outstanding’ and ‘days payable outstanding’) that compile this cash cycle can be analyzed separately. Separate analysis will be more accurate and will show weak sides of the company more precisely. 

 






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