Cash Conversion Cycle (CCC): Formula, Calculation, Example

What is the cash conversion cycle?

The cash conversion cycle (CCC) is a financial metric that measures the time it takes for a company to convert its investments in inventory and other resources into cash flow from sales. It measures the efficiency of a company’s working capital management. 

CCC helps estimate the operational efficiency and financial performance of a company. Therefore, calculating the cash cycle is essential for companies that wish to track their cash flow, sales realization, and inventory management.

How to calculate the cash conversion cycle?

• Days Inventory Outstanding (DIO)
• Days Sales Outstanding (DSO)
• Days Payable Outstanding (DPO)

• DIO= (Average inventory/Cost of goods sold x number of days)
• DSO= (Accounts receivable x number of days/total credit sales)
• DPO= (accounts payable x number of days/cost of goods sold)

Example of the cash conversion cycle

Why is the cash conversion cycle important to a business?

The cash conversion cycle is an important metric when it comes to a company’s manufacturing operations as it helps manage the inventory. If not managed well, a company will either be short on supply or have too much of it, increasing storage costs. Apart from the inventory management and cash flow efficiencies, CCC also assists finance leaders in:

Determining the financial health of the company

The key stakeholders of a company often assess the cash conversion cycle to examine its financial health, and more importantly the company’s liquidity. It determines how fast the company can pay back a business loan, and meet other financial obligations for its growth.

Improving trade credit terms with vendors

Vendors often look at your cash conversion cycle while deciding whether or not to give your company trade credit. If your company has maintained a low CCC, it means that your company has enough liquidity and this improves the chances of getting better credit terms.

Gaining easy access to capital and loans

Lower cash conversion cycle improves your chances of getting business loans. Low CCC indicates healthy liquidity, which means you can comfortably pay back your loans. This adds a sense of security and increases the chances of loan approvals.

Interpretation of the cash conversion cycle

A simple way to understand the trajectory of a cash conversion cycle is using graphical interpretation—the downward and upward movement. If the CCC is in a declining trend, it denotes a positive sign, and if you observe an upward trend, it means potential inefficiencies in your order-to-cash processes.

How to improve the cash conversion cycle?

The cash conversion cycle measures the number of days it takes for inventory to get converted into cash. But, do you want to know how you can shorten your CCC? Here’re some tips:

Better management of payables

Managing payables such as supplier payment terms is the key to controlling working capital. You can see positive trends in your CCC if you leverage and consolidate your spending by increasing supplier collaboration and extending payment terms.

As a business owner, you can perform other activities such as negotiating the time required to pay the suppliers. But you have to be cautious that it doesn’t harm or put the supply chain at risk. Delaying payments can also be reckless when trying to develop a strong relationship with the supplier.

Inventory management should be A-class

One of the major concerns of reducing inventory size is the impact it could have on customer retention. Poor inventory management could also lead to lower sales due to the inability to service the placed orders. Thus, inventory management should be prioritized alongside sales, profit, and payment data of the customers. 

The development of new relationships with customers and clients can also improve inventory management. It could lead to more accurate sales forecasts of the top-selling products and better decisions on the number of raw materials or inventory required.

Enable your customers to pay their due

First and foremost, you need to understand the reasons why your customers are delaying payments of the claimed invoices. Then, you need to provide them with a plan that could resolve their problems with regard to underlying invoices and disputes. 

Another way of reducing the risk of overdue invoices is by categorizing and prioritizing the customers by size and risk profile. 

Conclusion

Taking the necessary steps to shorten the cash conversion cycle helps improve a business’s cash flow. CCC calculation can help you improve your inventory management, credit sales, and purchase management strategies. It also enables you to track your liquidity. Investors can use CCC data to compare different companies in the same industry to assess cash flow management. 

Automating the processes involved in setting customer credit limits, inventory tracking, and collections can help you reduce manual efforts and errors, and shorten the cash cycle. Our solutions help streamline the order-to-cash process using AI and RPA technology. Visit our product page to know more about our solutions.

FAQs

Question: What is the cash conversion cycle (CCC) ratio?

Question: What does a negative cash conversion cycle mean?

Question: What does a positive cash conversion cycle mean?

Question: What is a good cash conversion cycle?

Question: What are the 3 components of the cash conversion cycle?

Question: What is the difference between the operating cycle and the cash conversion cycle?