{"id":27253,"date":"2024-01-17T11:01:10","date_gmt":"2024-01-17T16:01:10","guid":{"rendered":"https:\/\/breakingintowallstreet.com\/?post_type=biws_kb&#038;p=27253"},"modified":"2024-08-14T06:44:31","modified_gmt":"2024-08-14T11:44:31","slug":"cash-conversion-cycle","status":"publish","type":"biws_kb","link":"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/cash-conversion-cycle\/","title":{"rendered":"Cash Conversion Cycle: Meaning, Interpretation, and Sample Excel Calculations for Target and Costco"},"content":{"rendered":"<div id=\"ez-toc-container\" class=\"ez-toc-v2_0_81 counter-flat ez-toc-counter ez-toc-grey ez-toc-container-direction\">\n<div class=\"ez-toc-title-container\">\n<p class=\"ez-toc-title\" style=\"cursor:inherit\">Cash Conversion Cycle: Meaning, Interpretation, and Sample Excel Calculations for Target and Costco<\/p>\n<span class=\"ez-toc-title-toggle\"><\/span><\/div>\n<nav><ul class='ez-toc-list ez-toc-list-level-1 ' ><li class='ez-toc-page-1'><a class=\"ez-toc-link ez-toc-heading-1\" href=\"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/cash-conversion-cycle\/#Cash_Conversion_Cycle_Definition\">Cash Conversion Cycle Definition<\/a><\/li><li class='ez-toc-page-1'><a class=\"ez-toc-link ez-toc-heading-2\" href=\"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/cash-conversion-cycle\/#How_to_Calculate_the_Cash_Conversion_Cycle_for_Target_and_Costco\">How to Calculate the Cash Conversion Cycle for Target and Costco<\/a><\/li><li class='ez-toc-page-1'><a class=\"ez-toc-link ez-toc-heading-3\" href=\"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/cash-conversion-cycle\/#What_Does_a_Negative_Cash_Conversion_Cycle_Mean\">What Does a Negative Cash Conversion Cycle Mean?<\/a><\/li><li class='ez-toc-page-1'><a class=\"ez-toc-link ez-toc-heading-4\" href=\"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/cash-conversion-cycle\/#The_Cash_Conversion_Cycle_and_Its_Valuation_Impact\">The Cash Conversion Cycle and Its Valuation Impact<\/a><\/li><li class='ez-toc-page-1'><a class=\"ez-toc-link ez-toc-heading-5\" href=\"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/cash-conversion-cycle\/#When_is_the_Cash_Conversion_Cycle_Useful\">When is the Cash Conversion Cycle Useful?<\/a><\/li><\/ul><\/nav><\/div>\n\n<blockquote>\n<h2><span class=\"ez-toc-section\" id=\"Cash_Conversion_Cycle_Definition\"><\/span>Cash Conversion Cycle Definition<span class=\"ez-toc-section-end\"><\/span><\/h2>\n<p> The Cash Conversion Cycle (CCC) tells you how long it takes a company, on average, to convert its Inventory into cash after selling and delivering it, collecting the cash from sales to customers, and paying its suppliers in cash.<\/p><\/blockquote>\n<p>The formula is based on the Days Inventory Outstanding, <a href=\"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/days-sales-outstanding-dso\/\" target=\"_blank\" rel=\"noopener\">Days Sales Outstanding<\/a>, and Days Payable Outstanding:<\/p>\n<p><img decoding=\"async\" class=\"aligncenter wp-image-27282 size-full\" title=\"Cash Conversion Cycle Formula\" src=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/17104837\/01-Cash-Conversion-Cycle-Formula-1.jpg\" alt=\"Cash Conversion Cycle Formula\" width=\"1656\" height=\"487\" srcset=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/17104837\/01-Cash-Conversion-Cycle-Formula-1.jpg 1656w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/17104837\/01-Cash-Conversion-Cycle-Formula-1-300x88.jpg 300w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/17104837\/01-Cash-Conversion-Cycle-Formula-1-1024x301.jpg 1024w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/17104837\/01-Cash-Conversion-Cycle-Formula-1-768x226.jpg 768w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/17104837\/01-Cash-Conversion-Cycle-Formula-1-1536x452.jpg 1536w\" sizes=\"(max-width: 1656px) 100vw, 1656px\" \/><\/p>\n<p>The Cash Conversion Cycle is <em>most<\/em> relevant for Inventory-dependent companies such as retailers since they always follow a similar \u201ccycle\u201d:<\/p>\n<p>1) Buy Inventory upfront and turn it into finished products.<\/p>\n<p>2) Sell and deliver the products to customers<\/p>\n<p>3) Collect the Cash from customers.<\/p>\n<p>4) Pay the suppliers that provided the raw materials and other parts (they normally send invoices and require payments within a certain number of days).<\/p>\n<div class='code-block code-block-2' style='margin: 8px 0; clear: both;'>\n<div class=\"kb-adinsert-modal\">\n    <div class=\"kb-adinsert-top\">\n      <div class=\"media\">\n          <img decoding=\"async\" class=\"alignnone size-full wp-image-28448\" src=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/04\/24164120\/adv-fm-tile.png\" alt=\"PowerPoint Pro\" width=\"128\" height=\"128\" \/>\n      <\/div>\n      <div class=\"content\">\n          <h3>Master Financial Modeling for Investment Banking With <strong>BIWS Core Financial Modeling<\/strong><\/h3>\n      <\/div>\n    <\/div>\n    \n    <div class=\"full_text\">\n    \t<ul>\n        \t<li>\n            \t<h4>Become a financial modeling pro<\/h4>\n              <p>158 videos, detailed written guides, Excel files, quizzes, and more<\/p>\n\t\t\t    <\/li>\n          <li>\n          \t<h4>Complete 10+ detailed global case studies<\/h4>\n            <p>These include both the theory and the practical applications<\/p>\n\t\t\t    <\/li>\n          <li>\n          \t<h4>Prepare for your internship or full-time job<\/h4>\n            <p>Gain the skills you need to \u201chit the ground running\u201d on Day 1\n\n<\/p>\n\t\t\t  <\/li>\n      <\/ul>\n        \n      <a class=\"cta-link orange-button-medium\" href=\"https:\/\/breakingintowallstreet.com\/core-financial-modeling\/\" target=\"_blank\">Full Details<\/a>\n      \n      <a class=\"cta-link orange-button-medium bg-blue\" href=\"https:\/\/biws-support.s3.us-east-1.amazonaws.com\/Course-Outlines\/Core-Financial-Modeling-Course-Outline.pdf\" target=\"_blank\" rel=\"noopener\">Short Outline<\/a>\n    <\/div>\n<\/div><\/div>\n\n<p>For example, if it takes 45 days to sell the Inventory, 30 days to collect the Cash from customers, and 40 days to pay the suppliers, the CCC is <strong>35 days:<\/strong><\/p>\n<p><img decoding=\"async\" class=\"aligncenter wp-image-27255 size-full\" title=\"Cash Conversion Cycle Example\" src=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16202904\/02-Cash-Conversion-Cycle-Example.jpg\" alt=\"Cash Conversion Cycle Example\" width=\"1452\" height=\"648\" srcset=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16202904\/02-Cash-Conversion-Cycle-Example.jpg 1452w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16202904\/02-Cash-Conversion-Cycle-Example-300x134.jpg 300w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16202904\/02-Cash-Conversion-Cycle-Example-1024x457.jpg 1024w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16202904\/02-Cash-Conversion-Cycle-Example-768x343.jpg 768w\" sizes=\"(max-width: 1452px) 100vw, 1452px\" \/><\/p>\n<p>You rarely use the CCC directly in <a href=\"https:\/\/mergersandinquisitions.com\/financial-modeling\/\" target=\"_blank\" rel=\"noopener\">financial models<\/a> or valuations; it\u2019s more of a <strong>benchmarking tool<\/strong> to evaluate similar companies and diagnose potential problems.<\/p>\n<p>It\u2019s most useful when analyzing startups, small businesses, or distressed companies that might have a \u201ccash crunch\u201d due to policies around receivables collections, payments to suppliers, or inventory turnover.<\/p>\n<p>In these cases, the CCC might affect a company\u2019s <strong>financing needs<\/strong> \u2013 especially short-term financing via a Revolver or Inventory Loan.<\/p>\n<p>So, while the Cash Conversion Cycle is unlikely to appear in traditional investment banking models, it could come up in a <a href=\"https:\/\/breakingintowallstreet.com\/kb\/debt-equity\/debt-vs-equity-analysis\/\" target=\"_blank\" rel=\"noopener\"> Debt vs. Equity model<\/a> or other credit analysis.<\/p>\n<h3><strong>Files &amp; Resources:<\/strong><\/h3>\n<p><a href=\"https:\/\/youtube-breakingintowallstreet-com.s3.us-east-1.amazonaws.com\/Financial-Statement-Analysis\/CCC\/105-31-Cash-Conversion-Cycle.xlsx\" target=\"_blank\" rel=\"noopener\">Target vs. Costco &#8211; Excel Calculations (XL)<\/a><\/p>\n<p><a href=\"https:\/\/youtube-breakingintowallstreet-com.s3.us-east-1.amazonaws.com\/Financial-Statement-Analysis\/CCC\/105-31-Target-10-K-Extracts.pdf\" target=\"_blank\" rel=\"noopener\">Target &#8211; Key Financial Statement Extracts (PDF)<\/a><\/p>\n<p><a href=\"https:\/\/youtube-breakingintowallstreet-com.s3.us-east-1.amazonaws.com\/Financial-Statement-Analysis\/CCC\/105-31-Costco-10-K-Extracts.pdf\" target=\"_blank\" rel=\"noopener\">Costco &#8211; Key Financial Statement Extracts (PDF)<\/a><\/p>\n<p><a href=\"https:\/\/youtube-breakingintowallstreet-com.s3.us-east-1.amazonaws.com\/Financial-Statement-Analysis\/CCC\/105-31-Cash-Conversion-Cycle-Slides.pdf\" target=\"_blank\" rel=\"noopener\">Slide Presentation Used in Video (PDF)<\/a><\/p>\n<h3><strong>Video Table of Contents:<\/strong><\/h3>\n<p><strong>0:00:<\/strong> Introduction<br \/>\n<strong>3:49:<\/strong> Part 1: CCC Calculations for Target and Costco<br \/>\n<strong>6:50:<\/strong> Part 2: Valuation Impact<br \/>\n<strong>8:30:<\/strong> Part 3: When is the Cash Conversion Cycle Useful?<br \/>\n<strong>9:55:<\/strong> Recap and Summary<\/p>\n<h2><span class=\"ez-toc-section\" id=\"How_to_Calculate_the_Cash_Conversion_Cycle_for_Target_and_Costco\"><\/span><strong>How to Calculate the Cash Conversion Cycle for Target and Costco<\/strong><span class=\"ez-toc-section-end\"><\/span><\/h2>\n<p>The calculations are straightforward if you have the companies\u2019 financial statements from the past several years.<\/p>\n<p>You can start by calculating the <strong>Average Accounts Receivable, Average Inventory, and Average Accounts Payable<\/strong> in each period, as shown below:<\/p>\n<p><img decoding=\"async\" class=\"aligncenter wp-image-27256 size-full\" title=\"Average Receivables Calculations\" src=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203352\/03-Average-Receivables.jpg\" alt=\"Average Receivables Calculations\" width=\"1292\" height=\"494\" srcset=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203352\/03-Average-Receivables.jpg 1292w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203352\/03-Average-Receivables-300x115.jpg 300w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203352\/03-Average-Receivables-1024x392.jpg 1024w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203352\/03-Average-Receivables-768x294.jpg 768w\" sizes=\"(max-width: 1292px) 100vw, 1292px\" \/><\/p>\n<p>Then, calculate the Days Sales Outstanding, Days Inventory Outstanding, and Days Payable Outstanding based on these formulas:<\/p>\n<p><strong>Days Sales Outstanding (DSO)<\/strong> = Average Receivables \/ Revenue in Period * Days in Period<\/p>\n<p><strong>Days Inventory Outstanding (DIO)<\/strong> = Average Inventory \/ COGS in Period * Days in Period<\/p>\n<p><strong>Days Payable Outstanding (DPO)<\/strong> = Average Payables \/ COGS in Period * Days in Period<\/p>\n<p>Once you have these, add the DSO and DIO and subtract the DPO:<\/p>\n<p><img decoding=\"async\" class=\"aligncenter wp-image-27257 size-full\" title=\"Cash Conversion Cycle Formula with DSO, DIO, and DPO\" src=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203609\/04-Cash-Conversion-Cycle-Formula-DSO-DIO-DPO.jpg\" alt=\"Cash Conversion Cycle Formula with DSO, DIO, and DPO\" width=\"1298\" height=\"606\" srcset=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203609\/04-Cash-Conversion-Cycle-Formula-DSO-DIO-DPO.jpg 1298w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203609\/04-Cash-Conversion-Cycle-Formula-DSO-DIO-DPO-300x140.jpg 300w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203609\/04-Cash-Conversion-Cycle-Formula-DSO-DIO-DPO-1024x478.jpg 1024w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203609\/04-Cash-Conversion-Cycle-Formula-DSO-DIO-DPO-768x359.jpg 768w\" sizes=\"(max-width: 1298px) 100vw, 1298px\" \/><\/p>\n<p>The <strong>main point<\/strong> is to be careful with the periods.<\/p>\n<p>So, if you\u2019re using <em>quarterly<\/em> figures for Revenue and <a href=\"https:\/\/breakingintowallstreet.com\/kb\/accounting\/cogs\/\" target=\"_blank\" rel=\"noopener\">COGS<\/a>, make sure you use <strong>90<\/strong> for the days in the period, and if you\u2019re using <em>annual<\/em> figures, use <strong>365 days<\/strong> (or 366 for leap years).<\/p>\n<p>Both Target and Costco have <strong>very low Cash Conversion Cycles<\/strong>, indicating high efficiency. Sometimes, they even turn negative:<\/p>\n<p><img decoding=\"async\" class=\"aligncenter wp-image-27258 size-full\" title=\"Cash Conversion Cycles for Target vs. Costco\" src=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203640\/05-Cash-Conversion-Cycle-Target-vs-Costco.jpg\" alt=\"Cash Conversion Cycles for Target vs. Costco\" width=\"1292\" height=\"554\" srcset=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203640\/05-Cash-Conversion-Cycle-Target-vs-Costco.jpg 1292w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203640\/05-Cash-Conversion-Cycle-Target-vs-Costco-300x129.jpg 300w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203640\/05-Cash-Conversion-Cycle-Target-vs-Costco-1024x439.jpg 1024w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203640\/05-Cash-Conversion-Cycle-Target-vs-Costco-768x329.jpg 768w\" sizes=\"(max-width: 1292px) 100vw, 1292px\" \/><\/p>\n<p>Costco also trades at higher <a href=\"https:\/\/breakingintowallstreet.com\/kb\/valuation\/valuation-multiples\/\" target=\"_blank\" rel=\"noopener\">valuation multiples<\/a> than Target in this example (see below), but it\u2019s highly unlikely that the Cash Conversion Cycle is the root cause since both companies have very similar CCCs.<\/p>\n<h2><span class=\"ez-toc-section\" id=\"What_Does_a_Negative_Cash_Conversion_Cycle_Mean\"><\/span><strong>What Does a Negative Cash Conversion Cycle Mean?<\/strong><span class=\"ez-toc-section-end\"><\/span><\/h2>\n<p>As shown above, a negative Cash Conversion Cycle means the company <strong>sells Inventory and collects Cash from customers faster than it pays its suppliers<\/strong>.<\/p>\n<p>This is usually viewed as very positive because it means the company is managing its operations efficiently and \u201cforcing\u201d the suppliers to wait on payments before it pays the invoices in Cash.<\/p>\n<p>Negative CCCs are common for large retailers with significant pricing and market power (e.g., Amazon), as they cycle through their Inventory and collect Cash quickly while paying their suppliers more slowly.<\/p>\n<h2><span class=\"ez-toc-section\" id=\"The_Cash_Conversion_Cycle_and_Its_Valuation_Impact\"><\/span><strong>The Cash Conversion Cycle and Its Valuation Impact<\/strong><span class=\"ez-toc-section-end\"><\/span><\/h2>\n<p>The Cash Conversion Cycle affects a company\u2019s <a href=\"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/change-in-working-capital\/\" target=\"_blank\" rel=\"noopener\">Change in Working Capital<\/a>, which is a component of <a href=\"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/how-to-calculate-free-cash-flow\/\" target=\"_blank\" rel=\"noopener\">Free Cash Flow<\/a>.<\/p>\n<p>But for most companies, this Change in Working Capital is <strong>not<\/strong> a major value driver; it may shift the numbers slightly, but it\u2019s more of a supplemental item.<\/p>\n<p>So, higher or lower Cash Conversion Cycles alone are unlikely to drive valuation multiples.<\/p>\n<p>If Working Capital is more significant for a company, the Cash Conversion Cycle could affect its <a href=\"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/how-to-calculate-free-cash-flow\/\" target=\"_blank\" rel=\"noopener\">Free Cash Flow<\/a> and <a href=\"https:\/\/breakingintowallstreet.com\/kb\/financial-statement-analysis\/free-cash-flow-conversion\/\" target=\"_blank\" rel=\"noopener\">Free Cash Flow Conversion<\/a> (i.e., FCF \/ EBITDA).<\/p>\n<p>For example, one company you\u2019re analyzing might have a lower CCC than the other due to faster sales of Inventory, faster Receivables collection, or slower Payables processing.<\/p>\n<p>These lower Cash Conversion Cycles might result in more EBITDA being \u201cconverted\u201d into Free Cash Flow.<\/p>\n<p>In theory, higher Free Cash Flow should increase the company\u2019s implied value in a <a href=\"https:\/\/mergersandinquisitions.com\/dcf-model\/\" target=\"_blank\" rel=\"noopener\">DCF model<\/a> (for example).<\/p>\n<p>While this scenario is possible, it is <strong>far-fetched<\/strong> because many other factors affect valuation more than these timing differences.<\/p>\n<p>For example, the companies\u2019 revenue growth rates, profit margins, margin expansion, and \u201ccapital intensity\u201d (i.e., the amount of Capital Expenditures required to grow) affect valuation via <a href=\"https:\/\/breakingintowallstreet.com\/kb\/valuation\/comparable-company-analysis-cca\/\" target=\"_blank\" rel=\"noopener\">comparable company analysis<\/a> more than the CCC.<\/p>\n<p>If we return to the Target and Costco example, it\u2019s highly unlikely that the Cash Conversion Cycle affects anything because both companies have similar numbers but trade at different multiples:<\/p>\n<p><img decoding=\"async\" class=\"aligncenter wp-image-27259 size-full\" title=\"Target vs. Costco - Valuation Multiples\" src=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203709\/06-Target-vs-Costco-Valuation-Multiples.jpg\" alt=\"Target vs. Costco - Valuation Multiples\" width=\"1288\" height=\"688\" srcset=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203709\/06-Target-vs-Costco-Valuation-Multiples.jpg 1288w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203709\/06-Target-vs-Costco-Valuation-Multiples-300x160.jpg 300w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203709\/06-Target-vs-Costco-Valuation-Multiples-1024x547.jpg 1024w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203709\/06-Target-vs-Costco-Valuation-Multiples-768x410.jpg 768w\" sizes=\"(max-width: 1288px) 100vw, 1288px\" \/><\/p>\n<h2><span class=\"ez-toc-section\" id=\"When_is_the_Cash_Conversion_Cycle_Useful\"><\/span><strong>When is the Cash Conversion Cycle Useful?<\/strong><span class=\"ez-toc-section-end\"><\/span><\/h2>\n<p>In real-life financial models, the CCC is useful in two main scenarios:<\/p>\n<p><strong>Scenario #1:<\/strong> For small businesses and startups that depend heavily on Inventory, the CCC can be useful because it may indicate a looming \u201cCash crunch\u201d and the need for the company to raise capital soon.<\/p>\n<p><strong>Scenario #2:<\/strong> The CCC can also be useful for distressed companies facing a Cash shortfall \u2013 but for slightly different reasons.<\/p>\n<p>These companies often find it difficult to collect Cash from customers, and sometimes suppliers \u201csqueeze them\u201d by imposing unfavorable payment terms.<\/p>\n<p>This can create a \u201cvicious cycle\u201d where the company must keep borrowing or raising capital to survive its standard Inventory \u00e0 Collection \u00e0 Payment cycle.<\/p>\n<p>As a simple example, consider the two companies shown below:<\/p>\n<p><img decoding=\"async\" class=\"aligncenter wp-image-27260 size-full\" title=\"Smaller Companies - Cash Conversion Cycle Comparison\" src=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203733\/07-Small-Business-Cash-Conversion-Cycle-Comparison.jpg\" alt=\"Smaller Companies - Cash Conversion Cycle Comparison\" width=\"1292\" height=\"892\" srcset=\"https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203733\/07-Small-Business-Cash-Conversion-Cycle-Comparison.jpg 1292w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203733\/07-Small-Business-Cash-Conversion-Cycle-Comparison-300x207.jpg 300w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203733\/07-Small-Business-Cash-Conversion-Cycle-Comparison-1024x707.jpg 1024w, https:\/\/biwsuploads-assest.s3.amazonaws.com\/biws\/wp-content\/uploads\/2024\/01\/16203733\/07-Small-Business-Cash-Conversion-Cycle-Comparison-768x530.jpg 768w\" sizes=\"(max-width: 1292px) 100vw, 1292px\" \/><\/p>\n<p>They look similar, but the \u201cHealthy Company\u201d maintains its Cash Conversion Cycle in a range of 25 \u2013 30 days over time.<\/p>\n<p>Meanwhile, the \u201cStagnant\/Troubled Company\u201d lets its Cash Conversion Cycle creep up to 63 days, more than <strong>doubling<\/strong> over this time frame.<\/p>\n<p>As a result, the second company\u2019s Cash Flow from Operations and Free Cash Flow are significantly lower than the first company\u2019s by Year 6, even though its core business has grown.<\/p>\n<p>This company doesn\u2019t necessarily need to raise capital because of these unfavorable trends, but they are a cause for concern.<\/p>\n<p>As a result, this company will have less to re-invest in its business and grow its operations.<\/p>\n<p>That said, this is still an artificial example because it\u2019s highly unlikely that two companies would have <em>the same<\/em> financial profile over 6 years except for their Working Capital management.<\/p>\n","protected":false},"excerpt":{"rendered":"<p>The Cash Conversion Cycle (CCC) tells you how long it takes a company, on average, to convert its Inventory into cash after selling and delivering it, collecting the cash from sales to customers, and paying its suppliers in cash.<\/p>\n<p>The formula is based on the Days Inventory Outstanding (DIO), Days Sales Outstanding (DSO), and Days Payable Outstanding (DPO): Cash Conversion Cycle = DIO + DSO &#8211; DPO.<\/p>\n","protected":false},"featured_media":0,"template":"","class_list":["post-27253","biws_kb","type-biws_kb","status-publish","hentry","kb_category-financial-statement-analysis"],"acf":[],"_links":{"self":[{"href":"https:\/\/breakingintowallstreet.com\/wp-json\/wp\/v2\/biws_kb\/27253","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/breakingintowallstreet.com\/wp-json\/wp\/v2\/biws_kb"}],"about":[{"href":"https:\/\/breakingintowallstreet.com\/wp-json\/wp\/v2\/types\/biws_kb"}],"wp:attachment":[{"href":"https:\/\/breakingintowallstreet.com\/wp-json\/wp\/v2\/media?parent=27253"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}